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The Cost of Katrina

Debate continues on how to safeguard America's energy infrastructure.

Fortnightly Magazine - October 2005

has highlighted the lack of consistent and uniformly applied structure for disaster restoration cost recovery. Many experts say that lack
of consistent mechanisms may be impeding economic recovery and development.    

Cost Recovery Mechanisms: Completely Inadequate

At press time, Entergy released a preliminary cost restoration estimate associated with Hurricane Katrina of $750 million to $1.1 billion, which includes costs to repair or replace damaged electric and gas facilities and business continuity expenses. The utility reported it would be eligible for recovery of a large portion of these costs from federal disaster aid legislation or through rates. Yet, Entergy was, at the time, contemplating a Chapter 11 filing for its New Orleans utility subsidiary, or other alternatives to maintain liquidity and protect its legal rights and those of its affiliates. Wall Street at the time continued to support Entergy by maintaining its equity research ratings, and noting that the utility subsidiary accounted for less than 5 percent of earnings in the first half of 2005.

Such support has not always been forthcoming. According to EEI, in at least one instance, Wall Street changed its credit outlook for one of the utilities that faced significant hurricane costs in 2004, in part because of concerns over how quickly a decision favorable to the utility would be reached to mitigate the financial impact of restoration expenses. Why should a utility have to contemplate bankruptcy or credit deterioration for incurring costs that are really a normal part of its operations? EEI identifies three separate problems in utility cost restoration recovery: 

  • There is little consistency in establishing which events do, or do not, qualify for disaster mitigation. For example, one company was required to expense approximately $160 million of operations and maintenance (O&M) storm costs associated with a major hurricane against current year earnings, while another utility was allowed to recover a $1 million storm expense over a four-year period.
  • Storm reserves provide a type of self-insurance to pay for major storms. However, they may not be funded sufficiently  to pay for catastrophic storms. In most instances, these reserves do not provide a ready source of cash to pay for storms. 
  • When faced with significant O&M restoration costs that could require a substantial write-off, many companies  are permitted by their commissions to defer the costs. But there often is a lengthy delay in providing this relief and the approval process can become politicized. 

What Must Be Done: Insurance as an Answer?

Many experts believe that the new authority given to the Federal Energy Regulatory Commission to enforce mandatory reliability standards, as per the Energy Policy Act of 2005, will bring greater transparency to the process of protecting critical infrastructure. 

This would be a necessary first step in enhancing the role that insurance could play to support or encourage critical infrastructure protection. According to Dr. Kenneth Friedman at the Department of Energy (DOE), writing in George Mason’s critical infrastructure newsletter, the Florida hurricanes of 2004 demonstrated the potential of insurance to mitigate the financial consequences of major natural and man-made events. Friedman writes that stricter underwriting standards imposed by