Commercial Building Insurance and How the Insurance Industry is Adjusting to the Commercial Real Estate Market
Rick Callaway, commercial insurance expert, on commercial building insurance, insurance industry post COVID, commercial real estate market.
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Maurice Washington
Hello, my name is Maurice Washington. I want to welcome everyone to another episode of Executive Talk, those who are watching live with me here on LinkedIn, on Facebook, or on Twitter, or if you’re right here on Roku. Thank you for joining us today. In today’s show, the topic that we’re discussing is how insurers are responding to changes in the commercial real estate business right now.
As you know, since COVID, we’ve gone through a lot of changes. Every industry has taken some plunges and some industries have really accelerated in this time frame. There’s been some response to these changes. And that’s what we’re going to talk about is the response. And with me today, I have Rick Callaway of Rick Callaway Commercial Insurance Team, with me to talk about this; let’s go ahead and get Rick on the show, how you’re doing.
Rick Callaway
Doing just great. Looking forward to another good show.
Maurice Washington
You know it, we just want to make sure everybody’s clear about the importance of insurance to your business. You have a creation, which is your business, and we need to make sure we understand what’s going on within the insurance industry. Because again, that’s a huge part of your creation, which is your business. And so, right now, Rick, will you think about commercial real estate and its current state, it hasn’t taken too big of a hit, has it? What have you seen?
Commercial real estate market’s ups and downs
Rick Callaway
Oh, it’s been up and down, when COVID hit right away, all the offices were empty, everybody was working remotely, and everyone was trying to redo their leases. The commercial real estate industry was scrambling; now everyone’s coming back, coming back to their offices or having set up a hybrid thing; it’s just a different marketplace.
COVID slowed construction Now we’ve got a good old supply and demand issue. Less out there available, and more people looking for space. Now, all the people that were not working due to COVID decided, “You know what, I know how to do all this, I want to start my own business.” So now we have new tenants coming into buildings.
Maurice Washington
That’s for sure that’s true. So that brings up a good point. I did some research on this topic. I’m going to take everybody to this article in Forbes, it says when inflation was high in the past, equity positions in commercial properties were highly leveraged. Fixed-rate debt acquired at positive spreads. However, rental income increases, caused by inflation can multiply yields on equity protecting commercial real estate asset values. In other words, commercial real estate can benefit from the same forces that currently drive inflation.
Labor costs and supply chains issues are limiting new development, which benefits existing properties, given current supply and demand. And valuations of commercial properties will remain firm. Now, for people that are leasing for tenants, for commercial real estate brokers, that’s probably, that’s more than likely good news, right?
Rick Callaway
Because they’ve got tenants out there looking for spaces. The spaces to fill. The rent will start coming in and there has been no change to the mortgage, because they financed it a while ago. So yeah, the asset value is going up.
How climate change is affecting commercial property insurance
Maurice Washington
And that’s huge. And I know for insurance companies, that is what’s important. Somebody that told me that, you know, of course, that’s part of the reason they’re in the industry. Now. Here’s something that is challenging. I know a lot of people have mixed feelings regarding this, but it comes to weather change, climate change. What are you seeing overall, because there’s, I feel like across the board across the whole United States, we’re having a lot of adverse weather that’s making kind of a weird response?
Rick Callaway
We’re having everything from hurricanes to tornadoes, to fires in California. Insurance companies, just like any other business, are in business to make a profit. They are looking at the risk out there to see how they want to handle it in a lot of areas. They’re pulling out because they just can’t continue to take the hits they’re taking.
Maurice Washington
Yeah, there’s, there’s one marketplace I want to hit, you brought up Florida, which reminds me of this article that I wanted to share with everyone regarding Florida. This article is from a trade magazine “Property Casualty Three Sixty. For those that want to reference, Takeaway Number One insurance is aggressively mitigating risk. Florida has always been a high risk base for our property and casualty insurance. But in 2021, insurers lost $936. 2 million more than previous two years combined. There is a trend that it seems like commercial insurers have been losing over these last couple of years. Can you talk to us about these losses and where they’re coming from?
Higher premiums with Excess and Surplus (E&S) Insurance
Rick Callaway
Insured is based on expecting a specific thing to happen; And it happened. Ian probably added to that total more than anything. Insurance companies, they’ve got a pot of money that they have to maintain to pay these claims. They have to have two choices; raise rates, in these particular areas or leave the marketplace all together. There’s what’s called standard markets, “admitted markets,” admitted markets are admitted to a state; they publish, what their rates are, what they’re exactly going to write, and what their policies will contain. Then there’s what’s called the E&S Market, excess and surplus lines; these folks are licensed to do business in a particular state. But they don’t have to follow the admitted rule. They can write almost whatever they want. They’re obviously looking at the risks as well. But we can see, based on premium values, two years ago, there were $90 billion in premiums in the E&S markets, which is a pretty big number. Now, there’s over 126 billion. This means these companies are starting to pick up risks. Standard market carriers aren’t willing to write. It’s not good news for the people being insured, because these premiums are higher. But you need to have insurance; you’ve basically got no choice unless you want to self-insure, that’s probably not the best decision of the year. This works if you are Elon Musk and have plenty of money to take the gamble.
Maurice Washington
So let me ask you this. I’m going to bring up two scenarios. I’m going to pretend I was Mr. Commercial Real Estate insurance broker, and I’m located in Florida, and I’m writing all these policies. But now all these insurance companies are leaving me? What can I do to serve my clients? What does that look like for them?
Challenges for commercial insurance brokers and their clients
Rick Callaway
For them, for the insurance broker, with them, all scrambling to find companies that have the right coverage. It is not an easy marketplace. There used to be more choices to find coverage, but now there is not, so now more work because I still want to give my clients the value that they need.
That’s a lot of shopping and a lot of working with the carriers to come up with a reasonable price. Things like higher deductibles to reduce the cost, to keep it as close as possible to the current premium and provide what a client needs. It is working with the insurance carriers, and it’s working with the clients to understand the marketplace. I want the cheapest policy; I can get cheap; this policy may not be the best thing in the world for you. It may be cheap, and it just gets expensive when there’s no coverage.
Maurice Washington
That’s exactly my point. I’m going to bring that up as well. So in the initial conversation, typically people that shop insurance, they will say I don’t need that; I will need that ultimately you’re trying to mitigate costs; you are trying to lower costs, and not pay too much in your insurance rates. Right. What do you say to people that are in the commercial space? regarding insurance than negotiating rates? Should you negotiate all those things and take them out? Or what should be the conversation in insurance?
Rick Callaway
If you are in a standard marketplace, you’ve got a policy that contains lots of things that I call throw ins, okay, there, whether you want them or not, they’re included in the price. Some of them, it depends on the industry; it may be valuable coverage, may not be for a different industry But when you’re working these excess and surplus lines, you must be specific on what you want to ask for. I want building coverage. I want business, personal property coverage. I want coverage when my drivers are taking things off site, you must make sure all those things are in there when you request a quote. And then you must read the quote to make sure it matches what you asked for. And you work with that particular client and say, these are the options we have; these are the things we can do. This is what I think we ought to do. But I’ll let you make the final decision. I don’t want you taking out wind coverage in Florida.
Maurice Washington
That’s right. That’s right. And that’s where I feel like a lot of people have that bad relationship or bad taste in their mouth regarding insurance, working with insurance brokers, and the fact that an insurance broker may have suggested to you should get this coverage, this is important. But then, suddenly that conversation becomes forgotten. And now you know, when Ian happens or some, some force of nature happens, then there’s a conflict with why didn’t you do it? Tell me about this. Right? And so, I mean, are you seeing that? Do you see that pattern regarding relationships working with business owners?
Rick Callaway
When I’m working with a business owner, I’m really concerned that they definitely need coverage and they’re not willing to take it. I’ll send them a letter and make them sign it saying, hey, you offered me this coverage. but I opted not to choose it because the last thing I want to do is spend my time in court litigating something like this. I offered the coverage. I made my best recommendation, and you chose to do what you do. Now we’re at the point where your claim is uncovered. And now you’re trying to put it back on me, when in fact, I recommended it in the first place.
Maurice Washington
And I want to make sure that we’re clear in this conversation is not to create a battlefield here, is this create a reality of when your insurance broker is offering these things, there’s a reason, and it’s not an understanding cause and nobody wants to pay extra costs. But regarding this, and outside forces, it’s a catastrophic event. I mean, Ian was an insurmountable amount of damage… And it’s probably one of the worst they’ve ever seen from what I’m hearing. And so as far as trying to recoup and trying to recover your business on, that’s a whole other issue.
Rick Callaway
Insurance carriers are looking at the analytics of storms, and what damage they cause. Now, never was it as big a deal. But the same strong, stronger storms cause a lot more problems. So, you know, like I said, they’re a business like any other business; they are looking at what they have to do to be successful in their area. They must look at all these analytics that allow the computer data to go back and forth and be analyzed. And that’s what’s happening, is the premium. Everybody is trying to make sure that they’re making their profit, just like any other business.
Protecting business property owners when insurance is hard to find
Maurice Washington
So then, how does the person that has a commercial property in Florida right now per se, when insurance companies are moving out of the market to protect their best interests? What do they do, obviously, they have to go to outside sources to find coverage currently? I mean, or do they wait until things come back around? What do you think the best suggestion is right now?
Rick Callaway
They need to work with a broker that’s familiar with their territory and the risks involved in somewhere like Florida, it’s different. I am here in California right now. And people don’t want to move to California, there’s earthquakes, in other areas of the country we have tornadoes and hurricanes, all the time. We don’t have earthquakes all the time, and they don’t cause a lot of damage all the time. So if you’re in an area that has high winds, floods, all those risks, you’re gonna have to work with your broker and they are going to have to work harder to find your coverage. And unfortunately, you’re probably going to have to pay more for that coverage. But you want to be in business. It’s the cost of doing business.
Property owners can make their properties insurable with risk mitigation
Maurice Washington
That’s fair. All right. That’s good. And this is good. This is why again, never get bored, n with insurance people, this is one of the quietest storms in your business, if you don’t have the security in the background, it can, it can just be catastrophic. So that’s why I want you to make sure that you hone into this. So here’s what I want to bring up. And I know this is a big deal for a lot of insurance companies, and I got this on real estate trace.com. And this is talking about commercial property risks, and they have about eight risks that are investing in real estate that come with its building quality. Rick, how have you seen that as a huge impact within commercial real estate owners?
Rick Callaway
It has two effects, one, the real estate risk, because I would rather move into a well-maintained building, the one that’s not so well maintained, yeah, that will drive my asset value up into an insurance company. Carriers evaluate risks. If they see a building that’s falling, basically, not painted, the roof hasn’t been taken care of in years. They’re not particularly wild about that building. But if you have a well-maintained building, your electricity, your fire alarms, and all that is up to snuff, they’re much more willing to write that business. And they’re inspecting almost every property that’s written to make sure it’s up to snuff and giving recommendations on what folks need to do. And in that same vein, when they recommend that you fix your electrical, or put a sign up here, or do whatever it is to help one help them protect their risk, but also to help you protect your risk. These things they know help prevent clients.
Maurice Washington
That’s it. I respect that. So how does building quality equal to occupancy? What kind of relationship does that have for somebody? I own this building, if I don’t keep it up the building quality, how’s that how does that affect occupancy?
Rick Callaway
Well, if I’m out there looking for a new place to move into the middle of my business, I would rather go into a building that looks like it’s in a lot better shape, may not even cost me any more money, and maybe, it may be the same, same rent. Sure. A vacant building is a nice target for vandals. So, you want to be in a building that’s well maintained and has plenty of occupancy.
Risks associated with tenants’ credit worthiness
Maurice Washington
That’s right. That’s right. And so with that vandalism, and we’re going to talk about that in a minute. I want to bring this up because I think this is another important asset or conversation here when it comes to tenant credit risk are weak because you had talked about earlier how COVID and everything has created more new businesses, people were moving in looking for office space. Now, you know, people have to get innovative themselves, right. So now more tenants are looking for vacant space to occupy these buildings. So now when it comes to losing for that period, when COVID hit, I felt like the knee jerk reaction or the reaction, as any business owner was trying to fill the gaps trying to get your revenue back in order. Okay, so I’m a new tenant, I want to come in, if you don’t look at the credit, I mean, do you feel like they’re running into more risk, and, you know, being hasty in that?
Rick Callaway
There are two operational factors on the way folks build their buildings occupancy, some go, I just want to get somebody in there to start paying rent. But they don’t look at the downside, has no credit; his business is slow. He’s got a year’s lease; he can’t pay his rent anymore. Then I have to kick them out. How much money does that cost me, or you do the homework upfront, check their credit, make sure they’re going to be a good tenant, and then you don’t have the problems. One of my clients, had a partnership that one person wanted to do it one way, one person wanted to do it the other way. The one that wanted to just fill the tenant, they’re no longer in business, because it costs us so much to get the tenants out; the other gentleman did his homework upfront, is still up and doing strong. And he continues to follow the same procedure, making sure the risks, the risks that they’re taking on with tenants is worth it. I don’t want to tell them that it’s not going to pay me rent in a month. That doesn’t do me much good.
How commercial rental occupancy and vacancy affect insurance
Maurice Washington
Here is another thought then, when it comes to occupancy and insurance, if I learned from you, if anything, insurance companies look at your occupancy. At the beginning of the conversation, there’s a negotiation based on how full your or you know how full your building is going to be occupied. Now, what happens when you don’t see that same traffic in another space? Do you see insurance rates go along with that? Or how does that correlate,
Rick Callaway
You have to be working with your broker on vacancies, because it’s certain policies, and most of them now, after 90 days or so, you have a vacancy clause that says, hey, if you’re vacant, this percentage, you’re going to lose these coverages, one of the coverages that they lose is vandalism, and what happens in vacant property. So that’s a nice target. There’s nobody there. I’m going to break some windows. I am going to spray paint the building. And guess what, if you haven’t talked to your broker and your carrier to let you know, you’re in negotiations for a new tenant, you just lose that coverage. Is it important for the broker and for you, as a business owner, to contact your broker? Hey, we’ve got a bunch of vacancies now and we’re in negotiations to make sure you maintain your coverage.
Maurice Washington
That’s fair. Okay. Well, let’s talk about this year, when we look at downtime risk, and also valuation risks of the market, rent, cap rate? Does any, any one of those stand out to you, as far as you know,
Rick Callaway
Those are pretty much all real estate risks; they don’t really impact insurance one way or another. I just look at what the value of the building is, how much rent you’re collecting, where it’s located. And that’s what it’s based on.
Location, location, location
Maurice Washington
That’s fair. All right. Well, then, here’s what I know, you can test for its location risk. How’s that? How’s that sorry to play in the park.
Rick Callaway
Insurance is just like real estate, its location, location, and location. Yes, if you’re not, if you’re in Florida, in the middle of a hurricane, that’s probably not a really fun place that anyone wants to insure. If you’re in Texas, out in the middle of nowhere, and there’s your building and a few other things around you, that’s probably a lot more insurable risk, because you’re not the focus of a big claim.
Changes in strip malls, shopping mall
Maurice Washington
So there is something that’s also going on in the background regarding commercial real estate. And I feel like commercial moving, commercial real estate is moving in a different direction than what it used to be, used to be the strip mall areas. Regarding, you know, you find your stores, you will find a lot of traffic. But now that a lot of people are traveling the same way that they used to or visiting, you know, stores and doing all that like they used to, and I feel like there’s a shift in the marketplace as to how people are or how. I don’t know if it’s the state or businesses that they’re looking for to occupy these commercial real estate or these, you know, these commercial real estate that are still unoccupied. What do you, How are you seeing the shift in the marketplace with that?
Rick Callaway
We used to have big shopping centers that had the Macy’s, the JC Penney’s, the Nordstrom and all those, those places. Now with people after COVID they got used to shopping online or having something delivered. You’re looking at going to a strip mall that has three or four stores, they got. Don’t have to wander through an entire parking lot to get there. So this shift is the big stores are moving to strip malls.
And now we have big vacancies in the big, big malls. But mall owners are becoming creative. And also the cities are helping out, there was, I think it was Tennessee and it was a huge mall, all the stores are basically moved out. So they converted that space to a medical center. So it’s now a big medical operation picking up a lot of that space. So they’re collecting rent.
Another one, that’s another location the city jumped in. And they put in roller skating rinks and ice skating rinks. So the space was taken up. So it became less of a nuisance spot. And they added revenue back to the owner because there was something in there. So everybody’s working to make this thing work however they can. I don’t know how you describe the marketplace, it’s just a term where we have so many things going on, we have storms, wrecking everything, we have COVID Changing the way we do business. But we’re all still trying to somewhat move down the path that we’ve always moved along; we just have to look at more pieces of the puzzle.
Innovation and Insurance
Maurice Washington
And it goes back to our previous show. And I would like to ask everybody to go check it out. When we’re talking about innovation. This is our business. Everybody has to become innovative at this stage. I feel like that’s one of the current changes that, again, insurance companies are catching up with this innovation, like, for example, like you said, went from strip malls to now you know, how can we get people there. So it’s becoming a lot more entertainment-focused. And so it’s just a lot of innovation, a lot of change that we’re still part of since COVID. And that’s where I feel like this is where the response to those new responses is. One of the things that has occurred to me is last year during Christmas time, and we had that new security risk that was just a smash and grab. And so when you talk about, they can see, when you talk about up keeping your building, how does all that start to play your part in the insurance company’s eyes now that that’s a new thing that you know. these are doing, it’s always been around,
Rick Callaway
It’s always been a risk. But now it’s just becoming more pronounced with a less occupied mall, it’s much easier to run by grab something and run out because you don’t have to run through a bunch of people because there’s no one there. And the security people might be at the entire other end of the building. So you have to work with security companies that know what they’re doing and how to help you protect your risk. And design your space so that, you know it’s not so attractive to smash and grab, you don’t put your nice big expensive thing in the window where somebody can grab it, you put that farther back in your store. So security companies are working with retailers on the proper setup of a store to prevent theft. And you’re seeing more and more cameras, all that stuff. Again, it’s another cost of business that is changing. We have to somehow try and keep up with even the innovation, suddenly you get a great new idea.
Right now you’re making widgets and you decide you’re gonna make something else and do this better, check to make sure that’s still covered, because that’s not what you were originally insured for. Yeah, so innovation is wonderful. But you have to remember, Oh, I better touch my broker to make sure I’m still covering; this is the last thing they think about until the claim and they go, Why didn’t you have this covered? Well, I didn’t know about it. You never asked me, you never told me, even if I, you know, I review policies annually, ask questions that you may have started this six months ago. And the claim may have happened. No, before we had a chance to review your coverage.
Maurice Washington
Yeah. That’s, I mean, that’s a good point. I feel like we run into this collision course. We’re so innovative, I think, and as we’re talking about this, as hidden from me as we speak, innovation is happening daily. And your business model is morphing into something new. You learn something new in your business as you grow and develop and you want to add this to. And by that time, by that conversation that you had six months ago, you’re a totally different business sometimes. And I feel like that’s what you’re alluding to. Right, right is that whatever. Yeah.
Rick Callaway
Entrepreneurs, entrepreneurs want to create; they want to build their business; they want to do whatever they can do, and something new comes to their mind and looks like as much as potential. They’re gonna go off in that direction. It may be completely, you know, your bookseller today, and maybe you decide, well, I’m gonna sell hunting knives a little bit different than in books. So you’ve taken on a new risk. That’s a pretty ridiculous example, but things can be
Maurice Washington
Very true. That’s fair. That’s fair. That’s fair. So what would you give folks today as a, you know, take this show as a suggestion from insurance from an insurance perspective into their business model? Going forward besides that, what you just told us, a business
A business owner needs to work on your business, and with insurance brokers
Rick Callaway
Owner has to work on his business, not just in his business; he has to look at his business plan, look at how it’s changing; communicate with his broker, we as insurance brokers asking questions, not just because we want to play 20 questions, we want to make sure we’re covering your risk properly, what you’re doing needs to be insured properly. So work with your insurance broker, if you’re in a retail space, large, small, work with a security company, to make sure you have things set up properly, so you don’t have anything stolen or not have a lot of shoplifting. It’s, again, it’s another cost of business. But if you do the work up front, you’re much happier when something happens down the road. We’re like a CPE, talk to your CPAs, you talk to your attorneys, you need to talk to your insurance brokers, we’re trying to be your trusted advisor, we’re just not here to play 20 questions and sell you more products.
Maurice Washington
That’s it. That’s fair. Here’s uh, this, you know, Rick and I, we’ve been talking about this show for for about a month now, just trying to, you know, think about where we want to take everybody to be transparent. And here’s where we’re, here’s where we are taking folks. And it just hit me today as far as Rick has been talking. And the key word in this change. We’ve been through so much change as a society; we’ve been through so much change as business owners; we go through change so often. And I feel like as entrepreneurs, we forget that it’s almost like change; we can say that we don’t like change, but we aren’t too, we are in the business of change. And in that business of change, we need to be able to be responsive to those and insurance companies are in respond just as much as you need to respond. So I want everybody to take this show. And as if you’re a business owner, think about the changes that you’re making. Have the conversation with your insurance broker. In the commercial real estate industry. There’s changes going on with the weather and all kinds of other responses. Stay in touch with your insurance broker. This is what I want to leave everybody with. As Rick just noted, stay in touch with your insurance memories, one of the most important people within your business model.
Rick is always available as a business owner and that’s why he’s here with us with executive talk to talk about these things. But I want to make sure everybody just keys in on that word today to change and realize how much is happening and how innovation is happening within your business.
I want to thank everybody for being here today and taking an interest in today’s show. We will be here next month and we’ll have some more information for you. But in the meantime, Brick and I, we have to get back to work. You guys have a great day out there.
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