Sending unpiloted vehicles into manned airspace may sound like a joyride to Amazon CEO Jeff Bezos, who’s speculated that when fully developed, commercial drones may be able to deliver an Amazon order to one’s door in 30 minutes.
But let’s face it: Some possible outcomes of the predicted exponential growth of Unmanned Aircraft Systems (UAS) are not all that pleasant to entertain.
Because it’s managed remotely by computer, a UAS could be hacked and its mission bent to destructive purposes. Or it could simply go awry due to operator error.
“What if a UAS shoots thousands of feet into the air and gets ingested into a commercial aircraft engine full of passengers?” asked Barton Duvall, assistant vice president with Starr Aviation’s West Coast office in Carpinteria, Calif.
Such a scenario “puts an entirely new outlook on the limit needs of UAS operators and the non-owned aviation liability limit needs of customers of UAS operators,” said John Geisen, an Aon aviation senior vice president in Minneapolis.
The loss involved is known as a foreign-object-damage loss or FOD, he said.
Video: Watch this Lakemaid Beer drone delivery.
“The airline’s hull underwriters would pay for the engine and other physical damage as well as any liability that ensues, but in this case you would also have a cause for subrogation to go after the UAS owning and operating parties as well as, I suppose, the customer of the UAS.”
Where adequate coverage limits for negligence actions are not secured, one can expect a search for “deep pockets,” said Geisen.
“Subrogation for FOD losses occurs today when a negligent party responsible for clean up or the owner of the object that is ingested can be clearly identified,” Geisen said.
“Today, it is often hard to identify who owned the foreign object that was left on the tarmac and damaged the engine at takeoff or landing or maybe you eat a bird that no one owns — the hull insurer pays the claim and has nowhere to turn to try and mitigate it — file closed.”
However, should another aircraft “eat or ingest a UAS,” it will be easier to determine who’s responsible, he said.
Starr Aviation’s Duvall said that the worst-case scenario could have the lives of hundreds of passengers at risk as well as damage to the aircraft — some valued at well over $100 million — besides potential grave bodily injury and serious property damage on the ground.
“The chain of liability could span from the operator of the UAS, to the prime manufacturer and subcomponent manufacturers to, depending how these systems end up integrated, the entities responsible for control and safety of the National Airspace System (NAS).
“The actuality of a catastrophic event such as this may be improbable, but it’s not entirely out of the scope of possibility,” said Duvall.
Besides the obvious navigational challenge of sending unpiloted commercial vehicles into the stratosphere, hijacking enabled by cyber terrorism is another real threat.
The Cyber Terror Threat
In 2012, University of Texas professor Todd Humphreys and a group of students intercepted a GPS-guided UAS, using a GPS device created by Humphreys and his students.
Video: Humphreys explains how he hacked the drone.
If that can occur, then what is to prevent a terrorist hacker from directing a drone to pick up a bomb and fly it into a university football game or some similar target, asked Geisen.
In such a situation, “plaintiffs are going to look for the deep pockets,” said Roberta Anderson, a partner in the Pittsburgh office of law firm K&L Gates.
Anderson, who represents policyholders in commercial insurance coverage disputes, said those tapped for indemnification in the terrorist plot described here would likely include “companies that manufactured or designed the software applications, or owned or controlled the networks that allowed a hacker to penetrate the [drone’s] system and gain control.”
“Managers and owners of the stadium would also be targeted for potential negligence and insufficient security, and you’d see cross claims and counterclaims as well, with the stadium pointing the finger at their own security vendors.
“There could be tens of thousands of wrongful death claims” as well as “loss of reputation, property damage and business interruption for the stadium, which will represent a deep-pocket certain to have liability insurance,” Anderson said.
And yet, there are clearly mitigating factors to help prevent things from going terribly wrong.
A lot of these aircraft are building in “triple redundancies,” with “some even having automatic return-to-base features if there are any control interruptions,” Aon’s Geisen said.
Still, there is little doubt, he said, that commercial drones currently represent “a big area of emerging risk and growth.”
The U.S. military’s use of drones “went from like 50,000 flight hours in 2006 to some 550,000 by the end of 2011,” said Geisen.
“So in just five years you had an 11-fold increase,” he said, suggesting that the growth trajectory on the commercial side could be similar. One reason for growth in drone use: Cost per flight hour “is suggested to be 75 percent less with a UAS than a manned aircraft,” he said.
The U.S. military’s use of drones “went from like 50,000 flight hours in 2006 to some 550,000 by the end of 2011.”
– John Geisen, senior vice president, Aon
One forecast of global UAS demand by the Teal Group showed worldwide annual spending on research, development, testing, and evaluation, and procurement in this area rising from $6.6 billion in 2013, to $11.4 billion in 2022.
And in March, Dallas-based global market research and consulting firm MarketsandMarkets reported that the small UAS market alone is set to reach $582.2 million by the end of 2019.
Accelerating insurers’ and brokers’ efforts to assess and effectively bind risks in this space, meanwhile, was a National Transportation Safety Board administrative law judge’s March 6 ruling overturning the FAA’s first-ever fine against a drone operator.
NTSB Judge Patrick Geraghty ruled that when Raphael Pirker flew an unmanned Styrofoam drone over the University of Virginia in 2011, “there was no enforceable FAA rule or FAR [federal aviation regulations] applicable to model aircraft or for classifying model aircraft as an UAS.”
Pirker reportedly sold photos and video collected during the flight to the university to help it create a promotional video.
Reports about the ruling immediately went viral, leading the science and technology site Motherboard to boldly state that commercial drones had become “unequivocally legal” in American skies — at least temporarily.
Motherboard noted that UAS operations previously sanctioned by the FAA included beer deliveries, aerial photography, tornado watching, and equipment inspections.
The FAA appealed the ruling, saying “the agency is concerned that this decision could impact the safe operation of the national airspace system and the safety of people and property on the ground.”
Industry experts are trying to be patient.
A Feb. 26 post on the FAA’s website, titled Busting Myths about the FAA and Unmanned Aircraft, clearly stated: “Anyone who wants to fly an aircraft — manned or unmanned — in U.S. airspace needs some level of FAA approval.”
Commercial UAS flights are only authorized on a case-by-case basis, the agency emphasized, adding that “to date, only two UAS models (the Scan Eagle and Aerovironment’s Puma) have been certified, and they can only fly in the Arctic.”
According to Duvall, the September 2015 UAS integration deadline “may be quite difficult to meet,” considering that the preliminary notice of proposed rulemaking and public solicitation on the issue has been pushed back to November 2014.
Elsewhere, “this industry is growing by leaps and bounds,” with Japan, Greece, Canada and parts of Africa now using the technology for everything from farming to mapping to anti-animal poaching efforts, Duvall said.
On the other hand, Geisen said, the FAA is likely to propose some rules for commercially operating drones under 55 pounds before the end of this year.
Insurance carriers said they will not be asleep at the switch.
“Once the FAA have completed their work on integrating unmanned aircraft into U.S. airspace, I would assume that we will very quickly see their commercial use proliferate, particularly in relation to agricultural and utility operations,” said Chris Proudlove of aviation underwriter Global Aerospace Inc.
Complete coverage on the inevitable cyber threat:
Risk managers are waking up to the reality that the cyber risk landscape has changed.
Cyber: The New CAT. It’s not a matter of if, but when. Cyber risk is a foundation-level exposure that must be viewed with the same gravity as a company’s property, liability or workers’ comp risks.
Critical Condition. The proliferation of medical devices creates a host of scary risks for the beleaguered health care industry.
Disabled Autos. It’s alarmingly easy for a hacker to take control of a driverless vehicle, tampering with braking systems or scrambling the GPS.
An Electrifying Threat. There is a very real possibility hackers could devastate the nation’s power grids — for a potentially extended period of time.
Latin America Not Too Risky for U.S. Business
The risks of doing business in Latin America are worth taking, according to a presentation at the RIMS annual conference in Denver.
Rob Osha, global director of risk management for mineral exploration company Boart Longyear, and Carlos Caicedo, senior principal analyst at IHS Country Risk, acknowledged social unrest and drug-related violence as two of the top dangers throughout the region, but expressed confidence in the growth of opportunities for U.S. business.
Caicedo highlighted Mexico as one emerging region. There, drug cartels pose the greatest risk, but their power may be decreasing. “Over the past five months, top leaders of the cartels have been arrested or killed,” he said.
However, a reduction of violence directed by drug lords could be replaced by extortion.
“We are seeing more risk in Mexico on the extortion side,” Osha said. “Cartels are looking to diversify their revenue streams.”
Caicedo conceded that extortion has increased against domestic Mexican businesses. He also said that cartel retaliation could lead to greater frequency of arson against commercial establishments. Despite these threats, though, he said security in Mexico has stabilized and the economy shows promise, thanks to a growing middle class and lower poverty rates.
“The economy is expected to grow at the end of 2014 and pick up even more in 2015,” he said.
Brazil, on the other hand, received a less favorable review. The region, in the view of IHS, is “a costly country to do business in.” The economy there has been poor since 2011, with inflation on the rise and a widening fiscal deficit. Social unrest, including World Cup protests, has been increasing this year.
In addition, state interventionism has undermined investor confidence, with domestic businesses stalling due to government influence in pricing.
Caicedo also addressed the terrorism threat in Colombia, where FARC continues to pose a danger, particularly to the country’s oil and energy infrastructure. However, the revolutionary faction and the government appear to be “very close to reaching a peace agreement,” Caicedo said.
FARC’s manpower has dropped from 20,000 at its peak to 8,000, and has been pushed into isolated areas of the country. The progression of peace talks will be critical in securing Colombia’s status as an emerging market and attractive place to do business, he said.
Even terrorist activity, however, didn’t scare off Boart Longyear from opening an office in Medellin, Colombia, where it had no prior experience.
“My first impression was, ‘Are you kidding me?’ I wasn’t sure we could do business there,” Osha said. The company established a “High Risk Country Committee” to examine the political, physical and travel risks in the region.
They identified general crime, bribery, extortion, and dangerous travel as the top risks facing the launch of a new facility.
“We gave [the project] the green light,” Osha said, as long as certain precautions were taken.
As part of the process, Boart Longyear hired a third-party firm to conduct a security review of the proposed location. “Don’t rely on your corporate real estate guy to tell you your location is safe,” Osha said.
After the review found the facility to be seriously under-guarded, the company added security cameras, remote locks, key cards, and after-hours guards.
They tackled travel risk next, by examining every route their workers could potentially take between sites and color-coded them by level of danger, establishing some “no-go” areas that were entirely off-limits.
Osha pointed to security assessments by IHS Country Risk and iJET, a travel risk provider, as vital resources for determining the safety of a travel route.
The company also hired a contractor to drive over every travel route and pinpoint areas with poor infrastructure or hazardous conditions like steep grades. Boart Longyear also established travel policies for its crew, instructing them to travel only by daylight and always with a partner.
Finally, they implemented a strict Foreign Corrupt Practices Act training and compliance program to address bribery attempts. Thanks to these efforts, the Medellin office was opened two years ago and has had no safety issues to date, Osha said. Follow-up assessments and ongoing monitoring have contributed to that success.
“We have to monitor the environment to make sure it is still stable,” he said. “Things can change in an instant with an election, a riot … things can get out of control.”
Should that happen, Boart Longyear put together a crisis plan that identifies the nearest resources like hospitals and police stations, and includes an emergency hotline.
While Latin America still presents big safety challenges to U.S. companies looking to capitalize on its emerging markets, those intrepid companies willing to take on the expense and effort of extensive risk planning and mitigation can expand to the area in a secure way.
Passion for the Prize
In his 1990 book, The Prize: The Epic Quest for Oil, Money and Power, Pulitzer Prize winning author Daniel Yergin documented the passion that drove oil exploration from the first oil well sunk in Titusville, Penn. by Col. Edwin Drake in 1859, to the multinational crusades that enriched Saudi Arabia 100 years later.
Even with the recent decline in crude oil prices, the quest for oil and its sister substance, natural gas, is as fevered now as it was in 1859.
While lower product prices are causing some upstream oil and gas companies to cut back on exploration and production, they create opportunities for others. In fact, for many midstream oil and gas companies, lower prices create an opportunity to buy low, store product, and then sell high when the crude and gas markets rebound.
The current record supply of domestic crude oil and gas largely results from horizontal drilling and hydraulic fracturing methods, which make it practical to extract product in formerly played-out or untapped formations, from the Panhandle to the Bakken.
But these technologies — and the current market they helped create — require underwriters that are as passionate, committed and knowledgeable about energy risk as the oil and gas explorers they insure.
Liability fears and incessant press coverage — from the Denton fracking ban to the Heckmann verdict — may cause some underwriters to regard fracking and horizontal drilling with a suppressed appetite. Other carriers, keen to generate premium revenue despite their limited industry knowledge, may try to buy their way into this high-stakes game with soft pricing.
For Matt Waters, the chief underwriting officer of Liberty Mutual Commercial Insurance Specialty – Energy, this is the time to employ a deep underwriting expertise to embrace the current energy market and extraction methods responsibly and profitably.
“In the oil and gas business right now, you have to have risk solutions for the new market, fracking and horizontal drilling, and it can’t be avoidance,” Waters said.
Matt Waters, chief underwriting officer of Liberty Mutual Commercial Insurance Specialty – Energy, reviews some risk management best practices for fracking and horizontal drilling.
Waters’ group underwrites upstream energy risks — those involved in all phases of onshore exploration and production of crude oil and natural gas from wells sunk into the earth — and midstream energy risks, those that involve the distribution or transportation of oil and gas to processing plants, refineries and consumers.
Risk in Motion
Seven to eight years ago, the technologies to horizontally drill and use fluids to fracture shale formations were barely in play. Now they are well established and have changed the domestic energy market, and consequently risk management for energy companies.
One of those changes is in the area of commercial auto and related coverages.
Fracking and horizontal drilling have dramatically altered oil and gas production, significantly increasing the number of vehicle trips to production and exploration sites. The new technologies require vehicles move water for drilling fluids and fracking, remove these fluids once they are used, bring hundreds of tons of chemicals and proppants, and transport all the specialty equipment required for these extraction methods.
The increase in vehicle use comes at a time when professional drivers, especially those with energy skills, are in short supply. The unfortunate result is more accidents.
“In the oil and gas business right now, you have to have risk solutions for the new market, fracking and horizontal drilling, and it can’t be avoidance.”
— Matt Waters, chief underwriting officer, Liberty Mutual Commercial Insurance Specialty – Energy
For example, in Pennsylvania, home to the gas-rich Marcellus Shale formation, overall traffic fatalities across the state are down 19 percent, according to a recent analysis by the Associated Press. But in those Pennsylvania counties where natural gas and oil is being sought, the frequency of traffic fatalities is up 4 percent.
Increasing traffic volume and accidents is also driving frequency trends in workers compensation and general liability.
In the assessment and transfer of upstream and midstream energy risks, however, there simply isn’t enough claims history in the Marcellus formation in Pennsylvania or the Bakken formation in North Dakota for underwriters to rely on data to price environmental, general and third-party liability risks.
That’s where Liberty Mutual’s commitment, experience and ability to innovate come in. Liberty Mutual was the first carrier to put together a hydraulic fracking risk assessment that gives companies using this extraction method a blueprint to help protect against litigation down the road.
Liberty Mutual insures both lease operators and the contractors essential to extracting hydrocarbons. As in many underwriting areas, the name of the game is clarity around what the risk is, and who owns it.
When considering fracking contractors, Waters and his team work to make sure that any “down hole” risks, be that potential seismic activity, or the migration of methane into water tables, is born by the lease holder.
For the lease holders, Waters and his team of specialty underwriters recommend their clients hold both “sudden and accidental” pollution coverage — to protect against quick and clear accidental spills — and a stand-alone pollution policy, which covers more gradual exposure that unfolds over a much longer period of time, such as methane leaking into drinking water supplies.
Those are two different distinct coverages, both of which a lease holder needs.
Matt Waters discusses the need for stand-alone environmental coverage.
The Energy Cycle
Domestic oil and gas production has expanded so drastically in the past five years that the United States could now become a significant energy exporter. Billions of dollars are being invested to build pipelines, liquid natural gas processing plants and export terminals along our coasts.
While managing risk for energy companies requires deep expertise, developing insurance programs for pipeline and other energy-related construction projects demands even more experience. Such programs must manage and mitigate both construction and operation risks.
Matt Waters discusses future growth for midstream oil and gas companies.
In the short-term, domestic gas and oil production is being curtailed some as fuel prices have recently plummeted due to oversupply. In the long-term, those domestic prices are likely to go back up again, particularly if legislation allows the fuel harvested in the United States to be exported to energy deficient Europe.
Waters and his underwriting team are in this energy game for the long haul — with some customers being with the operation for more than 25 years — and have industry-leading tools to play in it.
Beyond Liberty Mutual’s hydraulic fracturing risk assessment sheet, Waters’ area created a commercial driver scorecard to help its midstream and upstream clients select and manage drivers, which are in such great demand in the industry. The safety and skill of those drivers play a big part in preventing commercial auto claims, Waters said.
Liberty Mutual’s commitment to the energy market is also seen in Waters sending every member of his underwriting team to the petroleum engineering program at the University of Texas and hiring underwriters that are passionate about this industry.
Matt Waters explains how his area can add value to oil and gas companies and their insurance brokers and agents.
For Waters, politics and the trends of the moment have little place in his long-term thinking.
“We’re committed to this business and to deeply understanding how to best manage its risks, and we have been for a long time,” Waters said.
And that holds true for the latest extraction technologies.
“We’ve had success writing fracking contractors and horizontal drillers, helping them better manage the total cost of risk,” Waters said.
To learn more about how Liberty Mutual Insurance can meet your upstream and midstream energy coverage needs, contact your broker, or Matt Waters at firstname.lastname@example.org.
This article was produced by the R&I Brand Studio, a unit of the advertising department of Risk & Insurance, in collaboration with Liberty Mutual Insurance. The editorial staff of Risk & Insurance had no role in its preparation.