The complications behind Munich Re's proposed oil spill consortium

When Munich Re last year proposed an insurance solution for oil rigs that could boost the third-party liability coverage available to US oil drilling operations to $20bn (£12.5bn), the idea was cautiously welcomed.

But the nature of the proposal has since changed. Crucially, Munich Re, which said it would be prepared to put up $2bn of capacity under the facility, has passed the baton to broker Aon Benfield. Aon is working with Guy Carpenter and Willis Re as placement advisers to turn Munich Re’s idea into something tangible.

That impartial brokers are championing the scheme and will ultimately manage the consortium increases its chances of success. Aon Benfield has also said all energy retail brokers will be able to access the facility – known as SOSCover – on behalf of their clients.

No limit

The aim remains the same: to deliver a product that offers far larger limits for US deepwater drilling. The consortium has said it will work with the oil industry to give coverage that is “of value”, and to offer “limits on a per-well basis that have not been available before”.

Aon Benfield and Munich Re are making no further comment until they have partnerships in place and the details of the project are laid down in principle. This could take several months.

Other reinsurers remain broadly supportive, if sceptical, of the idea. Most reinsurers contacted declined to comment, although Scor confirmed its support for the scheme.

Political issue

The success or failure of the plan may not just be in the hands of the reinsurance industry. Since the Deepwater Horizon disaster, which could cost BP $60bn, politicians in the USA have been exploring ways of both ensuring such a disaster does not occur again and considering how the financial burden is dealt with if it does.

Equally, in the UK the energy and climate change select committee has issued a report examining the robustness of oil operations in the North Sea and has issued recommendations around health and safety and inspection issues and how drilling licences are awarded.

It has also looked at the liabilities surrounding spills. At present, a compensation scheme, the Offshore Pollution Liability Association, manages any liabilities from oil spills where individual insurance coverage is insufficient or the carrier defaults. The maximum liability of a single member of this scheme recently rose to $250m from $125m.

The select committee says this is inadequate and the scheme’s status is undermined by the fact that it is voluntary. It recommends scrapping the $250m cap on how much polluters pay for a clean-up.

The report also comments on the nature of the insurance coverage many oil companies have in place. It notes that many large oil firms self-insure as the capacity is not otherwise available for them. The report says: “We recommend the government consider whether compulsory third-party insurance should become a necessary requirement for small exploration and production companies.”

Regulation overhaul

Last October, the European Commission announced proposals that will mean member states issuing drilling licences will have to ensure oil companies have the financial means to pay for environmental damage.

And the USA is in the process of overhauling its regulations, which could force companies to have substantial insurance coverage in place. Last July, regulators even retroactively removed the liability limitation regime for vessel owners for all claims arising on or after the date of the Deepwater Horizon incident.

Partly in response to this, Deepwater Horizon owner Transocean called for the UK government not to “take action that could raise insurance requirements to unsustainable levels as a number of companies, particularly small ones, would be unable to pay the increased insurance rates”.

If regulators do push the oil industry towards prescriptive insurance solutions, the biggest problem will be where the capacity comes from. The Aon Benfield-Munich Re consortium could be the only feasible solution.

Wait and see?

But equally, trying to predict regulators’ actions or what may emerge from a long political process will always be flawed. Commentators believe the reinsurance industry would do better to work with regulators to design a bespoke solution or wait and see what is desired on both sides of the Atlantic.

“The problem is the industry is trying to anticipate what regulators will do,” says John Gurtenne, secretary of the joint marine liability and joint rig committees at the International Underwriting Association and the Lloyd’s Market Association.

“I guess something will be thrashed out, but it can only be relevant in light of legislation. In the UK, the select committee might make recommendations, but there are no guarantees they will come to pass.”

Don’t shoot oil industry in the foot

Gurtenne believes the biggest problem will be insufficient capacity to meet regulators’ demands for coverage limits.

“They can legislate all they like, but if the capacity is not in the market it cannot work,” he says.

“They need to be careful in the USA not to shoot the oil industry in the foot and put the oil exploration industry out of business. If that happens, the people who will really suffer will be those in the USA. There is good legislation and bad – who knows what we might end up with?”