Uncover The Risk In The Alternative Energy Market

o Power portfolios mandate inclusion of low-carbon sources (e.g., renewable portfolio standards or low-carbon portfolio standards).

Emerging economies often find fossil fuels cheaper in circumstances where there is a confluence of demand and natural resource location (e.g., no need for infrastructure). However, where there is a price on carbon, low-carbon fuel and power sources may become competitive.

Yet change won't happen overnight. Transitioning to new fuel sources, even where there is cost parity or advantage (i.e., the new source is cheaper), has been shown to take at least 50 years in the U.S. on average, according to Dr. Steven Chu, secretary of the U.S. Dept. of Energy. This slow process may be caused or compounded by the general human or institutional resistance to change, as well as the economic need to use the full embedded capital investment value of existing power and fuel generation assets to avoid stranded asset costs, which means the capital investment value or asset is worth less on the market than it is on a balance sheet because it has become obsolete in advance of complete depreciation.

For businesses looking to participate in the transition to low-carbon fuels and power sources, there may be a host of other risks associated with commercial deployment. Some are common to existing fuel and power systems, but unique in other ways; some that lend themselves to commercial risk management solutions, others which may not.

Legal rights

Most developed economies have legal systems that assure rights and remedies associated with fossil fuels (including their supply chains and delivery processes) are defined and predictable. In addition, most developed economies provide some level of consumer protection to fuel and power delivery through regulation–and much of that regulation focuses on maintaining availability and price stability. This legal structure lends a great deal of certainty and stability to the businesses that provide these essential services. However, government policy also establishes a distorted marketplace, thereby embedding some political risk.

The nature of that risk has been made more evident with the debate over how to commercially deploy and use low-carbon fuels and power sources. Many of the rights and remedies necessary to achieve this outcome are often poorly defined or absent–pointing up a fair level of uncertainty underlying the business models of both traditional and low-carbon fuels and sources.

With regard to low-carbon technologies, very few legal environments have addressed the issue of who owns the sun, wind, view or vista, or geologic pore space. Thus, if a company sites a solar panel, and a "neighbor" (adjacent land occupant) erects a building or allows a tree to grow up and into the path of the sun, blocking the "fuel source" of the solar panel, is the solar panel owner owed compensation? Issues related to the certainty of rights are risks requiring management solutions.

Technology risks

Low-carbon fuel and power sources have not, in many cases, been proven at commercial scale deployment levels. Power is an essential service. Consumers and their governments want and expect consistent delivery on demand. As such, performance risks, including property damage, machinery breakdown, "fuel interruption" and other non-delivery risks associated with low-carbon fuel and power technologies are risks also in search of management solutions.

Security and supply chain risk

Low-carbon fuel and power sources are subject to a global supply chain. Certain rare earth metals, mined in a handful of non-Organization for Economic Co-operation and Development (OECD) nations, may be required to make certain components of certain solar power systems. The number of manufacturers of other solar panel components is also quite limited. Even manufacturing capacity is limited. Similarly, current demand for certain components of wind power systems exceeds manufacturing capacity and backlogs are commonplace. As such, natural catastrophe events that could disrupt the supply chain must be considered. Similarly, events at specific supplier sites may impact the ability to deliver, causing business interruption or delay to others. Because much of this supply chain is spread globally, it involves cross-border transactions and political risks like war, riot or unauthorized repatriation–as well as trade credit risks to be considered in transactions supporting the business.

Technology-specific risks

While the above business risks are difficult to insure, the property-casualty and some specialty risks associated with biofuels, wind power, solar power and fuel cell manufacturing, installation/construction and operation are eminently insurable. To design a proper risk management system and determine what risk management products can be used for these technologies, it is essential to understand the supply chain, how such technologies are used or integrated into facilities, and their operating conditions.

oBiofuels

Biofuels or biomass depend on the availability of specific agricultural feedstock and/or waste products. If the customer is growing the biomass, crop coverage may be appropriate. If the biomass is sourced from others, the customer will need typical supply chain management techniques: contracts, back-up supplies and political risk insurance if the transactions are cross-border.

If the biomass is sourced from waste, the customer should consider special issues associated with gas capture and transport and pollution, including environmental insurance, special property coverage and machinery coverage for the plant systems.

If the customer has a refinery, it will need traditional coverages for refinery or other processing operations, giving special consideration to pollution and transportation risks.

You may need additional specialized coverages to address:

o product liability (energy quality issues; purity issues);

o specialized coverages to address greenwashing claims arising out of FTC complaints and other tort liability that may be associated with claims made with respect to greenhouse gas profiles or characteristics; and

o specialized directors and officers coverage which provides coverage for greenhouse gas or climate-related claims.

o Wind

Wind technologies have experienced failure in turbine performance and blade integrity and safety at different times and with different generations of the technologies.

Manufacturers and assemblers should attend to traditional property-casualty risks with standard insurance products. However, manufacturers should pay special attention to quality assurance details and determine if warranty products may be available for any part of
their products.

Manufacturers should also be concerned that if their products fail, in addition to traditional business interruption consequences for their customers, they may be exposed to damages arising out of the need to purchase carbon offsets or credits if they substitute carbon-intense fuel sources when their wind product does not perform. These damages may not be picked up by standard insurance coverages as they may be consequential damages excluded from coverage–and alternative risk management solutions may be required. But manufacturers also should consider risk management methods and means to distinguish between losses arising out of the product itself compared with losses caused by improper installation and/or maintenance. Focusing on a risk management system or delivery mechanism which can distinguish these causes or minimize installation and maintenance errors are of tremendous competitive value to the manufacturer.

Of course, if your customers are wind power buyers, they most likely will want warranty coverage to the maximum extent possible from the manufacturer; completed operations coverage from the installer; and quality machinery breakdown and property coverage with business interruptions with carbon credit coverage extensions, if possible in carbon-regulated jurisdictions, to address risks or carbon-intense fuel source substation in the event of loss.

Those who must "site" or locate wind power systems must address special risks attendant to this process and subsequent operations concerns. Although sites may be difficult to permit, that is typically a core business risk. Even if permitted, wind systems have been associated with environmental / natural resource (loss of view and vista) or endangered species risks, especially birds. Brokers and their customers should review risk management systems to assure these risks are evaluated and managed and that in the event of a claim, the customer understands how D&O and other relevant liability policies may respond.

Fuel supply risks (e.g., if the wind does not blow) may be covered by derivatives or some specialized insurance products if the wind power owner has special needs because of delivery contracts.

o Solar

Risks that are specific to solar power depend upon both the type of technology at issue (solar thermal, thin film, etc.) and the generation of the technology. Some technologies are especially susceptible to failure arising from weather events (hailstorm or dust storm) while others are in peril if water supplies are unavailable (solar thermal). Some technologies require special attention to maintenance and cleaning.

Insurance and risk management products will not only depend upon the type of technology, but on the geographic location of deployment and the type of buyer / user–residential, commercial or industrial.

Risk management considerations for solar technology and products are similar to those for wind, just as the items set forth in the discussion about wind can be considered for solar.

Fuel supply risks (e.g., if the sun does not shine) may be covered by derivatives or some specialized insurance products if the solar power owner has special needs because of delivery contracts.

o Fuel cells

Fuel cell technology requires a fuel source like natural gas or biogas. A fuel cell is somewhat like a battery and somewhat like a combustion engine, because it uses chemicals and heat to generate power. But these can operate in reverse and have other unique characteristics that make them useful because of their "off-grid" status and modest size (mobile via tractor-trailer).

Because manufacturing risks are similar to those of the solar manufacturer–reduced supply chain, cross-border sourcing, etc.–the solutions for solar should be considered for fuel cells. However, fuel cell operations are also more chemical intensive and may need environmental insurance coverage.

Like the solar systems, fuel cell installation and maintenance risks are significant and must be managed through contract, warranty and operational techniques: using insurance to address fortuitous events (fire, flood, etc.), errors (professional liability) and warranty coverages.

Wrapping it up

As with any new technology, deployment and use of low-carbon fuel and power technologies present risk and opportunity for all parties in the value chain, including the insurance broker and agent. In addition to the basic new technology risks, his emerging market also is replete with political risk.

Opportunities are present all along the value chain to provide risk management solutions–from the material supplier to the manufacturers and assemblers, to the installers and the ultimately, the users. Each party has different risks and interests.

To begin supporting this emerging customer base, brokers should confirm what part of the economic chain they serve today and consider how integrating new technologies might impact their customers' risk profile. Starting with the part of the economic chain they serve today, they can consider the implications of the new technology in a familiar environment, from a familiar analytical viewpoint–with few variable changes.

Consider the risks of the technology itself and the legal system–that is, how liability would be allocated if something went wrong–then look at your current contracts. Because these new technologies represent a paradigm shift for most economic systems, many insurance policies created in a fossil fuel environment may require adjustment to clarify application and response to this technology.

There are special modification for standard lines property-casualty coverages for solar, wind and other low-carbon sources. Solar, wind, biomass and fuel cell manufacturers, installers and users also may benefit from specialized environmental insurance, professional liability and warranty coverages. In jurisdictions with carbon caps and carbon credits, pay special attention to coverage for professional liability, directors and officers, business interruptions extension and inventory loss issues–to see if they can be extended to cover loss of or impacts to carbon credits.

Many insurers have dedicated alternative energy specialists and specialty products. They have property and construction coverages with terms and conditions amended to deal with carbon constrained environments, using extensions for carbon credits. Technology-specific coverages to address machinery issues exist for these special markets, and warranty products may be available on a custom basis for some risks.

The market is growing, but growth still depends on government subsidy and a small number of consumers. The market will continue to grow as greenhouse gas emission restrictions become more prevalent. Because the subsidy drivers will make the market a bit inconsistent and volatile, agents and brokers might approach alternative energy as a specialty–but it should not be ignored. Understanding the basic technologies, and the activities of the value chain–from extraction of base components, to manufacturing, assembly, installation and use–will ensure that brokers and agents can fully serve their customers.