New operating environment for offshore

Sept. 19, 2017
Surviving one of the most challenging times in decades



OVER THE PAST YEAR, the price of oil has remained stubbornly low; at around a third of its 2008 peak, before recovering slightly in recent months. The energy industry has responded rapidly in expectation of a prolonged period of low oil prices, which some are calling "lower for longer" or the "new normal."

This has seen offshore oil companies and service providers adjust their business models, drastically cutting operating costs, shedding staff, squeezing contractors, and slashing capital expenditure and exploration. Capital expenditure in the US fell by 36% in 2015 and by 25% through 2016, while day rates for drilling contractors have been 65% off their peak.

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Coming off a boom time, oil and gas companies had plenty of excess to trim, but, by any measure, cost-cutting has been brutal, with drilling contractors and other service providers being particularly hard hit.

These changes in the offshore energy market have implications for insurers, from the risks they are asked to underwrite, to the emergence of new credit risks and challenges around risk accumulations.


With the focus on cost-cutting, as well as a reduction in drilling activity, offshore insurance demand has slowed significantly. According to International Union of Marine Insurance (IUMI) statistics, offshore energy premiums, including captives and mutuals, fell 20% in 2015 to $4.5 billion. And current forecasted offshore premium numbers for last year do not paint a better picture.

The number of construction projects in the market has plummeted, greatly shrinking an important source of premium income for insurers. Demand for operational insurance has also declined, as contractors have fallen on hard times.

With a reduced premium base, offshore energy insurers are likely to face increased volatility. While a reduction in drilling should benefit loss activity, the energy sector is characterized by high values and complex risks, which can still give rise to large claims.

For example, upstream incidents during 2016 included potential losses of up to $1.3 billion at an installation in the Atlantic, west of Africa; $178 million from a rig in North America; and around $150 million from a platform incident in the Gulf of Mexico.


Cost-cutting measures can alarm insurers, who are concerned with the potential implications on maintenance levels and, subsequently, resulting claims activity. Over the past year, insurers have been worried that cost-cutting may be putting pressure on health and safety standards for some upstream energy infrastructure companies in particular. The recent experiences of South Korea's ailing shipbuilding sector acts as a further warning. Faced with a sharp reduction in orders, Korean shipyards have been cutting costs, contributing to a spike in losses.

However, it is hoped that the need to maintain a good reputation for safety and efficiency in the offshore sector should see oil companies and contractors remain focused on maintenance.

There is a growing emphasis on companies' financial strength and their ability to demonstrate that maintenance budgets are protected and that the most experienced people are retained.

However, as yet, there has not been an overall increase in claims frequency, and the reduction in budgets could be offset by lower levels of drilling and the need to protect reputation.


The tough operating environment also presents new challenges for insurers. For example, AGCS has been working with credit insurer Euler Hermes, also a subsidiary of Allianz SE, to assess the credit risk of companies in the offshore sector, benchmarking the individual financial fundamentals with the parameters of the global oil and gas industry.

The low oil price has also seen rig utilization rates fall to around 68% worldwide at the beginning of 2017 from around 90% in 2015, which means many have been put into temporary or long-term storage. With so many rigs sitting idle, this poses a different set of risks for oil companies, drilling contractors, and their insurers.

Rigs are designed to be working and will deteriorate much faster when not in use. This is new territory for contractors, and an area where there is little guidance. But insurers can conduct surveys and send out engineers to assess the quality of lay-up and advise clients accordingly.


The stacking of rigs in large numbers at a single location presents a potential accumulation risk for insurers. Rigs are being stacked in unprecedented numbers - some 350 rigs are thought to be laid-up at the time of this writing, often in areas exposed to hurricanes or cyclones. Rigs once worth up to $500 million each can be stacked, often just meters apart, in exposed areas in Scotland, Trinidad, and elsewhere. Risk assumptions once made by insurers to review individual exposures are becoming obsolete. Natural catastrophe accumulation control (e.g. for Gulf of Mexico windstorm) becomes an almost unsolvable challenge.

Accumulation is also a potential issue with consolidation in the energy sector. Operators and contracts are looking to shed non-core assets, while some are predicting a wave of mergers as they seek efficiencies.


For oil and gas operators, service companies, and insurers alike, the focus of the "new normal" is on managing both operational efficiency and risk.

At AGCS, the focus now is on risk management, effective loss control, and efficiency of underwriting processes, as well as reinsurance solutions, modeling, and data to manage increasing volatility.

AGCS' has taken a technical approach to underwriting energy risks-recruiting specialist engineers in areas like shale gas.

This is still a viable industry and there are still opportunities for underwriters. Beyond technical underwriting, however, AGCS has increased focus on due diligence and loss prevention.


Oil companies, like insurers, have to plan for the long term. Despite the current difficult market conditions, demand for oil continues to rise with a growing global population. However, the reduction in exploration is expected to eventually result in a gap in supply. Today's supply glut will be absorbed and demand will overtake supply.

Insurers, as a supplier to the energy industry, need to support clients, while at the same time managing a prolonged bottom of the cycle. The companies that survive the next few years, and that maintain market share, will be well placed when the market finally returns.


Steffen Halscheidt is Global Energy Product Leader at Allianz Global Corporate & Specialty (AGCS) based in Munich, Germany. He has more than 20 years of experience in the insurance and re-insurance industry, both in claims and underwriting. He currently is responsible for the overall performance of the Global Energy portfolio and for technical support to the regional hubs. He joined Allianz in 1995 and has served in Tokyo and later in Singapore prior to returning to Munich. Before joining Allianz, Halscheidt, a certified civil engineer, worked for five years as an engineering consultant in the industrial sector.