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Cost to Insure Offshore Drilling Up 15%-50%

Source: WSJ

Posted on 25 May 2010

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The price to insure offshore drilling in the Gulf of Mexico has risen at least 15% since last month's Deepwater Horizon disaster and may stay permanently higher, as unknowns about the spill cleanup have left insurers feeling in the dark about their risks, industry executives say.

Before the rig sank in 5,000 feet of water and touched off a massive oil spill, the cost of insuring a physical rig itself ranged from $3 million to $9 million a year, said Richard Kerr, chief executive of MarketScout, a Dallas-based electronic insurance exchange. The premium would depend on the deductible and other factors.

Liability coverage, including for a large oil spill, would be priced separately, Mr. Kerr said.

Rates have risen 15% to 25% for rigs operating in shallow water, said Mr. Kerr, whose monthly summary of insurance prices are followed by insurers and their commercial customers. Price increases for operations further out to sea might be as high as 50%, he said.

Pre-Deepwater, insurers were mostly focused on the risk of a hurricane sinking an offshore platform. Now, they are focusing on the risk of drilling for crude a mile or more beneath the sea.

"The science and engineering involved were believed to be quite advanced, and you have to rethink those assumptions," said George Stratts, head of marine and energy coverage at Chartis, a unit of American International Group Inc., one of possibly dozens of insurers who will share costs in the disaster.

The physical loss of the Deepwater Horizon rig is costing insurers $560 million, according to several people in the industry. The spill also is expected to require insurers to shoulder liability costs to clean up beaches, compensate coastal business owners and fight a wave of litigation against the well's owners and contractors.

Two weeks ago, Swiss Re estimated in its earnings release that insurers would incur $1.5 billion to $3.5 billion in total claims. The spill has only grown since then.

The total claims could surpass the $2.2 billion to $2.5 billion generally believed to represent the annual premiums that insurers collect globally from companies involved in oil and gas exploration.

Lawsuits could spread the blame from the owner of the well, BP PLC, to contractors such as Transocean Ltd. and Halliburton Co. "to a degree much larger than anticipated" when insurers priced and sold the coverage to the contractors, warned John Lloyd, the chairman and chief executive of insurance broker Lloyd & Partners Ltd., in a letter last week to U.S. senators.

Insurers will bear much of the cost of fighting lawsuits filed against their customers. Liability policies typically include no cap on the cost of mounting a legal defense.

As for coastal hotels, beachfront resorts and fishermen, "people who are harmed can go directly to their insurance companies and let them work out how to get money from" companies involved in the spill, predicted Marshall Gilinsky, an attorney at Anderson Kill & Olick whose clients are typically plaintiffs seeking money from insurers.

A handful of insurance companies, including Warren Buffett's Berkshire Hathaway Inc., capitalized on an earlier increase in prices following hurricanes in 2004, 2005 and 2008. But the higher rates caused some oil companies to forgo some of the coverage they had purchased in earlier years.

Now, insurers may become less willing to back policies just as the companies working in the Gulf rediscover their appetite for insurance, said Richard Kern, the head of energy and environmental coverage at James River Insurance Co. in Richmond, Va.

Some of the new entrants who did manage to sell coverage "are going to step back and look at what's taking place, look at what their results are, and realize we're not doing restaurants," said Mr. Kern.

"These aren't slip-and-fall cases," he said. "These are big claims."