By Cyril Tuohy
Shortly after 2:46 p.m. local time on March 11, 2011, Japan trembled as massive undersea plates shifted.
Civilians ran for cover or sought higher ground in expectation of the devastating tsunami spawned by the 9.0 quake, a temblor so powerful that it moved the entire island of Japan 13 feet to the east.
More than 6,000 miles away, in Chicago, Shawn Ram reacted. "My first thought was that a few very specific companies we work with had exposure in Japan," said Ram, a technology broker with Aon. "I thought of all the exposures associated with the flash memory space."
Ram was acutely aware that Japan supplies about 25 percent of the world's computer chips and about 40 percent of the world's flash memory. Soon after he heard the news of the tsunami, and how far inland it had swept, Ram's thoughts began to drift.
What impact would the quake -- dubbed the Great Tohoku Earthquake -- have on the retail environment? What effect would the quake, the tsunami and the dramatic events at the Fukushima nuclear plant have on the launch of the hotly anticipated iPad 2? How were all these events going to affect the ability of suppliers to deliver crucial parts to high-technology manufacturers?
From straight-forward property/casualty claims, to complex business interruption claims, to even more convoluted contingent business-interruption claims, brokers found themselves on the first available flights to Tokyo.
Overnight, it seemed, the weekly volume of conference calls with Japanese clients doubled, even tripled. Client losses are in the hundreds of millions of dollars because of the magnitude of the events in Japan. "Lives changed because of this experience in Japan on 3/11," Ram said.
In the immediate aftermath of 3/11, brokers were called on to help manage assistance programs, and the large brokerage firms assembled rapid response teams. "The first question was, Are you OK?" recalled broker Thomas Whitenight, senior vice president of Wells Fargo Insurance Services Inc.
One of Whitenight's Japan-based clients, Rackable Systems Inc., had just completed the integration of the Japanese assets of another computer company 48 hours before the quake struck. In this case, Whitenight
literally found himself playing the role of ad hoc psychologist, a sort of empathizer-in-chief.
"He was just so calm," said one of Whitenight's clients. "We didn't know what the implications would be. We had people in Sendai, people in Tokyo. It was just chaos." (Whitenight was selected as a Power BrokerŽ winner this year in the technology sector. Whitenight's profile appears on Page 64.)
As corporate risk managers overcame the initial shock of the quake-tsunami-meltdown triple-whammy, they began to document what remained intact, what suffered damaged and what was still missing. Assessing the property damage was a relatively straightforward exercise, brokers said.
Japan has the strictest earthquake construction codes in the world and many of the plants and buildings performed well, said Robert Gall, a communications, media and technology expert with Marsh in San Francisco. Still, "once I got in to the high-technology manufacturing facilities, even with the bracing it wasn't enough," he said.
Gall, who traveled to Japan as soon as Marsh would let him, said he saw massive tooling pieces that had bounced around within a factory. The heavy pieces of machinery quickly breached the "clean rooms" used to manufacture silicon chips, and the equipment ruptured chemical lines, he said.
"I've seen some pretty dramatic losses in my career, in heavy industry and among petrochemical plants for example," Gall said. "This earthquake as far as the semiconductor industry was concerned, this was the most severe I've ever seen it."
Despite the dramatic, heart-wrenching television footage from eastern coastal cities many of Japan's vaunted original equipment manufacturers in high technology and auto manufacturing suffered little direct property damage. State-of-the-art factories, located to the southwest of where the quake struck, were hundreds of miles away.
For brokers, calculating property damage was the easy part and nearly a year after the quake and tsunami in Japan, many of the property claims related to commercial losses have been closed, brokers said.
Property to Business Interruption
Determining liabilities related to supply-chain interruption and contingent business interruption was going to be far more complex -- brokers knew that, and it fell on them to hire the phalanx of forensic accountants, consultants and investigators to dig through documents and calculate interruption losses.
The circumstances surrounding the events of 3/11 in Japan -- a massive quake, followed by one of the most destructive tidal waves of modern times, capped by the meltdown of nuclear reactors that overheated when cooling systems failed, were truly unique and have made for devilishly complex claims.
Extreme exclusions with anything to do with nuclear risk meant some clients were left with losses that were uninsured.
"Access/egress coverage, which covers a business when service or access roads are shut down, isn't covered here in Japan as it is in the U.S.," said Bharat Kannan, a Tokyo-based director and chief operating officer with Aon Risk Solutions in Tokyo. "Power service interruption is another, with blackouts and scheduled downtime. The nuclear exclusion zone put in place by civilian authorities is another. So, we've had to explain all those gray areas to clients."
The cascading events of 3/11 underscored the exposures of companies to the indirect nature of the losses, and risk managers, even those with companies that suffered little or no physical harm to their factories, found how quickly they were at the mercy of their suppliers.
Some of those suppliers suffered total losses themselves and were unable to deliver auto parts or critical technology components. Other suppliers, who were up and running, were unable to ship their goods to factories either because roads were made impassable by the tsunami, or because of the exclusion zone imposed by the authorities in the wake of high radiation levels.
With millions of dollars hinging on a single phrase or clause within an insurance contract, brokers spent hours with clients combing through the intricacies of admitted or local insurance policies issued by licensed Japanese insurers, for example.
Was the "rolling blackout" instituted by Tokyo Electric Power Corp., owner of the Fukushima-Daiichi Nuclear Power Plant, a blackout or simply a scheduled outage as part of the utility's strategy to manage the power grid?
As scheduled downtimes aren't covered in certain insurance policies, some risk managers had difficulty coming to terms with what constituted a covered event and how their employers would ultimately be indemnified.
"In the early days we spent a lot of time understanding the loss itself and whether policy liability existed," said Kannan, a Power BrokerŽ finalist in the global category. "Basically, we have a loss but will the insurance cover we have in place be able to respond or not?"
Other companies had coverage only for fire following an earthquake, but not for the earthquake shock or the jolt itself, which might have caused the building to crumble. Brokers, therefore, had to determine if the property was lost because of fire or because of the initial jolt, and then had to explain the industry practice of assigning proportionate liability.
"The issues started when the full understanding of the exposures began to be realized, even with the coverage extensions taken out on the property damage business interruption policies," said Tom Teixeira, an executive director and supply chain expert with Willis Group Ltd.
Midsize suppliers, and in turn their smaller suppliers, were the most affected by the earthquake and its aftermath, and Japan's crown jewels of the global manufacturing stage paid a heavy price as automobile and computer chip factories slowed down or were temporarily closed. "It's one thing to know who your suppliers are, and another to know who your suppliers' suppliers are," Ram said.
Toyota Motor Corp. last year idled 18 Japanese plants until March 26, the company said. The auto maker lost more than 700,000 units of production worldwide since the spring due to the quake a tsunami, according to a Nov. 3, 2011, posting by theDetriotBureau.com, a website that covers the automotive industry.
Toyota was hit again with flooding in July and August in Thailand, where dozens of Toyota parts makers are located.
Honda Motor Co. Ltd., which lost a 43-year-old employee who was killed when a wall collapsed at a research and development plant in Tochigi, Japan, also suspended operations at some of its auto and motorcycle plants until March 23, the company said. In addition, 16 Honda employees were injured after walls and ceilings buckled in other factories, engineering and research complexes in eastern Japan, the company said.
Making matters more difficult, days after the quake and on the eve of April renewals, Honda cancelled its indemnity program for suppliers providing the global auto giant with everything from brakes to airbags, to pistons and engine blocks.
Rolling along under the protection of a master claims-made product liability policy issued in Japan, suppliers were suddenly left scrambling to find cover under a U.S. product liability policy, which is occurrence-based.
Marsh's Iwao Hatanaka, vice president with Marsh Inc. in Columbus, Ohio, stepped in and helped dozens of risk managers bridge the differences between the now-invalid Japan policies and the new U.S. policies.
As sales forecasts for many Honda suppliers were lowered, Hatanaka, a Power BrokerŽ winner in the automotive category, secured lower coverage premiums, and avoided carriers refunding insureds at the end of the year for premium spent on covering risks clients no longer carried. (Read more on Hatanaka on Page 32.)
Like Toyota, Honda was also affected by flooding in Thailand. Honda noted that production at about 10 percent of its top-tier suppliers were affected, which made for cuts to Honda's U.S. operations, theDetroitBureau.com reported.
Another earthquake-related claim involving Nissan was so large that the Japanese auto maker sought help from Aon, a global broker that was not originally involved in the company's insurance program.
Analysis of the Nissan claim involved every aspect of the crisis: the quake, the tsunami, fire following the quake, service interruption following the nuclear meltdown, including contingent business interruption, and having to trace the source of the interruption back to the supplier, said Mike Stankard, the Southfield-based managing director and automotive practice leader with Aon Risk Solutions.
Aon handled about 71 business interruption claims within six months of 3/11, and many of them are still unresolved, said Stankard, a finalist in the automotive category in this year's Power BrokerŽ contest.
"This has been a massive learning experience for the industry about how to help clients," said Kannan.
If there's one lesson to emerge from 3/11 in Japan and the severe monsoon flooding which struck Thailand, it is how vulnerable major manufacturers are to the patchwork of small suppliers on which they rely.
It's not unusual for a chief executive officer with a top-tier supplier, for example, to be oblivious of the name of a bottom-tier supplier.
Contingent business interruptions claims coming out of Thailand are way more numerous than those coming out of Japan, brokers said.
"Many of our high-tech clients have factories in Thailand, and the amount of industry that has been placed there without much redundancy is huge," Gall said. One manufacturer of disk drive motors also happens to be the only company in the world that makes them. The company has factories in the Philippines and China to pick up the slack. "Still, it creates huge exposures for them," Gall said.
Whitenight estimates that the flooding has reduced the number of annual disk drivers made in Thailand by 20 million. Before the flooding, Thailand used to produce as many as 145 million disk drivers a year. The upshot has meant more pressure to raise prices for disk drives, as the thousands of idled factories reduce the supply of components used in computers and other products. "Thailand is far reaching and (claims) will continue well into this year," he said.
With Thailand, risk managers were caught off guard, and the claims coming from the disaster have "cast a pall on just-in-time inventory," he also said.
"You had smaller companies supplying critical components, or only one component used in multiple products," said Teixeira. "But because they were small, and because they didn't have the buffer stocks and the same resilience, and the same robust risk management approach, they were really hit hard, as were the end customers from a business interruption perspective."
Losses associated with Thailand floods are mounting and Bermuda reinsurers expect insured losses to go as high as $800 million. In January, XL Group PLC said fourth quarter losses from the flood could range from $135 million to $185 million. Partner Re Ltd. said it expects to book a fourth-quarter charge of $120 million before taxes and reinsurance. Everest Re Group has announced a charge in the $100 million to $135 million range.
Many other Bermuda reinsurers have each announced fourth-quarter losses in the $25 million to $76.5 million range, companies said.
Teixeira said the lessons from Japan and Thailand are that the analysis and understanding of the potential damage to suppliers in the secondary and tertiary layers of the supply chain wasn't sufficient, coupled with the lack of understanding of who really were the critical suppliers.
"The numbers were a lot bigger than anticipated or had been assessed," Teixeira said.
Following Japan, risk managers were beginning to drill down into their supply chains to identify "pinch points," when the flooding in Thailand hit, he also said.
Insurers are on the hook for $40 billion in insured losses from the Japan earthquake alone, according to Munich Re estimates. In connection with the flooding in Thailand, the worst in 50 years, estimated insured global losses are expected at more than $15 billion, Partner Re said.
For brokers no matter how good or how helpful, these are numbers even they can't do anything about.
CYRIL TUOHY is managing editor of Risk & InsuranceŽ. He can be reached at email@example.com.
February 21, 2012
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