United States Office of Solid Waste February 1991 Environmental Protection and Emergency Response Agency Office of Waste Programs (OS-510) v/EPA Report On The Results Of The EPA-Sponsored Consultative Process On The Proposed Guidance For Section 119OfCERCLA, As Amended Printed on Recycled Paper ------- REPORT ON THE RESULTS OF THE EPA-SPONSORED CONSULTATIVE PROCESS ON THE PROPOSED GUIDANCE FOR SECTION 119 OF CERCLA, AS AMENDED FEBRUARY 14, 1991 ------- TABLE OF CONTENTS Page No. A. Background 1 1. The Consultative Process 1 2. The Results of the Consultative Process 2 B. The Context 3 1. Technical Risks Faced by RACs 3 2. Liability Risks Faced by RACs 5 3. Availability of Commercial Insurance Products 6 C. Coverage Issues 10 1. Limits 10 2. Deductibles 11 3. Term of Coverage 14 4. Exclusions 14 5. Sub-Contractor Issues 15 D. Administration Issues 18 1. Due Diligence Requirements 18 2. Retroactivity of Proposed Guidance 20 3. Fixed Price Contracts 20 E. Other Issues 22 1. Alternative Approaches to Risk Transfer 22 2. Surety Issues 23 E. Conclusion 24 Appendices I- ------- A. BACKGROUND Section 119 of the Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA"), as amended, requires the Environmental Protection Agency ("EPA") to develop guidelines to carry out the response action contractor ("RAC") indemnification provisions of the statute. In 1987, EPA issued an interim guidance governing the indemnification program until a final version was promulgated; and, in October 1989, EPA proposed final guidelines for public comment. Approximately 90 sets of comments were received. In October 1990, EPA retained ENDISPUTE, Inc. ("ENDISPUTE"), through the Conservation Foundation, to assess, from a neutral perspective, the utility and feasibility of a consultative process through which EPA could obtain additional information from interested organizations on the proposed guidance. Unless ENDISPUTE found that a consultative process would not be productive, it was to convene, structure and facilitate a full- day meeting involving EPA and the interested parties. 1. The Consultative Process. ENDISPUTE performed these services between October and December 1990.1 It assessed, convened and facilitated the consultative process as follows: a) Endispute developed, in consultation with EPA and with input from the Hazardous Waste Action Coalition, a list of organizations that either had an interest in the proposed guidance or had information relevant to the issues raised by the proposed guidance. b) ENDISPUTE conducted an initial set of interviews with the organizations that had been identified and that were willing to meet. The interviews were conducted pursuant to a standard protocol that ENDISPUTE developed. 1 Michael D. Young of ENDISPUTE's New York office served as the senior convener/facilitator. Katina B. Leodas of ENDISPUTE's Cambridge, Massachusetts office served as junior convener/facilitator. ------- During these interviews, ENDISPUTE explored i) the concerns each party had with the proposed Guidance; ii) whether that party was willing and able to participate in a consultative process in good faith; and iii) whether that party could identify other parties that it believed should be involved. In addition, ENDISPUTE gathered the information and insights necessary to develop a design for the meeting and an agenda that addressed the concerns of all interested parties. A list of the parties that ENDISPUTE interviewed is attached hereto as Appendix A. c) ENDISPUTE arranged and facilitated a full-day meeting of EPA and the interested parties on November 19, 1990. At this meeting all parties explored various issues that were raised in the initial interviews relating to the proposed Guidance. A copy of the agenda for this meeting is attached hereto as Appendix B-l and a copy of the Ground Rules for the meeting is attached as Appendix B-2. A list of participants is attached hereto as Appendix C. d) ENDISPUTE conducted a limited number of follow-up telephone interviews to clarify some of the views articulated at the meeting or during the initial set of interviews. 2. The Results of the Consultative Process A full range of views was explored during the consultative process. Among the parties that were interviewed and participated in the November 19 meeting were: organizations representing RACs, including the Hazardous Waste Action Coalition, the Hazardous Waste Treatment Council, the National Constructors Association and the Associated General Contractors; insurance interests, including the American Insurance -2- ------- Association and the American Insurance Group; and governmental representatives, including federal Office of Management and Budget, the U.S. Army Corps of Engineers and various EPA units. The parties that participated in the consultative process provided ENDISPUTE, the EPA and each other with a substantial amount of information regarding the issues raised by the proposed Guidance. EPA has requested that ENDISPUTE, from its neutral perspective, summarize and organize the information gathered during the interview and meeting process, including the views articulated by the parties. This report provides that summary, organized by issue.2 ENDISPUTE believes that it is accurately reporting the views of the parties as articulated by their representatives. It has not and does not, however, judge the validity of the beliefs or arguments it is reporting. In some instances during the interviews that ENDISPUTE conducted, a party requested anonymity: it did not want to have a particular statement publicly attributed to it. ENDISPUTE has attempted to honor all such requests throughout the consultative process, including in the preparation of this report. B. THE CONTEXT 1. Technical Risks Faced bv RACs Most of the RACs viewed their work as inherently risky from a technical perspective. The work is risky because, at a minimum, of the following factors: a) Superfund sites, particularly those that have been identified as "priorities," may contain chemical or other waste that is extremely harmful to people and property. 2 In addition to this report, ENDISPUTE orally reported to EPA on the results of the consultative process on December 13, 1990. ENDISPUTE subsequently reported on the results of its follow-up interviews with some of the parties. The substance of these presentations has been integrated into this report. -3- ------- b) The technology of hazardous waste remediation is new and continually developing. The remediation approaches recommended to the EPA by the design, engineering and other technical consultants reflect a substantial element of professional judgment and are frequently novel. The governing statutes encourage the use of innovative approaches. It is not guaranteed that these will work; in any event they are often subject to second guessing. c) Any underground work is inherently risky because, despite extensive testing, one can never be certain of what is below the ground surface. d) EPA, which is subject to community and other political pressures, does not always accept the RAC's recommendation regarding the most technically appropriate or feasible remediation approach or action. Most of the parties believed that the design and engineering RACs faced more risk than the constructors. The general consensus appeared to be that the constructors could control the risk to a greater extent because they are executing plans, not developing them. In other words, while the design and engineering RACs face both technological and performance risks, the constructors usually face only performance risks. Although the Associated General Contractors ("AGC") and the National Constructors Association ("NCA"), whose members are almost exclusively constructors, might disagree with this perspective, those RACs that perform both design and construction work would agree with the distinction. None of the RACs could quantify the technical risk of performing Superfund remediation work. In other words, none could state precisely how risky the work is or, for example, how frequently they would expect a pollution release to result from their remediation actions. Any risk assessment, if possible at all, can only be done on a site-specific basis. In addition, most of the parties agreed that prior history of release incidents arising out RAC workthere have been very fewis not instructive as to what will happen in the future. If there are to be problems, they will not occur until remediation plans are implemented. It -4- ------- is important to note that the American Insurance Group takes this position when it sets premiums. Most of the RACs argued, however, that it is not important to quantify the technical risk. As discussed in Section B (2), they take the position that a substantial liability risk exists irrespective of how technically risky the work really is. The only party that disagreed with the above analysis was Waste Management Inc. It views RAC work as involving "some risk" but not at an "ultra-hazardous" level. It acknowledged that any analysis of the technical risk must be site specific. It is also important to note that Waste Management does not view itself as a design/engineering firm, so that its view of the risk may reflect the distinction drawn above between remediation design and construction work. 2. Liability Risks Faced bv RACs The RACs, the insurance interests and other parties including the Office of Information and Regulatory Affairs of the federal Office of Management and Budget ("OIRA"), all agreed that, whatever the extent of the technical risk, the RACs faced significant risks of claims being brought against them. They argue, as set forth more fully in Section B (3), that this high risk of claims is the primary reason for the unavailability of commercial insurance. More specifically, the RACs believe, and others agree, that the structure of both state and federal law encourages plaintiffs to sue RACs even if most of the liability belongs elsewhere. According to one of the HWAC representatives, "if you touch a site, you own it." Specifically, the joint and several liability standard that is found in CERCLA and in many state statutory and common law schemes will lead to the joining of all "deep pockets," including RACs, even if the primary, if not exclusive, responsibility for the pollution release or other damage lies elsewhere. Although the strict liability standard in federal law provides an incentive to target the "potentially responsible parties" ("PRPs") as opposed -5- ------- to the RACs who can be found liable only if fault is proven,3 the RACs remain concerned because many of them are large companies and many PRPs are small and unable to fulfill judgments. Under the joint and several liability rules, plaintiffs need only demonstrate some RAC liability in order to collect the full amount of the judgment from the RAC, leaving the latter to try to collect the proportionate shares of the other defendants from them. The RACs are particularly concerned about the risk of a catastrophic judgment and what they believe to be the certainty of high defense costs. The experience of the American Insurance Group, which is one of the three companies currently underwriting this risk, is consistent with these concerns: claims are not very frequent, but they are large, and defense costs are usually very high. Specifically, the RACs and the insurance interests agree that such catastrophic judgments should not occur very frequently, but the amount may be so high as to bankrupt all but the very largest of the RACs. Large judgments are possible because in the event of a pollution release there are likely to be many injured third parties and remediation costs may be very high. Moreover, since many RACs are deep pockets, they may be, under the joint and several liability rules, liable in the first instance for the full amount of the judgment. Finally, even if their chances of prevailing in a lawsuit are good, the RACs assume that they will be forced to incur high defense costs in exculpating themselves. 3. Availability of Commercial Insurance Products All parties, including the EPA, agree that indemnification is necessary because of problems with the availability of commercial insurance. The parties disagree regarding the extent of the unavailability, the reasons for such unavailability, and whether increased demand will lead to greater availability. 3 According to the American Insurance Association ("AIA"), RACs may be held strictly liable for any damage resulting from their actions under the statutory or common law of twenty three states. The RACs acknowledge that Section 119 precludes EPA indemnification under such circumstances. -6- ------- All the parties, including the insurance interests and OIRA, disagreed with the basic EPA premise that the lack of adequate insurance for pollution release liability is a temporary aberration in the insurance market caused by being in a low point in an insurance cycle. OIRA and the American Insurance Association ("AIA")4 accept the concept of an insurance cycle, but discount its significance in this context. They argue that the contraction in the availability of insurance for environmental damage has continued even after the insurance cycle "contraction period" has ended. Nor do they believe that lack of demand for insurance is a determinative factor. While stimulating demand may lead to a marginal decrease in premiums and a similarly marginal increase in limits, it will not lead to a significant expansion in die availability of insurance. OIRA, and the AIA and others in the insurance industry, attribute the lack of insurance primarily to factors other than the insurance cycle and lack of demand. The reasons they cite for insurers being unwilling to underwrite this risk reflect an understanding of the nature of the risk that is consistent with that of the RACs, as set forth in Sections B (1) and (2) above. These factors are: a) The remediation work that the insurers are being asked to insure is inherently risky, yet the risk is difficult to predict. A company's past claims experience, while instructive, is not necessarily useful in predicting the risk. Insurers do not want to insure a risk the size or frequency of which they can not predict. b) The long latency period for injuries arising out of pollution release incidents makes risk prediction very difficult. 4 "Tie AIA has 225 members. They are all stock companies and most of them specialize in p.operty and casualty lines. Its members include such large companies as CIGNA, Aetna, and Crum and Forster. Neither the American Insurance Group or Reliance Insurance Co., which are the two underwriters currently providing pollution liability insurance, are members of the AIA. -7- ------- Moreover since litigation will not occur until many years after the activity allegedly causing the problems occurred, there is a great possibility that courts and juries will second- guess the reasonableness of the initial activity, applying standards of conduct based on hindsight and wisdom gained in the interim. c) The strict liability standard found in federal law and in many state statutory and common law schemes, as well as the joint and several liability rules, have created such a high a risk of claims and indemnity that insurers are unwilling to assume it. d) This specific concern with respect to the law governing liability for environmental damage is exacerbated by a perception that the scope of tort law has generally expanded and that litigation has become too costly. e) The insurers are further concerned because of what they perceive to be the willingness of courts to "rewrite" exclusions and other insurance policy language in order to find a deep pocket. They point to the insurance industry's experience with litigation on the "sudden and accidental" language in general liability policies. Until these factors are addressed, the insurance interests do not believe that there will be a substantial expansion of the availability of adequate insurance products. According to the AIA, the market for pollution liability insurance always has been and always will be viewed as a specialty one. It does not believe that there will ever be a substantial number of multi-line companies selling such policies. None of the AIA member companies are currently planning to enter this market. Three companies have been issuing pollution release liability policies. These companies are Demeter, which is a RAC initiated risk retention group, the American Insurance Group ("AIG") and the Reliance -8- ------- National Insurance Co.("Reliance").5 The policies are all claims-made, with a limited and expensive tail. Coverage limits are low. A chart comparing the terms of the various policies is attached hereto as Appendix D. For example, AIG sells three basic products: a) a Comprehensive Pollution Liability policy for constructors for environmental pollution liability, covering claims brought by third parties. About 120-130 constructors have bought such policies since the product was introduced. AIG earned about $15 million in premiums for these policies during 1990. The limits for this policy are $10 million per occurrence and $10 million aggregate; b) an Errors and Omissions policy for architects and engineers. This is a site specific-wrap around policy that is targeted for Superfund sites and covers sub contractors. Usually the limits are at $1 million per occurrence and $2 million aggregate. Sometimes the limits are as high as $5 million per occurrence and $5 million aggregate, but rarely; c) a newly introduced Practice Policy, that is designed to cover potential environmental damage liability arising out of all the work that the contractors do. The limits are currently at $2 million per occurrence and $2 million aggregate; AIG hopes to increase the aggregate limit to $5 million. These policies are all claims-made, though the RAC can buy a tail. AIG recognizes that both the initial premium as well as the tail are expensive, but given what it perceives to be limited demand, the only way that AIG can make a profit is by charging high amounts. AIG believes that premium amounts will decrease and limits will increase if there is more demand, but it also acknowledges that it is unlikely that the limits will increase significantly. 5 In spite of several efforts to contact its representatives, Reliance was not interviewed by ENDISPUTE. -9- ------- The RACs and the insurance interests disagree regarding the extent of the effort the RACs are making to buy available insurance. AIG suggests that RACs are not buying the available products for work on Superfund sites because of the existence of the EPA indemnification program and because of the relative difficulty of passing the cost of the insurance on to the EPA. They give out quotes out to brokers representing the Superfund RACs but frequently do not receive responses. Conversely, in AIG's experience, RACs are buying the insurance for non-Superfund sites because, it believes, the RACs find it easier to pass the costs on to private clients. The RACs agree that little insurance is currently being purchased but ascribe the reason to the difficulties they are having in the application process and in meeting the underwriting criteria. AIG acknowledges that it has imposed strict technical requirements it is reluctant to provide insurance to a questionable firm or at a risky site. The RACs, particularly those who work on ARC contracts, also point to the administrative difficulties and cost they face in trying to obtain insurance for each of the sites on which they work. They argue that the effort is not worthwhile in light of the inadequacy of the available product. Finally, it is important to note that some of the insurance interests raised concerns regarding whether there will be commercial insurance in the future at the time when the claims start coming in. They suggested that in the past AIG and Reliance have withdrawn from the market for a particular type of insurance when there begin to be claims, having made their profits by selling claims-made insurance prior to that time. AIG denies that this has been or will be the case. C. COVERAGE ISSUES 1. Limits The RACs acknowledge that Section 119 requires EPA to set a limit on the amount of indemnification it will offer. The central concern that the RACs have with the proposed limit of $50 million per contract is the amount. They believe that it is inadequate, particularly in light of the risk, however low, of a catastrophic judgment. A related concern is whether the limit should be set on a per contract basis. -10- ------- Assuming that EPA decides to set an aggregate limit per contract, the RACs believe that it should be set at least at $200 million and preferably at $250 million. They point to the $250 million recommendation in the Tilinghaus report. The AGC, NCA and HWAC all suggested that a $200 million limit may be adequate, even for design contracts. Moreover, HWAC points out that at the time that claims arise fifteen or twenty years from now, the $200 million, or even $250 million, indemnification amount will be worth significantly less. The representative of AIG suggested that the limit be increased for a RAC that buys a larger amount of commercial insurance. This approach would satisfy EPA's interest in encouraging the purchase of commercial insurance as well as the RACs interest in increasing the limits. The RACs argued that this approach was not feasible until more adequate insurance was available. In addition, a concern was raised that EPA would end up, except possibly in a fixed-price context, paying twice -- once if it reimburses the premium and once through the increased limits. There was strong sentiment that, unless the limit was increased to the $200-250 million range, it should not be set on a per contract basis but rather per site or per work assignment/activity. Those RACs who work on ARC contracts felt particularly strongly that setting the limit on a per contract basis was unfeasible and unfair, given the number of sites on which an ARC contractor works. Moreover, as discussed in greater detail in Section B (5), setting the limit on a per contract basis causes problems with respect to the allocation of the indemnification between the prime contractor and the sub-contractors. 2. Deductibles The deductibles proposed in the 1989 Guidance are of significant concern to many RACs. Although they recognize that a deductible layer is an appropriate way to share some of the risk, they are troubled by the amount of the deductible, that it is per claim or per occurrence, and by other related aspects of the proposal. The RACs believe that the deductible amount is too high, particularly since, given their concern about catastrophic risks and the need to allocate the indemnification between the primes and the subcontractors, they will -11- ------- always seek a $50 million limit and therefore will always have a $3.5 million deductible. This deductible amount is larger than the total net worth of many RACs. So, in essence, those RACs would be "betting the farm" whenever they did EPA work under the proposed Guidance. The RACs are particularly concerned about defense costs. Since the deductible is "per occurrence," RACs will, on a repeated basis, have "first dollar" costs. The claim would not have to be large or catastrophic for the RAC to incur significant defense costs yet, given the high deductible, not exhaust it. Under such circumstances, the RAC "could be right, yet bankrupt."6 Most of the RACs were opposed to there being a sliding scale for limits and deductibles because, even if the limit amount was increased and the maximum deductible amount stayed the same, the deductible amount was still "prohibitively high."7 If both the limits and the deductibles were increased, this sliding scale, like the current draft of the Guidance, would serve as a disincentive to a contractor to seek the level of indemnification it actually needs.8 The following recommendations were made by the RAC groups with respect to the amount of the deductible and the treatment of defense costs: a) HWAC recommended that defense costs be applied only against the coverage limit, not against the deductible. EPA would pay defense costs from the first dollar. HWAC could accept a high deductible if it only applied to indemnity costs and EPA picked up first dollar defense costs, though it 6 Several of the parties noted that the proposed deductible approach is contrary to insurance industry practice. Most of the pollution liability policies that are available cover defense costs and have a lower deductible than EPA proposes, even on a relative basis (given the differences in limits). By having a lower deductible, insurers cover most of the defense costs and therefore can control (and contain) such costs. 7 At the November 19 meeting, the representative from the NCA suggested that the NCA members may be willing to absorb a higher deductible if the limits were higher. 8 In most commercial insurance situations other than insurance for pollution release liability, the RACs can increase the limits of the insurance by buying excess policies. This manner of increasing the limits does not result in an increase in the deductible amounts. -12- ------- clearly preferred in any event that the deductible amount be less than proposed; HWAC alternatively suggested that the deductible be lowered significantly, to an amount equivalent to the deductibles found in commercial insurance policies. In these policies, costs of defense are included in the deductible; b) The NCA recommended that deductibles be measured according to contract price, rather than coverage limit. Its rationale is that a contractor may be willing to bet its full anticipated profit margin (possibly 5-6%), but not the entire firm. c) Most RACs recommended that the deductible be calculated on a per contract, rather than per occurrence, basis. This approach would permit the aggregation of claims against the deductible. d) Another party suggested that the deductible amount be set in the same manner as insurance companies would set it. A deductible is usually set in an amount to cover the type of risk that the insured can most easily predict and control. This party suggested that the EPA conduct this analysis, perhaps with the assistance of an insurance company. Finally, HWAC expressed concern about having the deductible stacked on top of the commercial insurance layer. It recommended that the RACs be permitted to apply commercial insurance payment against the EPA deductible. This approach would provide even more of an incentive to the RACs to obtain commercial insurance so as to defray a portion of the EPA indemnification deductible. This approach might also make acceptable a higher deductible amount.9 9 The RACs acknowledge that under this appro;.- - EPA may be paying for pan of the deductible if it reimburses the contractor for the premiums for commercial insurance which arguably defeats the purpose of a deductible. They argue, however, for the reasons stated in the text, that EPA's interests are better served by this approach. -13- ------- 3. Term of Coverage The RACs acknowledge EPA's interest in setting a limit on the term for coverage, but they believe that the proposed ten year term is unrealistic and ignores the nature of the risk. While a ten year term may be sufficient to cover some claims that will arise from immediately apparent negligence in the execution of work plans,10 it is not sufficient to cover long term pollution release problems, particularly given the latency periods associated with many of the kinds of injuries such releases may cause. The RACs, as well as some of the other parties, recommend that the term be set, at a minimum, at thirty years. They believe that thirty years is probably sufficient to encompass the latency periods of most of the possible injuries that could arise in a pollution release occurrence. Moreover, they point to the fact that under the RECRA statute owner/operators are held responsible for a thirty year period after disposal. 4. Exclusions The RACs are very concerned with the exclusion from coverage of mixed strict liability/negligence judgments. Even though they are immunized from a strict liability judgment under federal law, they still face the risk of a strict liability judgment under the law of at least 23 states. If the law of those states is applied, either in a state court lawsuit or as a pendent claim in federal suit, the RACs fear that if there is a negligence finding, it is very likely that there will also be a strict liability finding. The RACs believe that the goal of Section 119 would be undermined if there was no coverage for such mixed judgments. Although Congress did not preempt state law, it did want to protect RACs from the financial consequences of judgments, except when they were grossly negligent. It would undermine that intent if the same (non-grossly negligent) conduct would leave the RACs unprotected from judgments. The RACs believe that the language of Section 119 can be read to authorize indemnification for such mixed judgments. 10 David Coduto of Terra Insurance Company stated that in his experience with Terra and Demeter, environmental impairment claims are filed about ten years after the construction work is done an even longer period of time after the design work is completed. -14- ------- The RACs are also concerned that the references in the proposed Guidance to "third party" liability can be read to preclude liability for judgments or orders in enforcement proceedings. They would prefer that the government be prohibited from bringing such actions against RACs, but otherwise would like to have the language clarified so that the current authority for indemnification in such circumstances is maintained.11 5. Sub-Contractor Issues In general, sub contractors tend to be smaller companies than prime contractors, although this is not always the case. Some RACs, such as those that work on ARC contracts, are primes on some jobs and subs on others. The smaller subs, such as members of the Hazardous Waste Treatment Council ("HWTC"), are often quite small.12 They are professional service companies whose assets are their people. Many have been involved in the rapid development of new, advanced remediation technologies. They believe that because the field is new, with rapidly evolving state-of-the-art technology, there will be problems and there is a substantial liability.13 11 Although they seek indemnification for subsequent remediation costs, RACs are more concerned with third party liability than with CERCLA liability, for several reasons. First, third party liability is perceived as potentially far greater, yet less easily predictable. Second, they believe that their contractual relationship with the government would give them a greater degree of control over any dispute than they would have with third parties. Finally, in some circumstances a surety may share some of the costs as EPA may go after the surety if there was a finding that the RAC had not performed on the job and that the RAC itself was unable to rectify the failure. 12 These groups articulate a more generalized complaint: indemnification or no indemnification, they are not getting much work. They claim that engineering firms are over-studying and over-evaluating sites, perhaps due to EPA encouragement or perhaps due to the nervousness of the design consultants about liability and the lack of insurance to cover that liability. Some smaller speciality firms made substantial capital investments four or five years ago, anticipating that these investments would be recouped through government contracts. Now, they face financial distress as the anticipated contracts have been slow to materialize. 13 As indicated above, EPA does not always approve actions recommended by the design consultants and the specialty subs. The perceived result, they believe, is that RACs that implement EPA-directed remediation face increased risks, since they may take responsibility for an approach they did not favor. -15- ------- The proposed Guidance provides for indemnification of such subs, but the "flow-down" method set forth establishes almost an inherent conflict of interest between the prime and the subs. The Guidance allocates indemnification by contract, rather than by contractor. Prime contractors are the recipients of the indemnification. Thus, for sub contractors to receive coverage, indemnification must be passed down from primes to subs. All RACs (with the exception of Waste Management) believe that the proposed pass-through scheme is an unrealistic means of distributing coverage to all the contractors at risk on a particular job. They do not believe that indemnification will trickle down to the subs, because they think the amount of coverage is too low for primes to be able to (or to have any incentive to) share it. There is a growing concern that if the primes resist giving indemnification to the subs, then subs will not work and remediation will not proceed. Moreover, RACs argue, as indicated above, that the deductible structure creates a similar disincentive for the prime to share the indemnification with the subs. If the prime chooses to obtain $50 million in indemnification (and most RACs indicated they would purchase the maximum) so as to at least attempt to have enough to share with the subs, it must meet the $3.5 million deductible. Since the subs will often be unable to pay their share of the deductible (sometimes, the sub's entire contract is for $20,000-$30,000, which is less than their share of the deductible), the prime is probably not going to be willing to share the indemnification.14 A number of groups suggested that EPA indemnify sub contractors directly. One group said it thought EPA had attached too much significance to the notion of privity of contract; this party saw no legal barrier to direct 14 A related concern raised by one group is that of indemnification pass-through to individual professionals employed by subs. The professional liability insurance secured by the individual almost certainly does not cover pollution liability. Yet individual professionals could, conceivably, be the target of third-party claims, if not claims under CERCLA. If indemnification is not passed down from primes to subs, it is unlikely that it will be further passed down from subs to individual professionals employed by the subs. This lack of insurance coverage, real or perceived, may discourage the "best and the brightest" from developing and testing new technologies and that in the long run the public will suffer. -16- ------- EPA indemnification of subs. Others, such as the HWTC, viewed the lack of privity as a bar to direct indemnification of the subs by EPA. Many RACs urged that EPA provide to the prime specific indemnity amounts for the subs. The amount could be measured by the size of the contract or a judgment of the risk inherent to the particular activity that the sub is performing. This approach would satisfy the need of the sub, as articulated by the AGC and the HWTC in particular, to know at the start of the job, that it is being provided with a particular indemnity amount. It throws the allocation function back to EPA which may not satisfy the agency's interest in easing the administrative burden. Otherwise, the RACs believed that the EPA could eliminate the disincentive to share the indemnification by significantly increasing the coverage limit, either by increasing the per contract amount or by setting it, in a high enough amount, on a per site or per activity basis. If the increase to coverage limits either way is significant enough, EPA's initial intent of having the prime be responsible for allocation could be achieved, although sub-contractor representatives, such as the HWTC, believed that even under these circumstances EPA should mandate and ensure an appropriate flow down. Depending on the extent of the increase in the limit, it might also be necessary to develop an allocation method or standard.15 The RACs expressed interest in the idea of EPA providing an indemnification amount on a per activity basis. If an activity analysis is performed, EPA could determine that some activities are risky enough to justify a large amount of coverage, but that some are not that risky or that insurance is available for certain kinds of activities. Since one or a limited number of subs are performing work as part of the particular activity, it will be easier to allocate the indemnification on this basis. Finally, under the proposed Guidance, non-profit organizations receive the same treatment as for-profit RACs. At least one non-profit 15 AIG suggested that the allocation method be similar to that used in commercial insurance contexts: that the amount of coverage be allocated according to the responsibility for the loss. This approach appeared unworkable to many of the RACs and, moreover, it does not satisfy the interest of the RACs in knowing, at the beginning of the work effort, the indemnification coverage that they will have. -17- ------- group believes that this approach is unrealistic and unfair, given the vast differences in resources, assets and purpose/mission between for-profit and non-profit organizations. D. ADMINISTRATION ISSUES 1. Due Diligence Requirements The proposed Guidance restates the statutory requirement that in order to be eligible for indemnification the RACs prove that they diligently sought to obtain adequate commercial insurance, but were not able to do so. The proposed Guidance implements this provision by requiring that RACs obtain 3 quotes for liability insurance for each site they work on, every year. All the RACs (with the exception of Waste Management) complained that this level of due diligence was costly, time-consuming and wasteful. They gave the following reasons: a) Only 2 insurance companies AIG and Reliance are selling pollution liability insurance of any kind, at any level to the general market. Hence it is very difficult to get three bids. b) No standard for what constitutes "adequate" insurance has been developed by EPA. Even if the commercial insurance market expands, the RACs can not know, in advance and for certain, whether the bid that they are likely to receive will be considered adequate. c) It usually takes 4 months to obtain a quote. The application process for AIG and Reliance is very vigorous. Moreover, since most other are not actually selling policies, it is not in their interest to make delivery of quotes a priority. d) The application process can be very costly. -18- ------- e) The RACs maintain that some insurers have told them that they will cease giving because of the cost involved and because the available product is never bought.16 f) The RACs perceive that EPA believes that adequate, affordable insurance is much more available than it actually is. Since they believe that adequate insurance is not available, they believe that they are being forced to waste time and money As an alternative to the proposed Guidance, the RACs and others recommended the following approach to implementing the due diligence requirement: a) EPA should articulate a standard for what constitutes adequate, affordable pollution liability insurance. Since Section 119 contains no definition, EPA has the flexibility to develop a standard that is reasonable under the circumstances.17 b) The due diligence requirement would be fulfilled if the RAC obtain a letter from its broker which describes available insurance. The EPA would review that letter to determine whether what is available is adequate; if so, the RAC would proceed to obtain further quotes. c) EPA should require a RAC to fulfill the due diligence requirement once annually on each contract, rather than on each site. If EPA is not prepared to implement the above approach, the RACs urged that other means be found to streamline the due diligence process and make it less onerous. 16 AIG claims that it is giving RACs quotes, but that the RACs are not presenting those quotes to EPA 17 On the other hand, one trade organization complained that EPA already has too much discretion to determine whether the insurance that is available is adequate -19- ------- Finally, the RACs were very concerned regarding one particular consequence of the due diligence requirement they are often put in the position of having to start to work even before knowing whether they will be indemnified. The RACs claim that, in particular, on emergency contracts they often begin the work prior to being able to complete due diligence; the indemnification is granted subsequently, exposing them to a risk of liability without protection in the interim. They recommend that EPA make the effective date of insurance coverage automatically co- terminous with the contract starting date. 2. Retroactivitv of Proposed Guidance The proposed Guidance would apply retroactively to contracts signed prior to its final promulgation from the effective date on, EPA could offer indemnification only according to its terms and, therefore, pre- existing contracts would have to be altered to incorporate these terms. The RACs primary concern over the retroactivity provision is that whatever the final form of the proposed Guidance, it will be less liberal than the prior policy; thus, the change in contract terms would significantly alter the relationship between profit and risk. There would have to be a re- negotiation of their contracts so that they would secure consideration for the greater risk that they would be assuming. Several people within the government were concerned that the retroactivity provision might cause disruptions in the on-going work. If the EPA and the RACs were not able to re-negotiate the contracts, the government would have to terminate the contract "for the convenience of the government" and then resolve claims of the just-terminated contractor and find new contractors. The RACs proposed that in order to avoid the potential disruption of contract re-negotiation, that pre-Guidance contracts be "grandfathered" so that the current policy would stay in place throughout the life of the contract. 3. Fixed Price Contracts Under the proposed Guidance, RACs bidding on fixed price contracts must indicate in their bid whether they are requesting government indemnification. EPA determines a value for the requested -20- ------- amount of indemnification, imputes that value to the bid total, and selects the lowest bidder. Large and small RACs alike agreed that this scheme has two negative consequences. It favors the large companies that can self-insure, and therefore do not request government indemnification, over the smaller firms. At the same time, the RACs and others fear that the only other types of firms that will bid without seeking indemnification are the "cowboy" firms whose work practices may endanger the public and their workers. As a result, the more responsible, though less capitalized firms may be driven out of business.18 Others agreed with these concerns. The Joint Management/Labor Trust Fund and the Laborers Association General Contractors Education and Training Fund both stated their concern for the safety of the remediation workers. OIRA is concerned that fewer RACs will bid on contracts and that reduced competition will drive up contractor bids and, ultimately, cost the government more than it would cost to provide indemnification directly. The American Association of Surety Bond Producers is also particularly concerned with this provision of the proposed Guidance because sureties depend on the quality of RACs to protect their investment in surety bonds. Any practice or requirement which drives high quality RACs out of the business and encourages the participation of less scrupulous and careful companies is a disincentive to surety participation. The RACs generally recommended that this requirement be dropped. For example, the AGC, whose members frequently work under fixed price contracts, recommended that EPA offer a set amount of insurance for the particular job so that the amount of indemnification sought does not become a distinguishing factor among bids and that there is no disincentive to requesting indemnification. 18 One party at the November 19 meeting raised the legal question of whether the government had the legal authority to impute values to a competitive bid and whether such imputation of values constitutes"tampering" with a RACs sealed bid? -21- ------- E. OTHER ISSUES 1. Alternative Approaches to Risk Transfer David Coduto and Am Re Managers have been circulating the idea for an alternative approach to risk transfer in this context. The concept is as follows: A group of RACs would capitalize a risk retention group which would then be able to insure the lowest layer of risk. EPA would indemnify the RACs for the excess risk up to a limit. EPA would specify both the limit per contract or per activity or site, as well as total limit of its excess pool. Coduto believes that this structure would encourage commercial participation, first in the form of reinsurance. This would occur because the commercial sector would know that its liability would be capped at the point that the excess layers kick in. The structure presents two advantages to EPA. First, as commercial sector involvement increases and as the first layer builds up premiums would flow in and interest would build up, but early on there will not be significant outflow as there will be few claims), the amount of EPA funds dedicated to indemnification of the excess layer can decrease. Second, EPA will not have to be in the initial insurance underwriting process nor will it have to process claims. None of the RACs objected in principle to the idea of a captive insurance program or risk retention group similar to the one proposed by Coduto, although HWAC has raised questions regarding the legal authority for EPA's participation in a structure such as presented by Coduto.19 All RACs, however, were pessimistic about their ability to raise sufficient capital to create a fund with the resources to give adequate (per occurrence) coverage. They point to the Demeter experience: Demeter failed because it was not sufficiently capitalized to provide an adequate insurance product. The problem was compounded, they believe, by EPA's failure to reimburse for the Demeter premiums. 19 The AIA had previously fought against the changes in federal law that allowed the establishment of risk retention groups. It now views them as potentially appropriate risk transfer mechanisms, though it is concerned about the solvency of many such groups. -22- ------- 2. Surety Issues According to one source, only 6 out of 680 surety companies nationwide have ever written bonds for EPA Superfund projects. According to a 1990 U.S. Army Corps of Engineers study of surety bonding for all, not just public, Superfund sites, about 30% of existing bonds were written by a company called Seaboard. That company, however, is apparently no longer writing bonds. Surety bond producers claim that public Superfund work is a potentially enormous market for them, one they would like to tap into. They are concerned, however, regarding similar technical and legal risks as are the RACs. It is possible that the recent passage of an amendment to Section 119 providing sureties with indemnification equal to that provided to the RACs, will increase the willingness of the sureties to write bonds, but that has not yet occurred.20 The sureties appreciate the protections afforded by this amendment, but are concerned about most of the same issues regarding the proposed Guidance as are the RACs. Sureties believe that they face legal risk, and consequently are hesitant to bond EPA Superfund projects, because they fear that they will be exposed to liability for claims outside traditional surety boundaries, i.e., the contractor's performance of the work in accordance with the plans and specifications, and payment of covered subs and suppliers. In their February, 1990 comments on the proposed Guidance, the AIA stated that sureties view environmental law as an area characterized by the expansion of insurer liability far beyond those claims originally anticipated by the contracting parties. The sureties believe that it is quite likely that they will be sued in tort by injured third parties. Twenty years from now, when a liability claim is made on a hazardous waste cleanup project and there is no liability insurer and no RAC capable of satisfying the claim, the sur.ty bond producers fear that they may be the only avenue left for payment to the injured party. They argue that such a "misconstruction" of policy terms is not unheard of in current court decisions relating to personal injury and environmental damage. 20 AGC members have not been able to secure bonding for EPA irfund sites. Even major contractors like Bechtel are unable to get bonds without posting assets equal to the value of the bond. Unless this situation changes, the result will be that larger firms with greater assets will have a competitive advantage over the smaller firms. -23- ------- E. CONCLUSION In spite of significant differences among those involved in this process about the validity of the assumptions underlying EPA's proposed Guidance and about EPA's efforts to resolve the many indemnification issues, the interviews and November 19 meeting produced constructive, and partly candid, discussion between the agency and those affected by the Guidance. At the conclusion of the meeting, several participants expressed appreciation for the opportunity to exchange information and views with the EPA on what are very complex questions. All in attendance contributed to the dialogue in a constructive fashion and await the outcome of EPA's decision-making on the issues. -24- ------- APPENDIX A ------- ENDISPUTE interviewed the following individuals during the convening stage of the consultative process. Many of these interviews were conducted in groups and some were conducted by telephone. Jack Curtin Jane Dudley Gregory Brown Lynn Schubert James Kimble Martha Hamby Mark Haynes Robert Blackwell Karen Jordan Richard Fiesta David Case Carol Terry Elizabeth Epstein Paul Nadeau Ken Ayers Scott Fredericks Ron Minsk Richard Belzer Tom Gillis Susan Brigham Jane Seigler John Meachem Brian Deery David Coduto National Assoc. of Surety Bond Producers National Constructors Assn. Stone and Webster American Insurance Assn. American Insurance Assn. American Insurance Assn. Fluor Constructors Intl. EBASCO Joint Management/Labor Trust Fund Laborers Association General Contractors Education and Training Fund Hazardous Waste Treatment Council. Environmental Business Assn. Environmental Business Assn. EPA-OERR EPA-OERR EPA-OERR OMB-Office of Information and Regulatory Affairs OMB-Off ice of Information and Regulatory Affairs EPA Waste Management Inc. Waste Management Inc. Waste Management Inc. Associated General Contractors Terra Insurance Company -i- ------- Matt Prastein David Dybdahl Dennis Connolly George Barrone Robert Patterson William McElroy Peggy Cutler Jack Mahon, Esq. William Topping Thomas Hickey Alex Karlin, Esq. George Gleason S. Wyatt McCallie Michael K. Yates Leonard Kessler Carolyn Kiely, Esq. John Schulz Gary Dunbar Pete Lederman James Whitehead John Curtis Doug Congdon Brad Figley Department of Defense Carroon and Black Johnson & Higgins Am Re Managers American Insurance Group American Insurance Group American Insurance Group U.S. Army Corps of Engineers EPA - Remedial Contracts Branch HWAC (Malcolm Pirnie) HWAC (Morgan Lewis & Bockius) HWAC (NUS) HWAC (CH2M Hill) HWAC (EBASCO) HWAC (EBASCO) HWAC HWAC (Bechtel) HWAC (Los Alamos Technical Associates) HWAC (Roy F. Weston, Inc.) HWAC (Badger) HWAC (COM) HWAC (Versar) HWAC (IT) -n- ------- APPENDIX B-l ------- AGENDA FACILITATED DIALOGUE ABOUT THE EPA RAC INDEMNIFICATION GUIDELINES November 19, 1990 Washington Marriott Hotel 9:30 - 10:00 AM Facilitators' Introduction Objectives for Meeting Role of Faciliator Ground Rules Agenda 10:00 -11:15 AM Parties' Introduction Interests and Objectives Constraints 11:15-11:30 AM Break* 11:30 - 12:45 PM General Discussion - "Context" Statutory Requirments Technical Risks of RAC Work Legal Risks of RAC Work Availability of Insurance Surety Issue 12:45-1:OOPM Break* -m- 1 The conference room will have side caucus rooms to allow for private meetings during the breaks among the representatives of a party or between parties. 2 Lunch will be served. Participants should plan to eat lunch during sub-group sessions. ------- Agenda (con't) 1:00-3:00 PM Sub-groups - Issues/Alternatives 1 - Administration Diligence Requirements Multi-Site Issues Retroactivity Issues Approval Mechanisms Fixed Price Contracts Subcontractor Issues 2 - Coverage Limits Deductibles Term Exclusions Subcontractor Issues 3 - Stimulating Insurance Availability How the Guidance fits into this overall statutory goal, 3:00 - 3:30 PM Breaks 3:30-5:00 PM General Discussion - Issues/Alternatives Sub-groups will report Further discussion will occur 5:00 - 5:30 PM General Discussion - What did we accomplish today? Next Steps, if any -IV- We are planning for a longer break than usual to allow any sub-group to extend its meeting. ------- APPENDIX B-2 ------- GROUND RULES FACILITATED DIALOGUE ABOUT THE EPA RAC INDEMNIFICATION GUIDELINES November 19, 1990 Washington Marriott Hotel 1. Each party that participates in the dialogue agrees to be bound by these ground rules and otherwise to participate in good faith. 2. Each party subscribes to the objectives of the dialogue to help the other parties understand its interests, concerns and positions with respect to the EPA RAC Indemnification Guidelines, and the constraints under which it acts; and to help the EPA determine whether further consultation with the parties, or consultation of a different nature, would be useful, feasible and appropriate and agrees to act consistently with these objectives. 3. The dialogue shall be facilitated by Michael D. Young and Katina B. Leodas of ENDISPUTE, Inc. The facilitators shall be responsible for coordinating the dialogue and for ensuring that it proceeds in an orderly manner. 4. The dialogue shall proceed according to the agenda developed by the facilitators, unless there is a consensus among the parties represented, including EPA, to modify it. 5. Although a party may be represented by multiple individuals, it shall designate no more than two individuals who shall generally speak on its behalf during either general or sub-group discussions. -v- ------- 6. No party shall be bound by any statement of any kind made by its representatives during the dialogue, unless it explicitly agrees to be so bound. 7. All comments made are off-the-record. No party shall publicly quote or cite outside of the dialogue the statements of any other party made during the dialogue, unless permission is explicitly given or unless required by law. 6. No formal record of the dialogue shall be made. Any party may take notes, and each party agrees that in the future it shall not subpoena, or otherwise attempt to obtain, the notes of any other party or of the facilitators. -VI- ------- APPENDIX C ------- EPA INDEMNIFICATION MEETING November 19, 1990 Name Affiliation/Address Telephone/Fax John Turner Warren Diederich Brian Deery Richard Belzer Ron Minsk S. Matthew Prastein George Gleason Thomas J. Hickey Jack Mahon Theodore M. Pierce Alex S. Karlin Remedial Contractors Institute National Solid Waste Management Assn. 1730 Rhode Island Ave. NW, Suite. 1000 Washington, DC 20036 Industrial Builders Inc. General Contractor P.O. Box 406 Fargo, ND 58107 Associated General Contractors 1957 E Street NW Washington, DC 20006 Office of Management and Budget New Exec. Office Bldg., Room 3019 Washington, DC 20503 ODASD(E) 206 N. Washington Alexandria, VA 22314 Hazardous Waste Action Coalition 1015 Fifteenth Street, NW Washington, DC 20005 Malcolm Pirnie Two Corporate Park Dr., Box 751 White Plains, NY 10602 U.S. Army Corps of Engineers Attention: CECC-C 20 Mass. Avenue, NW Washington, DC 20314 National Association, of Surety Bond Producers 6931 Arlington Road, Rm. 308 Bethesda,MD 20814 Morgan Lewis & Bockius 1800 M Street, NW Washington, DC 20036 202-659-4613 701-282-4977 202-393-2040 202-347-4004 202-395-3084 202-395-7285 713-325-2211 301-258-8647 301-258-9116 914-641-2949 202-272-0021 301-986-4166 202-467-7158 -vi- ------- WyatttMcCallie Richard Fiesta Jane Dudley Herb Blum David Coduto Bill Topping Stuart Ferguson Arthur Weissman CffiMHill P.O. Box 22508 Denver, CO 80222 Connexion, Ray & Simon (Laborers - AGC Training Fund) 1920 L Street NW, 4th Floor Washington, DC 20036-5004 National Constructors Association 888 17th Street, NW Suite 400 Washington, DC 20006 Chairman, General Counsels Committee National Constructors Association Ebasco Services Inc. 2 World Trade Center New York, NY 10048 Terra Insurance Company Two Fifer Avenue, Suite 100 Corte Madera, CA 94925 EPA/PCMD PM-214F 499 South Capitol Street SW Washington, DC 20032 AM-RE Managers, Inc. 555 College Road - East Princeton, NH 08543 EPA/Office of Waste Programs Enforcement OS-500 401 M Street SW Washington, DC 20460 303-771-0900 303-220-5106 202-466-6790 202-659-3458 202-659-6810 212-839-2616 212-839-2825 800-872-0077 415-927-3204 202-382-3184 609-243-4332 202-475-6770 Elaine Stanley Ken Ayers OS220-W Paul Nadeau OS220-W EPA/Office of Waste Programs Enforcement OS-500 401 M Street SW Washington, DC 20460 EPA/Hazardous Site Control Division 401 M Street, SW Washington, DC 20460 EPA/Hazardous Site Control Division 401 M Street, SW Washington, DC 20460 202-382-4823 703-308-8343 703-308-8313 -vu- ------- BenHamm George Barone Tony Guadagno William McElroy David Case Rick Colbert Karen Jordan Jane Seigler Jim Kimble EPA/Office of Waste Programs Enforcement 401 M Street SW Washington, DC 20460 Am Re Managers 685 College Road East Princeton, NJ 08543-5241 EPA, Office of General Counsel 401 M Street, SW Washington, DC 20460 Commerce & Industry Insurance Co. 70 Pine Street New York, NY 10270 Hazardous Waste Treatement Council 1440 New York Avenue, NW, Suite 310 Washington, DC 20005 EPA/Office of Waste Program Enforcement 401 M Street SW Washington, DC 20460 Laborers-Employers Cooperation & Education Trust 905 16th Street NW Washington, DC 20006 Waste Management Inc. 1155 Connecticut Ave., NW Suite 800 Washington, DC 20036 American Insurance Association 1130 Connecticut Ave., NW Washington, DC 20036 202-475-9804 202-382-3106 609-243-4904 609-243-4940 202-475-8880 212-770-5398 212-422-8198 202-783-0870 202-737-2038 202-382-4015 202-783-3545 202-467-4480 202-659-8752 202-828-7100 202-293-1219 -Vlll- ------- APPENDIX D ------- CURRENT POLLUTION LIABILITY MARKET FOR RESPONSE ACTION CONTRACTORS (Source: Business Insurance, October 8, 1990) Maximum Policy Limits (Smillions) Insurer AIG Product Contractors Pollution X I AIG Contractors Errors & Omissions Reliance Contractors Pollution (Blanket) (Project) Reliance Environmental Consulting Professional (Blanket) (Project) Reliance Consultants Pollution & Errors & Omissions, Combined (Blanket) (Project) Per Claim Aggregate ($thousands) ($thousands) 10 2 5 5 5 5 5 5 10 2 5 10 5 10 5 10 50 50 25 25 25 25 25 25 25 ($1 million 50'( " ) 20 ( " ) 20 ( " ) 25 (") 25(") 20(") 20(") 'For bjyers with other coverage from AIG ------- RESPONSE f CTION CONTRACTOR PRIMARY RISK SPECTRUM & AVAILABILITY OF COVERAGE IN STAiSDARI) INSURANCE POLICIES Risk Non-pollution Related Professional non-negligent Professional negligent Non-professional non-negligent Non-professional negligent Pollution Related Professional non-negligent Professional negligent Non-professional non-negligent Non-profewional negligent Professional Liability Insurance Covered Covered Excluded Excluded Excluded1 Excluded 1 Excluded Excluded General Liability Insurance Excluded Excluded Covered Covered Excluded Excluded Excluded Excluded As of 11/9/90 1 Except wastewater, potable water & stormwater projects ------- |