INDECS – INSIGHT 1

INDECS has for some time felt that there is room in the energy market for an alternative “Bulletin” that provides a forum for debate on issues of generic interest, rather than a commentary on market conditions, capacity and pricing.

The broking community is adept at providing contemporaneous analysis of market trends, this being a by-product of the day-to-day negotiations with market leaders, and as a consequence there is much information readily available in the marketplace. What we are aiming to achieve in this Bulletin is to review the direction or the momentum of changes in the market place against a broader spectrum of industry focus.

The immediate impact in the energy insurance market of the losses associated with the Macondo well following the blowout occurring in April this year was an increase in premiums for control of well and related coverage (the typical OEE policy), and a review of the capacity that would be made available for pollution related events. The initial market concern, in terms of capacity for pollution insurance, was that claims could effectively accumulate under both Operators’ and Contractors’ insurances programmes, notwithstanding that traditional indemnities negotiated between these parties would normally direct such claims to Operator’s policies. Little attention was focused upon the product itself (i.e. – the effectiveness of pollution cover, whether arising from wells or production facilities).

The demand for capacity for losses associated with well blowout, in terms of the limits customarily purchased, was comfortably within the quantum available in the market, estimated to have been about USD 500 million per event at the time of the loss. However, it must be acknowledged that such limit is provided on a Combined Single Limit basis covering costs of control of well, redrilling and restoration, and pollution liability plus clean-up expenses. The costs associated with the Macondo well have focused oil industry attention on the adequacy of such limit, particularly in respect of pollution, and whether the product itself meets the needs of the industry.

Most OEE insurance provided by the market is based upon the EED 8/86 wording. Under Section C ( Seepage and Pollution), the coverage may be considered “user friendly”, in that there is cover for legal liability in respect of compensation to third parties for property damage and bodily injury, plus reimbursement for clean-up cost on a “first party” basis. There is perhaps a valid criticism in that there are no definitions of what constitutes “property damage” and “bodily injury”, but balanced against this is a much clearer statement of cover for pollution liability.

This must be contrasted with the energy liability programmes purchased in the market, which seek to provide liability and clean-up cover for pollution arising from production facilities, and excess limits for pollution arising from wells. Policy forms for these coverages are usually based upon one of the standard market forms, namely LSW 244/5 and JL 2003/06-7. Attention is now being focused upon the effectiveness of the pollution cover in these products. It is problematic. First there is an exclusion of pollution from wells, that would need to be deleted (it frequently is not). Second, there are certain exclusions in the pollution “buy-back” that are either unclear or inappropriate for marine related pollution insurance.

As a consequence brokers have been seeking to produce excess pollution capacity in the market that can respond either to pollution from wells or from production facilities in a more effective way. Specifically, there are two products of which we are aware, that are close to being finalised. One is in the nature of a Line Slip Facility accessible to all brokers that will offer excess OEE capacity, subject to a relatively high attachment point. The intent is to offer capacity up to USD 1 billion in excess of existing primary policies. The other will seek to offer a bespoke offshore pollution insurance on a basis that is more “user friendly”. We will be monitoring developments on these products and will provide more detail as soon as the policy forms are finalised.

Whilst the development of more capacity is to be welcomed such capacity should be reviewed in the context of oil companies having operations in the US Gulf, and specifically the financial responsibility provisions that may emerge from the ongoing discussions in the US Congress. It appears that financial responsibility may be increased from USD 150 million to USD 300 million per event.

This would relate specifically to the pollution liabilities assumed by oil companies (as Responsible Parties) under OPA, whereas the insurance coverage under the products available and being developed may not be a “perfect fit” with these responsibilities. Furthermore the limits that might be made available are a long way short of the liability caps that have been discussed in Congress. A limit of USD 10 billion for compensation to third parties (clean-up is already unlimited) had initially been indicated, which is much greater than the existing USD 75 million per event.

In summary, the insurance market is being seen to respond to the emerging situation, but the limits available may fall considerably short of limitation amounts (if any) and we have serious questions as to whether the coverage will respond in a fashion that protects assureds appropriately against their OPA liabilities.

Should you have any comments or questions related to the subjects discussed above, please do not hesitate to contact us. We would be delighted to hear from you.