From AlterNet report
Is this true? Did the rig owner benefit from the catastrophe?
Do insurers allow such over-value insurance? Doesn’t this lead to wrong incentives? Should it be illegal?
Basic insurance law doesn’t allow an actual overpayment, but it does allow overinsurance.
That is basic insurance law though, I really don’t know how it actually applies when it gets to more complex stuff like this.
As for whether overinsurance should be allowed? There certainly shouldn’t be a blanket ban. The credit markets have done a world of good… but equally as has been seen in the last few years some regulation is pretty sensible, particularly when the incentives get screwed.
I don’t think, for example, overinsurance on Deepwater Horizon, specifically, should have been permitted. But a derivative could easily have been created in oil spills, for example, (probably has) and the benefits of a relatively liquid market there would have brought down Transocean’s insurance premiums and provided investment opportunities. It’s a much more effective model than reinsurance.
(Technically the above are not insurance in law, I appreciate, but they are mechanisms of risk transfer, and so is insurance…)
In any case I can’t see any suggestion that Transocean is going to make a profit out of this on any reputable website. I suspect that this is just a payment for loss of expected earnings or soemthing…
Like Angry Lurker says, insurance is supposed to make the insured “whole”, and should not be designed so that the insured profits from a casualty. If the policy (or policies, more likely) had an “agreed value” provision, then the policy would typically pay out at that AV. But if the AV was much higher than replacement/rebuild cost…well, that ain’t right.
I wonder if some of that “profit” is actually payouts for loss-of-income and other coverages.
My company doesn’t write ocean marine, so I may be way off.
Generally in insurance law you cannot collect beyond actual proven losses. Life insurance is an exception and special insurance for singer’s voices or other odd things can be written by Lloyds of London, under British law. That stuff is more like betting. But under ordinary US indemnity law, no profits in a land based loss of this kind. Admiralty law is a very special creature and applies to navigable waters like the ocean. It has been so long since I’ve done any admiralty work that I don’t remember it, and insurance for such equipment is something I have no experience with.
The notion that Transocean will benefit from this is absurd. The “article” you linked to is incredibly ignorant. Furthermore, anyone with even a basic understanding of accounting should understand that this “gain” is a paper entry only.
The Horizon rig originally cost approximately $350 million to build back in 2001. Companies book items such as this on their balance sheet at cost. They are then depreciated over time. Therefore, the book value on their balance sheet reduces and they record an expense on their income statement. The total insured value of the rig was $560 million. They have recorded an accounting gain of $270 million. Therefore, we can see that there was approximately $60 million in depreciation expenses associated with the rig since 2001 (it was on their books at $290 million). Those are the simple facts behind why they would record an accounting gain and what the article seems to be upset about.
However, the replacement cost of the rig (what it would cost to replace today) is somewhere between $600 million and $700 million. Not surprisingly, the insurance that they buy relates to the replacement cost and not a near decade old cost less depreciation. Therefore, they have already lost the difference between the insurance proceeds of $560 million (less the deductible of around $1 million) and the replacement cost of $600 - 700 million.
Furthermore, the company had a backlog of business booked for the rig of $590 million through September 2013 with $130 million in the remainder of 2010 alone. Those numbers are the revenues that they would earn on the rig over that time and would need to be adjusted for the operating expenses that would incur. Nevertheless, it is fair to say that they are losing a significant amount of business as a result of the rig not being around any more. Furthermore, the company did not carry what is commonly called business interuption insurance. This insurance would have compensated them for the loss of future revenues. It is extremely expensive to buy and most companies do not buy it for that reason.
Transocean further expects to have an additional short term $200 million in legal and insurance costs incurred as a result of the rig explosion.
Finally, the date that the announcement of the accounting gain by the company was on May 6th. The company’s stock dropped from $72.76 to $69.70 the day of the announcement. This equates to a market capitalization decline of $1,026 million that day. Obviously their shareholders didn’t exactly think they were going to benefit from the rig loss despite the accounting gain. Of note, Transocean stock has declined 35.12% since the April 20th explosion. This equates to a $10,835 million loss in market capitalization.
Anyone that has looked at this with even a passing glance would understand that this is a tremendously bad incident for Transocean. Idiot “journalists” like the one at AlterNet linked in the OP are nothing short of clueless buffoons.
I would be happy to provide citations for any of the numbers that I have stated.
oops wrong thread