Deep Impact

When the Deepwater Horizon explosion occurred in the Gulf of Mexico on April 20, ripple effects were felt as far away as the North Atlantic.

As of press time, experts are continuing their efforts to contain the still-gushing wellhead; as they do, reinsurers and risk managers in the oil and gas sector are bracing for the potential market impact of the catastrophe.

The exact cause of the explosion remains unknown. It will likely be years before the full environmental impact is realized, let alone the outcome of liability claims that are already starting to flow in. But, in the immediate future, insurance industry experts are predicting a hardening of the market in this sector. Phrases such as higher premiums, lower sub-limits and potentially less capacity are all being bandied about. The event has also caused Canadian regulators to tighten up their oversight of similar operations off the shores of Newfoundland and Labrador.

THE LOSS TALLY

Property loss for the Deepwater Horizon event is essentially limited to the value of the rig, $560 million, and has reportedly been paid out. BP, the majority owner of the rig, is self-insured with its captive Jupiter Insurance Ltd. Jupiter has $6 billion in capital, does not have any outside reinsurance contracts and its per-occurrence limit on physical damage and business interruption is $700 million. This limit is not expected to cover environmental clean-up costs or third-party liability, Robert Hartwig, president of the Insurance Information Institute, told U.S. Congress on June 9.

Roughly 20 insurers have announced losses associated with the incident, Hartwig reported. More are likely to do so in the coming months. Despite BP being primarily self-insured, energy underwriters around the world have exposures via either excess placements or insurance on the non-operators (investors), drilling contractors and/or blowout-prevention manufacturers, said Richard Kerr, CEO of MarketScout.

The estimated total cost of cleaning up the spill has inched upwards of $60 billion. In late June, Associated Press reported BP has been incurring clean-up costs of roughly $100 million a day since the incident, for a total of $2.6 billion to date. The oil company received more than 80,000 claims for compensation, and has paid out roughly 41,000 of those, for a total of $128 million, AP reported.

Total insured losses absorbed by the insurance industry at large will likely range between $1.4 billion and $3.5 billion, Hartwig said. “The wide range in loss estimates is primarily attributable to uncertainty surrounding the magnitude of business interruption losses if significant quantities of oil wash ashore.”

In a report, Deepwater Horizon Losses Sting Insurers and Reinsurers as Hurricane Season Looms, Moody Investors Service notes claims are likely to come from a number of lines including marine hull, marine liability, general liability, environmental/ pollution liability, control of well, business interruption, D&O liability and workers’ compensation. Business interruption claims represent the largest unknown for insurers, and pollution damage along the coastline could push industry insured losses toward the upper end of the estimate, said James Eck, vice president and senior credit officer at Moody’s.

THE RESPONSE OF THE MARKET

“The tragedy of the Deepwater Horizon loss — potentially the largest in the history of the upstream market — has come as a major shock that has fundamentally altered the existing market environment,” said Alistair Rivers, CEO of Willis Energy, in the Willis Energy Market Review.

As a result of the Gulf of Mexico oil spill, the market has “clearly hardened” for offshore property risks, Willis reported.

George F. Hutchings, senior vice president and chief operating officer at OIL Insurance Ltd., told Canadian Underwriter that while his organization is not involved in any of the Deepwater risks, he has heard reports from peers within the commercial insurance market that premiums have already seen sharp increases for offshore exploration and production risks, specifically in the Gulf of Mexico. “The feedback I have gotten from [the mutual members of OIL Insurance], and it’s difficult to evaluate one company against another, but we’re looking at increases anywhere from 15 to 35% for property damage, control of well and all of the typical types of coverages these offshore E&P facilities demand from the insurance market,” he said.

Willis also suggested that for marine liability risks such as offshore seepage, pollution and contamination insurance, likely there would be a wholesale revision of the way in which this class of business is underwritten in the future.

Where pollution liability is concerned, Hutchings suggested the incident will constrain capacity moving forward. “There is a finite amount of liability insurance out there, and any one company is going to be unable to secure much more than a billion dollars worth of liability limits,” he said. “It wouldn’t surprise me if that comes down a bit when you add up all of the capacity out there. It might be that if a commercial market insurer is offering $75 million, maybe the maximum it will offer going forward is $50 million.”

Sub-limits will likely play a larger role moving forward, he continued. “From a property damage point of view, you might get $100 million of coverage,” he said. “But a control-of-well piece of that may have a sub-limit of $50 million within that $100 million of coverage.”

EWI Risk Services suggests the Deepwater Horizon incident will see the ‘frills’ typically offered in the offshore D&O lines eliminated immediately.

BP is based in the United Kingdom, and so it is subject to the 2006 British Companies Act. The act requires corporate boards to ensure that their companies act with due regard for “the impact of the company’s operations on the community and the environment.”

“Taken collectively, and in light of the cross-jurisdictional issues at hand, specific exclusion carve-outs and coverage grants now available in this ‘soft’ D&O market (relative to representations, severability, pollution, bodily injury, etc.) are likely to be re-examined by carriers and reinsurers in the months ahead,” EWI says.

RIPPLE EFFECTS

“The Gulf of Mexico incident is a reminder that accidents can happen,” said Max Ruelokke, chair and CEO of the Canada-Newfoundland and Labrador Offshore Petroleum Board (CNLOPB). Ruelokke made a statement to the House of Commons Standing Committee on Natural Resources on May 25 about the impact of the Deepwater Horizon event on Canadian offshore operations.

Since the exact cause of the Deepwater Horizon explosion is not yet known, risk managers in the E&P sector are not yet able to adapt their own risk management procedures.

Graham White, a team leader in external relations for Husky Energy, says his company will continue to follow the case as it unfolds “and work with our industry partners so lessons can be learned and such incidents can be prevented in the future,” he said.

Ruelokke told the House of Commons the incident has triggered a heightened regulatory oversight, particularly with Chevron Canada Limited’s Lona O-55 well, which is currently in development about 427 kilo-metres northeast of Saint John’s at a water depth of roughly 2,600 metres (Deepwater Horizon was at a depth of 1,500 metres).

“Detailed modelling of the potential fate of a spill at these locations, using 40 years of weather data, indicates that even if a large spill were to occur, it would be unlikely that oil would approach the Newfoundland and Labrador shoreline,” Ruelokke said.

“Thus, scenes like we see on the coast of Louisiana would not occur here.”

Nonetheless, Ruelokke continued, the Deepwater Horizon incident spurred CNLOPB to conduct a review of its regulatory practices.

Also, as of press time, the chairman of the National Energy Board made remarks to a Senate committee hearing suggesting the board was looking at requiring oil companies to drill a secondary relief well as part of any deepwater Arctic exploration project.