DEADLINE NEAR FOR COMPLIANCE WITH U.S. OIL SPILL LIABILITY RULE

Aug. 1, 1994
S The petroleum industry is keeping a close watch on the approaching deadline for compliance with tough new U.S. rules on fiscal liability for oil spills. Interim final rules scheduled to go into effect Dec. 28 stem from the Oil Pollution Act of 1990 (OPA90). The designation of "interim final" rules leaves room for final adjustments on narrow issues. But in general, the rules will stand as presently structured. OPA90 imposes liability for oil discharges from U.S. and non-U.S. flagged tankers,

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The petroleum industry is keeping a close watch on the approaching deadline for compliance with tough new U.S. rules on fiscal liability for oil spills.

Interim final rules scheduled to go into effect Dec. 28 stem from the Oil Pollution Act of 1990 (OPA90). The designation of "interim final" rules leaves room for final adjustments on narrow issues. But in general, the rules will stand as presently structured.

OPA90 imposes liability for oil discharges from U.S. and non-U.S. flagged tankers, as well as ports, terminals, and offshore pipelines and other facilities.

Tanker operators have voiced the most vigorous opposition to OPA90 because it could expose them to unlimited liability for damage caused by spills and will impose a phaseout on single hull tankers plying U.S. waters. Scheduled to replace such tankers are double hull vessels that carry a much bigger price tag.

The rules, which the Coast Guard issued July 1, do not vary much from proposed regulations outlined by Congress in OPA90. The law was enacted partly in response to the Exxon Valdez spill off Alaska. There are no indications that Congress will change the law to reduce its financial burden on tankers. Only a few congressmen have expressed any concern.

Rep. Jack Fields (R-Tex.) said the Coast Guard should have taken more time to promulgate the rules. "This has put oil transporters in a terrible position: In 6 months they must find oil spill coverage or be out of business."

He added that the cost of insurance coverage could be seven to nine times higher than existing rates. One of his constituents told him tanker insurance could cost $1 million/voyage.

Rep. Billy Tauzin (D-La.) said, "The Coast Guard needs to proceed cautiously to ensure adequacy of coverage and the full ability to provide a response to a spill at a reasonable cost. The last thing this country needs is the possibility of a disruption in supply of various products coming to the U. S. 11

Some new insurers have come forward, but it isn't clear whether they can muster the required fiscal resources to replace traditional insurers.

WHAT IT DID

OPA90 increased the liability limits for tankers to $1,200/gross ton or $10 million for vessels larger than 3,000 gross tons and $2 million for vessels smaller than 3,000 gross tons, whichever is greater. For any other vessel, the limit is $600/gross ton or $500,000, whichever is greater.

Tankers could be subject to unlimited liability if an oil spill results from gross negligence, willful misconduct, or violation of safety regulations, if the spill is not reported, or i the spiller does not cooperate with the cleanup.

The law does not preempt any state law that imposes additional liability on the insurer and guarantor.

In OPA90, Congress chose not to ratify the 1984 International Oil Spill Protocols, which would have resolved many of the concerns raised by the oil industry, shipowners, and protection and indemnity (P&I) clubs.

The law requires evidence of financial responsibility that will satisfy liability claims for cleanup costs and damages up to the statutory limits of liability. The rule requires evidence of insurance, surety bond, guarantee, qualification as a self-insurer, or other evidence.

If the evidence is adequate, the Coast Guard will issue tankers a certificate of financial responsibility (COFR). Ships without a COFR can be denied entry into U.S waters.

The Coast Guard has combined the financial responsibility requirements for tankers under OPA90 and the Comprehensive Environmental Response, Compensation, and Liability Act (Cercla or "Superfund"), which governs pollution from hazardous substances other than oil.

Because P&I clubs have threatened to avoid involvement with shipments to the U.S., which could disrupt U.S. supplies of imported oil, the Coast Guard prepared a regulatory impact analysis to assess the possibility of such a "train wreck" scenario.

That analysis found there will be other financial responsibility sources, even without the P&I clubs.

Self-propelled tankers are the first group of vessels that must demonstrate new financial responsibility by the December deadline. Tank barges are next, by July 1, 1995. Then all other vessels - passenger ships and dry cargo vessels, for example - will follow on a staggered 3 year basis beginning Dec. 28 as their preexisting COFRs expire.

CURRENT SITUATION

Industry's negative reaction to OPA90 has been less than expected, although insurance coverage for oil spill compensation is still a hot issue.

"There have not been too many complaints about OPA90," said John Duffy, technical adviser to Oil Companies international Marine Forum, London. "The situation is simple: If an owner wants to trade in the U.S., he has to comply with OPA90 .

Kristian Fuglesang, assistant director of the International Association of Independent Tanker Owners (Intertanko), Oslo, said some of the effects of OPA90 have been unexpected.

"More owners have been prepared to go to the U.S. than we originally thought," Fuglesang said. "But it Is not just owners who are affected. Bankers, for example, are less interested in financing new tankers since OPA90."

Whether this is good or bad in terms of thinning out the tanker fleet, Fuglesang would not say. But he did say a low replacement rate for tankers would affect the market long term - not to the benefit of the U.S.

The obvious positive effect of OPA90 seen by Intertanko is that tanker owners have become more violent. A negative effect is that some owners have decided not to send tankers to the U.S., while others have pulled out of the tanker industry altogether.

Fuglesang said, "Those who got out include some quite wealthy companies that were able to pay to operate good tankers and which the U.S. would surely have liked to stay in the business."

Since passage of OPA90, independent tanker owners have been able to obtain insurance cover to operate in U.S, waters but at increased cost. However, the extra cost is said not to have been as high as it would have been if some government suggestions had found their way into OPA90.

"The U.S. has been able to get oil," Fuglesang said, "but there has been reluctance among many owners to sail in U.S. waters. Some have been willing to accept lower price charters to avoid the U.S., and some ship's masters have specifically asked that they are not required to sail to the U.S."

Fuglesang said OPA90 has resulted in a restructuring of the tanker market and of individual companies. The pullouts may have lessened competition, but nobody is particularly benefiting because there were too many tankers in the market before OPA90.

Duffy said that while insurance costs may have risen for tanker operators, the effect was felt equally among all companies.

"If you take as a block the people wanting to trade to the U.S.," Duffy said, "they all must play by the same rules, so there is no competitive disadvantage to any company arising out of OPA90. And any added costs accruing from one year to another will be transferred to end users in the long run. That is you and me.,,

RULE DEFENDED

Adm. Robert Kramek, Coast Guard commandant, defended the new spill liability rules during a hearing by the House merchant marine committee's Coast Guard and navigation subcommittee.

He noted the liability and compensation provisions of OPA90 had been under development for many years prior to 1990.

Kramek said, "Despite objections by the international maritime industry to the proposed law's liability and compensation provision, Congress unanimously adopted a liability and compensation regime based on the fundamental precept that the polluter pays for removal costs and damages."

He said although industry has objected to the Coast Guard's approach in the rulemaking, Congress did not give the agency authority in OPA90 to insulate the shipping industry from the possibility of unlimited liability.

"It is the Coast Guard's sincere hope and belief that now that the COFR rule has been adopted, rhetoric designed to confuse financial responsibility with unlimited liability will be put aside, and all parties will turn to the business of complying with the new rule," Kramek said.

"The controversy in simple terms arose from the stated refusal of the P&I clubs, which are comprised of shipowners, to provide insurance guaranties required by OPA90.

"These same P&I clubs have provided oil pollution guaranties under U.S. laws since 1970 and to other governments under international treaty since 1975. Shipping interests stated that without P&I club guaranties, there would be no other sources for obtaining fiscal responsibility guarantees. Maritime trade to the U.S. would therefore cease - the so - called train wreck.

"The Coast Guard believes the new COFR rule will not result in a 'train wreck' despite a view by some in industry that only a 'train wreck' will force Congress to amend OPA90 or abandon the potential for unlimited liability in cases of fault in favor of the international treaty."

The Natural Resources Defense Council pointed out that independent tanker companies threatened to stop serving U.S. ports during the debate over OPA but did not. It said U.S. trade accounts for about one third of all world seaborne oil movements, and the likelihood that major oil companies and independent tanker owners would abandon the U.S. market is unlikely.

OBJECTIONS HIT

Kramek said most of the comments to the Coast Guard have related to the oceangoing fleet presently insured by P&I clubs.

He said, "The inland and small-vessel coastal fleet has generally been well served by the Water Quality Insurance Syndicate (WQIS), and we expect thai to continue."

He said OPA90 required the Coast Guard to reject international shippers' proposals that membership in a P&I club be seen as a form of self-insurance, with membership constituting an asset. Also, shippers argued that a P&I club member could assign its rights under the policy to the Oil Spill Liability Trust Fund (Osltf) as a loss-payee variation of coverage.

"Obviously, the amount of an insurance policy, especially an indemnity policy, is not an asset under any known accounting principles," Kramek said. "Claimants would have no assurance of payment because all policy defenses such as a member's insolvency could be invoked by the club.

"The loss-payee variation added no further assurance that a claimant, including Osltf, would be paid. These concepts involved no hint of a guaranty and merely would shift the burden to U.S. consumers and taxpayers, the direct opposite of Congress' intent in OPA90."

He said the Coast Guard, at the request of commenters, changed the rule to allow "other evidence" of insurance such as a letter of credit in the proper form.

Kramek said, "Our rule does not prevent a P&I club, should it elect to become a financial responsibility provider, from issuing an insurance guaranty. Any acceptable P&I clubs willing to execute the insurance guaranty form are certainly welcomed as guarantors, as they have been for many years.

"Whether or not the clubs' primary reinsurer, Lloyd's, will permit the clubs to issue OPA90 guaranties under the current reinsurance contract, I do not know."

He said an issue often raised in the rulemaking was the assertion that guarantors are subject to unlimited liability and therefore could not underwrite the exposure. "This is false. Congress explicitly limited a guarantor's liability to the amount of the financial responsibility provided and no more.

"In the past 24 years in which financial responsibility has been provided by guarantors, we know of no instance in which the guarantor's limits have been breached."

COST ISSUE

Kramek said the Coast Guard is not imposing unreasonable and excessive costs on the industry.

"The Coast Guard does not believe the costs are excessive, and more importantly, the Coast Guard is not imposing these costs. Shipowners, after lengthy internal debate, have thus far chosen to impose the costs upon themselves. The P&I clubs are the shipowners, and the major shipowners act as the boards of the clubs and vote the decisions for the clubs."

He said if shipowners don't want to incur the added costs of buying financial responsibility guaranties from commercial sources, they can direct their clubs to issue the guaranties, presumably at less cost.

"If the clubs do not provide the guaranties - and that is the assumption upon which our decisions have been based - we expect a number of alternative possibilities to emerge."

He said two new companies - Shoreline Mutual Insurance Ltd., an independent mutual club, and First Line, an insurance company - have been proposed to fill the insurance void.

"Neither of these companies has yet been deemed acceptable by the Coast Guard, but we expect they both will be seeking approval very soon."

Kramek said other insurance companies may be developing plans to offer insurance guaranties for tankers, and surety underwriters are expected to offer surety bond guaranties.

"Another avenue for demonstrating financial responsibility is self-insurance. The self-insurance criteria are the same as proposed and as have existed since the beginning of this program. Tangible U.S. assets are required. Assets located away from the jurisdiction of U.S. courts cannot be used in the net worth and working capital calculations."

He said the Coast Guard's regulatory impact analysis, using a worst case scenario, said the cost of guaranties could be seven times the cost of the P&I clubs' OPA90 surcharge.

"We believe this estimate will far exceed the actual cost. Even this gross overestimation translates to less than two fifths of 1ct/gal of gasoline at the pump." Kramek added, "We have heard reports that surety bonds will cost about 0.5% to 1% of the bond amount. And the only cost of self-insurance and financial guaranties is the cost of maintaining independently audited financial statements.

"So although there may be costs, these costs are not considered excessive and are costs the shipowners themselves have decided to incur."

OIL FIRMS' VIEWS

Jerry Aspland, president of ARCO Marine Inc., testified for the American Petroleum Institute at the House subcommittee hearing. He warned that the Coast Guard rule is "poised to run afoul of commercial reality."

Aspland urged Congress to seek monthly reports from the Coast Guard regarding the ability of shippers to file approvable financial responsibility applications and, if problems develop, to ask the Coast Guard to amend the rulemaking to include more flexibility and compliance options.

Aspland said, "The Coast Guard has been exceedingly narrow in its selection of the commercial alternatives of financial responsibility that are available under OPA90. The rulemaking has the potential to disrupt the flow of oil to the U.S. industry and place whole segments of the U.S. economy at risk."

He said the rule will raise insurance costs without commensurate benefits, and it is uncertain whether specialty insurance groups will emerge.

"Many oil companies and their marine affiliates may be able to meet self-insurance requirements for their own fleets if the Coast Guard grants a waiver of the working capital requirements.

"Some large U.S. based independent vessel owners also appear to possess enough financial strength either to self-insure or utilize a surety bond. As a result, these companies, which represent only about one third of the tanker owners who will require a COFR, may gain a distinct cost and strategic market advantage over less highly capitalized, although high quality operators.

"Without the ability to use P&I insurance, it is unclear to API how the remaining two thirds of tanker capacity will be able to provide sufficient evidence of financial responsibility to enable them to continue operations in U.S. waters."

W. Bruce Law, executive vice-president of Allied Towing Corp., testified for the American Waterways Operators. He said large, well-capitalized coastal tank barge operators cannot feasibly comply with the self-insurance formula without a waiver of the working capital requirement. "Smaller coastal companies will either be forced to absorb tremendous new costs or to exit the oil and chemical transportation business altogether."

NEW INSURERS

With P&I clubs refusing to issue COFRS, operators working in U.S. waters may be forced to take out insurance with the two new companies, Shoreline and First Line.

Shoreline was established to provide coverage just like the P&I dubs as a mutual, nonprofit insurer, but it will cover only oil and hazardous substances shipments in U.S. waters. Coverage is limited to $300 million for any one accident or occurrence.

Shoreline plans to issue bonds to raise $300 million as an initial coverage and is seeking to install a reinsurance program. It will base its premiums on the volume and type of oil being shipped, age of the vessel, and features such as double hulls.

Hugh Bryant, of the London law firm of Penningtons, testified for Shoreline during the House subcommittee hearing. He said costs should be lower than the Coast Guard estimated. The new company sees no problems in providing the kind and quality of insurance required to support the COFRS.

Bryant said now that the Coast Guard rule has been issued, commitments can be made to Shoreline and it can be approved as an insurer.

First Line is a joint project of insurance brokers Johnson & Higgins, New York, and Lloyd's broker Nicholson Leslie BankAssure.

Aspland said API does not oppose development of specialty insurers, "yet we believe that there is still enormous uncertainty regarding their economic viability. Both facilities named by the Coast Guard exist only in the most incipient stages of development.

"In any case, it is very uncertain whether there is sufficient reinsurance in the world's markets to accommodate insurers who would appear to be holding a relatively high concentration of risk.

"Recent catastrophes have sent Lloyd's into a prolonged cycle of contraction which has forced the insurance industry to begin searching unsuccessfully for untapped capacity.

"API members question if reinsurance is available for these speciality companies. If it is, why haven't reputable reinsurers come forward publicly to confirm such availability?"

Ian Marriott, consultant at Drewry Shipping Consultants Ltd., London, said a draft tariff for potential members ranged in cost from 76cts/dwt/voyage for the oldest crude tanker to 19cts for double hull vessel less than 5 years old carrying clean products.

"While this is still likely to prove more expensive than current P&I offers," Marriott said, "the growth of reinsurance support in recent weeks has lessened initial fears. These rates are some 20% below initial indications."

Marriott said a 300,000 dwt tanker 11-15 years old carrying crude oil between the Persian Gulf and Louisiana would pay $201,000/voyage, or a little more than $1 million/year for a typical five trip trading pattern.

MEIF PROPOSAL

A group of Greek, Norwegian, and Swedish shipowners has put forth the mandatory excess insurance facility (MEIF) proposal.

Under it, Congress would authorize the Coast Guard to write regulations requiring all tankers importing oil into the U.S. to carry mandatory oil pollution insurance of $2 billion.

To meet that level of insurance, MEIF would be created as a government-sponsored, federally chartered, private oil pollution insurance facility.

In case of a catastrophic spill that depletes the money available through other insurance companies, MEIF would provide additional insurance to meet the $2 billion level.

The Coast Guard's Kramek said his agency rejected MEIF as a solution to the present COFR matter, but further studies are warranted.

Stathes Kulukundis testified at the House hearing on behalf of the Greek Shipping Cooperation Committee and the Norwegian and Swedish shipowners association.

He said the fundamental issue is not certification to OPA90 but the inadequacy of currently available pollution liability insurance in the face of virtual unlimited strict liability under OPA90 and under the laws of several states.

Kulukundis asked, "What would have happened under OPA90 if the Exxon Valdez had been owned by an independent tanker owner without the deep pockets of a major oil company? The vessel's pollution liability insurance - the $500 million P&I coverage plus an optional $200 million available through the clubs from the Lloyd's market - would have been exhausted.

"The reachable assets of the owner, a comparatively negligible amount in the vast majority of cases, would also have been consumed and the $1 billion federal Oil Spill Liability Trust Fund would have been totally dissipated as well, leaving huge amounts unrecovered and unrecoverable."

He said the MEIF plan would address the concerns of shipowners about inadequate pollution liability insurance, facilitate investment in modern, environmentally up to date replacement tonnage, and protect the federal spill fund.

"Not only would it solve the COFR issue without compromising the provisions of OPA90 in any way, but it would ensure the availability of more funds to deal with serious oil spills. The scheme is fiscally sound, commercially feasible, fair, and effective."

P&I CLUBS' VIEW

Terence Coghlin, chairman of the International Group of P&I Clubs, complained to subcommittee members that the Coast Guard has rejected the views of P&I clubs.

He said, "it must be remembered that OPA90 was not enacted to address a perceived crisis concerning the availability or adequacy of insurance cover for U.S. oil pollution risks. There was no insurance crisis involved with the Exxon Valdez spill.

"The covering P&I club met its policy obligations in full to the tune of $400 million. Indeed, prior to and since the passage of OPA90, the clubs have provided insurance cover wide enough and more than sufficient to meet the financial responsibility requirements of OPA90, and they have met in full their obligations under that cover whenever a spill has occurred."

Coghlin said the Coast Guard is placing reliance on a new system consisting of entities that have never provided pollution cover but have expressed their willingness to issue the guaranties required even though they may not have the capital or reinsurance backing needed.

He said P&I clubs simply cannot depart from their normal role as indemnity underwriter for shipowners and expose themselves as guarantors without policy defenses - and possibly without financial limit - to a multitude of unknown potential claimants.

Coghlin also said shipowners have no interest in causing supply disruptions but cannot allow their clubs to provide financial guaranties that in effect put the worldwide P&I insurance structure at risk of destruction.

Richard Youell, a marine underwriter at Lloyds, said his firm currently makes $200 million/incident available in excess of P&I clubs'-$500 million primary cover.

He said a tanker owner's liability limit might easily be reached under OPA90 because the statute does not preempt state laws imposing added liability for the same incident.

Youell said, "The owners' potential U.S. liability from these cumulative sources is now well beyond the bounds of insurance cover available even if the owner meets the applicable financial responsibility amounts."

intertanko Chairman Miles Kulukundis reiterated that OPA90's interim rule might deprive U.S. trades of a reliable, proven, cost effective system for handling pollution claims.

"I am, of course, speaking of the P&I club system," Kulukundis said. "P&I clubs are not for profit, mutual risk associations composed of ship owners and operators. Through mutual indemnification and reinsurance, P&I clubs provide insurance coverage. 11

Kulukundis said P&I clubs have provided more than $500 million coverage for each tanker at "astonishingly low costs" to vessel owners and operators. This was said to provide a level of cover exceeding the OPA90 requirement of $1,500/gross registered ton by a factor of five or more for most tankers.

Kulukundis said, "The Coast Guard itself reckons that the cost of alternative forms of guaranties may be seven times the present level. Coast Guard trivializes the impact of the potential costs by stating that they will cause only a minor rise in the cost of gasoline at the pump."

But the point is not what the COFR program costs at the pump, he said. The point is whether vessel owners should be forced to incur "significant increased costs" that serve no purpose other than to meet the structural requirements of OPA90 and the Coast Guard rules. "These costs are substantial to a ship owner and will be taken into consideration when making trading decisions."

Copyright 1994 Oil & Gas Journal. All Rights Reserved.