Coping with Cancellations
Airlines typically can offset revenue losses for cancellations due to bad weather either by saving on fuel and salary costs or rerouting passengers on other flights, but this year’s revenue losses from the worst winter storm season in years might be too much for traditional measures.
At least one broker said the time may be right for airlines to consider crafting custom insurance programs to account for such devastating seasons.
For a good part of the country, including many parts of the Southeast, snow and ice storms have wreaked havoc on flight cancellations, with a mid-February storm being the worst of all. On Feb. 13, a snowstorm from Virginia to Maine caused airlines to scrub 7,561 U.S. flights, more than the 7,400 cancelled flights due to Hurricane Sandy, according to MasFlight, industry data tracker based in Bethesda, Md.
Roughly 100,000 flights have been canceled since Dec. 1, MasFlight said.
Just United, alone, the world’s second-largest airline, reported that it had cancelled 22,500 flights in January and February, 2014, according to Bloomberg. The airline’s completed regional flights was 87.1 percent, which was “an extraordinarily low level,” and almost 9 percentage points below its mainline operations, it reported.
And another potentially heavy snowfall was forecast for last weekend, from California to New England.
The sheer amount of cancellations this winter are likely straining airlines’ bottom lines, said Katie Connell, a spokeswoman for Airlines for America, a trade group for major U.S. airline companies.
“The airline industry’s fixed costs are high, therefore the majority of operating costs will still be incurred by airlines, even for canceled flights,” Connell wrote in an email. “If a flight is canceled due to weather, the only significant cost that the airline avoids is fuel; otherwise, it must still pay ownership costs for aircraft and ground equipment, maintenance costs and overhead and most crew costs. Extended storms and other sources of irregular operations are clear reminders of the industry’s operational and financial vulnerability to factors outside its control.”
Bob Mann, an independent airline analyst and consultant who is principal of R.W. Mann & Co. Inc. in Port Washington, N.Y., said that two-thirds of costs — fuel and labor — are short-term variable costs, but that fixed charges are “unfortunately incurred.” Airlines just typically absorb those costs.
“I am not aware of any airline that has considered taking out business interruption insurance for weather-related disruptions; it is simply a part of the business,” Mann said.
Chuck Cederroth, managing director at Aon Risk Solutions’ aviation practice, said carriers would probably not want to insure airlines against cancellations because airlines have control over whether a flight will be canceled, particularly if they don’t want to risk being fined up to $27,500 for each passenger by the Federal Aviation Administration when passengers are stuck on a tarmac for hours.
“How could an insurance product work when the insured is the one who controls the trigger?” Cederroth asked. “I think it would be a product that insurance companies would probably have a hard time providing.”
But Brad Meinhardt, U.S. aviation practice leader, for Arthur J. Gallagher & Co., said now may be the best time for airlines — and insurance carriers — to think about crafting a specialized insurance program to cover fluke years like this one.
“I would be stunned if this subject hasn’t made its way up into the C-suites of major and mid-sized airlines,” Meinhardt said. “When these events happen, people tend to look over their shoulder and ask if there is a solution for such events.”
Airlines often hedge losses from unknown variables such as varying fuel costs or interest rate fluctuations using derivatives, but those tools may not be enough for severe winters such as this year’s, he said. While products like business interruption insurance may not be used for airlines, they could look at weather-related insurance products that have very specific triggers.
For example, airlines could designate a period of time for such a “tough winter policy,” say from the period of November to March, in which they can manage cancellations due to 10 days of heavy snowfall, Meinhardt said. That amount could be designated their retention in such a policy, and anything in excess of the designated snowfall days could be a defined benefit that a carrier could pay if the policy is triggered. Possibly, the trigger would be inches of snowfall. “Custom solutions are the idea,” he said.
“Airlines are not likely buying any of these types of products now, but I think there’s probably some thinking along those lines right now as many might have to take losses as write-downs on their quarterly earnings and hope this doesn’t happen again,” he said. “There probably needs to be one airline making a trailblazing action on an insurance or derivative product — something that gets people talking about how to hedge against those losses in the future.”
This summer, at one of California’s numerous wildfires, the appearance of a drone over Interstate 15 forced firefighting aircraft to back off for about 20 minutes until it flew away.
Instead of 40 or 50 acres burning before that fire was controlled, a few thousand acres, along with about 20 vehicles, were destroyed, as drivers ran from the area, according to reports.
In July alone, there were about a half-dozen similar incidents in California. Anywhere from two to five drones appeared at fire sites, sometimes chasing after the air tankers and helicopters, and forcing the aircraft to delay dropping retardant or even calling off operations until the areas could be cleared.
“It has hampered our efforts,” said Dennis Brown, chief of flight operations at the California Department of Forestry and Fire Protection (Cal Fire), which has about 50 air tankers and helicopters that respond nearly daily to wildfires from March through November.
“The size of the drones, even though they look small, could cause significant damage to any of our aircraft,” Brown said. The tail rotor of a helicopter is particularly vulnerable and a tail rotor strike could be catastrophic. “We had one helicopter pilot coming in to land to drop off a crew and there was a near miss by a drone,” he said. “It was 20 to 30 feet away, right in the windscreen.”
Sometimes, the drones are operated by homeowners checking for damage to their property. Sometimes it’s just curiosity or a desire to photograph the scene and post it to social media that prompts the drone operators.
“The size of the drones, even though they look small, could cause significant damage to any of our aircraft.” — Dennis Brown, chief of flight operations, California Department of Forestry and Fire Protection (Cal Fire)
But regardless of the reason, interference from drone operators is obstructing firefighting efforts and increasing danger to the pilots and their aircraft.
“The pilots are flying low and they are flying fast,” said John Glenn, chief of fire operations for the Bureau of Land Management. “There are a lot of hazards there. You throw drones or UAVs into the mix and there have been a number of cases where we have shut down operations until we can clear the air.”
Open Season for Drones
Public safety hazards due to drones aren’t limited to firefighting. The Federal Aviation Administration reports about two dozen drone sightings per month at airports throughout the nation, according to reports.
In one reported case, a plane headed from Washington, D.C. to LaGuardia Airport in New York had to pull up about 200 feet to avoid a collision with a drone in its path as it tried to land.
UAVs have buzzed French nuclear plants, landed on the roof of the Japanese prime minister’s residence (with radioactive material, no less), and even landed on the White House lawn. In August, a riot broke out in an Ohio prison yard after a drone dropped a package containing significant quantities of marijuana and heroin.
Drones have flown over sporting events and city parks — to sometimes deadly effect. One 19-year-old man died in a New York park when he lost control of his drone helicopter and the fast-moving blades cut him and killed him.
Drones have been sighted during a game of the Texas Longhorns football team and at a Philadelphia Phillies game. A triathlete in Western Australia had to be taken to the hospital just yards from the finish line after a drone fell on her.
“They take a pretty decent picture and they are fun and cute, but it’s not real smart to be flying a drone in an arena,” said J. Matthew Ouellette, owner/general adjuster at Ouellette & Associates in Indiana.
“The drone could fall out of the sky … and into somebody’s lap or into their beer,” he said. “Right now, it’s open season and people are flying them all over the place. There are just some idiots out there.”
And some people don’t take kindly to it, with reports surfacing of people shooting drones out of the sky. Of course, the reverse is also a grim prospect: One teenager was arrested after creating a drone that shoots a gun.
As for insurance coverage, the typical general liability, property or homeowners’ policy does not cover aircraft, experts said.
Insurance policies covering drone use are generally purchased by either the owner/operator of the drone or the manufacturer, said Patton Kline, senior vice president, Marsh Aviation. “Obviously, the risks for those two groups are very different.”
And, in the end, he said, it is the manufacturers that may face the greatest liability.
“If there is a significant event, we are concerned that litigation will come back to the UAS [unmanned aerial system] manufacturer because they will have the deep pockets,” he said.
“If you have a weekend warrior flying a drone for fun, they don’t necessarily understand the risks and if they are involved in a significant loss, they may not have insurance to pay for damages.”
“Right now, it’s open season and people are flying them all over the place. There are just some idiots out there.” — J. Matthew Ouellette, owner/general adjuster, Ouellette & Associates
For large aerospace companies that use or manufacture drones, it’s fairly easy for them to work with their insurers to add drone coverage to current policies or to add a stand-alone policy, Kline said.
Coverage may include physical damage to the UAS, propulsion units, payload/cargo (imaging, sensors or specialty equipment that may be more expensive than the UAS itself), ground station control units, spare parts and transit coverage.
All of that is available, he said, from up to a dozen insurers including AIG, Global Aerospace, Allianz, Starr Aviation, United States Aviation Underwriters and Berkley Aviation, as well as insurers that do not historically provide aviation coverage.
In addition, ISO has crafted a drone endorsement as a coverage extension to some of their commercial general liability (CGL) policy forms for insureds that seek to add drone coverage to CGL policies, he said.
The cost of physical damage coverage (also known as hull coverage) can be expensive, particularly for new or unproven unmanned aerial system platforms. Insuring $1 million in value could cost up to $100,000, depending on the UAV platform, with many policies typically in the $50,000 range, experts said.
Third-party liability, such as for bodily injury or property damage due to drones is also available, and is much less expensive, experts said. Product liability coverage would also be an important coverage to consider for UAV manufacturers.
A commercial stand-alone UAV liability policy for $1 million could start as low as $1,000, said Vikki Stone, senior vice president, Poms & Associates.
She said she has seen interest in such coverage from organizations that use drones in their business, such as entertainment, aerial mapping, residential construction and pipeline construction.
“We are seeing a lot of individuals who may have been hobbyists or pilots who are seeing an opportunity to start up a business,” she said.
“The bigger concern is rogue flyers. The industry has not yet really had enough time to assemble any sort of loss experience. As that evolves, we are likely to see changes in the marketplace, but it’s too new yet.”
Another issue that carriers and brokers are still grappling with is invasion of privacy, which could offer potential litigation concerns. That coverage is currently excluded by all drone insurers, according to Marsh’s recent report, “Dawning of the Drones: The Evolving Risk of Unmanned Aerial Systems.”
Eamonn Cunningham, chief risk officer, Scentre Group, said the first step to purchasing coverage would be to analyze meaningful gaps between what is in existing policies and what is needed.
“Absolutely do your homework in advance and sometimes you might need experts from outside the organization to understand what’s appropriate and what’s not,” he said.
“The processes that you go through in trying to determine what this relatively brand new risk means to you — it’s a real challenge.”
An organization may not need bespoke coverage once a gap analysis and risk assessment is performed, he said.
He compared drone coverage today with the purchase of cyber coverage a half-dozen years ago. At that time, many companies ended up buying a commodity — the typical cyber policy — instead of coverage that protected the specific risks faced by the organization.
“If you know exactly what you are buying, there’s less chance you will be disappointed when something happens and you find it doesn’t fit the specific manner in which you use, operate, sell or manufacture the drone,” he said.
Ella Atkins, associate professor, aerospace engineering at the University of Michigan, said federal regulations have hampered the safe use of drones because Congress exempted hobbyists flying under 500 feet from FAA rulemaking in the 2012 FAA reauthorization act.
“The problem is … the FAA’s policies focus on unmanned aircraft operating near airports,” she said.
“You need people on the ground to enforce low-altitude airspace flight, not the FAA. They have no presence away from airports [to control the situation].”
While Atkins doesn’t expect it to happen, some others are anticipating that the FAA may issue final regulations related to drone use by the end of this year.
But, if the FAA puts its focus on bans or strict regulations for low-altitude drone use away from airports, the effort will come to naught, she said. Instead, local and state governments and private landowners should be empowered to apply disorderly conduct and trespass laws as ways to control the hazards of rogue drone use.
“We need to start realizing that it’s a matter of what the person does with the drone, not the drone itself that is bad or good,” Atkins said.
In addition, she said, the FAA is ignoring a 1946 federal legal case that ruled property owners have control over the airspace immediately above their land.
Current rules mean that a farmer could be struck by a drone on his own property and have no recourse, or that Amazon.com could fly 10 feet over a home on its way to deliver a package and owe the property owner no compensation for use of the airspace.
“We need to start realizing that it’s a matter of what the person does with the drone, not the drone itself that is bad or good.” — Ella Atkins, associate professor, aerospace engineering at the University of Michigan
Recently, Amazon suggested a separate airspace lane for commercial drone delivery flights, which called for UAVs to fly between 200 feet and 400 feet. The air traffic control for that space would be handled by an automated computer system.
About 100 companies, including Amazon, Google and Verizon Communications, have agreed to work with NASA to help devise that air traffic system, according to reports.
There are no firm answers to the problem, said Jeff Power, regional aviation officer, U.S. Forest Service. He noted that one current law that could apply to firefighting is a restriction on interfering with public officials in the course of their duty.
But, he said, it’s very difficult to track down the drone operators.
“A large part of it is education of the drone operators,” Power said, although he noted that one day soon it may be emergency service organizations that are operating drones to help combat hazardous situations.
In fact, Texas A&M University held a seminar this summer about the way drone technology could be used to help deal with deadly flooding.
“We understand the capabilities,” Power said, “but when we have the recreational drone operator who isn’t necessarily familiar with the FAA’s requirements and flight restrictions — that’s the big issue. It’s a matter of educating them and hopefully no one gets hurt in the meantime.”
A Wake up Call for Any Company That Touches Food
It’s not easy to be in the food industry these days.
First, there is tougher regulation. On August 30, 2015, the Food Safety Modernization Act (FSMA) required companies to file planning paperwork for Preventive Controls for Human Food. The final FSMA rules take effect on August 30, 2016.
Next, increases in food recalls, some deadly, are on the rise. In early September, 9,000 cases of frozen corn were pulled from shelves after a listeria scare. A few days later, a salmonella outbreak in cucumbers imported from Mexico resulted in one death, while sickening hundreds of consumers nationwide.
Courts are getting tougher, too, as owners/executives in particularly egregious cases involving consumer deaths have been prosecuted criminally, with one receiving a recommendation for a life sentence.
Finally, advances in science – including whole-genome sequencing technology, which maps DNA of microbes to more easily pinpoint precisely where contamination occurs – can expose every player in the supply chain to potential losses and lawsuits.
“Few companies have the balance sheet or brand loyalty to survive a serious recall. Outbreaks, new regulations, prosecutions and science have made purchasing product recall and contamination insurance literally an act of survival for companies of all ages and sizes,” said Jane McCarthy, Senior Vice President of Global Crisis Management at Liberty International Underwriters (LIU), who has over 30 years of industry experience.
Working with growers, processors, manufacturers, importers, shippers, packagers, distributors, wholesalers or retailers, LIU’s policy provides indemnity to pay for losses a company might incur from a recall, including logistic expenses, lost income and access to crisis management and public relations consultants.
Legislation tightens on food-related companies
Passed in 2011, the FSMA gives the Food and Drug Administration a far more proactive weapon in the war on tainted food, as the focus shifts to prevention combined with the FDA’s newfound authority to close businesses that aren’t complying with FSMA rules and regulations.
In addition to the August 30, 2015 deadline for filing paperwork for preventive controls, as part of the law, all companies need to be registered if they do anything with food in the United States, or a company is a foreign entity bringing food into the U.S.
“It’s the law and every regulation and benchmark has to be met,” McCarthy said. “The FDA will shut someone down if they don’t think a company is handling a food product properly. With these new rules and regulations, the whole industry has to change.”
With LIU’s product contamination policy, companies have 24/7 access to pre-loss consultancy through red24, one of the world’s leading security consultants and global crisis management consultancies. For example, they’ll work with clients to best prepare them to meet the FDA’s 48-hour response deadline should a food contamination or product recall incident occur.
Costly outbreaks on the rise
According to a Wall Street Journal article, food recalls from 2012 to 2014 increased more than five times compared to the total number of recalls from the prior eight years combined. The Journal also reported that foodborne illness is often never formally reported, so about 48 million Americans, or one in six, get sick each year from food. The CDC estimates 128,000 hospitalizations and 3,000 deaths from tainted food.
Food contaminations happen in two main categories: allergens (peanuts, etc.) and pathogens (bacteria). There were four listeria outbreaks in 2014 alone, compared with one in each year from 2011 to 2013. Listeria is a particularly tricky and virulent pathogen that continues to survive and blossom, even in refrigerated environments. Listeria does not impact the appearance, taste or smell of food it invades, so a company in the food industry can only confirm contamination through testing or, unfortunately, once a customer becomes ill.
“Listeria is one of the worst nightmares. Not only is it deadly, but once it gets into a plant, it’s very difficult to eradicate,” said industry veteran Meg Sutton, LIU’s Senior Claim Officer. “It sneaks into drains and crevices that you thought were clean. Attempts to clean those drains and crevices, if done improperly, can result in aerosolizing the listeria and spreading it throughout the facility. In some cases, companies are forced to shut down the plant for extended periods of time, resulting in significant business interruption and loss of revenue.”
Courts get tough on deadly cases
With the increase and severity of food contamination recalls rising, the courts are getting tougher too. The food industry was rocked last month by a recommended life sentence for the ex-CEO of a peanut manufacturing company following a multiple-felony conviction for knowingly selling tainted peanut butter that ended up killing nine people.
“The judge ended up sentencing him to 28 years in federal prison, still the harshest penalty ever in a case of food contamination. While our policy won’t cover your defense if you’ve committed a crime, the penalty is another wake up call for the food industry that executives at the highest levels will be held accountable,” McCarthy said.
Science boosts detection, transparency
By using today’s scientific methods to trace back to the source (grocery store, restaurant, wholesaler, etc.), experts can determine the production facility or farm that originated the food or food additive. They can swab the facility for DNA matches and pinpoint the contamination.
Considering those four prime drivers, it’s not surprising that interest in food product recall and contamination coverage from companies of all sizes is gaining momentum.
“We don’t want them to just buy our insurance,” McCarthy said. “We want them to be better for it with us as their partner by making sure they have the right coverage in place and improving their business from a health, safety and compliance standpoint.”
Liberty International Underwriters is the marketing name for the broker-distributed specialty lines business operations of Liberty Mutual Insurance. Certain coverage may be provided by a surplus lines insurer. Surplus lines insurers do not generally participate in state guaranty funds and insureds are therefore not protected by such funds. This literature is a summary only and does not include all terms, conditions, or exclusions of the coverage described. Please refer to the actual policy issued for complete details of coverage and exclusions.
This article was produced by the R&I Brand Studio, a unit of the advertising department of Risk & Insurance, in collaboration with Liberty International Underwriters. The editorial staff of Risk & Insurance had no role in its preparation.