Can we turn green to gold? How the insurance industry can best support the energy market transition in Australia: Part 3
Market Insight 06 October 2022 06 October 2022
In the second article in our series ‘Can we turn green to gold’, we investigated the biggest challenges facing renewable energy projects and explored what Insurers can do in response. In this third and final article, we look at the insurance issues that are Australia-specific and discuss the impact to insurers.
Australian Electricity Grid
The insufficient number of available transmission lines, grid bottlenecks and continuing uncertainty over national and State policy have all contributed to the Australian renewable energy industry’s financial volatility. As a common theme and as discussed in our previous article, COVID-19 also continues to impact renewable projects and exacerbate the pre-existing infrastructure issues. Some projects are experiencing delays of almost 12 months in connecting to the grid.
Senior leaders across the clean energy industry cite grid connection and congestion as the most critical challenge for renewable energy project proponents in Australia. In early 2021, the Australian Energy Market Operator (AEMO) and the Clean Energy Council (CEC) established the Connections Reform Initiative (CRI) to address concerns with delays and increasing complexity in connections to the National Electricity Market (NEM). The CRI released its Connections Reform Roadmap in December 2021, providing recommendations to help quicken the speed of the connection process, decrease costs related to connection and improve capacity and system strength. These recommendations are currently being implemented, with continued reform work to continue throughout 2022.
By way of background into the issue, Australia’s grid is physically very long and thin, which creates capacity difficulties when attempting to integrate new solar or wind farms. The National Electricity Market (NEM) was created when coal generated approximately 75 per cent of Australia’s electricity, with the majority of electricity generated from coal plants in the Latrobe or Hunter Valleys. Existing transmission lines were not designed to store and transport mass electricity from large-scale renewable farms.
Transmission lines are also generally located in areas traditionally associated with fossil-fuel electricity generation sites and are therefore a long way from renewable sites; most areas that possess ideal weather conditions are located in more isolated and inland areas, such that much of the generated renewable energy is lost and unable to reach urban centres. Developers then face insurance placement complications where they are unable to accurately predict revenue generation (which is dependent upon minimising transmission losses). AUD 1 billion has been estimated to have been removed from the value of solar and wind assets in Australia over the past few years due to these efficiency issues associated with the national grid.
The new Labor government has committed to upgrading the grid to enable it to handle increased renewable electricity but any investment in transmission must be approved by the Regulatory Investment Test which is often a long and complex process (e.g. the Project EnergyConnect transmission line to connect South Australia and NSW took more than a decade to approve).
Labor has also committed to an AUD $20 billion ‘Rewiring the Nation’ plan designed to integrate and modernise many of the transmission lines that will link new wind and solar projects with demand hubs. In a recent review of its network, AEMO found that, in order to meet its net-zero emissions goal by 2050, it will need to double the electricity it delivers which includes a nine-fold increase in large-scale renewable energy and five-fold increase in rooftop solar. Further, 10,000 km of new transmission infrastructure will be required to connect and secure reliable power.
There are distinct insurance risks to consider in Australia given its unique environment, topography, and varying climatic regions. Severe flooding and bushfires have become more frequent in Australia in recent years with weather-related risks high on the list of priorities for insurers to address. Certain areas have become ‘uninsurable’ due to rising premiums associated with extreme weather events, particularly for property located on flood plains after the February 2022 east-coast floods.
However, it is not just the extreme weather events like floods which are of concern. More localised phenomena such as torrential rain, hail and bushfires are also problematic.
Australia’s large land size provides the real estate for the construction of renewables projects on a large-scale. The size of the projects may bring significant risk, particularly where untested new technology is developed and integrated to facilitate the construction and operation of such large-scale renewable plants.
In addition, as Australia faces contractor and labour shortages, resource allocation compromises quality of output, leading to more frequent mistakes, failures and ultimately claims. It is unsurprising that one of the most prominent causes of loss on the renewables projects is contractor error.
One risk advantage associated with larger projects is that if damage or interruption occurs to a specific area of a plant, such as an individual solar panel or wind turbine, there is a level of redundancy available and built into the design considerations. However, to contain loss in this way, it is imperative that insurers understand local grid connection capacities and the project’s co-location with generation assets.
What can Insurers do?
There are various mitigating measures that Insurers may wish to consider when assessing their exposures to Australian renewables risks.
In respect of workmanship and contractor error exposures:
- Consider introducing language in the Policy which renders the underlying project contract primary.
- Amend subrogation clauses to allow for broader subrogation options as against project parties. Of course, this will not always be possible where project parties are listed as insured entities.
- Impress upon the insureds the need to push back against their own contract parties (i.e. the Operations and Maintenance provider) in respect of defect and workmanship issues, and underwrite terms based on risk ratings of individual contractors.
- Consider amending Series Loss Clauses to make this referable to clearly defined ‘loss items’, with clarity around the number of deductibles applied to those losses and the adjustment chronology, i.e. is the ‘first’ item the first occurrence of damage, or the first discovery of damage?
- Consider the appropriateness of defects wording in respect of new technologies – i.e., whether there is a distinction to be made in respect of turbines that are type-certified vs. those that are not yet approved.
In respect of NatCat exposures in Australia:
- Carry out a careful and complete risk assessment when providing flood, rain, hail, or storm cover to determine whether the sites are in sensitive hydrological settings.
- Bushfire-prone areas may benefit from coverage which clarifies any obligations on the insured to appropriately manage site vegetation and install suitable perimeter fences. Where these contractual requirements are not complied with, some insurers are removing cover and/or imposing higher deductibles in the event of a loss.
- Consider whether sub-limits are appropriate for certain NatCat or extreme weather risks.
- Ensure the project location is understood in terms of distance from and quality of transportation infrastructure. For example, projects in the state of Tasmania may incur lengthier lead times than those on mainland Australia.
The scale of decarbonisation of the energy market in Australia is colossal and insurance is a key part of the project finance solution. A construction boom is taking place in renewables projects and the new government appears committed to making Australia a renewables superpower.
Ensuring a successful transition to renewables requires an immense level of collaboration and understanding from the people on the ground; the weather risks need to be clearly mapped and the mitigation duties on the insured must be clearly set out in the Policy. New technologies should be dealt with using appropriate defects wording and the insured values on the projects may need to be more regularly reviewed. If the exposures are properly understood and managed by project parties then there is huge opportunity in Australia and insurers are well-placed to support the energy market transition.
We hope that our series ‘Can we turn green to gold?’ has been informative.
With over sixty offices worldwide, Clyde & Co’s global network is represented in all key markets for renewables and is therefore well-placed to assist insurers in relation to renewables losses wherever they arise. Please contact the authors below if you require any assistance in this space.