Article

Interdependency – the increasing complexity of onshore business interruption energy losses

March 13, 2020 · Authored by Clive Burrows, Justin Crick

Higher margins are often achieved on downstream speciality products compared to unrefined / commodity products. Some petrochemical and speciality chemical companies have recently announced a second year of record results, showing that there was value in the plants that the oil majors sold off 5 to 10 years ago.

Therefore, a more vertically integrated structure enables companies to retain a greater proportion of the value chain and to help sustain profitability, despite challenging market conditions for unrefined products.

A number of projects which are scheduled to come online in the Middle East over the next 5 years are designed to link oil and gas fields to refineries and petrochemical plants directly. The new downstream capacity will aim to benefit from the Middle East’s market differentiators including comparably low feedstock costs, access to export ports, and greater levels of technology and efficiency that the modern refineries and petrochemical facilities bring.

Interdependencies
These integrated oilfields / refineries / petrochemical complexes will likely result in complex facilities and significant interdependencies in the production process.

This will provide challenges to underwriters in understanding the potential Business Interruption exposure following an insured event. It is not uncommon for relatively small PD losses which result in a partial production loss at a large onshore operation to generate substantial business interruption (BI) losses as a result of the downstream losses.

A simple interdependency example is set out below:

• Incident; a refinery suffers a loss, but would normally sell product to a downstream petrochemical unit in the same group, or “Insured”;
• Impact to the downstream unit:
  i)  Suffers a loss of production → Loss of gross profit; and/or
  ii)  Buys feedstock to maintain production → Increased costs of working

Both options would result in a BI loss downstream of the damaged unit. However, a loss to an integrated operation is rarely this straightforward, and reviewing the affected unit in isolation may understate (or even overstate) the potential BI exposure. A full understanding of the critical process units, their role in the production chain, and the bottlenecks / production constraints is required when assessing the materiality of interdependencies.