Forced, unplanned or accidental outages are significantfinancial events for electric and gas utilities and their insurancecompanies.

Not only can such outages prevent utilities from fulfillingtheir service contracts, but they can also generate soaringexpenses when they require utilities to purchase energy from spotmarkets.

Insurance for forced or unplanned outages can provide valuablefinancial protection, but insurance and claims executives need tobe aware of several issues that can give rise to coveragedisputes.

Unique insurance products

Policies that insure against losses arising from these kinds ofoutages are unique insurance products. They tend to have primarilyfirst-party insurance components to them, but in some cases mayhave liability aspects as well. These insurance products can alsobe uniquely tailored to a policyholder’s business risks.

Most outage policies contain arbitration provisions for disputeresolution. Consequently, and as a result of the nuances related tothese policies, there is little case law providing judicialguidance as to how these policies and their terms and conditionsare to be interpreted under various loss scenarios.

Outage policies are often triggered by an unplanned outageevent. Many policies define the scope of coverage using outagecodes recognized by the NorthAmerican Energy Reliability Corporation (NERC). For example,triggers of coverage have been defined under some policies asfollows:

• SF (Startup Failure): An outage that resultswhen a unit is unable to synchronize within a specified startuptime following an outage or reserve shutdown.
• U1 (Immediate): An outage that requiresimmediate removal of a unit from service, another outage state or areserve shutdown state. This type of outage usually results fromimmediate mechanical/electrical/hydraulic control system trips andoperator-initiated trips in response to unit alarms.
• U2 (Delayed): An outage that does not requireimmediate removal of a unit from the in-service state, but requiresremoval within six hours. This type of outage can only occur whilethe unit is in service.
• U3 (Postponed): An outage that can bepostponed beyond six hours but requires that a unit be removed fromthe in-service state before the end of the next weekend. This typeof outage can only occur while the unit is in service.

Scope of coverage

An issue that may arise when determining the scope of coverageunder an outage policy is whether the utility properly classifiedthe outage. What if the insured placed its unit into a U3 statewhen in fact the issue prompting the outage did not need to beaddressed within the week?

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This raises the question of whether the policy intended toinsure the subjective actions of the insured — i.e., the act ofplacing the unit into a U3 state. Or did the policy intend toinsure an objective event — i.e., an event that actually needed tobe addressed immediately? Or is the standard a hybrid of these two— for example, a situation that a reasonable insured would havebelieved required immediate attention based on the informationavailable at the time.

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Coverage for power outages can be limited if a supplierfails to comply with "prudent utility practices." (Photo:iStock)

Outage classifications

Another issue that may arise is how to classify a particular event.Interestingly, the NERC publishes guidelines that include examplesoffering guidance to appropriately classify disruption events.These guidelines can serve as a legislative history to give furthermeaning to the NERC outage definitions. Unfortunately, they canalso provide fodder for disputes when the insurer and insureddisagree as to whether an NERC example is analogous to the facts ofa particular claim. Sometimes an outage can resemble more than oneNERC example.

Outage policies frequently restrict coverage when an insuredfails to comply with "prudent utility practices." This can take theform of an exclusion for unplanned outages "caused by willfuldisregard of prudent utility practices in the operation andmaintenance of" the facility.”

Or, the policy might contain a condition whereby the insuredagrees to follow prudent utility practices, such that a failureamounts to a breach of a condition precedent to coverage.Determining whether failure to follow prudent utility practiceswill limit or bar coverage can be fact-intensive and may require aroot cause analysis.

Where insured's action prudent?

Retention of standard of care experts as well as individuals whoare familiar with NERC guidelines and the operation of power plantsand generators for the industry at issue are often necessary todetermine whether the insured's actions were imprudent. Thus, acareful review of company records will be necessary to gain a fullunderstanding of all relevant maintenance and care instructions,including manufacturers' recommendations and inspection reports,which may be obtained through detailed document requests to theinsured.

Some outage policies exclude coverage for events that theinsured should have reasonably anticipated prior to the policyperiod. For example, a policy may state that the insured representsthere are "no known defects in material or workmanship that arelikely to lead to an insured event."

Fact-intensive inquiries, expert opinions

Is, for example, knowledge that a similar unit sustained acatastrophic failure at a competitor's facility, knowledge of aknown defect? What if the insured receives a manufacturer'srecommendation that a unit be inspected for a specific defectduring the next scheduled outage? This is an example of anotherpolicy provision that will lead to fact-intensive inquiries,detailed document requests, and require one or more experts toassist in policy application decisions.

Outage insurance policies offer considerable advantages forutilities as well as growth opportunities for insurance companies.To get the best results, however, insurers should carefully reviewtheir policy wordings and, where necessary, consult legal counselto align coverage with underwriting expectations and avoid claimsdisputes.

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Jane E. Warring is a senior counsel at Clyde & Co USLLP, and Robert W. Fisher is a partner at Clyde & Co US LLP,where they advise on insurance coverage issues and handle disputesinvolving forced outage policies, large property losses, businessinterruption claims, subrogation and construction matters, andother issues.