Patricia M. Goudarzi
ACE Power Products, a specialized underwriting team within ACE USA, specializes in electric power risk management. ACE USA is part of the ACE Group of Companies (NYSE: ACE), which has consolidated assets of $40 billion and operates in nearly 50 countries. Ms. Goudarzi worked for DOE and LG&E before joining ACE USA. She holds an MBA in Managment Science from VPI.
W-G: Why and when did ACE USA enter the market with replacement power insurance?
PG: In the mid-90s we created replacement power insurance in response to the extreme market volatility in the Midwestern United States. We started with insuring one customer in 1998 and grew to over 70,000 megawatts concurrently by the summer of 2000. As volatility and price swells have spread to other regions of the country and world, our product has followed, offering protection to customers in the U.S., United Kingdom, Australia and Canada. Our coverage has been used by any size customer from 2 megawatt cogeneration facilities to 12,000 megawatt and up power systems.
In short, ACE PowerBackersm Replacement Power Insurance was designed to bridge physical exposures of Unplanned Outages and the financial exposures of volatile electricity spot markets. The product has been compared to a contingent call option, with loss measurement starting immediately. There is no waiting period as in a standard property insurance policy.
W-G: Summer demand is significantly higher than winter demand; can PowerBacker be purchased for peak months only?
PG: Yes. Many of our policies are written to cover only the peak months; however, a few have benefited from full-year coverage, in particular those looking to protect power sales or power purchase agreements. We also offer coverage in the U.K. and Australia, which complements our U.S. book of business as their peak occurs during our winter months.
W-G: Must there be physical damage to the unit for the PowerBacker policy to cover the loss?
PG: No. PowerBacker responds to Unplanned Outages as defined by the Institute of Electrical and Electronic Engineers (IEEE). All classes of outage, except maintenance outages, are covered by PowerBacker, even starting failures.
W-G: Can Unplanned Derates be covered under a PowerBacker?
PG: Yes. We will insure derates greater than normally expected.
W-G: Are there any restrictions on the generation assets insured?
PG: Our coverage varies depending on which products our customers purchase. There are not specific fleet restrictions for our short-term product, although we may refuse to insure a particular unit due to poor performance or maintenance. For our Long Term Outage product, ACE Power Products will consider coverage for most technologies with the exception of the very latest combustion turbine designs that are still considered prototypes, nuclear and hydroelectric facilities and some renewable technologies.
W-G: ACE launched a new product in 2002 for CFO's and risk managers. Our readers would like to hear what the products are and what markets do they serve?
PG: ACE USA successfully launched a new product for risk managers and CFOs who are responsible for earnings stabilization. PowerBackersm LTO is a new product that protects organizations from catastrophic, long-term power outage events.
Our original PowerBacker policy protects customers from short-term outage events, (generally the first 15 to 30 days of each outage) and caps the price for replacement power at a pre-determined price. PowerBacker Long Term Outage ("PowerBacker LTO") program complements this coverage by protecting customers after the first 30 to 60 days of an event, with a pre-determined payment per day.
With limits of up to $100 million, PowerBacker LTO protects generation owners against adverse financial consequences that result when one or more generating units are out of commercial operation for long periods.
This coverage has been particularly successful in deregulated states where the utilities no longer have the capability to pass these costs to their franchised customer base.
W-G Can you give us some examples of the more creative uses of the PowerBacker products?
Some companies feel their exposure to 'any' outage at their facility is not catastrophic since they have considerable excess supply. But an outage at an inexpensive generating plant such as a coal or nuclear station could cause them to rely on either the market or their more costly, gas- or oil-fired generation, and could result in significant increases in power expenses.
ACE implemented a PowerBacker solution that covered extensive unplanned outages at a customer's coal-fired generating stations, and capped the indemnification at their marginal cost of generation at their gas-fired facilities. This coverage allowed the customer to go to market when the price for electricity was below their cost to generate at their gas-fired stations and paid for the incremental cost of generation at their gas-fired station when the market price exceeded the operating and fuel costs at these units. The customer budgeted for the most likely events, over $5 million, and ACE paid for 90 percent of the additional cost for replacement power after the $5 million was exhausted. As outages occurred during the coverage term, the customer was relieved, as they knew the extent of the potential financial consequences was contained.
ACE USA added natural gas coverage into its existing PowerBacker offering by providing "Spark Spread" coverage.
W-G: Could you provide us with an example of how the "Spark Spread" works?
PG: For example, one ACE USA program provides a $20/megawatt hour spread between the cost to replace the electricity and the net revenue received from reselling the gas used. When the net loss between the two markets exceeds $20/megawatt hour, ACE USA is responsible for 90 percent of the incremental income loss. A pre-specified conversion rate based on the efficiency of the unit is used to determine the relative volumes.
This coverage is available for up to the first 30 days of any outage event, with policy limits available up to $100 million.
This policy can also be structured to complement our PowerBacker LTO product for coverage after 30 days.
W-G: What has been the impact of the Enron bankruptcy and financial distress in the power markets on your business? Is ACE pulling out of the market?
PG: The current state of the electric power industry has further surfaced the need for financially strong counterparties in this market. The risks are large and strong balance sheets are needed to provide risk management products and services. Our "A" rated capacity has been greatly valued in today's market conditions.
ACE is not pulling out of the market. Since we receive our payment up-front, the credit-worthiness of our counterparty is not an issue for us. It is our credit and balance sheet on the line. Our concern is the maintenance and performance of the unit when a counterparty is not financially stable and that is part of our standard assessment of the risk.
W-G. In November of last year, Congress enacted the Terrorism Risk Insurance Act of 2002 ("The Act"). How is ACE addressing this new legislation in your product offering?
PG: On November 26, 2002, Congress passed the Act, giving many the right to purchase insurance coverage for losses arising out of acts of terrorism, as defined in Section 102(1) of the Act: According to the Act, the term "act of terrorism" means any act that is certified by the Secretary of the Treasury, in concurrence with the Secretary of State, and the Attorney General of the United States-to be an act of terrorism; to be a violent act or an act that is dangerous to human life, property, or infrastructure; to have resulted in damage within the United States, or outside the United States in the case of an air carrier or vessel or the premises of a United States mission; and to have been committed by an individual or individuals acting on behalf of any foreign person or foreign interest, as part of an effort to coerce the civilian population of the United States or to influence the policy or affect the conduct of the United States Government by coercion.
ACE is offering its customers the right to include these terrorist acts as defined in the Act if they are responsible for an otherwise covered event as defined in the policy. To date the response to our offering has been favorable with insureds electing to purchase this additional coverage. ACE also has a stand alone Property Terrorism coverage, specializing in underwriting for the electric utility industry. This coverage protects against other potential events not covered under the Act, such as actions by an individual who is a U.S. citizen, as well as other differences in conditions that a client may have with other property policies.