Contamination cover

According to the CBI, in the early 1990s contamination liabilities in the UK stood at £20bn. Changes in legislation, accounting and general business practices, as well as stricter enforcement, have meant that these liabilities are now more easily identified; polluters or landowners held responsible. Richard Davies, AIG Europe, on not crying over clean-up.


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A number of legislative changes affecting environmental issues have been introduced

throughout the 1990s, with the latest being the contaminated Land Regime, effective

April 2000. These changes have pushed the issue of environmental liabilities

to the forefront of companies’ balance sheets and made them far more accountable

for any contamination they cause or, more importantly, have inherited.

Fines up

Formed in 1995, the Environment Agency has steadily improved its enforcement.

The average fine for a prosecuted business in 2000 was £8,532 (£6,800

in 1999). Total fines for companies in 2000 amounted to £2,585,308 (£1,628,352

in 1999). Fines, however, are just the tip of the iceberg. With the growing

tendency to make the polluter pay, it is clean-up costs that go far beyond any

fines given out.

Environmental liabilities can no longer be hidden or omitted from a company’s

balance sheet. Introduction of an accounting standard, FRS12 provisions, contingent

liabilities and contingent assets, has meant that certain liabilities for managing

contaminated land risks need to be fully recognised in financial accounts. FRS

12 introduces strict recognition criteria to present obligations as a result

of past events. It eradicates the previous ability of a company to ‘smooth’

earnings from year to year by putting profit away into a provision in a good

year before releasing it on a bad one. FRS 12 has now tightened up the procedure

for charges against profits and records a liability in the company’s balance

sheet. It has also clarified the situations where no provision may be made,

but disclosure of the item is still required as a contingent liability. As a

result, environmental liabilities are highly visible in the balance sheet.

Traditional insurance covers came in the form of a Public Liability Policy

(covering third party exposures) and a Property Policy (covering the company’s

own physical property). However, a ‘pollution exclusion’, based on the Association

of British Insurer’s wording, came into existence in the 1990s to cover only

sudden and accidental pollution.

Specialist policies, usually referred to as Environmental Impairment Liability

(EIL) policies, are specifically designed to cover a company’s legal liabilities

and provide compensation to third parties arising out of gradual pollution as

well as meeting the mandatory clean-up costs for sudden and gradual pollution

of the insured’s own site and third party sites.

In addition, EIL policies are becoming increasingly common in merger and acquisition

(M&A) deals as a negotiation tool. The venture capitalists, equity houses,

debt providers and/or Newco can cap their environmental liabilities and thus

be secure in the knowledge that they can make a clean exit after the business

is sold.

Given that the cover provided is largely retrospective, i.e. for historic conditions,

there is no reason why an insurance product cannot be taken out now for deals

that have already been completed. Indeed, many of the policies placed are taken

out by companies looking to tidy up their balance sheet and encapsulate all

the potential liabilities using an EIL insurance solution. In this way, there

are no loose ends or problematic inherited warranties or indemnities at any

future divestment stage, and so the risk that environmental liabilities might

present a deal-breaking scenario is removed.

In particular, policies are being taken out to back the terms and conditions

of environmental warranties or indemnities. More often than not, the EIL cover

is a mandatory requirement of banks or funders financing a transaction to secure

interest in a deal.

Similarly, landlords looking to attract blue chip tenants on long-term leases

will be required to not only exclude all liabilities associated with the pre-existing

condition of a site, but to back up their warranty with an insurance product.

Over-exposed

Pollution Legal Liability (PLL) can be packaged to cover the specific

exposures of a transaction. Cover generally includes losses due to damage caused

by sudden, accidental and gradual pollution on or emanating from a site and

includes legal defence costs.

Clean-up Cost Cap (CCC), as its name implies, provides a mechanism

for capping clean-up costs. It can provide cover against on-site known contamination

costs exceeding estimates, for off-site clean-up required as a result of the

known contamination, for additional unknown contamination discovered during

the clean-up, and for statutory authority changes to requirements during the

clean-up.

Contractors Pollution Liability (CPL) is designed to protect

contractors, site owners and developers, by covering those pollution risks often

excluded under general liability policies. Contractors can purchase contract-specific

cover or blanket cover. Significantly, occurrence-based policies are available

to give ongoing cover for gradual pollution conditions after the contract has

been completed.

Changes in legislation and accounting practices and stricter enforcement all

highlight the fact that companies need to identify, monitor and report all of

their potential liabilities. The objective of any environmental insurance solution

is to strengthen the company’s balance sheet for its stakeholders and improve

its attractiveness to potential buyers or investors.

© Faversham House Ltd 2022 edie news articles may be copied or forwarded for individual use only. No other reproduction or distribution is permitted without prior written consent.

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