Bottom lines squeezed by higher oil spill insurance costs

TWO years after the BP oil spill in the Gulf of Mexico and the Montara incident closer to home, oil companies and service providers are starting to feel the pinch of rising insurance premiums.
Bottom lines squeezed by higher oil spill insurance costs Bottom lines squeezed by higher oil spill insurance costs Bottom lines squeezed by higher oil spill insurance costs Bottom lines squeezed by higher oil spill insurance costs Bottom lines squeezed by higher oil spill insurance costs

The exact costs to the companies due to higher insurance premiums are usually confidential.

Nevertheless, analysts and insurance industry sources say exploration and production companies are paying an average 5-10% higher premium than last year, while drilling contractors are paying premiums more than 20% higher than last year.

The hike in premiums this year comes on top of higher costs last year.

Legal sources say there have also been major changes to contract clauses on mutual indemnity protection.

"Montara and Mocando have reshaped how third party liability and indemnity clauses are written into contracts," an energy sector lawyer said.

He said a highlight of the Montara incident was to require companies had insurance to fund spill clean-ups.

Insurances costs have gone up due to Macondo, as well as other big oil and gas infrastructure losses, including the loss of the floating production, storage and offtake vessel Maersk Griffin in the North Sea last year.

It is estimated the FPSO's loss cost between $US850 million and $1 billion.

The more recent event of Total's Elgin rig loss is likely to cost insurers dearly.

The Macondo incident cost an estimated $2-3 billion in insurance payouts, after which many insurers stopped offering third party liability insurance.

Typically, insurance is written in the first half of the year and last year's costs started showing on companies' bottom lines only in the fourth quarter.

The two companies primarily held responsible for the Macondo incident, operator BP and rig owner Transocean, both reported a loss in profits.

BP posted a quarterly profit decrease of 13%, largely due to a decline in production, however, continued asset sales due to the spill had a major impact on its earnings.

Transocean's net profit for the quarter fell to $42 million compared with $310 million a quarter earlier.

Industry analysts say while the exact impact on the bottom line is difficult to assess, for Transocean, routine maintenance and operation costs which include insurance premiums were higher.

"During the quarter, the company's operating income totalled $270 million, down 27.4% year over year," Zacks Equity Research says in a client note.

"This can be attributed to higher operating and maintenance expenses, which increased 3.8 per cent to $1410 million on the back of higher rig-related upkeep, repair and equipment certification costs."

The effects of higher insurance costs are being felt in the reinsurance market, where companies are finding it harder to underwrite such huge insurance capital.

The impact can be felt in other non-insurance markets as well.

Earlier last month, insurance-like contracts - called credit-default swaps - to protect bonds issued by Royal Dutch Shell against a default rose 26% after press reports linked an oil sheen to operations owned by the Anglo-Dutch major in the Gulf of Mexico.

The CDS protecting against default on Shell's bonds maturing in 2038 and 2040 was quoted at 83 basis points or equivalent to $83,000 a year to cover $10 million of the bonds.

Before the reports of the oil spill, the CDS was quoted at 66 basis points.

The rising tide of higher premiums is being offset to a great extent by higher crude prices for oil companies and higher day rates for rigs as companies continue to explore for hard-to-recover reserves in the deepwaters.

First published in sister publication on Friday.

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