11/22/2011

Adjusting Wind Turbine Losses

The field is developing fast, which makes valuing losses and finding replacement parts difficult in some situations.

By Patrick Jeremy, CPCU, AIC, RPA

Renewable energy is in the news, from the federal government to town halls. As more emphasis has been put on renewable energy resources, none has taken on more development and growth than wind.

There are more than 25,000 wind turbines installed in the U.S. They are capable of producing in excess of 42,500 megawatts of electrical power, and they produce 2.3% of the country's electrical consumption. This does not include the 4,000-plus wind turbines under construction that will provide another 7,300 MW of electrical energy. And that's only the beginning. The U.S. is estimated to have the wind resource potential to produce 10.4 million MW on shore and another 4.15 million MW off shore. The goal of the industry and government is to supply 20% of the nation's electrical power through wind by 2030, and they are ahead of schedule.

We now find wind farms throughout most of the country (38 states have utility -scale wind farms). A surprising fact is that wind energy is showing up in some unusual places. In addition to the large wind farms owned and operated by utilities and independent power producers, cities, schools and even manufacturing facilities are all installing wind turbine generators (WTGs). The use of this type of renewable energy is being looked upon as a cost-effective addition or alternative to traditional forms of power.

The Basics
A wind turbine consists of a tower, rotor and nacelle. The tower supports the rotor and nacelle. The rotor, which encompasses the blades and hub, catches the wind and coverts the wind's energy to mechanical energy. Within the nacelle, you will find the major components used to convert the mechanical energy to electrical energy.

The wind energy industry got its start with the use of various types of wind generators that were capable of developing between 50 to 250 kilowatts (kW) at peak output. The technology continued to develop to the present day, when we see offshore WTGs in the five-megawatt range, with larger ones under development. For statistical comparison, one home (as a very rough average of electrical usage) is equivalent to approximately 3.5 kW.

The insurance industry is still working to develop insurance products that will address the unique risks associated with renewable power, including wind farms. ISO and AAIS are in the early stages of developing standard forms for both property and liability coverage. Several insurance companies and managing general agencies have developed their own specific forms for the different types of alternative energy risks, including wind. These specialized forms address some of the unique risks and coverage issues, but not all.

Availability of Parts
When investigating and adjusting a property loss on wind turbines, there are several facts that must be considered. If a damaged WTG falls into either the Generation 1 or Generation 2 category (see sidebar, page 2), new replacement parts are usually not available. There may be parts available on the secondary market, typically from WTGs that have been decommissioned. Finding these secondary markets is not easy, and the quality of the parts can be compared to parts found at an auto salvage yard, usable but used.

One might assume that locating parts for a Generation 3 WTG would be an easier task, but this isn't necessarily the case. What were new units in 2004, just seven years ago, may not be available in 2011. This generation of WTGs is in constant development and revision due to the competition between manufacturers. The manufacturers are constantly trying to increase turbine efficiency and reduce downtime and maintenance costs. This can result in changes to components that make them incompatible with already installed WTGs.

Acquiring a replacement part for a WTG is only one part of the equation. Getting the part delivered to the site is another issue. Estimated delivery time can be extended if the size or weight of the replacement part requires special permits to be obtained. Availability and transportation of a crane to the site, which may be needed to facilitate the repair, could also be another concern. During the winter months, some rural roads may be load-restricted (possibly for months), thus further delaying the repair.

Another vital component that needs to be considered is the wind. Depending on the piece of equipment being lifted by a crane, the actual lift can be delayed (possibly for days) due to wind speeds in excess of safe crane operating conditions. Remember, they put WTGs in windy places, and as long as the crane is on site, the cost is likely to increase.
Generation 1: These are units that produce 50 kW to 500 kW and were installed in the late 1970s up through the late 1980s. Most of these WTGs are very simple machines with fixed blades. They sit on top of a tower (usually between 50 and 100 feet high). These WTGs are no longer being produced or supported by the manufacturer, and most have reached the end of their design life.

Generation 2: These units produce 250 kW to 750 kW and are more advanced. Most have variable pitch blades and computerized controls and were located on taller towers. These WTGs were installed from the late 1980s through the late 1990s. These WTGs are no longer in commercial production, and few are supported by their manufacturer. The majority of these units are coming up to the end of their design life.

Generation 3: These are the large (greater than one megawatt) wind turbines that we see today. They are very sophisticated and highly engineered. The land-based units range in output from one to three megawatts and sit on towers that can exceed 300 feet. The rotor diameter can reach over 90 meters, which is equivalent to the length of a football field. The Generation 3 WTGs have been installed since the early 2000s and continue to be installed today. The uniqueness of this group of wind turbines is that they are engineered and manufactured by companies that have the resources to continue needed research and development. There have been numerous revisions to the Generation 3 units.

If a complete replacement WTG is required, other factors will come into play. Since Generation 1 and Generation 2 WTGs are no longer in commercial production, there are no replacement units available. There are some manufacturers producing small wind turbine generators that may be an alternative for Generation 1 units. These are usually under 250 kW. In the case of Generation 2 WTGs, there are a couple of manufacturers producing WTGs in the 600-800 kW range. These units will usually require a new tower and foundation. Installing a larger WTG for a Generation 2 replacement may not be feasible due to sighting requirements, permitting, or power purchase agreement restrictions.

If a new Generation 3 WTG is required, the particular model may not be in production. If the manufacturer is willing to build a replacement for the model that was damaged, it will usually be more expensive and take longer to receive. As an alternative, it may be more advisable to look into the compatibility of the current model in production and what modifications would be required to make the new WTG compatible with the wind farm systems.

Valuing a Payout
What do you do if the insured elects not to replace the WTG? This will usually happen when the damaged WTG belongs in the Generation 1 or Generation 2 category. Most policies state that the valuation will be actual cash value and should be based on replacement cost, less depreciation. But in this case, there is no replacement WTG on which to base the replacement cost.
In some of these cases, underwriters have used the valuation of $1,000/kW to value the replacement cost of small WTGs and have assigned a life expectancy of 15 to 20 years. Most of them put a cap of 50% to 70% on depreciation. This method appears in the policy as an endorsement to the Valuation Condition.

Another method used, on a limited basis, is an "agreed value," under which the policy covers repair costs up to the agreed value for a particular make and model of WTG. If the WTG is a total loss, then the agreed value is used as the replacement value with no depreciation taken.

A rule of thumb that can be applied to Generation 2 WTGs (500-900 kW) is the new construction average cost per MW. This amount is currently in the $2 million per MW range. Prorate the replacement costs based on the rated output of the damaged unit. WTGs of this size have a projected life expectancy of 20 to 30 years and are now just reaching their end of life.

There is no hard and fast rule, though. The best approach is to discuss this issue with the insured upfront, before the loss, and get the underwriter to put it into the policy.

In looking at the time element (business interruption) portion of the loss, pay particular attention to the Power Purchase Agreement (PPA). The PPA will tell you how much the owner of the wind turbine will be paid by the utility that is purchasing the electrical power. If the WTGs were installed after 2000, you will also need to look into production tax credits. Even though most insurance policies do not address income tax or loss of income tax credits, the insured will usually consider this a source of income and include it in the annual values for business interruption. Production tax credits run for 10 years from the date the unit is placed in commercial production and are based on the actual amount of energy (kilowatts) produced. An insurance payment on a business interruption claim is considered income to the insured and must be recorded as such on their books. If the insurance company pays a loss of production tax credits, it is also considered an income for accounting purposes. To make the insured whole, the production tax credit must be grossed up to cover the taxes the insured will be paying on the recorded income. The current production tax credit is $22 per megawatt hour. When grossed up for a corporate tax rate of 35%, for example, the reimbursement becomes $33.85 per MWh ($22.00 /1-.35).

There are very few avoided or non-continuing costs associated with utility scale wind farms. The largest is usually the production royalties paid to the landowner, though not all leases have these production royalties. If you are looking to retain consultants, either for engineering or accounting, be sure they have worked with wind energy and understand the nuances of this industry.

Looking Forward
The wind power industry in the U.S. currently centers on onshore production, but a move to offshore facilities will occur in the near future since 30% of the country's wind resource potential exists there. Adjusters and underwriters alike will have to deal with the emerging issues particularly associated with offshore wind risks. Some of those issues include the law under which the facilities will fall (admiralty or common) and the conditions under which repairs would need to be made (not only wind but sea conditions as well). For starters, insurers can look to Europe, which already has developed their offshore wind industry, to get a picture of what may lie ahead.
Patrick Jeremy, CPCU, AIC, RPA, is president and executive general adjuster at PowerGen Claims, LLC. (925) 776-2381; www.PowerGenClaims.com


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