Energy insurance

Energy companies of the world unite

Energy companies are often criticised for their reliance on fossil fuels, but their work is vital to the global economy. OIL, the mutual insurer for the energy industry, believes re/insurers should engage with them constructively. Bermuda:Re+ILS reports.

“Until we get the scale and storage side of it resolved we will not be able to turn our back on hydrocarbons.”
George Hutchings, OIL

The re/insurance industry has every reason to show leadership in the global fight against climate change. Big businesses everywhere have been increasingly cognisant of the reputational importance of being seen to take the problem seriously.

Re/insurers have an added incentive, given that climate change is making it increasingly difficult to model risk, and is believed to be contributing to worsening natural disasters, such as wildfires and floods. The Atlantic Hurricane Season in 2020 has brought a record number of named storms.

Many re/insurers have responded by launching climate change strategies, outlining how they intend to contribute to the solution. A number of institutions have indicated they will stop doing business with high polluting businesses, such as energy companies, in order to pressure them into reducing their carbon footprint. AXIS, for example, has committed to cutting its ties with high carbon-emitting businesses.

Not everyone agrees with this strategy. George Hutchings, chief operating officer at Oil Insurance Limited (OIL), the Bermuda-based mutual insurer for the energy industry, believes this approach is missing an opportunity to work together with the industry to help it transition to cleaner energy.

“OIL will help its members as they transition to a higher mix of renewable energy,” says Hutchings. “That is something some commercial insurers have not necessarily done, as we have seen with a few insurers. Their answer is to walk away from doing business with high carbon-producing companies. They aren’t attempting to encourage them to transform.”

Energy: the business enabler

Hutchings argues that energy gets a bad rap for its involvement with fossil fuels despite being, in many ways, the most important industry in the world, as an enabler of all other business.

“The industry is working hard to transition away from carbon but there is a long way to go,” notes Hutchings. “There was a story recently about how South Australia had successfully operated on 100 percent solar energy which seemed very impressive until you realised the author meant only for 20 minutes in one day.

“The world needs energy 24 hours a day, seven days a week, and until we get the scale and storage side of it resolved we will not be able to turn our back on hydrocarbons.”

OIL has been operating since 1972. It is registered as a class two insurance company with the Bermuda Monetary Authority, making it technically a group captive. However, it is a group captive with a twist: a mutual insurer that is owned by its members that does not take any underwriting risk on its balance sheet. Any loss it makes through claims is paid back by contributions from its members.

Its members are institutions from the energy industry, defined broadly also to include renewable energy companies. Each member contributes to OIL’s loss-sharing pool using a formula that takes into account the amount of assets it has, the energy sectors it operates within and the coverage it requires.

“If OIL is a group captive it is a group captive on steroids,” explains Hutchings. “Group captives don’t issue net $400 million limits. We are really a mutual insurer, but I have never come across another mutual anywhere in the world that does exactly what we do.”

Most energy mutuals have a more traditional underwriting model and buy reinsurance, notes Hutchings. OIL, by contrast, is a pure mutual, mutualising 100 percent of its losses. It does not annually underwrite or buy any reinsurance and it doesn’t rely on any external capital support or third party capital at all.

OIL offers three main coverages within a single policy: all-risk property and physical damage coverage; control of well coverage; and third party pollution coverage. Its policy has a $400 million limit with no sublimits.

“Commercial insurers have a number of exclusions and then write things back in with relatively low limits, which means policyholders may not always have coverage up to the full limit of the policy,” says Hutchings. “With OIL, members know they have coverage up to the full $400 million limit across all three coverages.”

Low expense, stable capacity

Hutchings argues that OIL’s 5 percent expense ratio gives it a huge competitive advantage over commercial insurers, while its capacity is very stable because it does not rely on external financing.

“As the market has hardened in recent years we have not had to tighten the terms of our coverage or reduce the limits we offer,” he says. “We do not take away capacity from members after they have experienced losses.”

Hutchings says OIL’s capacity is the cornerstone of many of its members’ property programmes, and is often the first layer of risk transfer capacity. “For those primary layer losses, the first layer of protection is provided by OIL, which gives them comfort that the capacity is stable,” he says.

The current hardening market is making its proposition more attractive to energy companies, says Hutchings. “It is more difficult convincing energy companies to join OIL in soft or even normal markets, although veterans do understand how the commercial market can react in certain conditions and how that will impact them,” he adds. “In the current hardening market our offering is more compelling.”

“With OIL, members know they have coverage up to the full $400 million limit across all three coverages.”

Once they have joined the club, OIL’s members tend to stick around. Members typically leave only because of mergers and acquisitions activity: either two members merge and become one, or a member is acquired by a non-member that has a different risk management and/or corporate philosophy.

If a member does leave, it will have to pay upon departure a single amount equal to the summation of its premium obligations otherwise payable over the next five years.

“Becoming a member of OIL is a long-term decision, whereas buying commercial insurance from a specific insurer is a short-term decision given that commercial insurers renew policies annually,” says Hutchings.

Members come in almost as slowly as they leave. OIL took in four new members in each of 2019 and 2020, but this was uncharacteristically high: most years it takes on no more than one or two new members. Standalone energy subsidiaries of larger diversified conglomerates are eligible to be members, but if an energy company that is not a member buys a member and is not willing to become a member itself, the acquired member will have to leave.

At the end of October OIL had 62 members, which has since dropped to 61 because of a merger between two members, with no impact on the assets insured by OIL.

Images: | Photo by Clay Banks on Unsplash

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November 2020

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