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Due Diligence for ES Projects in the Perspective of the Insurer

The basic business model of insurance is to collect fees from the many to pay for accidents of the few.  Insurance for energy storage systems may cover any number of hazards, such as loss of performance or reliability, natural disasters, accidents, or third party damages.

Insurance is, therefore, a game of probabilities. Profitable insurance businesses are able to sell fees to customers in excess of their liability payouts to accidents. Meanwhile the aggregated sum of insurance fees can be used to earn additional revenues through investment vehicles.  At its heart, any asset worthy of an insurance policy is interesting to an insurer, provided they can adequately estimate the risk of insuring that asset and collect fees in excess of the risk.

Risk is the calculus of negligence. The Hand Formula, as defined by Judge Learned Hand, is that the product of the probability of loss (P) and the consequence of the loss is equal to the total risk (R), or

Risk = Probability * Consequence

This equation sums it up nicely: the risk an insurance company takes is proportional to the probability of an event occurring and its consequences.  Given that the energy storage industry is relatively young but growing fast, the database to estimate probability of an event is somewhat sparse. Similarly, the consequences may still be unforeseen.

Financing for an energy storage project will have an insurance policy (or policies) associated with it, not unlike the requirement to provide proof of insurance on a home or vehicle in order to secure a mortgage or car loan.  There are a number of risks that could affect an energy storage project, such as:

  • Credit worthiness: solvency of the technology companies, the project developer, and other partners
  • Regulatory risk or policy changes, such as expiration of tax credits
  • Resource risk: changes in the demand for service
  • Construction risk: such as delays or permitting
  • Operations risk: such as premature capacity loss, performance or reliability issues, malfunction in control or operation, misuse or abuse, safety events such as fire, acts of God such as hurricane, tornado, or flood, vandalism, or unforeseen accidents involving 3rd parties

DNV GL’s work in energy extends into conventional energy, such as onshore pipelines. To get an idea of how susceptible the US energy infrastructure is to damage, consider that statistics from the Pipeline Hazardous Materials Safety Administration (PHMSA) consistently show that external events, such as accidents, mishandling, or improper use or procedures are responsible for over 50% of incidents. In this 2015 database, 22% of incidents are recorded without a reported cause. DNV GL is often called to the scene after an event to collect evidence and perform the forensics investigation to find out what happened. Sometimes those investigations uncover events that happened years ago that created environmental conditions that corroded or abraded the pipe until it lost integrity. Failure analysis – or the physical factors that led to the failure – is a service DNV GL provides for energy storage as well. Root cause analysis – or the events involving people and processes that contributed to a failure – is often part of a failure investigation.

Fires and floods account for less than 1% of pipeline incidents despite the fact that pipelines are usually transporting hazardous goods[1] with energy density ~10x that of Li-ion batteries.  Therefore, it is likely that greater than 50% of incidents occur due to mechanisms or accidents that are outside the control of the system, and the system should be designed with the goal of “inherent safety” with passive barriers to prevent high consequences from hazards. If energy storage systems are susceptible to similar incident statistics, the greatest threats to such assets are going to be unintentional accidents, improper use or abuse, or mishandled operating procedures.

The due diligence process during energy storage project development should address many of these risk concerns. A common area of focus is the warranty. The warranty will have language concerning misuse or abuse, acts of god, and mishandling. It will have specific coverage for some events and will protect the warranty provider from events outside its control. It may even dictate the temperature limits of the system, depth of discharge constraints, and cycling activity.  Some warranties will have very specific language concerning unique features of the system, such as remote access or operation, installation restrictions, or long duration discharges.  Another consideration is the solvency of the company or the ability of the provider to support a warranty claim. If the company is young but it has Fortune 500 companies as its partners, its chances of supporting a warranty are better than a young company with relatively few or unknown partners.  Because the warranty is the first protection against liability for the bank and insurer, it is usually the most detailed discussion point in a due diligence project.

Safety is another consideration for the bank and the insurer. Liability due to a safety incident can grow quickly to sums that would put small companies out of business.  Claims concerning safety are usually carefully bound to restrictions in use. Safety is another area of focused discussion, particularly for energy storage systems installed behind-the-meter.

Performance and reliability are other areas of concern. Many battery systems today have a warranty period near 10 years. Longer warranty periods may draw scrutiny during the due diligence process. The risk is that the asset becomes unable to perform its intended services while it is still in operation, and the revenues upon which the project was financed become at risk. Insurance policies may generally address this risk as part of normal project risk. When additional parties (such as software control platforms) are involved in the control and operation of the asset, they too fall under the scrutiny of the due diligence process in order to understand their effect on performance guarantees or warranties.

In summary, DNV GL is there at the front of a project providing due diligence and technology reviews to understand the system risks for insurers and lenders, but DNV GL is also there after the failure event to help uncover what happened and why. If you’d like to know more, please contact me at Davion.M.Hill@dnvgl.com.


 

  1. [1] US Department of Transportation Pipeline and Hazardous Materials Safety Administration, Incident Statistics, Hazmat Intelligency Portal, Incident Cause by Mode. 2015 http://phmsa.dot.gov
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