Expert concern over oil drilling insurance
By David Wanjala
Kenya finally struck a breakthrough with the discovery of oil in in Turkana in 2012. The discovery and subsequent announcement was greeted with excitement throughout the country.
“This morning, I have been informed … that our country has made a major breakthrough in oil exploration,” President Kibaki announced on March 26, 2012.
More discoveries were to follow. Tullow Oil Plc struck oil again seven months later, in Twiga South-1 exploration well on Block 13T, about 30km west of Ngamia-1. Early this year, Tullow and its partner Africa oil encountered more oil in Blocks 10BB and 13T in Northern Kenya.
Indeed there is raised hope that Northern Kenya may not be the only region with oil. While latest reports indicate discoveries in Lamu, some parts of Nyanza too have viable prospects. Bottom line, Kenya is oil-rich and it is only a matter of time before oil taps open.
However, the new discovery comes with the complication of insurance. Oil industry is a multi-billion dollar investment whose insurance might prove a nightmare to a young economy with no prior experience in resources management as Kenya’s.
Instructively, it is the international oil and gas exploration companies that prospect in emerging economies. Implicitly, they end up drilling and taking control of the whole distribution chain.
In Kenya, Tullow from Britain is leading the pack. Others on the ground include the Royal Dutch Shell, London based Cove Energy Inc, Canadian Vanoil Energy Ltd, America’s Anadarko Corporation and Norwegian’s Statoil, just to mention a few.
Insurance stakeholders are however raising a red flag on the common insurance practice adopted by the international oil companies (IOCs) that tend to lock out the local insurance industry and deprive host economies of valuable resources.
While speaking at the 2014 Africa Insurance and Reinsurance Conference last month in Nairobi, Mr George Kabban, chief executive officer, United Insurance Brokers, Dubai International Finance Centre (DIFC) Ltd, said an IOCs would normally prefer offshore mutual industry insurer.
The IOC, or its captive – an entity owned by and provides risk-mitigation services for its parent company and sometimes its clients or partners, normally seeks to recuperate its prepaid premium to the offshore mutual insurer by capturing as much reinsurance premium out of the local insurers as possible.
And as a minimum, the IOC will seek to capture a share equivalent to its percentage share in a joint venture. Additionally, it will try to get its joint venture partners’ shares also to further subsidize its sunk premium costs paid to the offshore mutual insurer, a practice Mr. Kabban is not in support of.
“This practice denies or limits the national insurance markets from actually participating to their full potential and leads to a drain or outflow of hard currency premium out of the national financial system.”
Mr. Kabban says that often, the intent of the IOCs is to take maximum reinsurance premium out of the country and leave only ‘fronting fees’, which is a tiny fraction of the total premium actually charged to ‘cost oil’. That way, IOCs maximize their own, and their captives’ benefits as they minimize revenue to the national/local insurance industry and national economy in general.
IOCs, Mr Kabban said, strategically select from the weak but licensed local insurer(s) to issue a local policy in compliance with the local laws. However, the selection is predicated on the instruction that maximum reinsurance premium is to be returned back to the IOC’s captive or it’s so-called global program. The local insurers are then put into competition to quote the lowest “issuance fees” or “fronting fees”, which is often a tiny fraction of the overall gross premium. The gross premium is stated on the locally issued policy and forms the basis of the expense to be recovered under “cost oil”
“Through such a strategy an IOC’s gross premium expense in the host country, in reality, becomes revenue to the IOC’s Captive reinsurer and further benefit is generated by increased oil allocation.” Mr. Kabban who is also an expert in well Control issuance says.
Ultimately, he adds, this leaves the local insurance market with only the tiniest fees. Net insurance premium and risk exposure are not retained locally. It also inhibits real growth opportunities for the national insurance industry with a knock-on negative effect for the rest of the financial sector by denying the market the ability to retain more net premium in the local market which may then be invested in the Stock Market or other investments that can generate greater liquidity in the national market.
The ultimate solution for Mr. Kabban however, would be for the national insurance market regulator to form a National Energy Insurer as its own captive insurer. This insurer’s capital is to be formed by, and open to, subscription by all nationally registered insurance companies to build a combined capital base capable of taking on high-value/risk exposures.
To enhance its prospects, the National Energy Insurer should initially be supported and designated as sole authorized insurer of new energy risks. With a strong capital base and growing ability to retain risk and premium, such an insurer can eventually become a regional or even an international energy insurer.
The benefit are numerous including better control over real insurance costs in line with international commercial market pricing. There would also be fair ‘cost oil’ in return for insurance premium and impartial risk transfer, greater control over risk management from a National perspective rather than a multinational IOC’s. It would also support national financial services economy and create increased quality employment opportunities in host country.
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