Business Context

Business ContextIMI Arendal April 2016, Nic Wilmot

We shall not cease from exploration. And the end of all our exploring will be to arrive where we started and know the place for the first time.

T.S. Eliot

Zooming in – where in the galaxy will we be exploring

• Business context is a very large galaxy

• We cannot look at all of it so we need to know where we are and

• We need perspective

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4

Arendal

A question of perspective

Our perspective is insurance and we cannot talk about insurance without talking about risk

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Our focus will be on understanding risk, and insurance as a risk management tool

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ContentsSlides 7 – 18 the concept of risk

• The concept of risk – especially in maritime industries

• Rocknes – a major casualty• How risk is distributed in maritime

industries• Insurance as a risk management tool• Enterprise Risk Management in Gard• Does the world really need Gard?

Why the concept of risk is so fundamental

• Where there is life there is risk• The future is uncertain – the best laid plans• The defining characteristic of a capitalist economy is the

way it handles risk• Capital markets should more correctly be called risk

markets• For any business enterprise strategic decisions are

ultimately about how a it should handle the many different types of risks that it faces

Risk distribution UNACCEPTABLE

TRANSFER

OPPORTUNITY FIELDRETAIN & MANAGE

ACCEPTABLE

PROBABILITY/FREQUENCY

SEVERITY

Risk – Threat and Opportunity

Equity, loan and insurance capital have different functions accept different risks expect different rewards

Key to your successUnderstanding and managing your chosen areas of risk

Risk and reward

are correlated

Shipowner’s risks

Risk management

Geo-political strategic

risk

Marketrisk

Creditrisk

Industry strategic

risk

Operationalrisk

Legal/compliancerisk

Organisationalrisk

Eventrisks

Source: Drewry Shipping Consultants Ltd

Developing risk landscape

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Shipowners’ risksRisk Type Examples

Source: Drewry Shipping Consultants Ltd

Strategic risk

Market risk

Credit risk

Financial risk

Operational risk

Legal risk

Organisational risk

Sovereign risk

Loss of key partnersCompany reputation riskLoss of competitivenessUninsurable/unhedgeable risks

Freight marketLiquidity risk, market depth, basis risk

Clearing

Income stream/Cash Flow riskAccounting- related risksCapital costs risks

Transport chain and customer issuesShip-focused operational areas of riskInsurance

IMO and ”Global” issuesDeveloping issues in IMOOther regulatory issues

PersonnelSystems risk

War and terrorism riskPolitical riskBusiness culture riskFlag states

Charterers, customers, suppliers

Derivatives, S&P

Norwegian Futures and Option Clearing House (NOS)

Charterers, customers

Currency risk, interest ratesMark-to-market, tonnage tax regimesOrderbook, loans, mortgages

Manning, criminalisation, R&M, victuallingH&M, P&I, US Oil Poll., FD&D, War

SOLAS (ISM and ISPS), STCW, MarpolBallast water, demolition, PSSAs, arrest, flag statesAnti-money laundering, FSA rules, corruption

Loss of key personnel, manningIT

Trade, human trafficking, drug issues, piracy

BACK-UP

Spot rate risk is significant for a shipping company…

Source: Platou

VLCC, high last 12 m, 75 000

VLCC, low last 12 m, 25 000

Difference: 50 000

…and huge compared to claims risk:Payback time for a claim if spot rate is at median level

• Ship owner with 1 ship 100 ships

• Median claim: 32 000 USD 15 hours 10 min.• 90 % Percentile: 200 000 USD 4 days 1

hour• 99 % Percentile: 2 000 000 USD40 days 10 hours• 99.9 % Percentile: 11 000 000 USD 7 months 2

days

Why then should ship owners choose to transfer casualty risks?

Because:• they don’t want to compound the market risks they

have accepted - market and casualty risks can cumulate

• casualty risks compromise much more than just the integrity/safety of their vessel

• vessels in a large fleet may have different ownership and financing arrangements

Even the best can be hit by the worst

Need for effective claimshandling to manage and mitigate losses

The moments of a maritime casualty

Maritimecasualty

Death and personal injury

Loss or damage to vessel

Loss of income

Environmental damage

Damage to third party property

General average and salvage

Wreck removal

Relationship toauthorities

Media handling

Reputation

Care of next of kinand survivors

Emergencyresponse

Normalisation ofsituation

Summing up so far• Every business has to manage a wide range of risks• Shipping faces very severe and volatile risks, especially

event/operational and market risks• Risk and reward are correlated• The key strategic decisions are the choice of risks

- to avoid or transfer – defensive meaures - to retain and manage – offensive measures seeking rewardBefore we look at insurance in the context of risk management we will look at an example of a major casualty

ContentsSlides19 – 51 Rocknes a major casualty

• The concept of risk• Rocknes – a major casualty• How risk is distributed in maritime


Illustrative example - Rocknes• Capsized off Vatlestraumen after hitting

a submerged rock• 18 people lost their lives• Massive pollution• Vessel and special purpose equipment

severely damaged• Cargo lost

Total losses: excess of USD 170 million

16:30 Rocknes capsizes in Vatlestraumen.

17:00 Jebsen calls P&I underwriter at Gard.

17:10 Underwriter calls CTC.

17:15 CTC calls director on duty (DoD).

Red alert!!

The first 45 minutes

17:15 Red alert!! - Mobilisation

17:55 12 staff in contingency room. In operation.

18:40 All support staff arrived.

18:45 Liaison from Gard at Jebsen’s office.

18:50 Liaison from Gard at Bergen Police Office.

19:30 3 staff despatched to Bergen by chartered airplane. Arrive Jebsen’s office at 23:30.

Contingency room manned at all times next 48 hours

Ref Crisis management presentation later today

PrioritiesPri 1 Human

Pri 2 Pollution

Pri 3 Property

Liaison our member and handle media

3 Dutch, 8 Filipino and 1 Norwegian survived

3 crew members immediately found dead

15 crew members missing It is estimated that on 19th

January, 600 persons were involved in the rescue operation

Situation on 19th January

Coastal DirectoratesOperations Centre,

Bergen (Haakonsvern)

SuppliersOil protection equipm. / Tugs /

Specialist vessels

Bergen Fjell Askøy Øygarden

Site leadersLocal councils

Harbour Master in BergenLocal operation centre:

Harbour Masters office (Bergen)

Coastal DirectorateHQ Horten

Fisheries Dept.

Emergency pollution response

Public and private sectors rolesShipping industry provides• Finance through insurance and fund conventions• Organisation of own responsibilities, salvage etc. • On site participation• Command structures for its sphere

Public sector provides• Funding of resources and equipment• Rescue and pollution clean up services• Command structures

Lessons learned on media• Media policy in place• Day to day handling of media• Distribution of reliable information to

involved parties• The need for competence to distribute

electronic information and web publishing• Enough resources available when needed• Organization of own resources (endurance)

Conclusions: Rocknes - increasing complexity

• Technology

• Business systems

• Legislative framework

• Society at large – national and international

More about these claims

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Construction: Builder’s Risks? TuesdayDamage to vessel: Marine Hull TuesdayLoss of income: LOH TuesdayGeneral Average and Salvage Marine Tuesday

Environmental damage: P&I CEP ThursdayWreck removal: P&I CEP ThursdayPeople Claims: P&I Wednesday 14.00Cargo: P&IDefence: Thursday 09.00

Contents Slides 52 - 70

• The concept of risk• Rocknes – a major casualty• How risk is distributed in maritime industries

- legal context- contractual networks reflect segment structure and business model

participants and process examples of distribution by contractoverview and summing up

• Insurance as a risk management tool• Enterprise Risk Management in Gard• Does the world really need Gard?

Core maritime industries • Traditional shipping – still central to our modern system of global

trade• Construction of ships and off-shore units etc. • Off-shore energy production

• Fishing – traditional + farming• Tourism • Other e.g. mining

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The moments of a maritime casualty

Maritimecasualty

Death and personal injuryLoss or damage to vessel

Loss of income

Environmental damage

Damage to third party property

General average and salvage

Wreck removal

Relationship toauthorities

Media handling

Reputation

Care of next of kinand survivors

Emergencyresponse

Normalisation ofsituation

How is risk distributed within the maritime industries – legal context

• Coastal states provide important infrastructure - mitigate and fund some risks e.g. rescue services, clean up equipment

• By “international” maritime law

• Through the contractual network but every contract must be enforceable within a national legal system

• Conflicts have to be resolved by application of international “private” law.

2 main sources of international maritime law

• International conventions that directly regulate safety but also rights, duties and liabilities of various participants.Often originate from International Maritime OrganisationCome into force when a sufficient number of states have ratified relevant conventionSee http://www.imo.org/en/About/Conventions/ListOfConventions/Pages/Default.aspx

• Mandatory contract law especially in respect of cargo, passenger liability and employment of seafareres

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http://www.imo.org/en/About/Conventions/ListOfConventions/Pages/Default.aspx

http://www.imo.org/en/About/Conventions/ListOfConventions/Pages/Default.aspx

Traditional shipping – overview of main participants

JJVEvESSEBUSINESS RELATIONS VESSEL OPERATIONS LICENCE TO TRADE FINANCE

CARGO OWNER

CHARTERER

MANAGERS

STEVEDORES

TUGS/PILOTS

PORTS/TERMINALS

COMMERCIAL

TECHNICAL

CREWING

FLAG STATE

CLASS

PORT STATECOMPLIANCE

INSURANCE

EQUITYINVESTORS

BANKS

INSURANCE

Different kinds of charterparty – charterparty chains

Bareboat or demise cp – Owner finances vessel but chterer operates vessel in all respects – hire per unit of time

Time cp – owner operates but chterer controls cargo and commercial operations - hire per unit of time

Voyage cp – Owner operates but chterer provides cargo and destination – payment per voyage

Bill of lading – payment per unit of cargo ref cargo presentation

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The parties and their contractual network – contract of carriage, identity of the “carrier”The core contract is between a cargo owner and a contractual carrier. The contractual carrier need not be the performing carrier. •Carrier = ship owner•Carrier = time charterer – ship owner•Carrier = voyage charterer – X? – Y? – ship owner•Carrier = NVOCC – X? – Y? – ship owner•Carrier = freight forwarder – X? – Y? – ship owner

Transport: port A to port B is a process• Delivery to port A – cargo owner• Loading – stevedore employed by owner or charterer• Stowage – ship owner• Carriage – ship on behalf of contractual carrier• Unloading – stevedore • Delivery at port B – port agent on behalf of vessel

System gives great flexibility in designing a contractual network that fits a variety of business models – e.g main line container operator, natural gas, tank, ferry etc

Logistics• the right thing• at the right place• in the right amount and condition • at the right time

The more stringent and detailed the requirements for each of the above, the more complex the logistical chain is likely to be - but hopefully the greater the value created.

Logistic provider• Takes responsibility for a complete process – e.g. car factory to

show room.

• Co-ordinates all operations employing sub -contractors where necessary

• Must design contractual framework and risk management

• Ocean transport just a part of the larger process

Examples: Shipping companies become integrated supply chain participants and the network complexity increases …

Plant

Trucker

Stevedore Stevedore

Shipping Line Trucker

Dealer

Shipping companies take control of door-to-door logistics chains

Strategic alliances with ports and inland carriage providers

What is important for us?In all of the relationships described above the parties must agree on:•Payment for the defined deliverables – value exchange•Sanctions for performance breaches•Various practical administrative mattersandHOW RISK SHOULD BE APPORTIONED BETWEEN THEM e.g. accidents, delays, extra unforeseen expenses etc. etc.

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Examples: «freight risk»• Risk of incurring costs of performance without achieving the

planned result – safe delivery of cargo at destination.• Can be placed on ship owner – freight payable on delivery -

or on the cargo owner – freight payable in advance

• If ship owner has the risk he can take out voyage insurance (very rare) or Loss of Hire insurance

• If cargo owner carries the risk he can inlcude the value of freight in the value of the cargo under his cargo insurance

Examples: Risk of damage to cargo• Risk of damage to cargo during transport• Can be placed entirely on carrier, entirely on cargo

owner or apportioned e.g by reference to whether carrier is at fault

• Apportionment in various forms has been the norm• Leads ultimately to settlement between two sets of

insurers and provides a living for a large number of lawyers

Examples: Ship owner and time chterer - delay due to unforseen events • Each party carries risk for events within their control or

within their ”sphere of choice”

• Choice of port, cargo handler etc within charterers’ control or sphere

• Crew and condition of the vessel within Owners sphere

• Ref off-hire clauses

Completing the picture• Many of the claims handled by marine insurers especially

P&I clubs are small claims less than USD20.000

• Handling a large number of smaller claims is about cost efficiency rather than risk transfer

• See people and cargo presentations

Event and operational risks – ship owner’s options

Transfer by:

Contract:

o Allocation of risk between contracting parties, e.g. ‘freight’ risk

Insurance:

o Assetso Incomeo Liabilitieso Large

unbudgeted costs

o Quality systemso Budget – maintenance,

contingency etco Loss Prevention

activitieso Small claims

management

Retain and manage

Summing up – our platform for going forward

• Managing risk in its broadest sense is the central task of any business enterprise

• The consequences of event risks are varied and can be life threatening for a company – ref Rocknes

• Shipping and the risks associated with it are becoming increasingly complex

• Risk is distributed through legislation and the contractual network• Shipping operates within a broader social context• We must now understand how insurance functions as a practical risk

management tool

ContentsSlides 71 – 86 Insurance as a risk management tool

• The concept of risk • Rocknes – a major casualty• How risk is distributed in maritime industries• Insurance as a risk management tool

-Very brief history of marine insurance-Key concepts-Some mechanics

• Enterprise Risk Management in Gard• Does the world really need Gard?

Insurance history215 BC Concept of protection against maritime

perils (Romans)

1347 First marine insurance policy (Lombards)

1688 First known reference to Edward Lloyd’s coffee house in Tower Street

1836 Collision liability - case Vaux v Salvador

1855 First P&I club, now called Britannia

1870 Cargo liability – case Westenhope

1899 Creation of International Group of P&I clubs

1906 English Marine Insurance Act

Development of maritime liabilities

Media – criminalisation of seafarers – state authorities complexity

Liability becomesan issue

1836 De Vaux v Salvador 1854 British Merchant

Shipping Act Creation of the first P&I

clubs to cover collision and personal injury liability

Expansion of liabilities to include cargo etc.

Pollution comesinto focus

1967 Torrey Canyon 1978 Amoco Cadiz 1989 Exxon Valdez 1999 Erika 2002 Prestige

The AthensConvention

Increased compensation limit

Marine insurance industry segmants segmentsMarine risks War risks

Assets H&M / IV Segment

War risk segment

Income Business Interruption

Segment

Liabilities P&I industry segment

Additional liabilities

Non-mutual marine

liability segment

Seafarers General and Life

insurance industry

Summary – marine insurance markets today

• Marine insurance is a small part of the insurance industry and insurance is a small part of the global financial (risk) industry

• Large risk carrying capacity established in a global marine insurance market with geographical and product focused market segments

• Major division between capital structures that support P&I sement• Sophisticated reinsurance arrangments which also support

unlimited liability for most P&I risks through International Group system

Key concepts - difference between insurance and gambling• The little old lady of Monte Carlo

• The difference between a bet and a counter bet

• What would fall heavily on one falls lightly on the many

• The law of large numbers – making the unpredictable predictable

Assured must have an insurable interest• Assured must be exposed to a possibility of economic loss

• Economic loss must be capable of being quantified – at least in principle

• One person can have separate interests in same object and can insure these separately – H&M, LOH etc.

• Different people can have separate interests in same object and insure these under same policy

Limitations on what insurance can do • Why war is a separate segment and doesn’t provide cover if their

really is a war

• Why we coudldn’t cover the cruise industry against loss of market due to terrorist incident

• What we did cover after September 11th

• Who does cover the market risks associated with terrorist activity?

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Various products• Capital - Income - Liabilities - Extraordinary costs

• What is the trigger

• How are covered losses calculated

• Who can obtain benefit from insurance

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INSUREDEVENTCAUSAL MATRIX

Perils

VARIOUS ECONOMIC LOSSES

TRIGGER 1: EVENT DEFINED BY THE RELEVANT INSURANCE CONDITIONS

TRIGGER 2: ECONOMIC LOSS. INDEMNITY AS DEFINED BY INSURANCE CONDITIONS

TRIGGERS

Who benefits from an insurance – assured co-assured and waiver of subrogation

Direct benefits•Value interests – anyone with a value interest in object insured - asset or income •Liability interest – anyone who might incur a liability •Protection interest – anyone who might cause loss of kind covered by the insurance Indirect benefitsInsurance can ensure that a contractual partner will be able to fulfil their contractual obligations Co-insurance and waiver of subrogation saves costs and admin hassle

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How much protection does status as co-assured give?

• Normally no better right than the Assured

• Duty of disclosure

• Sometimes right to recieve notice of changes or failure to

• Right to payment of value interest must be specified

• Normally not bound to pay premium but without premium policy can be cancelled

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How risk transfer by insurance is organised – the mechanics

• Each party takes out separate insurance for their own account – leads to final settlement between insurers – or

• Principal assured, project leader or main contractor takes out single policy on behalf of some or all participants.

Examples; Traditional shipping• Ship owner, time charterer and cargo owner insure their interests

separately

• But mortgagee and ship manager are co-assured under Owners’ policies

• NB diferent consequences of co-insurance

Examples: Offshore industry and knock for knock

• Underlying contract distributes risk on knock for knock principle – each party retains risk for own property, personnel and liability to third parties

• Each party is obliged to insure own risks

• Insurance arrangements reflect the underlying allocation of risk by allowing each party to be co-assured under the others insurance policy

Insurance as a risk management tool – what conclusions can we draw?

• Insurers must build a balanced portfolio and be financially sound to fulfil their function as risk carriers for their clients

• Insurance has been adapted to meet a wide variety of business needs – but the fundamentals remain the same

• Insurers can do more than just provide risk capital but like any tool insurance has its natural limits.

It is now time to look at how we in Gard manage our risks

Contents Slides 87 – 93 Enterprise risk management in Gard

• The concept of risk – especially in the maritime industries



Event and operational risks – ship owner’s options

Retain and manage by: Transfer by:

Contract:o Allocation of risk

between contracting parties, e.g. ‘freight’ risk

Insurance:o Assetso Incomeo Liabilitieso Large

unbudgeted costs

o Quality systemso Budget – maintenance,

contingency etco Loss Prevention

activitieso Small claims

management

What risks should Gard retain and what should we transfer

• At a general level it is a question of «risk appetite» - depends on capital strength and Owners wishes

• Avaliablity and price of reinsurance an important factor

• At a practical level depends on analysis of the risks associated with our core processes

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Enterprise Risk ManagementDefinition

Enterprise risk management is a process, effected by an entity’s board of directors, management and other personnel, applied in strategy setting and across the enterprise, designed to identify potential events that may affect the entity, and manage risk to be within its risk appetite, to provide reasonable assurance regarding the achievement of entity objectives

COSO

93Quality Management System (QMS)

Risk Management Department

External risks

Insurance risk‣Unexpected claims levels‣Under reserving‣Major mistakes in pricing‣Acceptance of risks not covered by reinsurance etc.

Market risk‣Investment portfolio‣Stock market changes etc.

Operational risk‣Unsafe processes‣Human error etc.

Event risk‣Accident to personnel or assets‣Power failure etc.

Internal risks

The Risk Management Department‣ Located in Oslo and Arendal ‣ Headed by SVP Steinar Bye

How are external risks dealt with?‣ Market risk

- Gard acts as an investor and not as an asset manager- Asset managers are selected and reviewed with help of Mercer Investment Consulting

‣ Insurance risk- Exposure limits- Claims sharing among the IG clubs- Excess of loss reinsurance programs- Facultative reinsurance- Sideways protection against fluctuations of aggregated losses within the retention level

Gard’s currentinvestment portfolio

What is a QMS system?• What is QMS? What must any well designed QMS system have?

‣ - Anchored in top management - Practical focus on core operations - Quality culture -

‣ Headed by SVP Christen Guddal‣ Control of risk through process design. NB! Process owner designs not QMS resources

must be responsible for this

‣ Identify and evaluate risks in all aspects of Gard operation

- Define essential standards and requirements that must be met

- Provide common tools

- Approve what the process owner proposes

- Monitor and audit what is actually done

Contents Slides 94 – end Does the world really need Gard?

• The concept of risk – especially in the maritime industries



Does the world really need Gard?• Marine insurance specialist – largest in the world• Most financially secure – best rating• Broad client base: ship owners charterers MOUs shipyards finance

institutions• Broadest range of products • Unique organisation with large pool of shipping industry expertise –

master mariners, superintendents etc• Returned premium to mutual members last 5 years

Owned by the industry

How can Gard

continue to justify our existence

in the future?

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Patterns of global trade will changedue to geo-political forces and economic cycles but technology will be the strongest driver of changes in business systems and therefore in risk allocation and risk management solutions

With the industry – for the industry 99

We shall not cease from exploration. And the end of all our exploring will be to arrive where we started and know the place for the first time.

T.S. Eliot