Falling commodity prices lead to lower BI insured values

Falling commodity prices lead to lower BI insured values

Lower demand and lower prices put the pressure on costs

Across all geographies, mining companies are being challenged by extremely low commodity prices and an abundance of supply. In 2015, the price of all major metals decreased by an average of 15%, with iron ore faring the worst with a 42% decline. While there has been some price volatility in the first half of 2016, it is expected that any price rises will be modest, and that the market will remain depressed due to ongoing global economic uncertainty.

This environment has led to some marginal mines going into care and maintenance, while across the sector there has been an increase in merger, acquisition and divesture activity.

Another factor coming into play is that many of the major miners have heavy debt burdens, reflecting recent periods of expansion and growth based on longterm price assumptions that have not come to fruition. As a result, a number have also suffered significant declines in their market capitalisation.

To achieve budget repair, these players have dramatically reduced capital expenditure and are looking at costcutting measures such as corporate restructuring.

An increase in 'standing charges only' cover

Over the past year we have seen an increasing number of miners reducing their business interruption (BI) cover by moving it to a standing charges only basis. The rationale is that while BI includes a net profit component, low commodity prices have resulted in very low profits (or even losses). Standing charges, however, remain relatively constant regardless of the commodity price.

One drawback of standing charges only cover is that a sudden increase in the commodity price could leave the insured without cover for loss of net profit in the event of a business interruption. To help mitigate this risk, it is important that the broker fully understands their client's method of BI calculation and their exposure to commodity price fluctuations. This fundamental knowledge will leave the broker ready to discuss the option of changing the basis of the BI cover at short notice.

Some smaller miners are adopting adjustable policies, which provides them with greater flexibility in a volatile commodity market.

Capacity and competition lead to even lower rates

The insurance market for mining remains very favourable, with a number of factors putting downward pressure on premiums.

The sector remains attractive to insurers, partially due to the recent low level of claims, which in Australia have been relatively benign for the past five years. In addition, although rates are low they still offer insurers better margins than those in some other sectors.

In response to these conditions, a number of traditional mining insurers have increased their above ground as well as below ground capacity, while new entrants into the Australian market, such as Berkshire Hathaway, have further boosted capacity.

Despite this abundance of capital, we are yet to see significant innovation from insurers, although there have been some coverage improvements and some sublimit increases. Nevertheless, resistance to offering reductions in deductibles remains.

As insurers struggle to maintain their premium pools, our expectation is that rates will continue to contract over the near term.

Cost reductions raise concerns

From an underwriter's point of view, one of the current key concerns is how cost reductions may impact risk management or operations. For example, with almost 4,200 Australian mining jobs lost in 2013/14, and more than 2,000 in the past calendar year, there is the possibility that maintenance teams might be at critical levels, or that the focus on areas such health and safety could be weakened.

Likewise, while during a boom producers will keep ample stock of critical spares, this may not be the case during a downturn. This could increase downtime after a breakdown, and lead to higher BI costs.

From our experience in placing mining cover, the key issues that will help achieve a favourable renewal result, include:

  • Good quality and detailed renewal information including recent engineering survey reports
  • Provision of detailed information in specialist engineering areas (e.g. tailings dams)
  • Provision of detailed information in areas of community and sustainable development
  • Demonstration of well riskmanaged operations with high take up of risk recommendations
  • Low claims activity
  • Face to face renewal presentations to markets

The Aon Client Treaty leads the way in product innovation

One of the challenges in placing large mining programs, is that they often need to be placed across multiple insurers to achieve the level of capacity and coverage needed. In such cases it's not uncommon for the various parts of the program to have different wordings and subjectivities, as well as different pricings based on the individual insurer's underwriting guidelines and risk appetite. And in some cases, the last percentage of the cover can become the most challenging to place.

In recognition of this challenge, the Aon Client Treaty (ACT) was launched in January this year, providing a guaranteed presecured coinsurance capacity of 20 percent, on all orders placed through Aon's Global Broking Centre in London.

This multiyear solution is supported by a panel of highly regarded Lloyd's syndicates, and led by XL Catlin. It provides clients with the full benefits of the Lloyd's chain of security, broad licensing and claims scheme. Just as importantly, it also offers consistent coverage, by providing the pricing, wording, and terms and conditions of the lead underwriter for the London order.

Available on any orders placed through the Aon Global Broking Centre (GBC) in London, the treaty also includes a highly efficient claims agreement and settlement via the Lloyd's Claims Scheme.