While not every producer is savvy in underwriting the ever-evolving risks attached to it, one thing is certain: It’s a boom time in the domestic energy market.
“The driving opportunity for brokers in the energy sector is the significant growth in the sector itself,” says Michael Klein, president of middle market at Travelers. “When you add to the general resurgence in exploration and production the new and renewed shale discoveries, we see significant growth across the U.S.”
Additionally, “There are a lot of players involved in oil and gas exploration,” he says. “Brokers can capitalize on the growth in number of middle-market sized firms engaged in energy, whether as owners, operators, or contractors at a well site.”
The US Energy Information Administration (EIA) forecasts annual domestic production growth averaging 0.8 million barrels per day through 2016, as well as a 56% increase in natural gas production between 2012 and 2040. In addition to the overall growth trend, the fact that most new production is coming from onshore sources is good news for main street brokers.
There is a limited number of companies that can afford extensive deep water exploration, with wells costing in excess of $100 million dollars, notes Mark Mullervy, vice president and account executive with Lockton’s energy practice in Houston. Onshore, he says, “where wells are $10-15 million to drill, there is more start-up activity that brokers can target.”
Brokers can also seize opportunity in the renewable/alternative energy sector. The EIA estimates that wind power capacity will increase by 9.0% in 2014 and 15.5% in 2015, and that solar capacity will increase by 56% between the end of 2013 and the end of 2015. Although renewable energy will remain a small fraction of utility-scale generating capacity—solar contributes just 0.5% of total national electricity generation—interest in on-site power generation creates a volume of projects that need insurance coverage.
“If I were a broker starting fresh, I would start in what I consider a still-rapidly-evolving environment of alternative energy,” says Bob Bailey, chief underwriting officer at ProSight Specialty Insurance. “There is a lot of construction going on, a lot of testing going on, and a lot of opportunity to meet product needs of businesses in that sector.”
The energy boom is also having an impact on related sectors and service industries.
“If you look at places where energy infrastructure needs to be built out, there are construction opportunities—more pipelines to be built, more equipment needed to fuel the expansion. The other piece is that as you see population growth where there is an energy boom, it leads to everyday goods and services needed in higher volume than before. There is a whole expansion of main street opportunity that any agent and broker can take advantage of because it is business they already write,” says Klein.
Specialization Is Key
Whether targeting businesses in traditional oil and gas exploration and production (E&P) or alternative energy development, brokers gain ground in the sector through specialization. “For a broker to be successful you can’t be a jack of all trades—you need to have a narrow focus,” says Mullervy, adding that Lockton has seen double-digit annual increase in its E&P book. “Very bespoke solutions are needed for contractors and companies.”
Carriers are positioning themselves to help agents and brokers compete. Travelers has created what Klein calls a “focused distribution strategy,” emphasizing the wind and solar sectors and aiming marketing efforts at producers who want to target that space. In late 2013, Liberty Mutual partnered with the National Equipment Register (NER) to provide its inland marine contractors’ equipment customers increased protection from equipment theft, in part to target contractors to the oil and gas industry, and hired a dedicated inland marine underwriter.
In May 2014, ProSight launched three new insurance programs for oil and gas contractors, propane and fuel dealers, and solar energy contractors. Bailey says that the company’s solar program has generated the most excitement among brokers, with projected sales of $5 to $6 million over the next few months: “The number of solar contractors has grown to make it a viable specialty market.”
ProSight’s Solar Contractors Program provides a package of GL, umbrella, property, builders’ risk, workers’ compensation, and commercial auto coverage, as well as options for property in the care custody and control of contractors during maintenance work and errors and omissions/professional liability.
“Without a specialized program, brokers often write solar contractors as roofers or electricians, which creates problems when claims arise,” says Bailey. “If a solar contractor has a roofing claim but the underwriter thinks he’s dealing with an electrician working on the ground, there are going to be problems. Our underwriters understand the type of claims they’re going to see with solar contractors.”
Klein stresses that brokers need to understand specialty coverages to succeed in the sector, such as “control of well” insurance. Control of well coverage varies among companies, but typically includes expenses incurred in regaining control of a well after a blowout, re-drilling expenses, liability for bodily injury and property damage, evacuation costs and pollution/seepage.
“For the most part, the coverage pattern in the sector has been well established, particularly in oil and gas, but the question is if brokers new to the space understand the coverages and exposures,” says Klein.
The importance of some coverages has escalated in the current climate, such as the necessity of greater limits for care, custody, and control coverage in fracking operations above what is typically needed in traditional drilling operations. “Historically, control of well policies had some coverage for third-party property, but at a sub-limit that is insufficient for the larger exposures—$12, 25, 40 million dollars—seen with fracking,” says Mullervy.
Carriers have responded by offering excess care, custody, and control coverage. “Over the past 24 months, capacity has flooded that space,” Mullervy adds.
Specialized coverage has also developed in the renewable energy and energy efficiency sectors. Energy-sector specialty carrier Energi provides performance-warranty coverage, targeted to contractors for when a power-generating or power-saving component fails to perform as promised.
“Because contractors are being asked to guarantee savings, we’re seeing that [warranty] market really take off,” says Energi CEO Brian McCarthy, who notes that the company recently insured its 100th performance-warranty policy.
Claims Concerns, but Profit Overall
With images of the BP oil spill still in the public consciousness, environmental incidents may be the first type of energy-sector claim many think of. Fracking has added a new dimension to the concerns around environmental claims, particularly with pollution that happens gradually over time, rather than from a sudden spill. For instance, a Dallas jury recently awarded nearly $3 million to a Texas family who claimed that, over a multi-year period, fracking operations in the Barnett Shale region generated air pollution that sickened them and others living in the area.
“The elephant in the room is how fracking [pollution] claims are going to be viewed by the [insurance] industry,” says Bailey at ProSight.
“We often provide clients a limited coverage endorsement on the CGL form for accidental releases with a clear starting point, but there is likely a bigger need for a standalone environmental policy,” says Matt Waters, chief underwriting officer of Liberty Mutual’s Energy practice. “It’s important because the general fears and concerns related to fracking and other operations are about contamination that’s very gradual in nature, without a definite start and stop date.”
Liberty Mutual offers pollution cover through its specialty insurance division, Liberty International Underwriters. “Methane slowly migrating from 10,000 feet below ground and polluting a water supply is not covered by a standard GL policy, but a standalone form may address it,” Waters adds.
Although the specter of pollution claims looms over the energy sector, the more vexing claim problem involves commercial auto. A recent Associated Press analysis of traffic deaths in six drilling states shows that fatalities have increased in energy-boom areas—in some cases, more than fourfold—while in contrast, other states have experienced fewer traffic fatalities over that same time span.
It’s not just frequency of auto claims that is a problem, it’s also severity. In December 2013, a Texas jury ordered Heckmann Water Resources, a company working in the Eagle Ford Shale, to pay $281 million to the family of a driver killed when a drive shaft broke off a Heckmann-owned truck and struck the deceased’s vehicle. The record-breaking verdict included a $100 million punitive damages award.
The claim increase correlates to a spike in activity in energy-boom areas: busier job sites, more congested roadways, and more pressure on drivers to deliver.
“It’s a human-capital crisis,” says Waters. “There is an uptick in driving activity and a shortage of quality drivers.”
Jim Bolz, chief underwriting officer at Energi, puts it more bluntly: “It’s overall lack of safety. It’s drivers not wearing seatbelts. It’s not following best practices.”
In other lines of P&C, energy-sector claims experience has been very favorable.
“Operational losses—blowouts, fires, vessels sinking—have been relatively low,” says Mullervy at Lockton. Clients and brokers in this space are also in an environment that has been relatively benign in terms of natural catastrophes, he points out. As a result, most insurers have had very profitable loss ratios over the past 12-36 months.
As is often the case, the appeal of profit has led to an expansion of capacity. Although Mullervy reports that some smaller carriers have exited the marketplace, their departure has been more than made up for by an infusion of capital. “Over the past 24-35 months, We’ve seen a big influx in capacity chasing dollars—domestic players, London markets, capital providers bankrolling existing insurers or increasing the capacity of existing players.”
“There’s a whole list of second-tier carriers—we see more competition now,” says Waters. “We’ve seen pressure to reduce rates, but overall we’ve weathered the storm from competitors largely because brokers and buyers are interested in value—all of the risk engineering and claims management that help better control total risk costs.”
Rate reductions have been particularly significant in control of well coverage. “Rates are at least 45% cheaper than just a few years ago as energy companies have moved more toward lower-risk shale wells,” Mullervy says, adding that he expects current market trends to continue.
“If the macro financial picture changes and there are better returns elsewhere, you might see capacity pull back. Or, if there is an unforeseen change in the energy industry itself, severe natural catastrophes, or a rash of operational losses, that’s what it will take to shift the market,” he says.
“I’m bullish on the industry, both energy and insurance,” Mullervy adds. “It’s a profitable place to be operating now. The industry is strong and will remain so for the foreseeable future.”