When ‘business as usual' is interrupted

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Following a property damage event, the amount of the financial loss from disrupted business operations can sometimes exceed the cost of repairing the physical damage to the facility. Organizations should seek a clear understanding of their vulnerabilities and the factors that can impact them in order to mitigate potential risks. Energy facilities are subject to a variety of factors that can disrupt business operations and impact continuity; integrated supply chains can compound the disruption or create a domino effect. Operational disruption can stem from physical damage to assets due to process safety incidents, cyberattacks, supply chain failure, or volatile and severe weather.

Standard business interruption (BI) coverage included in first-party property policies may not address the unique needs of energy and power operations. Given the diverse range of use cases in this industry, it is impossible to adopt a one-size-fits-all approach. The rapid expansion of the renewable energy sector, the growing interdependencies among multi-site facilities, and the various contractual arrangements within integrated supply chains have led policyholders to adopt different approaches to pursuing and purchasing BI coverage. Operators should be prepared to assess and then re-assess their BI risks and exposures, and revisit their approach to BI coverage accordingly.

BI coverage included within property policies is designed to compensate a business for financial loss following property damage or machinery breakdown. Policies can be structured to protect gross profit or fixed costs and debt servicing, and often contemplate unplanned increases in operating expenses, such as the cost of using temporary facilities or importing feedstock to maintain operations.

Considering the mechanisms of BI coverage in light of an organization’s actual commercial agreements is an important step in evaluating the level of coverage and how any future BI claim may be treated. While historical and projected data, beyond standard accounting metrics, are foundational, BI calculations should also take account of the coverage terms and basis for recovery. Some organizations discover during the claims process that the insured values differ meaningfully from the basis used by accounting teams for budgeting and forecasting. An organization’s risk professionals should aim to confirm that the organization's commercial and regulatory arrangements are likely to be satisfied based on the accounting standards, metrics, and calculations contemplated in the BI coverage. Another important confirmation point is that the organization has the necessary information, systems, and capabilities to prepare loss data based on the BI coverage purchased.

Key factors to consider for BI exposures

Equipment shortages and lead times can significantly impact operations

High inflation, coupled with supply chain delays and material shortages, can lead to prolonged reinstatement times. For example, recent delays in securing steel pipes and casing for drilling have limited production in the US. It is important to review the length of indemnity periods and identify any potential impacts of underinsurance.

Changing business models are driving optimization and profitability

Integrated value chains and consolidated assets can help drive optimization and improve profitability. Energy transition is likely to see the trend for consolidating assets as operators rationalize the least profitable and redundant infrastructure. For example, offshore oil and gas assets that have reached the end of their commercial life for producing hydrocarbons may be repurposed to be part of a carbon capture transport and storage network.

However, integrating and consolidating actions can introduce a new layer of contingent BI exposures. An increased dependency on fewer facilities could mean that any disruption may have broader consequences beyond the location of the physical damage. For instance, if one location experiences an unplanned outage, it could result in economic losses across the entire value chain.

While a leaner operational strategy may improve margin, unplanned issues could potentially offset any gains. BI losses could be greater than expected if appropriate consideration is not given as to how an event could affect interdependent value and supply chains.

Protecting the value of growth

Recent higher commodity prices have boosted balance sheets, but the value of that growth may not be fully protected by existing BI coverage. The variability of markets, together with regulatory and geopolitical dynamics can make it difficult to accurately forecast operating margins.

Insurance policies are often based on forecasts made several months before a policy is renewed. Including a BI coverage clause that aims to allow for a level of volatility in values may be helpful but organizations should aim to update and/or maintain the accuracy of values declared throughout the life of the policy that includes BI coverage.

Risk exposures in the energy and power industry are some of the most challenging to identify, assess, manage, and mitigate. The resilience of an organization to BI risk needs to be continually assessed as operational and commercial arrangements evolve. Stress testing BI coverage against a range of credible loss scenarios can assist in building confidence that the coverage mechanism responds appropriately, and conducting business interruption reviews provides an opportunity to realign to prevailing business conditions.

Changes that could increase BI exposure

Market conditions that significantly impact insured values e.g. increase in gross profit.
Contractual obligations affected in a loss situation.
Changes in operations that could introduce critical node (single point of failure).
Changes in customer or supplier profile that may create contingent BI risks.
Prolonged reinstatement periods that may impact the length of the indemnity period.

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Article

When ‘business as usual' is interrupted

Key factors to consider for BI exposures

Equipment shortages and lead times can significantly impact operations

Changing business models are driving optimization and profitability

Protecting the value of growth

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When ‘business as usual' is interrupted

Key factors to consider for BI exposures

Equipment shortages and lead times can significantly impact operations

Changing business models are driving optimization and profitability

Protecting the value of growth

100 Largest Losses in the Hydrocarbon Industry

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Reflecting on the last two years

From climate risk, to climate resilience and adaptation

Missed opportunities: The consequences of ignoring risk recommendations

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Energy Insurance Training Courses 2024