Riding the winds of change

With global warming and climate change dominating the headlines, it was only a matter of time before renewable energy sources became more prominent in the insurance market, and now brokers are reportedly falling over themselves to be represented in the area of offshore wind farms. Yet given the early disasters when onshore wind farms first arrived on the scene in the 1970s, is investing in the arguably riskier and more complex offshore version worth the gamble for forward-looking brokers?

Originally spawned in response to the oil crisis in the 1970s, wind turbines were heralded as the future of energy generation for the UK. Eager to capitalise on this new market, naive insurers and underwriters rushed out policies that it is now agreed were too broad, covering everything from design risk to a lack of wind. Combined with the poor quality of technology available at the time, these expansive policies resulted in many big names falling victim to heavy losses and in the most serious cases leaving the market for two to three years.

Insurers and underwriters have notoriously long memories, so what has changed the minds of large brokers such as Willis, Marsh and insurer Royal and SunAlliance, as well as a number of Lloyd's brokers, to lure them back into the relatively young market? According to Tom Sexton, leader of Marsh's renewable energy group outside of north America that places 60% of offshore wind farms' risk globally, it is primarily because it is an area of potentially enormous growth. "There's a huge opportunity there for insurers and for brokers to develop products and services for a rapidly growing sector," he says. "Also, the scale of the (wind) projects that we're talking about now, particularly offshore, have accelerated to such an extent that they can generate a significant premium."

Currently, there are six offshore wind farms in operation in the UK with another seven under construction and planning submitted for a further four. The first offshore wind farm was the North Hoyle installation, built in 2003 and located in the Irish Sea off the coast of North Wales. A second round of installations will see a further 15 farms constructed, the majority of which are to be located north of East Anglia and towards Humberside, which will provide power to four million homes. According to Marcus Rand, chief executive of the British Wind Energy Association, these farms will provide half of the energy needed for the government to fulfil its obligation to have 15% of the UK's energy provided by renewable sources by 2015.

Not only is there a significant quantity of potential new business, but there is also a large amount of premium waiting to be written, according to Fraser McLachlan, underwriter at Windpro. "Most of the projects, as far as premiums are concerned, are in excess of £1m plus, so every broker out there is going to want to be involved," he enthused. "I can tell you that for offshore business last year we wrote about £5m on premium income from various different brokers." McLachlan also confirmed that for sites operational in the UK, excluding construction, there is approximately £8.5m in premium.

Now is the time

The good news for those considering adding this niche venture to their books is that the last 25 years have seen a steep learning curve for all those involved in the industry, meaning that the large-scale losses of the 1970s are becoming less likely. "The developers are becoming more experienced, contractors are becoming more experienced, and the operating contractors are also becoming more experienced," said Marsh's Sexton, adding that for those practised underwriters the prospect of writing for offshore wind farms was fairly straightforward. The key aspect to get right according to Sexton is to employ an underwriting team that truly understands the sector. "You need to be talking to underwriters that understand offshore risks clearly and can design a cover to cope for it, rather than go to those underwriters that are possibly rushing into the market place thinking there's a big opportunity there, but not necessarily having the technical capabilities to understand the risk and rate it appropriately."

As a relatively young industry, there is still a large number of variables and unknowns within the sector and as such, there are a number of risks that should be considered before investing time, money and staff. Simon Marshall, underwriter for Navigators, cites the potential cost of maintenance and repairs as one of the major concerns of insuring offshore wind farms.

"As with all offshore hazards, if something goes wrong ... you need to consider things like vessel availability. If a wind turbine is broken offshore and you need a crane to lift the top bit off a turbine, where's the boat with the crane?", Marshall commented, adding that there are only a few such vessels available in the entire world, meaning that business interruption costs could become expensive if delays ensued. Luis Prato, utilities underwriter from Aegis in London, stated that the biggest risk as far as he was concerned was the distribution of the energy, and more specifically, onshore transformers. Unlike the towers themselves which are made of homogenous parts, the transformers are almost bespoke, as they need to be synchronised to work with the grid. This means that when they break, a distinct possibility according to Prato who described them as "delicate", it can take months to repair or replace.

The risk connection

Arguably, the most accepted of all of the breakdown risks, however, is that of the energy transmitting cables from the turbine to the transformers that can be damaged or severed by marine life and vessels sailing in the area. Offshore wind farms are currently located in shallow- to medium-depth water, usually of no more than 20 metres, and as such the cables are prime targets for wayward anchors, though Marsh's Sexton maintains that any such accidents are usually the result of bad site management and can therefore be prevented.

"Cable laying offshore is a high-risk area and it probably always will be," said Sexton. "People are now becoming aware of that and are trying to manage their sites and the development of wind farms better than they have in the past." Another area to consider is the topography of the seabed or flats where the turbines are to be built, since these can change from month to month thanks to the fast-flowing currents shifting the sands.

Thankfully, reliability problems with the turbines of the 1970s and 1980s seem to have stayed in the past. New designs could see a resurgence of faulty or badly designed parts, although most experts agree that a type of exclusion will normally be written into these policies to cover only the consequential damage of a prototypical part breaking down.

Tom Stapleton and Geoff Lord, partners at litigation and dispute resolution specialists Kennedys, believe that if the new turbine designs, which include a vertical axis turbine and a turbine with a protective tunnel around the blades, reach an operational stage, the insurance may be written in a way similar to that of new aviation parts. "I can see (underwriters) expanding the exclusion parts of the policy to say that they won't cover anything new; I've seen that written before with the fairly prototypical jet engines," says Lord. "It'll also depend on who will take on the risk (of the new designs). If the risk stays with the government then that is fine, but if it gets handed out into the private market then you can be sure that there'll be huge costs and (the writing of the policies) isn't going to happen."

David Croom-Johnson, active underwriter at Aegis, highlighted this point, suggesting the issue that concerned him was how much design cover was being written currently. His colleague Prato lamented that with such a soft market many insurers felt they had little choice but to offer this cover and also that he had seen some underwriters tending to be "less careful than perhaps they should be".

Where do they stand?

Categorising where offshore wind farms should be classified could also cause problems with claim policies should the worst happen. Since the turbines themselves are situated in the sea they could reasonably be declared an offshore asset and therefore a case for marine insurance, but as the transformers and generators are on the mainland and the Crown owns the seabed on which the turbines stand they could also be argued to be a non-marine asset.

Kennedys' Stapleton, who has dealt previously with disputes in other offshore assets, said that serious problems could arise depending on whether the structures are considered to be marine or non-marine. "I suppose that where you've got a wind farm that is wholly contained a mile offshore there are arguments for describing it as a case for both marine insurance and non-marine insurance," he contended. "Of course, different ramifications follow depending on which it is classified as. For example, if you underinsure then the average you would be entitled to (would be) a pro rata proportion of your claim under marine insurance, but not in non-marine insurance." Stapleton added that brokers might be better off approaching the non-marine market if they perceived there were fewer potential "tripwires" and lower costs.

Blowing away doubt

Potential pitfalls aside, there are a number of positives that brokers could benefit from by venturing into the offshore wind market, not least the amounts of premium on offer. The UK has one of the largest potentials for expansion of offshore wind farms, reportedly having 33% of the whole of Europe's potential. Another big incentive is that, compared to traditional offshore assets like oil and gas, the installations themselves are less complex in design and are created out of homogenous parts, meaning that replacements are easier to source. In addition, the turbines' close proximity to land compared to oil rigs means that the repairers and maintenance teams will be able to get to the installations quicker.

Wind technology is arguably the most efficient and advanced of the renewable energy producers and this, combined with the fact that the installations are not in anyone's back yard, means that wind turbines are popular too. Also in its favour is the low likelihood of any catastrophic disasters hitting the UK offshore wind farm industry, since the only real fears in the industry are the occurrence of hurricanes and earthquakes, neither of which occur regularly in our territorial waters.

Marsh's Sexton believes that offshore wind farms will outstrip the premiums for onshore wind farms within two to three years and that the UK's round two projects will generate "a significant amount of income", making this the ideal time for brokers with access to an experienced underwriting team to become involved. As green issues continue to dominate the market and eco-friendly insurance enjoys a surge in popularity, investments in the future of environmentally friendly technology could prove to be a sound move, and as Navigators' Marshall points out: "A change in people's attitudes, governmental attitudes and the world's attitude (combined) with climate change ... has led to an increase in the popularity of generating green energy - and green electricity has increased massively." By utilising experienced underwriters and offering a personal service to their clients, offshore wind energy could become a profitable enterprise for those brokers brave enough to try it.

A LOT OF HOT AIR? Factors to consider when looking at the offshore wind farm market:

Key risks for offshore windfarms:

- Start up delays

- Construction site access - careful preparation of the route is needed to prevent accidents and delays during equipment transit

- High-voltage cables - laying, maintenance and repair

- Ground soil conditions

- Natural catastrophe.

Most common claims (according to Windpro, 2002):

- Lightning - 52% of claims

- Fire - 27%

- Mechanical Breakdown - 16% of claims

- Miscellaneous - 5% of claims.

The Renewables Obligation:

Under the Utilities Act (2000), power suppliers must derive a specified proportion of the electricity they supply to their customers from renewables. This started at 3% in 2003, rising gradually to 10.4% by 2010 and 15.4% by 2015.

Running alongside the Renewables Obligation is a drive for energy efficiency and a government tax on energy use called the Climate Change Levy. Introduced on 1 April 2001, the principal aim of the levy is to encourage business electricity users to become more energy efficient and so reduce carbon emissions. There are exemptions for businesses that use renewable energy.