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HomeMy WebLinkAboutBradley Lake Insurance Assessment 2004Valorie Walker 'rom:Brad Thompson [brad_thompson@admin.state.ak.us] Sent:Wednesday,March 17,2004 10:49 PM To:bappelgate@aidea.org;Art Copoulos Ce:Valorie Walker;Linda MacMillan Subject:Bradley Lake report -Warren McVeigh As promised,below are my comments responding to Warren McVeigh (WM)report findings and criticisms. Again,I apologize for my delay in getting this to you...the press of other matters and thecurrentlegislativeactivitieshavedemandedmyfullattention. Insurance Adequacy - WM finds "current property insurance limits appear more than adequate”yet questions how such limits were selected...-the AEA-procured property coverage has beenmarketedaspartoftheStateofAlaskacomprehensiveprogrambyWillis...$40 millionexcesslayercomportstooverallstateinsuranceprogramstructuring.Willis did releasetoWMwhatinformationithadinitsunderwritingspecificationsforvaluationsandall independent consultant inspection reports we have. WM recommends that the program be competitively marketed to verify structure,scope and cost are reflective of current market conditions. As indicated above,Risk Management has Willis market the excess layers as part of its broker of record assignment to the State of Alaska.They do not participate in the ARECA placement and there may indeed be value in attempting a single stand-alone placement, similar to those in the recent transition of the 4 dam pool and Snettisham projects. Section 714 states "the Authority shall keep and maintain the Project at all times insured against such risks and in such amounts,with such deductible provisions,as are customary in connection with operation of facilities of a type and size comparable to the Project.The meaning of the prior sentence shall be made by an independent insurance consultant employed by the Authority” Risk Management has performed this assessment and provided periodic letters to AEA detailing current coverage synopsis,concluding the present property program combining self-retained with high limit excess catastrophe coverage met the requirements of section 714 and were is the optimum combination and that I felt a similar finding would be made by an independent consultant reviewing the insurance coverage.WM did find the limits are more than adequate --relying on the new earthquake analysis in the EQE report. WM believes the bond resolution "possibly could be interpreted”to require debt service coverage.Risk Management has never been requested to obtain such extension of coverage on Bradley Lake as we have on other AEA projects.It is not clearly stated and I would argue that AEA has met the conditions required with the current placements. There are many individual comments and criticisms on both the ARECA and the AEA placed policy forms -too numerous to individually respond to this late in the day. I can say that I will obtain clarifications from Willis on those that we placed. I think its time to summarize.....and I would like to comment that WM is accurate in the suggestion that it might be best at this time to consider combining all property and boiler and machinery coverage parts in a single seamless policy with a common insurance company and reinsurance. Call with questions, Brad ERRATA The contents of Appendix B (EQE's Earthquake Risk Assessment) and Appendix C (Section 714 of the Power Revenue Bond) are transposed. This will be corrected in the final report. i ! i i ; iV claccia MAA =(elan<MCiatifia ales RISK MANAGEMENT CONSULTANTS January 12,2004 Bradley Lake Project Management Committee Attention:Steve Haagenson,Chairman BRADLEY LAKE RISK AND INSURANCE REVIEW As authorized by the Bradley Lake Project Management Committee (BPMC),Warren,McVeigh &Griffin,Inc. (WMG)has performed a Risk and Insurance Review of the Bradley Lake Hydroelectric Facility (Bradley Lake Project).The attached report details results of this study.We have submitted this report in draft form to allow any changes,additions,or modifications that may be appropriate after the BPMC completes its review of the report.A final report then will be submitted to the BPMC. The body of the report contains many findings,conclusions and recommendations which are summarized in the Executive Summary and detailed in the Index of Recommendations. Information Requests and Confidentiality Agreements In conducting this study,we experienced extreme difficulty obtaining information and documentation from ARECA Insurance Exchange (ARECA)and other entities that would have made our work far less time-consuming and costly to complete. Appendix A contains our information requests.Appendix E contains the original confidentiality agreement required by ARECA because of their fear that confidential information,such as its reinsurance arrangements,might somehow be used to its disadvantage by its competitors.Because this agreement contained onerous wording that would have stifled our ability to advise the BMPC about additional or alternative insurance programs,we made some changes in the ARECA agreement and e-mailed it back to ARECA.Our modifications,however,were rejected by ARECA.Therefore,no requested information was ever obtained from ARECA nor from Alaska Energy Authority (AEA).Our revised confidentiality agreement and e-mail correspondence with ARECA also are in Appendix E. Homer Electric Association (HEA)provided consultants a tour of Bradley Lake facilities and some but not all insurance documentation requested.The State Risk Manager provided us with two important documents:the Stone &Webster Risk Assessment Report of 1990 and the 2001 FERC report. Open Questions We were not able to obtain answers to questions such as: 1.How were the decisions made to structure the Bradley Lake property insurance as now arranged? 2.Whoare the reinsurers for the property insurance and how is such reinsurance structured? 1420 Bristol Street North,Suite 220,Newport Beach,CA 92660 Telephone 949/752-1058 Facsimile 949/955-1929 www.griffincom.com i | | te ! 3.Does the current HEA liability insurance program adequately cover important risk exposures such as airstrips,helipads and watercraft exposures? 4.Who is responsible for adequacy of insurance (scope and limits of coverage,as well as assessment of financial risk capacity of insurers)? 5.Apparently,the insurance for Bradley Lake has never been bid competitively.We could not determine why the insurance had not been bid.. Responsibilities of the BPMC It is our conclusion from reading the Power Sales Agreement (PSA)that the BPMC is responsible for the initial determination of the insurance required by the Bond Resolution including the determination and purchase of any insurance for or related to the Project in addition to such insurance as may be required by the Bond Resolution. Further,the PMC must advise AEA from time to time as to the "appropriate extent of insurance coverage.” If a catastrophic earthquake or other disaster occurred and the Bradley Lake property insurance failed to respond adequately -either because of technical deficiencies in policy coverage scope and limits or because reinsurance supporting the primary insurer was defective or not in force -the Purchasers and the BPMC probably would be responsible for the uninsured loss. Therefore,we recommend that the BPMC establish a subcommittee to be responsible to review and report on insurance scope and limits,financial capacity of insurers,services provided by insurers,property valuations,liability insurance requirements for HEA and other contractors and subcontractors,and all other matters relating to Bradley Lake Project risks and insurance. Since the BPMC and its members are at risk if anything goes wrong with the Bradley Lake insurance,we recommend that the BPMC aggressively take actions including but not limited to the following: m Ask ARECA to respond promptly to the findings,conclusions and recommendations in this report, including complete information on reinsurance arrangements =Competitively bid the property insurance =Purchase a high-limit,competitively priced umbrella liability policy to provide broad coverage above all HEA-required insurance,including blanket watercraft and aircraft liability coverage and airport coverage (airstrips and helipads).Named insureds should be HEA,the BPMC,AEA and the purchasers,as their interests may appear. s Consider obtaining a higher limit of "directors &officers”insurance -to at least $5 million.The current limit of $1 million is too low to adequately protect individual BPMC members.However,because the expiring $1 million policy provides broader coverage than most directors &officers policies,any change of insurers should be carefully evaluated. We appreciate the opportunity to perform this study and stand ready to assist in the implementation of our recommendations. WARREN,MCVEIGH &GRIFFIN,INC. CONFIDENTIAL DRAFT FOR DISCUSSION PURPOSES ONLY This draft is intended for discussion purposes only.It should not be distributed to any third party,or published in whole or part in any form, without prior written consent of Warren,McVeigh &Griffin,Inc. BRADLEY LAKE PROJECT MANAGEMENT COMMITTEE Bradley Lake Project Risk and Insurance Review January 12,2004 Warren?McVeigh '&Griffin"Inc§ RISK MANAGEMENT CONSULTANTS 1420 Bristol Street North,Suite 220,Newport Beach,CA 92660 Telephone 949/752-1058 Facsimile 949/955-1929 www.griffincom.com 1 1 { \ 1 Contents DISCUSSION DRAFT Introduction Letter Contents Executive Summary Purpose Background Primary Exposure to Loss Property Risks Liability Risks Insurance Adequacy AEA-Procured Property Insurance HEA-Provided Insurance Index of Recommendations Property Risks and Perils Background Maximum Loss Assessment General Discussion... Earthquake Flood Other Natural Perils Intemal Failure All Other Perils Debt Service Obligations Value Of Replacement Power Liability Loss Exposures Third-Party Premises General Liability Hired and Non-Owned Aviation Exposures Warren,McVeigh &Griffin,Inc. Page Section 5 Section 6 Appendices A B C mOoDISCUSSION DRAFT Airport Operations Marine Exposures BPMC Liability Contractual Insurance Requirements Power Sales Agreement Power Revenue Bond Resolution Wheeling Agreement Transmission Sharing Agreement Master Maintenance and Operating Agreement Dispatch Agreement Operation And Maintenance Agreement Insurance Coverage Review AEA-Provided Insurance Property Insurance (Primary Layer) Property Insurance (1st Excess Layer) Property Insurance (2nd Excess Layer-State Program) Boiler and Machinery Directors &Officers Coverage HEA-Provided Insurance Non-Owned Aviation Liability Information Requests Earthquake Risk Assessment,EQE Structural Engineers Division,ABS Consulting,12/22/03 Section 714 of the Power Revenue Bond Resolution of the Board of Directors of the Alaska Power Authority Best's Rating and Report Updates for ARECA Insurance Exchange Confidentiality Agreements Warren,McVeigh &Griffin,Inc. Page 20 20 21 22 22 23 24 24 24 25 25 28 28 28 33 34 36 37 39 39 DISCUSSION DRAFT Section 1 Executive Summary Purpose The primary purpose of this study has been to: u Assess the nature and probable magnitude of the major risks of accidental loss to which the members of the Bradley Lake Hydroelectric Project Management Committee (BPMC)are exposed to arising out the Bradley Lake hydroelectric facility operations. m Determine the adequacy of existing insurance carried by the Alaska Energy Authority (AEA)and insurance carried by Homer Electric Association as required by the Bradley Lake Project Operations &Maintenance (O&M) Agreement between Homer Electric and AEA. Background AEA owns the Bradley Lake Hydroelectric Facility (Bradley Lake Project),which is composed of a concrete-faced,rock-filled dam structure,large lake,power tunnel, penstock,power house,and other systems and supporting structures and miscellaneous property with approximately 126 megawatts installed capacity.Power is transmitted to Bradley Junction over two parallel 20-mile power transmission lines.Original construction costs were in excess of $300 million. In order to provide optimal maintenance and operation of Bradley Lake,AEA has entered into various agreements as follows: m A Power Sales Agreement (1987)established the Bradley Lake Project Management Committee!for the purpose of arranging for the maintenance and operation of Bradley Lake including scheduling,production,and dispatch of power. 'The BPMC is composed of Chugach Electric Association,Golden Valley Electric Association,TheMunicipalityofAnchorage,the City of Seward,and the Alaska Electric Generation &Transmission Cooperative. Warren,McVeigh &Griffin,Inc. DISCUSSION DRAFT =A Master Maintenance and Operating Agreement (May 1994)between AEA and the BPMC authorizes the AEA to enter into contracts to perform operating,maintenance,and other services subject to approval of the BPMC =An Operating and Maintenance Agreement (1994 amended 1996 and 1999) between AEA and Homer Electric Association (HEA)provides for the operation and maintenance of Bradley Lake by HEA ws A Bradley Lake Dispatch Agreement (1996)between AEA and Chugach Electric Association (CEA)to dispatch Bradley Lake electric power output ma A Statis Var Compensation System Agreement (1996)between AEA and CEA to operate and maintain Soldotna Substation and Davis Creek facilities ;=A Bond Resolution authorizing the 30-year bond(s)to finance design and d construction of the Bradley lake Project In performing this study,Warren,McVeigh &Griffin,Inc.(WMG)reviewed the above contracts,various insurance policies,and many other pertinent documents.Identification and measurement of risks of loss were based on personal inspections of the Bradley Lake facility,review of existing risk-related documentation (including the Stone &Webster report),an earthquake risk assessment by the EQE Structural Engineering Division of ABS Consulting,and interviews with staff from ARECA Insurance Exchange,AEA, BPMC,Homer Electric Association,the State Risk Management Division,and others. &Primary Exposure to Loss The Bradley Lake Project is exposed to numerous risks of accidental loss.Significant catastrophe exposures include the following. Property Risks m Damage to the powerhouse and other structures by a Maximum Credible Earthquake,which is defined in Appendix B =Damage to or destruction of the Bradley Lake Dam,preventing water flow to the power plant a Damage to or destruction of the Power tunnel,preventing water flow to the power plant |m Failure of the spherical valves,resulting in draining of the power tunnel and flooding of the power house and control room m Flooding of the power house and control room as a result of maximum credible tsunami Warren;McVeigh &Griffin,Inc. DISCUSSION DRAFT m Machinery damage to turbines and generators =Damage to the control room,transformers,or generators from fire Liability Risks u Multiple injuries or death arising out of airport and heliport maintenance and operations,including unregulated use of the auxiliary airstrip by recreational users and other third parties =Consumer lawsuits against the BPMC wn Lawsuits against the BPMC by one or more of the power purchasers Insurance Adequacy The current three property insurance policies add up to $60 million,with a combined annual aggregate $60 million limit for earthquake and flood.Based on the earthquake risk analysis by EQE Structural Engineers and our review,the current property insurance limits appear to be more than adequate.We do not recommend increasing the limits of protection. Potential problems with the structure and scope of property insurance include but are not limited to: =Fundamental questions,such as how limits of coverage were selected,remain a unanswered and basic information,such as property schedules,policy applications,and inspection and engineering reports were not released to us. m The property insurance policies contain numerous ambiguities relating to limits of insurance and deductibles regarding earthquake and flood as well as many other coverage concerns. m We include in Appendix D the A.M.Best Company Report Revision of 6/30/2003 for ARECA Insurance Exchange.This report assigns a Best's Rating of A-(Excellent)with a Financial Size Category of V ($10 million to $25 million).The interim balance sheet in the Best's report shows a net policyholders'surplus of $16,516,000.On page 18 of 21 of the Best's report is a brief discussion of ARECA's reinsurance programs.ARECA is highly dependent on reinsurance as their surplus is inadequate to support the $20 million at risk for Bradley Lake property insurance and $15 million at risk for boiler/machinery insurance. ma m We found no evidence that the program has ever been competitively marketed. Periodic competition is important to verify that insurance structure,scope,and cost are reflective of current market condition.; Warren,McVeigh &Griffin,Inc. DISCUSSION DRAFT u_Based on policy ambiguities and deficiencies and unanswered questions about reinsurance,the adequacy and appropriateness of current property insurance coverage for Bradley Lake Project is not clear. ws Because information we received from HEA about its insurance program was incomplete,we were unable to verify whether HEA is in compliance with current Operator insurance requirements contained in Section 13 of the Operation &Maintenance Agreement.However,even if HEA is in compliance, the requirements are inadequate as there is no specific coverage requirement for owned airport and heliport operations and maintenance nor are the overall limits of coverage adequate. Prompt action is needed to clarify coverage discrepancies,correct deficiencies,and ensure that the program structure and cost reflect of current competitive insurance q market conditions. AEA-Procured Property Insurance We found the property insurance program procured by AEA to be in need of many improvements.In addition we have concerns over the appropriateness of ARECA Insurance Exchange insuring such a large primary layer of catastrophe coverage.It is also unknown whether the program's cost is reflective of current insurance market conditions. Although we make many observations and recommendations regarding coverage in the body of this report,the following may be of greatest interest to the BPMC: m There exists many serious coverage deficiencies and ambiguities we were unable to clarify with ARECA.The unresolved nature of these possibly could result in significant restriction in coverage and uninsured loss.Examples include: a Itis unclear whether the $7.5 million earthquake and flood deductibles are minimum or maximum amounts and whether a flood the result of an earthquake would be subject to two deductibles. o There is no waiver-of-subrogation provision in favor of the BPMC or the power purchasers. ao Atonly $500,000,the sublimit for debris removal appears inadequate. 4 ! 4 mt { .t i o Key facilities such as roads,airstrips,and the marine dock are excluded from coverage even though a maximum credible earthquake or tsunami could cause serious damage. o The transmission lines also are uninsured.Apparently this coverage exclusion is intentional,as most electric utilities do not insure transmission lines due to unreasonably high insurance cost or unavailability of coverage. Warren,McVeigh &.Griffin,Inc. DISCUSSION DRAFT =Every two years AEA is required under the Power Revenue Bond Resolution? to employ an "independent consultant”to review insurance as to adequacy and to make recommendations in a written report.Although we were told that the State Risk Manager periodically reviews insurance coverage at Bradley Lake Project,we could not confirm the nature of such review nor whether any independent studies had ever been performed or a written report produced. ws There was no evidence that AEA has ever subjected the property insurance program to competitive bidding to determine whether the cost,structure,and scope of coverage is reflective of current insurance market conditions. u Unless it is confirmed that reinsurance?is placed with financially strong reinsurers and that no lapse of reinsurance or major changes are made without reasonable prior notice to AEA,the BPMC,and the purchasers,we are concerned that at less than $20 million,the total ARECA surplus is not adequate for primary layer placements on catastrophe exposures for earthquake and flood and may not be considered "financially responsible”as required by the Power Revenue Bond Resolution. u Information necessary to evaluate coverage and service provided by the insurer, such as inspection reports,historical loss data,policy applications,and property valuation schedules,were not made available to us. Because of the above issues,there is considerable uncertainty about the adequacy of AEA-provided insurance. HEA-Provided Insurance Except for a copy of the non-owned aviation liability policy provided to us by HEA,we were unable to verify whether HEA as Operator of Bradley Lake Project is in compliance with the minimum insurance requirements stipulated in the O&M Agreement. In addition,based on review of the O&M insurance requirements and our risk and hazard assessment,we believe the minimum insurance requirements as set forth in the O&M agreement provide inadequate protection and should be amended.Primary Problemswithorconcernsaboutthecurrentinsurancerequirementsinclude: ws The description of insurance uses out-of-date terminology.In some instances the type of insurance required,such as "Comprehensive General Liability,”is no longer available,having been replaced with "Commercial General Liability” over a decade ago. m There is not but should be a requirement for high-limit airport liability insurance. 2 Section 714 at pages 48-49. 3 For boiler and machinery,primary property,and excess property policies written for Bradley Lake Project. Warren,McVeigh.&Griffin,Inc. ' i ' i'|i lt DISCUSSION DRAFT ws At $5 million,the total limit of liability insurance is inadequate.The minimum required of the operator should be at least $10 million,preferably $25 million or higher. 'Even if HEA is able to provide satisfactory evidence of compliance with insurance requirements,the BPMC should consider separately procuring specific excess liability insurance protection for the Bradley Lake Project.Doing so would eliminate any question about program compliance and would allow for better control and provide the Bradley Lake Project with dedicated limits of insurance for AEA,HEA,the BPMC,and all purchasers as their interests may appear. Warren,McVeigh &Griffin,Inc. Seetietd,Section 2 DISCUSSION DRAFT Index of Recommendations AEA-Provided Insurance - Property Insurance (Primary Layer) 1. 10. 11. 12. Ask ARECA to broaden the definition of flood to specifically cover falling water as an insured peril. Ask ARECA to clarify application of the sublimit for debris removal,which is stated in the policy as $500,000. If there is in fact a sublimit of $500,000 for debris removal for other than newly acquired equipment,ARECA should be asked to explain how the excess layers of insurance apply to such coverage. Ask ARECA to delete excluded peril W.precluding certain types of water damage. Ask ARECA to remove excluded property E.,which applies to the cost of excavation,grading,backfilling or filling. Ask ARECA to remove excluded property F.for docks,piers,and wharves. Ask ARECA to amend excluded property N.so that is does not apply to property located below ground level in the powerhouse or at the dam structure. Ask ARECA to amend the policy to provide for a waiver of subrogation for the BPMC and all of the purchasers individually. Ask AEA to update the property statement of values dated 2001 or consider having a property inventory and valuation performed. Ask ARECA to explain the apparent discrepancy in deductible amounts for earthquake and flood stated in the policy. Ask ARECA to explain application of the separate earthquake and flood deductibles under the possible scenario where flood damage results from an earthquake. Ask ARECA to remove exclusion H.as respects water transmission lines. Warren,McVeigh &Griffin,lnc. Discussion on Page(s) 28 29 29 29 30 30 30 30 31 31 31 31 : 4 i ' I 1 q 13. 14. 15. 16. 17. 18. DISCUSSION DRAFT Ask ARECA to amend exclusion J.so that the exclusion of land does not apply to the dam structure. Ask ARECA how much,if anything,it would cost to remove exclusion D.for roadways and airstrips.. Ask ARECA to amend the time period for consideration of a single earthquake event from 72 hours to 168 hours to match the similar provision in the State-procured excess property policy. Ask ARECA whether expediting expenses are considered covered loss., Ask ARECA whether coverage for loss resulting from the enforcement of laws regulating demolition,construction,or repair of property could be added to the policy and at what additional cost,if any. Investigate the possibility of combining coverage for property damage and boiler and machinery losses under a common insurance policy. AEA-Provided insurance - Property Insurance (1st Excess Layer) 19.Ask ARECA to explain whether this excess policy provides coverage over and above the $500,000 sublimits for newly acquired equipment and debris removal. AEA-Provided Insurance - Property Insurance (2nd Excess Layer State Program) 20. 21. 22. 23. 24. Ask the broker to clarify the meaning of endorsement number 4 as respects the reduction of limits by paid losses. Ask the State's insurance broker to clarify the reference to $20,000,000 underlying annual aggregate in Endorsement 4. Ask the State's insurance broker to remove exclusion 4)a)as respects "related plants.” Ask the State's insurance broker to amend the policy to provide for a waiver of subrogation for the BPMC and all of the member utilities individually,as their interests may appear. Ask the State to amend the policy so that it accurately reflects the self-insured retention under the primary property policy. Warren,.McVeigh &Griffin,Jnc. Discussion on Pagefs) 32 32 32 32 32 33 34 34 35 35 35 36 DISCUSSION DRAFT AEA-Provided Insurance - Boiler and Machinery 25. 26. 27. Ask ARECA to immediately issue the Object Schedule. Ask ARECA to remove from the definition of "Object”at Section A.l.of the Object Definition,the exclusion of computer or computer-process equipment used wholly or in part for administrative,statistical or accounting purposes,or to clarify that such exclusion does not apply to the control room at the powerhouse. Consider increasing or eliminating the current sublimit of $250,000 for expediting expenses. AEA-Provided Insurance - Directors &Officers Coverage 28. 29. 30. 31. 32. 33. Check the BPMC's bylaws or resolutions to ensure that such bylaws or resolutions provide for indemnification of Insured Persons to the fullest extent permitted by law. Consider specifically listing the various operating utilities as members comprising BPMC. Consider increasing the limits of coverage to at least $5 million. The BPMC should advise its member utilities comprising the BPMC to carry additional director and officer insurance in excess of what the BPMC carries as may be deemed appropriate by Purchaser. Ask the insurer to confirm in writing that Exclusion G does not preclude coverage for claims made by one member of the BPMC against the BPMC or other member of the BPMC. If any changes are made on renewal,particularly a change in insurer,require the insurance broker to provide AEA and the BPMC a complete analysis of such changes. HEA-Provided Insurance - Non-Owned Aviation Liability 34.If HEA is unable to provide insurance required by the Operating and Maintenance Agreement,the BPMC should consider acquiring insurance directly for the benefit of various parties to the Bradley Lake Project or to purchase a broad excess liability policy over coverage currently provided (but not verified)by HEA. Warren,McVeigh &Griffin,Inc. Discussion on Page(s) 36 37 37 38 38 38 38 38 39 40 Section 3 DISCUSSION DRAFT Property Risks and Perils Background Our assessment of property risks and perils is based on =Our inspection of the powerhouse,dam and spillway,landing strips (two), warehouses,permanent housing,dock,and other structures at the Bradley Lake facility m Interviews with facility operating and management personnel of Homer Electric Association (HEA) m Review of the Risk Assessment Evaluation of the Bradley Lake Project,a report produced in draft form by Stone &Webster Engineering Corporation (SWEC) in March 1990.(Ifa final report was issued,it was not made available to us.) m Independent Consulting Inspection Report completed November 2001 by Donald Bowes (FERC Project No.8221-AK) a A seismic risk assessment report performed by EQE Structural Engineering .Division of ABS Consulting Considerable information was requested from AEA,ARECA Insurance Exchange (ARECA),the State Division of Risk Management,and Homer Electric Association (HEA).We received no responses to our requests from AEA and ARECA.The SWEC draft report and FERC reports were provided by the Director of the State Risk Management Division.HEA cooperated by providing a tour of the facility and by sending us some,but not all,of the requested insurance documentation applicable to the facility. Our information requests appear in Appendix A. Warren,McVeigh &Griffin,Inc. 10 DISCUSSION DRAFT Maximum Loss Assessment General Discussion WMG was asked to estimate the maximum loss the Purchasers should insure (if appropriate insurance is available at reasonable cost)thrqugh the BPMC for physical damage risks,the Purchasers'obligations under the Power Sales Agreement (PSA),debt- service obligations,and estimated value of replacement power in event of loss causing power interruption. The SWEC lengthy risk assessment draft report of 1990 and the FERC report of November 2001 were received.We had hoped that the SWEC report would provide a dollar damage estimate for a maximum credible earthquake (MCE).Although the SWEC report contains voluminous data,its objective is stated as follows: "The objective of this study is to estimate the value,in 1991 dollars,of the losses from insurable risks that could be reasonably expected during the period 1991- 2020 at the Bradley Lake hydroelectric project described in Section 2 of this report. The assessment will include the above ground transmission lines between the powerhouse and Bradley Junction.” Based on SWEC's engineering analysis,construction data,and estimates,and firsthand knowledge of the project,SWEC produced the following summary of total "expected loss”for the 30-year period 1991 through 2020: TOTAL EXPECTED LOSS (LEVELIZED 1991$) LOW LIKELY HIGH Bradley Lake Earthquake Peril $38,361 $164,931 $529,661 Flood Peril $1,702 $227,337 $524,273 Other Natural Perils $24,346 $137,239 $370,038 Fire &Lightning $855 $21,319 $93,692 All Other Perils $50,690 $1,143,992 $4,644,722 Total $115,954 $1,694,819 $6,162,386 Although these may be accurate averages based on statistics,empirical evidence,and SWEC assumptions,a catastrophic earthquake or other major event could strike at any time.In general the losses shown are only "expected”losses,which have limited value in making decisions about the maximum insurance limits needed. Earthquake Earthquake insurance typically is the most expensive of all the perils for which Bradley Lake is currently insured.The three current property policies,which provide $60 million coverage,have a total premium cost of $452,723.Probably 50%or more of the total premium for property insurance is attributable to the earthquake and tsunami risks. Warren,McVeigh &Griffin,inc. 1] 4 anod + "A vtHy 1 ad s " i weSeteDISCUSSION DRAFT The only SWEC report we received was in draft form and it is possible their final report contained important changes or modifications.Further,the SWEC draft report is not deterministic (or definitive)with regard to the percentage of loss or dollar loss that could occur due to a probable maximum loss (PML)from a Design Basis Earthquake (DBE)or the Maximum Credible Earthquake (MCE). Therefore,we decided to engage EQE Structural Engineering Division of ABS Consulting (EQE)to perform a desktop seismic risk assessment of the Bradley Lake Hydroelectric Project.EQE is recognized as a leader in earthquake risk assessment and structural engineering.A desktop evaluation refers to the fact that neither site visits nor structural drawing reviews were to be performed.A copy of this report is reproduced in Appendix B. Although we asked AEA and the State Division of Risk Management for a detailed breakdown of values for the properties insured,there was no response to this specific request.We extracted a rough schedule of values from Exhibit 10 of the SWEC report. Refer to the following table which shows estimated current insured values of $129,136,000 versus the $183 million shown by ARECA in an insurance policy attachment titled "2001 Property Statement of Values.”Without more detailed property-valuation data,we cannot reconcile this difference. BRADLEY LAKE ESTIMATED VALUES FOR INSURED PROPERTIES Derived from Exhibit 10 of SWEC 1990 Draft Report A B Cc Estimated SWEC Values $2004 Values Structure $1991 B x 140% Dam $12,600,000 $17,640,000 Power Tunnel 14,910,000 20,874,000 Diversion Tunnel 2,380,000 3,332,000 Spillway/Civil Structural 6,510,000 9,114,000 Powerhouse 41,300,000 57,820,000 Substation/Switchyard 8,540,000 11,956,000 Other Property*6,000,000 8,400,000 Totals $92,240,000 $129,136,000 This is a very rough estimate only,as no detailed breakdown available from ARECA or AEA,Includes permanent residences,shop/warehouse,warehouse,incinerator,fuel storage,and miscellaneous furnishings,inventory and mobile equipment.Does not include transmission lines,barge dock,airstrips,roads,Middle Fork/Nuka diversions,and any other real or personal property not presently insured. Exhibit 10 of the SWEC report showed in 1991$uninsured transmission lines $27,370,000 and "other property”$39,410,000. Warren;McVeigh &Griffin,Inc. 12 t j ' 1 + } DISCUSSION DRAFT EQE was asked to analyze the entire facility portfolio employing their proprietary software,USQUAKE™.This approach provided opinions of risks using both deterministic and probabilistic methodologies. The EQE report is in Appendix B.Their estimate of the maximum credible earthquake event is $24.3 million plus two months business interruption. Flood 1.Damand Spillway These structures have been designed to prevent overtopping of the dam and downstream erosion;thus no damage is anticipated by SWEC during the probable maximum flood (PMF).However,if a large landslide-induced wave (seiche)occurred when Bradley Lake was at flood level,the SWEC report concludes that the parapet wall could be overtopped,causing one or all of the following damage: mn Failure of the parapet wall ws Erosion of the downstream face =Movement of the dam Such damages are considered highly unlikely. 2.Powerhouse and Switchyard SWEC considers a tsunami the greatest risk of powerhouse and switchyard flooding. However,they say Bradley Lake powerhouse design considered tsunamis. SWEC assigned powerhouse damage levels from three wave heights,as follows: a._Less than elevation 22 feet assumed not to collapse access doors.No damage anticipated. b.Elevation 25 feet may cause failure of outer roll-up access doors at elevation 21 feet.Damage assumed to be limited to replacement of access doors,clean up,dry out and testing and replacement of 50%of auxiliary motors. c.Elevation 44.2 feet will result in failure of all elevation 2]feet doors, substation walls and transformer firewalls.Damage assessment to be same as b.above plus need to rebuild some switchgear and motor control centers.No damage to powerhouse structure is anticipated,but serious damage to the substation could result due to falling walls. The maximum wave elevation of 44.2 feet contemplates occurrence of the maximum credible tsunami and the maximum historic high tide simultaneously,a highly unlikely convergence of events. Warren,McVeigh &Griffin,Inc. 13 : \ : i | Aa | i] i i DISCUSSION DRAFT The SWEC report did not assess the effect of Homer Spit on tsunami propagation.The report states:"Homer Spit reduces the width of Kachemak Bay and therefore will act as a topographic barrier to the propagation of a tsunami towards project facilities.Homer Spit will affect tsunamis generated by the eruption of Augustine volcano as well as earthquakes in the Gulf of Alaska.It is recommended that the effect of Homer Spit be determined quantitatively by numerical modeling if further studies are performed.”It was beyond the scope of our study to perform such an analysis. 3.Other Accidental and Natural Flood Losses A number of hydro powerhouses have been flooded by various natural or accidental events,such as a flood of the powerhouse due to tsunami or failure of a spherical valve or large piping for cooling water and systems within the plant.SWEC reports that floods to various levels have occurred throughout the world,including complete submergence of generators and auxiliaries.SWEC states that in most instances the equipment only required cleaning,dry out,and testing;in other cases electrical equipment needed replacing or rebuilding.SWEC says the greatest difficulty probably would be oil spillfromgovernorandbearingsumpsduringaflood. Other Natural Perils Wind The location of the Bradley Lake facility generally experiences moderate wind speeds (less than 100 mph).Hurricanes and tornadoes typically do not occur along the coastline of the Gulf of Alaska.According to SWEC,the only structures at risk would seem to be building superstructures,transmission lines,and equipment.No structural damage is anticipated for the dam and powerhouse. The following analysis is from page 3-24,Table 7,of the SWEC draft report. Wind Speed (mph) 100 150 POTENTIAL WIND DAMAGE Probability Low Likely High 0.020 None None Some damage to metal wall panels &girts. 0.002 Minor damage to metal Considerable damage Wall and roof panels & wall panels &girts.to metal wall &roof panels &girts;some damage to outside windows &doors on powerhouse and permanent camp. Damage to transmission line structures and broken insulators. girts destroyed;heavy architectural damage. Loss of permanent camp.Extensive damage to transmission line structures and broken insulators. Warren,McVeigh &Griffin,Inc: 14 DISCUSSION DRAFT Ice SWEC evaluated wind and ice loads on transmission lines,but they are not likely to be insurable at any reasonable cost and are not now insured for any risks of loss. Snow/Avalanche According to the SWEC report,there is no threat of avalanche reaching any of the structures.Snow loads were estimated for the powerhouse roof with little or no damage anticipated., Subsidence,Landslide,Rockfall SWEC reports that "Regional tectonic movements could lower the powerhouse and substation structures closer to tidewater and increase their risk of flooding,or raise these structures further above tidewater,which should have no detrimental effect.” Significant damage from subsidence and landslides (most likely triggered by earthquakes) could be sustained to the barge deck,landing strip,and the transmission lines across the Fox River Valley,all of which are now uninsured. A rockfall could occur in the rock cuts at the power tunnel and emergency outlet intakes. SWEC cites the worst case as a rock slide that would clog the intake,requiring the lake to be drained so the intake could be cleared.The probability of such a landslide is estimated at 0.0001. Volcanic Eruption Active volcanoes are north of Kodiak Island in the mainland Aleutian Range.Falling volcanic ash could cause some maintenance problems,but "...the probability of damage outside the maintenance budget is considered nil.”Damage resulting from a tsunami caused by volcanic eruption is discussed under the "Flood”section of our report. Fire and Lightning Fire and lightning losses are estimated by SWEC as follows: (a)Zero probability of damage for the dam,power tunnels,diversion tunnel, spillway and steel penstocks (b)The maximum possible loss (MPL)for various other structures have been assigned to exceed their replacement cost,because it is remotely possible a fire loss could destroy a structure to extent it would have to be demolished,debris removed and a new structure built. Warren,McVeigh &Griffin,.Inc: 15 vet 7 ' i t set 1 1 aa wed"it ; DISCUSSION DRAFT ws MPLs are assumed to be 115%of their replacement cost for the power plant,including the generating and other equipment a The MPLs for switchyards and substations are 110%of their replacement values mu SWEC assigns all other property an MPL of 100% Although we asked for the facility's historical loss experience,no such information was provided.During our inspection of the power plant,we were told that an air-cooled transformer experienced an electrical disturbance that could not be extinguished by available CO,equipment and became a virtual total loss after a fire hose was used to put out the ensuing fire. Other fire losses could damage the substation,transformers,generators,control cables, and equipment,etc.However,a total loss of the powerhouse by fire (or even explosion) is considered extremely unlikely. Internal Failure The SWEC report discusses a category of perils considered to be "normal events,”which include failure of a dam due to deterioration or defects -generally called "internal failure.”"Internal failure of dams can occur typically due to piping,slope instability, foundation failure or failure of integral facilities,”according to SWEC. The probability of these types of failure are indicated in Table 11 on page 3-30 of the SWEC report as shown below. Estimated Internal Failure Frequency of Item Scale Dam Failure Piping 2 0.0000110 Slope Stability 2 0.0000028 Foundation 1 0.0000039 The annual probability of failure is thus 0.00002,with damage estimated to be "complete dam failure.”The current insurance contains the following exclusions: "Corrosion,decay,deterioration,erosion,evaporation,inherent vice,latent defect,leakage,loss of weight,marring or scratching,rust,shrinkage,wear and tear,wet or dry rot or any quality in property which causes it to damage or destroy itself.”This exclusion doesn't apply to resultant loss otherwise covered by the policies. Another policy exclusion applies to (1)error,omission or deficiency in design,plans or - specifications and (2)faulty and/or defective workmanship,materials or supplies.This Warren,-McVeigh &Griffin,Inc. 16 DISCUSSION DRAFT exclusion doesn't apply to any ensuing loss or damage caused by direct physical loss or damage by an insured peril. If dam failure were caused by one or more of the excluded causes,a complicated claim- adjustment process would ensue in reaching an agreement with the insurer (and reinsurers)on how much of the damage is excluded and how much is "ensuing loss or damage.” All Other Perils SWEC designated a risk category for All Other Perils (AOPs),which includes the most frequent hydroelectric losses:machinery-breakdown or other machinery-related loss occurrences. Although we asked ARECA for a record of past machinery losses (as well as all other types of losses),no such information was provided.Machinery losses would be insured under a separate "boiler &machinery”insurance policy issued by ARECA (possibly reinsured by Chubb Group'),subject to policy coverage terms and exclusions.The coverage scope,limits,and deductibles of this policy are discussed in Section 6. The $15 million machinery coverage limit does not appear to be reasonable;a preferred method is to include coverage for machinery-related loss exposures in a seamless blanket policy form along with all other risks of loss for overall limits of coverage applicable to all perils insured.The property insurance for five of Alaska's hydroelectric facilities are insured in this way (Snettisham &Four Dam Pool). Age Debt Service Obligations Paragraph 1.(a)of the Bond Resolution requires "all risks”insurance (for buildings, works,plants and facilities)"at all times in an amount not less than an amount necessary...to pay and retire and redeem all the outstanding bonds.”We believe this requirement possibly could be interpreted to apply not only to insurance for direct loss to property,but also to debt service coverage,which presently is uninsured. Value Of Replacement Power 4 Although the various power purchasers have a long-term requirement to pay the Revenue 4 Bond obligations of the State of Alaska,there is no requirement,contractual or otherwise, a for AEA or the BPMC to supply power from the Bradley Lake Project to the various power purchasers. ;*Because we were told by HEA that a representative of Chubb Group annually inspects the facility's "4 machinery,we assume this insurance group also reinsures the risks covered by the separate boiler & ;machinery insurance policy.Our questions about reinsurance were not answered,nor were we given copies of any loss-prevention inspection reports. Warren,McVeigh &Griffin,Inc. DISCUSSION DRAFT In the event of outage or disruption in power generation at Bradley Lake Project,each purchaser is responsible for obtaining power from other sources.The cost of such power varies by purchaser and may be significantly higher than power produced by the Bradley Lake Project.For example,according to Chugach,in recent years Bradley Lake power has ranged in cost from $29 to $37 per MWh.Replacing such power with alternative sources may be as high as about $40 per MWh.If this is an important issue with the BPMC, further investigation and analysis would be needed.: Variables that can affect cost include the source of backup generation (hydro,gas,diesel), rainfall in a particular year,and the demands of the statewide power grid at any given period. There is currently no insurance coverage for the extra cost of replacement power.The cost and availability of such coverage is unknown at this time. Warren,McVeigh &Griffin;Ine: 18 , | ii 4 am) | i i i wt ' i ' ; 1 + t \ 1 DISCUSSION 19 DRAFT Section 4 Liability Loss Exposures The Bradley Lake Project is exposed to liability risks similar to other large hydroelectric generating facilities in Alaska.The following is a discussion of the principal loss exposures. Third-Party Premises General Liability Because of the remote location of Bradley Lake Project,there is little significant downstream liability exposure from dam failure and resultant flooding.The primary third-party liability exposures are injury or death to visitors,such as invited guests and hunters,fishermen,hikers,and campers,whose presence may or may not be known to the project operator.To be successful,any such claim likely would have to show some negligence on the part of operator in the maintenance of facilities such as the airstrips and heliports,roads,or marine dock.Other than the aviation and marine exposures,which we discuss below,there does not appear to be a catastrophic third-party liability exposure from the premises,although serious injuries or deaths could occur. Hired and Non-Owmed Aviation Exposures Because the usual method of transporting small equipment,HEA personnel,and others to and from Bradley Lake Project is by chartered aircraft,there exists a significant third- party-liability exposure.Such exposure might take the form of =Guests and workers (including relatives of resident employees)injured or killedwhileflyingincharteredorotheraircraft m Property damage,such as a forest fire,arising out of the use of a chartered helicopter or other aircraft a Other injury or property damage to third parties arising out of aircraft operations not owned or chartered by HEA w Injury or death to persons or destruction or damage to property arising out of the use of an aircraft by an employee while on (actual or alleged)company- related business Warren,McVeigh &Griffin,inc. J '1uf aa 24 \ DISCUSSION DRAFT Although charter companies are required by HEA to carry minimum levels of liability insurance and employees injured while on the job would be subject to workers' compensation laws and benefits,third-party aviation liability claims can be expensive to defend and often result in significant awards or settlements.Although we were told that no employees fly on company business,the distinction between what is company business and what is personal business is sometimes not clear and can represent an added exposure. Airport Operations The operation and maintenance of Bradley Lake Project's airstrips and helipads represent potentially catastrophic liability exposures.Actual or alleged failure to properly maintain airstrips and helipads or floatplane approaches,or failure to warn of dangerous conditions, including weather-related conditions,could result in aircraft accidents involving multiple serious injuries,death,and property damage. Although the main airstrip we viewed appeared to be in excellent condition,the alternate airstrip occasionally is in need of maintenance and we did not inspect any of the helicopter landing sites,which we understand the Operator is responsible to maintain. In addition to regulated charters in and out of Bradley Lake Project arranged by HEA,we were told there is significant unregulated use of the alternate airstrip and floatplane approaches.Weather conditions at this location are often unpredictable and can change in a matter of minutes., We view airport operation at Bradley Lake Project to represent the most significant catastrophe liability exposure.Losses of $20 million or more,while unlikely,are conceivable. Marine Exposures Bradley Lake Project is exposed to liability arising out of owned,non-owned,and charter vessels and from the maintenance and operation of a marine dock adjacent to the gravel airstrip. During our visit to Bradley Lake Project we observed a small,unpowered aluminum boat resting on the ground outside the powerhouse,one aluminum center console outboard located in the repair shop,and an aluminum outboard runabout located in the parts storage shed.We were told these vessels are used in support of operations at Bradley Lake Project. In addition to the operation of owned vessels,HEA contracts with third-party watercraft owners to ferry objects too large to be brought to Bradley Lake Project by airplane and to transport tanker trucks used to refill fuel storage tanks.It is possible that employees at Bradley Lake Project may from time to time use their own boats as transportation to and from Bradley Lake Project or utilize such vessels for business-related purposes.To the Warren?McVeigh &Griffin,,Inc 20 BPMC Liability DISCUSSION DRAFT extent this occurs,it would represent a direct non-owned watercraft liability exposure to HEA and indirectly to AEA and the BPMC. Although the marine operations we observed,as well as those described to us,do not represent a particularly hazardous catastrophe-liability concern,care must be taken to ensure that all existing and potential marine operations are covered by appropriate insurance.Although HEA is required by the operating agreement to carry appropriate liability insurance to cover such operations,we were not able to confirm whether HEA is in compliance with this requirement,as they did not provide us with a certificate of insurance or policy of insurance as evidence of such coverage.Also,the required limit of $5 million may not be adequate for an unlikely-but-possible loss involving serious injury or death to multiple persons.For this reason we suggest an overall umbrella or excess liability limit of at least $10 million,preferably $25 million or higher. The BPMC is authorized to approve agreements for the operation and maintenance of Project facilities. Negligent errors or omissions in the approval of O&M agreements possibly could expose BPMC and its members to liability for damages arising out of such negligence.The setting of "acceptable”amounts of insurance under the Master M&O Agreement is an example where BPMC's judgment could result in inadequate insurance for a large loss arising out of a specific construction or maintenance contract.This example may be somewhat less likely under the O&M Agreement with HEA because the insurance requirements are more detailed and are broader in scope under this Agreement (but still inadequate in our opinion).As we noted elsewhere in this report,however,we were, except for a non-owned aviation liability insurance policy,unable to verify that HEA is in compliance with these insurance requirements. It is possible that other BPMC acts,errors,or omissions could result in legal expenses and damages for which the Committee and its members may be responsible.As we point out in the insurance review section (see Section 6)of this report,the $1,000,000 limit of liability is too low. With regard to the various purchasers,we know that for Chugach there is a "Not for Profit Organization Liability Policy”in effect that is broad enough to provide them with limited coverage for any director,officer,or employee of Chugach who serves (at the specific direction of Chugach)as a director,governor,trustee,or committee member of any other not-for-profit organization,such as AEA and the Bradley Lake Project.It is possible that other purchasers have similar coverage,but verifying such coverage was not part of our assignment. Each of the purchasers should decide determine whether they have a similar policy and whether such policy would provide additional protection to its organization and to its officers serving on the BPMC and subcommittees. Warren,McVeigh &Griffin,Inc, 21 !DISCUSSION DRAFT Section 5 |Contractual Insurance Requirements Insurance requirements for the various parties to the Bradley Lake Project are governed by numerous sales and operating agreements and other contracts.The relation of such contracts to the various parties is illustrated below,followed by a discussion of the pertinent insurance requirements of each. a POWER "i:PURCHASERS £am BOND™,RESOLUTION 7 ra HOMER *y ELECTRIC -» ASSOCIATION Power Sales Agreement The Power Sales Agreement is the primary document setting forth the terms and conditions of the sale of power from Bradley Lake Project to the collective power purchasers. ' "i " 4 In this agreementthe Bradley Lake Project Management Committee ("BPMC”or "Committee”)is established and various responsibilities,including responsibilities relating to insurance,are set forth.The more important of these insurance responsibilities are listed below. Warren,.McVeigh &Griffin,Inc. DISCUSSION DRAFT 1.Section 11,paragraph (b)reads as follows: (b)Insurance.The Authority will maintain physical loss insurance to the extent required by the Bond Resolution,and the Authority will consult with the Committee as provided in Sections 12 and 13 with respect to the disposition of proceeds of said insurance received as a consequence of physical destruction or impairment of the Project,including but not limited to disposition for the purpose of redemption of Bonds,replacement of the project,or replacement of power.The Committee shall advise the Authority from time to time as to the appropriate extent of insurance coverage. 2.Section 13,paragraph (ii)(I),states that the BPMC shall: (I)Make an initial determination of "customary”insurance within the meaning of Section 714 of the Bond Resolution and determine the appropriate amount of,and obtain,insurance for or related to the Project, in addition to such insurance as may be required by the Bond Resolution; Early in our study we asked AEA and the State Division of Insurance for information about who,when,and how the decision was made to purchase the property insurance and establish liability insurance standards.We received no response to our request from AEA.The State Division of Risk Management was unable to answer our questions,but advised that the predecessor of the incumbent Division Director made such decisions and that many of the Division's old records were lost during a move from one office to another several years ago. It is our conclusion from our reading of the PSA that the PMC ("Committee”)is responsible for the initial determination of the insurance required by the Bond Resolution,including the determination and purchase of any insurance for or related to the Project,in addition to such insurance as may be required by the Bond Resolution. Further,the PMC must advise AEA periodically as to the "appropriate extent of insurance coverage.” Power Revenue Bond Resolution We received and reviewed an undated copy of the Power Revenue Bond Resolution of the board of directors of the Alaska Power Authority.Insurance requirements are set forth in Section 714 of the Bond Resolution,which we reproduce in Appendix C of this report. Section 714,paragraph 1,refers to insurance the Authority "shall keep and maintain” against risks,amounts and deductibles as are "customary”in connection with facilities of a type and size comparable to the Bradley Lake Project.Determination of what is customary shall be made by "an independent insurance consultant.” Paragraph 1.(a)Requires "all risks”insurance (for buildings,works,plants and facilities) "at all times in an amount not less than an amount necessary...to pay and retire and redeem all the outstanding bonds.”We believe this requirement could apply not only to Warren,.MecVeigh &Griffin,Inc: 23 DISCUSSION DRAFT insurance for direct loss to property but also to debt service coverage,which presently is uninsured. Paragraph 1.(b)Requires general public liability comparable to coverage carried by other comparable entities that own or operate facilities comparable to the Bradley Lake Project. This paragraph allows use of insurance with deductibles. Paragraph 1.(c)Requires comprehensive automobile liability insurance. Paragraph 1.(d)Requires "workers'compensation insurance or self-insurance.”No mention is made of employer's liability or maritime insurance. Section 714,paragraph 2,contains two important requirements: =Each required insurance policy must be issued by a "financially responsible insurer (or insurers)” m All insurance policies required by Section 714 shall name "...the Trustee,the Authority and the Purchasers as parties insured thereunder as the respective interest of each may appear.” Section 714,paragraph 3,states that every two years,from and after July 1,1990,the Authority shall employ an "independent insurance consultant”to review the insurance coverage of (and required for)the Authority and the Project and submit a report to the Authority providing consultant's findings,conclusions,and recommendations.We asked the Authority and the Division of Risk Management for a copy of the latest report,but received no response to our request. Wheeling Agreement This contract between Chugach and the other Bradley Lake Project power purchasers is for wheeling,storage,and energy-purchase services.There are no insurance requirements in this contract. Transmission Sharing Agreement This contract is between HEA and the other Bradley Lake Project power purchasers for the construction and maintenance of electric transmission lines from Bradley Lake Project.There is no specific insurance requirement in this contract. 4 Master Maintenance and Operating Agreement Under the terms of the Master Maintenance and Operating Agreement between Alaska Energy Authority (AEA)and the Bradley Project Management Committee (BPMC), '4 contracting and budgeting procedures for contracting for the maintenance and operation of the Project and related services is described.All such contracts are required to follow Warren,McVeigh &Griffin,Inc: { wa" t al i 1 { i DISCUSSION DRAFT the general provisions,including insurance provisions as set forth in Exhibit A.There are no requirements regarding the specific scope and limits of insurance required,but rather general requirements for the purchase of insurance are stated which include the following: m There is a general requirement to cover injury to persons or property suffered by AEA or a third party as a result of errors or-omission or operations by a Contractor. =Contractor shall purchase insurance adequate to cover its operations in connection with work under the contract,including "Workers Compensation Insurance and Comprehensive General Liability Insurance,including Comprehensive General Liability Broad Form Insurance,Automobile Insurance,Owned Aircraft Insurance (where applicable),and Owned Watercraft (where applicable).”Amounts of insurance are to be acceptable to AEA and consistent with the Power Sales Agreement. m=Such requirements are subject to the general availability of insurance with reasonable terms and conditions.If such coverage is not available under reasonable terms and conditions,the Contractor,under the guidance of the BPMC and the State Division of Risk Management,shall use best efforts to obtain substantively equivalent insurance acceptable to the BPMC,AEA,and the Division of Risk Management. m If after such best efforts Contractor is unable to obtain required insurance coverage,Contractor shall request a waiver and disclose steps taken to obtain such insurance,including disclosure of quotations received. =All subcontractors are required to carry the same insurance as required of the Contractor. Dispatch Agreement The Bradley Lake Dispatch Agreement (1996)between AEA and Chugach Electric Association (CEA)sets forth the terms and conditions of the dispatch of Bradley Lake electric power output by Chugach. This contract incorporates Exhibit A of the Master Maintenance and Operating Agreement (see discussion above),including insurance requirements. Operation And Maintenance Agreement Under the terms of the Operation &Maintenance Agreement (O&M Agreement)for Bradley Lake Project between Homer Electric Association,Inc.(HEA)and the Alaska Energy Authority (AEA),HEA is required to carry certain types of insurance coverage at specified minimum levels of coverage.Section 13-Insurance of the O&M Agreement and Exhibit C set forth specific insurance requirements as follows: Warren,:-McVeigh.&Griffin,Inc. 25 DISCUSSION DRAFT m HEA is required to carry Comprehensive General Liability insurance for bodily injury and property damage liability in an amount no less than $5 million combined single limit per occurrence covering "Premises Operations,Owners and Contractors Protective,Independent Contractors,Products/Completed Operations,Blanket Contractual Liability,Broad Form Property Damage and Personal Injury Aviation Liability.” w For owned aircraft and non-owned aircraft with a seating capacity of five seats or fewer,HEA is required to carry aircraft liability insurance with limits of liability not less than $5 million for bodily injury per occurrence:$1 million for passenger liability per seat and $5 million for property damage liability per occurrence.There is not but should be a requirement to cover the significant exposure arising out of operation and/or maintenance of the two airstrips and numerous helipads.It is possible such coverage is included in the general liability premises coverage part,but we were unable to confirm this,as HEA did not provide us with copies of their general liability insurance policies. m HEA is required to carry automobile liability insurance covering all vehicles with limits of no less than $5 million combined single limit each occurrence for bodily injury and property damage. m HEA is required to carry workers'compensation insurance providing statutory coverage for all employees.HEA also "is responsible for workers'compensation insurance for any of its subcontractors who directly or indirectly provide services under this Agreement.”Such workers'compensation coverage is to include employer's liability protection of not less than $500,000,Broad Form All States endorsement,and any coverage as required by any other State and Federal Acts where applicable.At $500,000 the employer's liability is inadequate.We recommend a minimum employer's liability limit of $1,000,000,which should be scheduled as underlying insurance on the recommended excess umbrella liability policy. m For owned watercraft and non-owned watercraft,HEA is required to carry watercraft liability insurance with limits of liability not less than $5 million per single occurrence as provided in the "in Rem Endorsement”under "Maritime Coverage B.”Because there is no universally accepted definition of what constitutes "in Rem”coverage and no specimen endorsement was attached,it is not clear what specifically is required by such coverage requirement. Overall we feel the limits of coverage required by the O&M Agreement are inadequate for the scope of operations at Bradley Lake Project.We recommend that overall limits should be at least $10 million and preferably $25 million or higher.Such limits could be achieved by arranging an umbrella or excess liability policy. Although there is a requirement for such insurance to be primary coverage and include The State of Alaska,the BPMC,and HEA as named insureds,there is no specific requirement to include the various purchasers comprising the BPMC as insureds under all such policies of insurance as their interests may appear. Warren,McVeigh &Griffin:Inc: 26 i ' i A DISCUSSION DRAFT In addition to the above,there are separate requirements for subcontractors (other than a purchaser)per the minimum terms and conditions of Exhibit C of the contract as follows: m Statutory workers'compensation benefits with employer's liability coverage in the amount of $100,000 per person and $100,000 per occurrence. s Commercial General Liability with limits of $300,000 per occurrence combined single limit,$300,000 per occurrence for personal injury,$300,000 products and completed operations,and a $300,000 general aggregate. Alternately the Contractor may carry a Comprehensive General Liability policy with limits of $300,000 per occurrence and in the aggregate for bodily injury, personal injury,and property damage. m Comprehensive Automobile Liability including hired and non-owned vehicles for limits of $100,000 per occurrence bodily injury and $50,000 property damage liability. m Professional liability insurance is required with limits ranging from $100,000 to $500,000 per occurrence and in the aggregate combined single limit.For contracts of $1 million or more,the required professional liability limits are negotiable.There is also a statement that the contracting agency may employ an owner-controlled insurance program,in which case the subcontractor is not required to carry professional liability insurance. Overall the subcontractor insurance requirements are outdated and may bear no relation to the actual work being performed by subcontractors at Bradley Lake Project.For example,the required limits of coverage for general,automobile,and employer's liability are inadequate and should be no less than $1,000,000 per occurrence.For air and watercraft charters,other specialized insurance should be required.The requirement for professional liability is normally only used in conjunction with engineering,design,or other types of professional services.The terms "Comprehensive Automobile Liability” and "Comprehensive General Liability”are no longer recognized terms to describe standard commercial insurance coverages. The insurance requirements contained in Exhibit C should be rewritten using more appropriate requirements and modern insurance terminology. During our visit to Bradley Lake Project,HEA provided us with a specimen insurance provision we were told is a standard requirement they incorporate into their contracts. Although these are an improvement over the requirements of Exhibit C,outdated terms are still used and the limit for employer's liability coverage is too low.Also,there is no mention of aviation insurance where hired,owned,or non-owned aircraft are used in conjunction with the contract.> >Insurance certificates we reviewed from air charter services indicated coverage for such operations. Warren,McVeigh &Griffin,Inc. 27 "| DISCUSSION DRAFT Section 6 Insurance Coverage Review AEA-Provided Insurance The following insurance is negotiated and purchased by AEA as the owner of the Bradley Lake Project directly through ARECA Insurance Exchange and Willis Insurance Brokers of Seattle through the State of Alaska Risk Management Division. Property Insurance (Primary Layer) Policy Number: CF030090324-A&B Policy Period:07/01/2003-07/01/2004 Insurer:ARECA Insurance Exchange Limits:$5,000,000 blanket all risk property $5,000,000 aggregate flood sublimit $5,000,000 aggregate earthquake sublimit $500,000 newly acquired locations sublimit $500,000 debris removal sublimit Deductible:$2,000,000 any one occurrence except 5%of value for flood 5%of value for earthquake Premium:$102,456 Comments and Recommendations This policy provides the first $5 million in property coverage,including earthquake and flood.Coverage is subject to a $2 million deductible except for the perils of earthquake and flood,which each have a deductible equal to 5%of the value of each separate building or structure.Additional policies apply excess of this primary layer to provide total protection of $60 million.There are numerous elements of coverage that require clarification in order to fully evaluate the adequacy of coverage.These and other recommendations are discussed below. RECOMMENDATION >Ask ARECA to broaden the definition of flood to specifically cover falling water as an insured peril. Warren.McVeigh &Griffin,Inc: 28 DISCUSSION DRAFT The current definition of "flood”means rising water,surface water tidal water,tidal waves,tsunami,overflow of streams,or other bodies of water or spray from any of the foregoing,all whether driven by wind or not.This definition may not contemplate release of water such as could occur from a failure of a spherical valve or fracture of the power tunnel or high-pressure piping.These are serious risks,which could result in the draining of the power tunnel or partial draining of the lake through the powerhouse,resulting in extensive damage and a prolonged recovery period.Sewer backup from flood also should be covered.We are aware of much broader definitions of flood used by other insurers of hydroelectric-generation plants. RECOMMENDATION >Ask ARECA to clarify application of the sublimit for debris removal, which is stated in the policy as $500,000. At Section 8.B.4)the policy states that there is a sublimit for debris removal of $500,000 for Insuring Agreement 10.B (1).Because Insuring Agreement 10.B (1)is for newly acquired locations and already carries a $500,000 sublimit,it is unclear whether the reference should actually be to Insuring Agreement 10.B (3),which has the heading "Debris Removal.” RECOMMENDATION >If there is in fact a sublimit of $500,000 for debris removal for other than newly acquired equipment,ARECA should be asked to explain how the excess layers of insurance apply to such coverage.- Because of confusion over debris-removal coverage in the primary property policy and a lack of mention of such coverage in the first excess property policy,®the insurer should be asked to explain its position regarding this important loss exposure.We believe there is a significant debris-removal exposure especially as respects earthquake,tsunami,and other flood risks.If there is a limitation of debris removal,such limitation should be removed or the sublimit substantially increased. RECOMMENDATION >Ask ARECA to delete excluded peril W.precluding certain types of water damage. Excluded peril W.precludes coverage for water under ground surface which presses on or flows or seeps through foundation,walls,floors,paved surfaces,basements,doors, windows,or other openings.We are concerned about failure of the underground power tunnel resulting in a large,high-pressure column of water to flow outside of the power tunnel and on to the powerhouse structure,even though the potential for such an occurrence may be remote. 5 ARECA policy number CF030090324. Warren,McVeigh &Griffinslne. 29 My DISCUSSION DRAFT RECOMMENDATION >Ask ARECA to remove excluded property E.,which applies to the cost of excavation,grading,backfilling or filling. An earthquake,tsunami,or other flood could conceivably result in significant debris being deposited into the powerhouse.In addition it is possible that portions of the powerhouse could be damaged or dislodged,including foundations and walls.A tsunami could take out considerable ground from around the powerhouse and other structures.Should this occur,significant and costly excavation,grading,backfilling,and filling could be required, which now are excluded. RECOMMENDATION >Ask ARECA to remove excluded property F.for docks,piers,and wharves. Bradley Lake Project property includes a large dock structure for the loading and unloading of heavy equipment and personnel not suitable for loading or unloading by aircraft at the gravel airstrip.A powerful tsunami or earthquake could damage this critical facility,rendering it unusable at a time when it may be most needed to aid rebuilding of damaged power plant or other structures.The Bond Resolution requires insurance for all "structures.” RECOMMENDATION >Ask ARECA to amend excluded property N.so that is does not apply to property located below ground level in the powerhouse or at the dam structure. Excluded property item N.includes underground caverns,tanks,wells,piping,mains, sewers,and drains including personal property therein.Although there is an exception by way of endorsement CFO1 for penstock or power tunnel,there is no mention of an exception for property situated below ground level in the powerhouse or at the dam. RECOMMENDATION >Ask ARECA to amend the policy to provide for a waiver of subrogation for the BPMC and all of the purchasers individually. The policy contains a subrogation clause that gives ARECA the right to subrogate against any party for recovery of claims it has paid unless such subrogation rights have been specifically waived against a particular entity in writing before a loss occurs or any entity which is an Insured under the policy.In endorsement CFO2,Bank America Trust Company and Homer Electric Association are listed as additional named insureds and thus are not subject to subrogation.Because we could find no written waiver-of- subrogation clause in any of the power-management or operating and maintenance agreements we reviewed,it does not appear that ARECA has or would be required to waive subrogation against any of the other purchasing utilities.In order to avoid a potential subrogation attempt by ARECA against any of the purchasing utilities,we 'Warren,McVeigh &Griffin,.Inc 30 ' nd 1 1 ' 1 DISCUSSION DRAFT recommend that the policy be amended to specifically waive any rights of subrogation against any of the purchasing utilities including the BPMC. RECOMMENDATION >Ask AEA to update the property statement of values dated 2001 or consider having a property inventory and yaluation performed. Attached to the policy we reviewed is a 2001 schedule titled "Property Statement of Values,Alaska Energy Authority.”The schedule identifies building values of about $183 million but there is no indication of values for equipment or building contents.The schedule is not very useful,as it does not provide much detail as to what is insured.It is unclear exactly what the $183 million figure represents or how it was arrived at. RECOMMENDATION >Ask ARECA to explain the apparent discrepancy in deductible amounts for earthquake and flood stated in the policy. Under Section 9.b.and 9.c.,the separate deductibles for earthquake and flood are stated to be 5%of the value of property at the time of loss for each separate building or structure,subject to a not-to-exceed limit of $7,500,000.However,under the earthquake and flood endorsement number 402 10/93,the deductible is stated to be 5% of the value at the time of loss,subject to a minimum deductible of $7,500,000.Because the latter deductible description is so onerous,we question whether it is correct. RECOMMENDATION >Ask ARECA to explain application of the separate earthquake and flood deductibles under the possible scenario where flood damage results from an earthquake. In addition to uncertainty over the amount of the earthquake and flood deductibles,it is not clear to us how the deductibles would be applied in a situation where there would be a tsunami flood loss which was the result of an earthquake.It is unknown whether ARECA would attempt to apply each deductible separately,which could be $15 million or more.This question should be immediately addressed by ARECA. RECOMMENDATION >Ask ARECA to remove exclusion H.as respects water transmission lines. Although endorsement CFO]makes an exception regarding exclusion N.for coverage of the penstock or power tunnel,exclusion H states that water transmission lines are not covered.In order to avoid exclusion of coverage for any water transmission lines in the dam,diversion tunnel,or powerhouse,exclusion H should be amended so that it does not apply to water transmission lines of any kind. Warren;.McVeigh &Griffin;Ina: 31 DISCUSSION DRAFT RECOMMENDATION - >Ask ARECA to amend exclusion J.so that the exclusion of land does not apply to the dam structure. Item 11.J.excludes land;however,we understand that the dam structure is composed in © part of land and rock.To avoid limiting coverage for the dam structure,the exclusion should be amended so that it does not apply to land or rock as part of the dam structure. RECOMMENDATION >Ask ARECA how much,if anything,it would cost to remove exclusion D.for roadways and airstrips. Damage to or destruction of roads and the gravel airstrip at Bradley Lake Project such as from earthquake or tsunami could result in substantial loss and disruption of operations. RECOMMENDATION >Ask ARECA to amend the time period for consideration of a single earthquake event from 72 hours to 168 hours to match the similar provision in the State-procured excess property policy. Under the ARECA earthquake endorsement,any earthquake occurring within any 72-| hour period is considered to be a single event.The State excess property policy stipulates that any earthquake occurring within a period of 168 hours is considered to be a single occurrence.Having a longer occurrence period may avoid application of an additional deductible for subsequent earthquakes. RECOMMENDATION >Ask ARECA whether expediting expenses are considered covered loss. Expenses and costs to expedite the manufacture or delivery of special equipment or parts or to effect repairs are sometimes incurred to speed bringing operations back on line after being damaged or destroyed.For specially manufactured parts like turbines,generators, or the powerhouse control room,repairs or replacement of damaged components could take several months or longer.Costs to expedite such repairs can be high.Because the ARECA policy does not specifically address the issue of expediting expenses,it should be clarified whether they contemplate such coverage within their policy.A sublimit of $2 million or more may be adequate,but coverage without any sublimit is highly preferred. RECOMMENDATION >Ask ARECA whether coverage for loss resulting from the enforcement of laws regulating demolition,construction,or repair of property could be added to the policy and at what additional cost,if any. Warren,McVeigh &Griffin:Inc. 32 - 4 4 \ t 1 DISCUSSION DRAFT Under heading 15.,SPECIAL EXCLUSIONS,the policy excludes any loss or damage resulting from the enforcement of any law or ordinance regulating the demolition, construction,or repair of property.Although we are not familiar with such specific laws in Alaska,it may be possible that a repair or replacement of damaged or destroyed property would have to be built to different standards,which could result in increased costs.Under the current wording such increased costs may not be covered. RECOMMENDATION >Investigate the possibility of combining coverage for property damage and boiler and machinery losses under a common insurance policy. The current approach arranges property insurance,including earthquake and flood,under a primary insurance policy with two additional policies providing excess coverage up to $60 million.A separate policy covers boiler and machinery risks up to $15 million. Although this is not an uncommon approach,there can be problems at the time of loss if it is not clear which policy of insurance should respond to a particular loss.. Even though the boiler and machinery policy and the first two layers of property -insurance have what is called a "joint loss adjustment agreement”designed to reduce the potential for adjustment problems,there can still be problems.For example,as stipulated in the boiler and machinery joint loss agreement,the insured,boiler and machinery insurer,and the property insurer must all admit to some liability and must agree to the total amount of loss. Such provisions provide no protection in instances where one or more underwriters attempt to deny coverage or do not agree to the amount of total loss.To eliminate problems that can arise from joint loss scenarios,the BPMC should consider combining property and boiler and machinery coverage parts into a single seamless policy with a common insurance company and reinsurance. Property Insurance (1st Excess Layer) Policy Number: CF030090324-B Policy Period:07/01/2003-07/01/2004 Insurer:ARECA Insurance Exchange Limits:$15,000,000 blanket all risk property inclusive of the perils of earthquake and flood except excess of $5,000,000 primary property as described above: $500,000 for newly acquired locations $500,000 for debris removal Deductible:"The Company will deduct all losses paid under the primary policy as scheduled on the declarations page of this policy” Premium:$190,276 Warren;:McVeigh &GriffinzJnc 33 neaceeeeeaeeeeeecleeeDISCUSSION DRAFT Comments and Recommendations This policy also placed with ARECA Insurance Exchange provides $15 million in coverage,including earthquake and flood excess of the primary ARECA policy discussed above.The policy is very similar to the primary layer and most of the recommendations we made above also apply to this policy and are not repeated here.Boiler and machinery losses are excluded from this property policy. RECOMMENDATION >Ask ARECA to explain whether this excess policy provides coverage over and above the $500,000 sublimits for newly acquired equipment and debris removal. It is unclear whether it is the intent of the first excess liability policy to be excess of the $500,000 sublimits for newly acquired equipment and debris removal.Although $500,000 may be adequate for newly acquired property (other than the planned governor replacement project)it is not adequate for debris removal at-a facility like Bradley Lake Project.ARECA should be asked to explain in writing how the sublimits apply relative to the excess liability policies. Property Insurance (2nd Excess Layer-State Program) Policy Number:=unknown Policy Period:07/01/2003-07/01/2004 Insurer:Lloyd's and London Companies (75%) Commonwealth Insurance Company (25%) Limits:$40,000,000 blanket all risk property except $40,000,000 annual aggregate for earthquake and flood combined excess of $20,000,000 underlying annual aggregate Deductible:No deductible but coverage is excess of $20 million underlying insurance and $2 million self-insured retention Premium:$160,000 Comments and Recommendations This policy,which is purchased through Willis Insurance Brokers in Seattle by the State Risk Management Division,provides an additional $40 million in coverage limits excess of the $20 million purchased through ARECA and applicable deductibles.The perils of earthquake and flood combined are subject to a $40 million annual aggregate,which is substantially less coverage than if the annual aggregates were to apply separately to flood and earthquake. RECOMMENDATION >Ask the broker to clarify the meaning of endorsement number 4 as respects the reduction of limits by paid losses. Warren,McVeigh &Griffin,Inc. 34 DISCUSSION DRAFT Endorsement 4 states in part that "as respects the perils of Earthquake and Flood,a $40, 000,000 annual aggregate shall apply excess of a $20,000,000 underlying annual aggregate,”yet in a following sentence the policy states that "It is agreed that the amount of insurance hereunder shall not be reduced by the amount of loss paid.”These two sentences seem to conflict.The broker should seek a clarification from the underwriter as to the application of aggregate limits and amend the endorsement as necessary. RECOMMENDATION >Ask the State's insurance broker to clarify the reference to $20,000,000 underlying annual aggregate in Endorsement 4. Endorsement 4 refers to an underlying annual aggregate amount of $20 million,yet the only annual aggregate is a $5 million annual aggregate as respects the perils of earthquake and flood in the primary layer.The first excess layer of $15 million is written on a per- occurrence basis with no aggregate limit. RECOMMENDATION >Ask the State's insurance broker to remove exclusion 4)a)as respects "related plants.” Exclusion 4)a)states that gas and electrical transmission lines and related plants are not covered by this policy of insurance.The term "related plants”is not defined in this policy but conceivably could be interpreted to include the powerhouse.To avoid limiting coverage,the exclusion should be amended so that it does not apply to the powerhouse or other real and personal property located at the Bradley Lake facility. RECOMMENDATION >Ask the State's insurance broker to amend the policy to provide for a waiver of subrogation for the BPMC and all of the member utilities individually,as their interests may appear. The policy contains a subrogation clause that gives underwriters the right to subrogate against any party for recovery of claims it has paid unless such subrogation rights have been specifically waived against a particular entity in writing before a loss occurs,any entity which is an Insured under the policy or any other entity for which the Insured has agreed to provide insurance. In endorsement number 1.,the State of Alaska and the Alaska Energy Authority are identified as the named insureds. Because we could find no written waiver-of-subrogation clause in any of the power sales or operating and maintenance agreements we reviewed,it does not appear that the State's insurance company has or would be required to waive subrogation against any of the purchasing utilities or the BPMC.In order to avoid a potential subrogation attempt by the State's insurance company against any of the purchasing utilities,we recommend Warren,McVeigh &Griffin,inc. 35 i 4 { a] 4 s 4 DISCUSSION DRAFT that the policy be amended to specifically waive any rights of subrogation against any of the purchasing utilities including the BPMC. RECOMMENDATION >Ask the State to amend the policy so that it accurately reflects the self-insured retention under the primary property policy. At page 4 under the heading "Self Insured Retention,”the self-insured retention is stated to be $2,000,000 per occurrence for all perils including earthquake and flood.Although there is a basic deductible in the primary policy of $2,000,000,the separate deductibles for earthquake and flood are not shown. Boiler and Machinery Policy Number:=8M0378386099 Policy Period:07/01/2003-07/01/2004 Insurer:ARECA Insurance Exchange Limits:$15,000,000 each accident subject to sublimits of $250,000 for expediting expenses $100,000 for hazardous substances $100,000 for ammonia contamination Deductible:$300,000 annual aggregate property damage deductible,-subject to $10,000 each accident in excess of annual aggregate $2.50 per kilowatt for turbine generators $100,000 for transformers $50,000 all other objects Premium:$101,092 Comments and Recommendations This policy covers special equipment known as "boiler and machinery”located at the Bradley Lake facility RECOMMENDATION >Ask ARECA to immediately issue the Object Schedule. The special boilers and machinery covered by this policy are referred to as "Objects” under the policy.The definition of "Object”means the equipment shown in the Schedule.The definition further states that a full description of Object categories are found in the Object Definition Endorsement attached to the policy.Although there is an Object definition,there is no Object Schedule contained in the insurance policy we reviewed.ARECA should provide a copy of the Object Schedule so that a complete evaluation of coverage for this policy can be completed. Warren,McVeigh &Griffin,Inc 36 DISCUSSION DRAFT -RECOMMENDATION >Ask ARECA to remove from the definition of "Object”at Section A.1.of the Object Definition,the exclusion of computer or computer-process equipment used wholly or in part for administrative,statistical or accounting purposes,or to clarify that such exclusion does not apply to the control room at the powerhouse. Computer equipment and processes at the control room include extensive monitoring of operations and the generation of statistical information about such operations.Indirectly, data monitored,stored,and processed by the control room are used for budgetary and accounting purposes.To avoid inadvertent limitation of coverage for the control room, the Object Definition should be amended so that its exclusion does not apply to control room operations. RECOMMENDATION >Consider increasing or eliminating the current sublimit of $250,000 for expediting expenses. The boiler and machinery policy contains a sublimit of $250,000 for expediting expenses. Expediting expenses are those expenses necessary to make temporary repairs,expedite temporary repairs,and to expedite permanent replacement.Because much of the specialized equipment at Bradley Lake,such as the turbines,generators,spherical valves, transformers,etc.,may require many months for fabrication and delivery,it is conceivable that significant expediting expenses,well beyond the current sublimit,could be incurred to reduce downtime or interruptions in operations. Directors &Officers Coverage Policy Number:8167-8043 Policy Period:12/31/2003-1 2/31/2004 Insurer:Executive Risk Indemnity,Inc. Limits:$1,000,000 maximum annual aggregate Deductible:Nil for each insured person for unindemnified loss $10,000 each claim where indemnification is legally permissible $10,000 each claim for insured entity coverage Premium:$9,183 Comments and Recommendations This policy covers the Bradley Lake Project Management Committee (BPMC)for certain wrongful acts arising out of activities of the BPMC. Warren,McVeigh &Griffin;Inc: DISCUSSION 38 DRAFT RECOMMENDATION 2 >Check the BPMC's bylaws or resolutions to ensure that such bylaws or resolutions provide for indemnification of Insured Persons to the fullest extent permitted by law. The policy retention amounts will apply to any loss incurred by or on behalf of the ;Insured Person to which indemnification by the Insured Entity is legally permissible, "|whether actual indemnification is made.' RECOMMENDATION >Consider specifically listing the various operating utilities as members comprising BPMC. Although the Insured Entity is the BPMC,we recommend that the individual operating utilities be listed as those entities comprising the BPMC.Doing so will avoid any confusion over who is an insured under the policy. RECOMMENDATION >Consider increasing the limits of coverage to at least $5 million. At $1 million,the current limit of coverage provides minimal protection.The BPMC should consider higher limits of at least $5 million.Although we do not view the BPMC as being particularly prone to director and officer-type litigation,when such litigation does occur it is usually highly complex and can drag on for months or years.Such suits can cost several hundred thousand dollars just to defend. RECOMMENDATION >The BPMC should advise its member utilities comprising the BPMC to carry additional director and officer insurance in excess of what the BPMC carries as may be deemed appropriate by Purchaser. The BPMC should consider advising the various member utilities comprising the BPMC to carry whatever additional director and officer liability insurance that each member deems appropriate for its own protection. RECOMMENDATION >Ask the insurer to confirm in writing that Exclusion G does not A preclude coverage for claims made by one member of the BPMC .against the BPMC or other member of the BPMC. Exclusion G excludes derivative-action-type claims against the insured entity unless such derivative actions are made independently of and without participation,assistance,or 7 Does not apply iffailure to indemnify is due solely to reasons offinancial insolvency. Warren,McVeigh &Griffin,Inc: DISCUSSION DRAFT intervention of the Insured Entity or an Insured Person.Because such exclusions were meant to apply to shareholders of corporations,it is unclear how such exclusion would apply to the Insured Entity as a committee.To avoid any limitation of coverage for lawsuits against the BPMC collectively or any individual committee member by another committee member,such exclusion should either be eliminated or reworded.Alternately a written explanation from the insurer explaining the intent of such exclusion relative to the BPMC and members thereof might be obtained. RECOMMENDATION >If any changes are made on renewal,particularly a change in insurer, require the insurance broker to provide AEA and the BPMC a complete analysis of such changes. HEA-Provided Insurance Non-Owned Aviation Liability Policy Number:=NAC3014569 Policy Period:05/01/2003-05/01/2004 Insurer:XL Specialty Limits:$5,000,000 _single limit bodily injury and property damage including passenger liability $1,000,000 each person passenger liability Deductible:none Premium:$62,500 Comments and Recommendations This policy covers HEA for liability arising out of the use of non-owned aircraft in support of operations related to Bradley Lake Project including charters and slung cargo. Except for the non-owned aviation policy described above,we were unable to confirm whether HEA is in compliance with the various insurance requirements of the O&M Agreement.This is because we were not provided copies of these requested policies. Even if it is presumed that HEA is in compliance,we found that in some instances the requirements contained in the O&M Agreement used dated descriptions of insurance coverage that are no longer in use or the requirements were inadequate considering the exposures to loss.Major deficiencies in the current insurance requirements include: m There is not but should be a requirement to provide insurance for operation and maintenance of airstrips and heliports at Bradley Lake Facility.Because of unpredictable weather conditions and a history of aviation accidents at this site, airport liability is a significant exposure to loss. Warren,McVeigh'&Griffin?Inc: 39 DISCUSSION 40 DRAFT ms At only $5 million the required general and automobile limits are inadequate. The operator should carry an umbrella or excess liability policy increasing overall liability limits to at least $10 million,preferably $25 million or higher, including passenger liability,for which the current $1,000,000 limit is inadequate. RECOMMENDATION 4 >If HEA is unable to provide insurance required by the Operating and zs Maintenance Agreement,the BPMC should consider acquiring 2 insurance directly for the benefit of various parties to the Bradley fd Lake Project or to purchase a broad excess liability policy over coverage currently provided (but not verified)by HEA. ;Warren,McVeigh &Griffin,Inc. DISCUSSION DRAFT Appendix A Information Requests ' 1 4 ot 3 } ¥4 4 Werren,McVeigh &Griffin,Inc. DeeeedaeeeeeneeeeelemeaatDISCUSSION DRAFT Bradley Lake Project ARECA Questions and Document Request Document Request: 1.Latest Financial Statement filed with the State of Alaska 2.Any documents that describe how ARECA dividends or assessments are calculated and applied 3.Any probable maximum loss study or similar loss study performed for Bradley Lake project 4.Loss ms for Bradley Lake on all placements for past five years including records of uninsured fire or machinery losses. 5.List of reinsurance and description of structure both treaty and facultative 6.Engineering reports relating to Bradley Lake project 7.Copy of latest property/boiler application(s) 8.Copy of insured property schedule/values on file with ARECA or other underwriters Questions: 1.Aproperty statement of values is attached to the primary property policy showing "BLDS”listed at about $183 million.Does this amount include the value of the dam,power tunnel and machinery,and all other insured property? 2.Is there a more detailed schedule of property on file? 3.The property statement ofvalues is dated August 28,2001,is this most recent statement of values? 4.Who does inspections for property at insurance at Bradley Lake project and how often are these performed? 5.Who does inspections for boiler and machinery at Bradley Lake project and how often are these performed? 6.Can you please provide us with copies of any boiler and machinery or property inspection reports performed for Bradley Lake project during the past three years? 7.Has a probable maximum loss or similar loss study ever been performed for Bradley Lake project?If yes please provide a copy. 8.Please describe reinsurance placements relative to ARECA generally and Bradley Lake project specifically if the Bradley Lake placements involve different or additional reinsurance arrangements. 9.Under the primary and excess property policies docks and roadways are excluded.Is it possible to insure the Bradley Lake dock and various roadways and airstrip under the current policies? 10.For the primary property policy,under Section 11.item H.,water transmission lines are excluded.Also at item N.,underground caverns,tanks,wells,piping,mains,sewers and drains are excluded.Although endorsement No.CF01 states that Article 11.does not apply to penstock or power tunnel,it is unclear Warren,.McVeigh &Griffins Inc 11. DISCUSSION DRAFT whether other property as described in item N.contained in the power room,which is partially underground would be excluded. For the excess property policy at Section 11 there is a slightly different approach to coverage for the power tunnel and penstock.Endorsement XCF02 states that property excluded under item N.does not apply to penstock or power tunnel.Under the primary policy the exception for penstock and power tunnel applies to the entire Section 11.not just to item H.An additional endorsement No.XCF03 states that item H does not apply to water transmission lines,We were curious as to why slightly different wording is used for the primary and excess policies and whether you intend for there to be any difference in coverage scope between the two policies? Warren,McVeigh &Griffin,Inc. 1 { 1 ; DISCUSSION DRAFT Bradley Lake Project AEA Questions and Document Request Under Sec.714 of Power Revenue Bond Resolution the determination of customary insurance is to be made by an independent insurance consultant employed by the Authority.Could you please provide us with copy of any such reports? The Bond Resolution Agreement also states that insurance for Bradley Lake project shall include "...an amount necessary...to pay and retire and redeem all the Outstanding Bonds.We are not aware of any such coverage being purchased.Could you please discuss the rationale for not purchasing debt-service insurance coverage for risks of serious long-term power interruption caused by earthquake or other catastrophic event? Could you please discuss provisions for payment of catastrophic general and auto liability loss (including aviation,airport and watercraft liability)exceeding or not covered by insurance maintained by HEA? Could you please describe the current status of Debt Service Fund,Renewal &Contingency Reserve Fund and Capital Reserve Fund? Could you please provide us with copies of the following documents: «-Latest audited financial statements applicable to the BPMC and all purchasers of Bradley Lake power "Woodward Clyde Consultants project design earthquake study of 1981 *-Latest Bradley Lake inspection report by FIRC *Most recent inspection reports by ARECA and Chubb Warren;McVeigh &Griffin,Inc DISCUSSION DRAFT Appendix B Earthquake Risk Assessment EQE Structural Engineers Division ABS Consulting 12/22/03 Warren,McVeigh &Griffin,Inc. DISCUSSION DRAFT 714.Insurance.1.The Authority shall keep and maintain the Project at all times insured against such risks and in such amounts,with such deductible provisions,as are customary in connection with the operation of facilities of a type and size comparable to the Project.The determination of what is customary within the meaning of the prior sentence shall be made by an independent insurance consultant employed by the Authority.Without limiting the foregoing,the Authority shall carry and maintain,or cause to be carried and maintained,and pay or cause to be paid timely the premiums for,the following insurance with respect to the Project and the Authority: (a)insurance coverage for buildings,works,plants and facilities comprising the Project for all risks of direct physical loss,at all times in an amount not less than an amount necessary giving regard to co-insurance provisions to pay and retire and redeem all the Outstanding Bonds; (b)general public liability insurance (other than as set forth in subsection (c)of this Section)in minimum amounts per occurrence,for annual aggregate claims,and with a deductible amount, to the same extent that other entities comparable to the Authority and owning or operating facilities of the size and type comparable to the Project carry such insurance; (c)comprehensive automobile liability insurance; (d)workers'compensation insurance or self-insurance as required by the laws of the State of Alaska; 2.Each insurance policy required by this Section (i)shall be issued or written by a financially responsible insurer (or insurers),or by an insurance fund established by the United States or State of Alaska or an agency or instrumentality thereof,(ii)shall be in such form and with such provisions (including,without limitation and where applicable,loss payable clauses payable to the Trustee,waiver of subrogation clauses, provisions relieving the insurer of liability to the extent of minor claims and the designation of the named assureds)as are generally considered standard provisions for the type of insurance involved,and (iii)shall prohibit cancellation or substantial modification by the insurer without at least thirty days'prior written notice to the Trustee and the Authority.Without limiting the generality of the foregoing,all insurance policies carried pursuant to this Section 714 shall name the Trustee,the Authority and the Purchasers as parties insured thereunder as the respective interest of each of such parties may appear,and loss thereunder shall be made payable and shall be applied as provided in this Resolution.' 3.The Authority covenants to review each year the insurance carried by the Authority with respect to the Authority and the Project and,to the extent feasible and economically prudent,will carry insurance insuring against the risks and hazards specified in this Section to the same extent that other entities comparable to the Authority and owning or operating facilities of the size and type comparable to the Project,and taking into account any special circumstances of the Project,carry such insurance.In the event that the Authority determines that the insurance required by this Section is not available to the Authority at reasonable cost,and,in any case,every two (2)years,from and after July 1,1990,the Authority shall employ an independent insurance consultant for the purpose of reviewing the insurance coverage of,and the insurance required for,the Authority and the Project and making recommendations respecting the types,amounts and provisions of insurance that should be carried with respect to the Authority and the Project and their operation,maintenance and administration.A signed copy of the report of the independent insurance consultant shall be filed with the Trustee and copies thereof shail be sent to the Authority,and the insurance requirements specified hereunder,including any and all of the dollar amounts set forth in this Section,shall be deemed modified or superseded as necessary to conform with the recommendations contained in said report. 4.The Authority may establish a fund to provide self-insurance against the risks and hazards relating to the properties of the Project and the interests of the Authority and the Bondholders as described in this Section,and,in connection therewith,may specify and determine the matters and things set forth in paragraph 3 of this Section. 5.Insurance maintained pursuant to this Section may be part of one or more master policies maintained by the State of Alaska so long as the form of such policy and the coverage is the same as ifa separate policy was in effect. 6.The Authority shall on or before January 1 of each year,commencing January 1,1990,submit to the Trustee a certificate verifying that all minimum insurance coverages required by this Resolution areinfullforceandeffectasofthedateofsuchAuthorityCertificate. DISCUSSION DRAFT Appendix C Section 714 of the Power Revenue Bond Resolution of the Board of Directors of the Alaska Power Authority ens<A S$Consulting EQE STRUCTURAL ENGINEERS DIVISION a December 22,2003 4 Mr.C.C.Griffin President WARREN,MCVEIGH &GRIFFIN,INC. 1420 Bristol Street North,Suite 220 Newport Beach,CA 92660 Phone:949-752-1058 Fax:949-955-1929 Subject:Desktop Seismic Risk Assessment of the Bradley Lake Hydroelectric Project in Homer,Alaska ABS Consulting Project No.1274545 Dear Mr.Griffin: This letter presents a of a desktop seismic risk assessment for the Bradley Lake Hydroelectric Project in Homer,Alaska.The purpose of this desktop risk assessment is to provide an initial opinion of the probable maximum loss for a major earthquake affecting the site. The Bradley Lake Hydroelectric plant is located approximately 27 miles northeast of the city of Homer.The structures considered in this desktop analysis include:the dam, power tunnel,diversion tunnel,spillway,powerhouse,substation,and other miscellaneous structures.Data for these structures are based on information presented in the risk assessment report prepared by Stone and Webster Engineering Corporation (1990)and the independent consultant inspection report prepared by Donald E.Bowes (2001). Total insured values were provided via email from Warren,McVeigh &Griffin,Inc.and are shown in Table 1.It is our understanding that current total insured valued for each of the structures are not precisely known.The values shown in Table 1 are approximate values based on data in the Stone and Webster risk assessment report,which have been escalated to current dollar values. SCOPE OF WORK The scope of work for this project consisted of the following: ABSG Consulting Inc.«300 Commerce Drive,Suite 200 «Irvine,CA 92602 USA ©Tel:1-714-734-4242 ¢Fax:1-714-734-4272 www.absconsulting.com 4At Mr.C.C.Griffin December 22,2003 Page 2 1.Review and sort portfolio data. The portfolio data was reviewed and prepared for input to the portfolio analysis software.The required data included total insured values for each of the main structures.Building construction data was based on information presented in the 1990 Stone and Webster risk assessment report. 2.Perform Portfolio Analysis. Analyze the entire facility employing ABS's proprietary software, USQUAKE ™,Our approach will provide opinions of risks using both deterministic and probabilistic methodologies. Deterministic analyses will project risk in terms of probable maximumloss(PML)percentages based on major earthquake scenarios having mean recurrence intervals of 475 years (designated as the Design Basis Earthquake or DBE)and 2500 years (designated as the Maximum Credible Earthquake or MCE). Probabilistic analyses will utilize the database of stochastic earthquake event with ABS proprietary software.An annual probabilistic loss exceedance relationship will be developed,reflecting losses from all possible earthquake events.From this,annual financial loss exposure will be obtained for the portfolio (i.e.,1 in 500 chance of annual exceedance). Loss projections will be provided based on the overall portfolio.The portfolio loss projections will include both property losses and business interruption losses.Note that if business interruption values are not available,business interruption downtimes will be projected based on the earthquake damage levels. 3.Prepare letter report summarizing our methods and findings. METHODOLOGY Building data used in the analysis are shown in Table 1.The structure types used in this study are based on available data in the 1990 Stone and Webster report. A desktop evaluation refers to the fact that neither detailed site visits or structural drawing reviews were performed.The omission of these actions necessarily result in a lower level of confidence in the estimated damage levels,as the seismic response froma particular building type can only be assumed for a "typical "structure. Mr.C.C.Griffin December 22,2003 Page 3 The plant aggregate loss projections were developed using the building vulnerabilities and the portfolio data (site locations and financial values)using ABS Consulting's proprietary computer code USQUAKE™,This computer code uses the latest fault information and regional soil data available.This software provides for realistic summations of multiple site losses using deterministic and probabilistic methods.Such methods reduce the excessive conservatism in loss projections that typically result from direct sum or other approximate methods. Loss results are provided based on both deterministic and probabilistic analyses.Fora deterministic analysis,specific earthquake scenarios (i.e.specific faults and return periods)were postulated to occur and losses were obtained only for these selected scenarios.Numerous earthquake events (combinations of rupture magnitude and rupture location)may occur along each of the known faults and in the seismic area sources.There are virtually thousands of earthquake scenarios,which may occur along the faults and in the area sources.Therefore,assessing the risk exposure of a portfolio for a few selected scenarios may not be adequate or may at times be too conservative. For the deterministic analysis,projected losses are presented in terms of both a Normal Expected Loss (NEL)and a Probable Maximum Loss (PML).These represent opinions of the probable range of overall costs to restore the building and contents to pre- earthquake condition,expressed as a percentage of total replacement value,given that the Design Basis Earthquake (DBE)event occurs.The DBE for a fault is defined as thelevelofeventthat,on the average,is expected to occur once every 475 years,although it may actually occur more or less often.Equivalently,the DBE corresponds to a 10% probability of exceedance over a 50 year exposure.Although a DBE is not the strongest event that could ever occur in an area,it is a reasonable estimate of the strongest shaking likely to occur at a building site during the life of an engineered structure,and is used as the basis for structural design in modern building codes.The Maximum Credible Earthquake (MCE)is defined as the earthquake event that is expected to occur,on average,once every 2500 years.The MCE equivalently corresponds to a 2%probability of exceeedance over 50 years. The PML is a conservative estimate of the potential loss,having a 90%confidence level. This means there is only a 10%chance that actual losses experienced in the given earthquake scenario would exceed this amount.The Normal Expected Loss (NEL)is our mean or average estimate of the potential loss.However,it has a 50%confidence level, meaning that there is a 50%chance that actual losses experienced in the earthquake event would be more than this amount. A probabilistic analysis provides a more robust evaluation of the seismic risk to a portfolio of properties.Losses obtained from probabilistic analyses include consideration of all events in the USQUAKE™seismic hazard database.Each probabilistic event in the seismic hazard database is established using available geologic and paleoseismic fault data.Probabilistic events are postulated at increments of 0.1 between the established minimum and maximum for each fault.An annual probability a al a 4 : "4 4 i wt oy Mr.C.C.Griffin December 22,2003 Page 4 of occurrence is established for each probabilistic event.For a given fault,a greater annual probability of occurrence is expected for a lower magnitude event when compared to a higher magnitude event.However,the annual probabilities of occurrence for two events with the same magnitude on two different faults are generally not the same. A probabilistic loss analysis consists of calculating portfolio losses for all probabilistic events in the seismic hazard database.These event losses are then ranked in ascending order of their loss amounts.The annual probability of non-exceedance for a selected loss amount in this ranking is determined by summing the annual probabilities of all the events whose loss amounts are equal to or lower than the selected loss amount.The probabilistic loss results are presented in terms of the loss with an annual probability of non-exceedance of 99.8%(or a 0.2%annual probability of exceedance).Equivalently, this loss corresponds to an average return period of approximately 500 years. In addition to direct property losses associated with buildings and contents,the loss projections include contributions from business interruption,a contingency for clean-up and recovery,and demand surge.These loss contributors are described below. Estimates of potential business interruption are included and based on the expected level of facility damage.A reduced business capacity is expected as portions of the buildings may be closed to allow for damage inspection,engineering design for repairs, public agency review,and reconstruction.In this study,since business interruption values were not available,only downtimes due to the earthquake damage are projected. Off-site effects due to lifelines are beyond the scope of this study and are not included in the business interruption time estimates. A contingency is added to the expected portfolio loss estimates in order to account for unexpected costs of clean-up and recovery following natural hazard events.The contingency factor of 10%,as used in this report,is based on ABS Consulting's observations during such previous events.However,please note that the contingency factor may be smaller or larger,depending on the size and/or location of the hazard event. Demand surge represents the expected rise in the cost of construction materials and services folowing a major earthquake.Following a large regional earthquake,many businesses throughout the affected area will require the same types of labor and supplies needed for repair of the Bradley Lake plant.It is reasonable to assume that premium wages and difficulties in committing and scheduling skilled repair personnel will be encountered after a major regional earthquake.Although from experience it is clear that such a surge is likely and can be significant,it is not clear that the surge effect can be determined reliably.As such,potential loss results are presented with demand surge as a line item so that judgment can be used in determining the appropriate level of loss for planning purposes. a } Mr.C.C.Griffin December 22,2003 Page 5 RESULTS For the deterministic analyses,the controlling DBE (475-year event)for the plant corresponds to a M7.5 event on the Wadati Benioff Zone 4 Fault.The opinion of the total financial loss is $14.6 million,which includes the aggregate PML (Probable Maximum Loss),demand surge,and contingency for clean-up and recovery.These results are summarized in Table 2. Similarly,Table 3 presents the results for the MCE (2500 year event),in which the total probable maximum financial loss is $24.3 million.The MCE event corresponds to a postulated M8.0 earthquake on the South Central Alaska area source.In the absence of detailed site specific fault data,the area source is conservatively assumed to be located under the site. Note that in both Tables 2 and 3,business interruption downtimes are shown.Dollar loss values are not provided,since annualized business interruption data were not available.BI losses could be estimated by multiplying the projected downtimes by the BI dollar loss per unit time. Results from the probabilistic analyses are shown in Table 4.As with the deterministic analyses,the losses include direct property losses,contingency for clean-up and recovery,and demand surge.For the Bradley Lake project,the 500-year loss corresponds to $11.9 million,which includes direct property damage,contingency for clean-up and recovery,and demand surge.Business interruption downtime is also shown. The differences between the deterministic and probabilistic damage loss results can be described in the following.The deterministic NEL and PML values in Tables 2 and 3 correspond to damage projections given that either the 475-year or 2,500-year earthquake events have occurred.The NEL corresponds to a best estimate or 50 percent confidence of nonexceedance.The PML corresponds to a high confidence or 90 percent confidence of nonexceedance.On the other hand,the probabilistic damage projection in Table 4 corresponds to a 500-year loss,or equivalently,the seismic damage loss expected to occur once in 500 years on average. LIMITATIONS Findings presented as a part of this project are for the sole use of Warren,McVeigh &Griffin,Inc.in its evaluation of the subject property.The findings are not intended for use by other parties,and may not contain sufficient information for the purposes of other parties or other uses.Our professional services are performed using a degree of care and skill normally exercised,under similar circumstances,by reputable consultants practicing in this field at this time.No other warranty,expressed or implied,is made as" to the professional advice presented in this report. Mr.C.C.Griffin December 22,2003 Page 6 ABS Consulting appreciates the opportunity to be of service to Warren,McVeigh & Griffin.If you have any questions or require any other information,please don't hesitate to call me. Sincerely, ABSG Consulting Inc. ,[aioe be:pafec CA te David K.Nakaki,Ph.D.,P.E. Group Manager References Stone &Webster Engineering Corporation,"Alaska Energy Authority,Risk Assessment Evaluation of the Bradley Lake Project,Draft,”March 1990. Bowes,D.E.,"Independent Consultant Inspection Report,Bradley Lake Hydroelectric Project,FERC Project No.8221-AK,”prepared for Alaska Energy Authority,November 2001. Table 1 PROPERTY DATA FOR THE BRADLEY LAKE HYDRO PLANT a a .Structure _.Total Insured Value .me ($1000's) Dam $17,640 Power Tunnel $20,874 Diversion Tunnel $3,332 Spillway $9,114 Powerhouse $57,820 Substation $11,956 Other Miscellaneous Structures $8,400 Total $129,136 "4}4 Table 2 DETERMINISTIC AGGREGATE EARTHQUAKE LOSS EXPOSURE FOR THE BRADLEY LAKE HYDROELECTRIC PROJECT (DESIGN BASIS EARTHQUAKE EVENT') Total Aggregate Aggregate Financial Loss Insured Percentage ($Millions) Value Loss Category ($Millions)|NEL |PML NEL PML 1.Structures $129.1 5%10%$6.5 -$12.9 e Contingency for cleanup and recovery2 $.7 $1.3 e Demand Surge $0.7 $1.7 e Business Interruption3 0.5 month 1 month TOTALS $7.9 $14.6 1 The governing DBE corresponds to a M75 event on the Wadati Benioff Zone 4 Fault. 2 Contingency assumed at 10%of total direct property loss. 3 Business interruption downtimes are presented.Business interruption insured values were not available.BI losses can be obtained by multiplying the downtime by the BI value per unit time. Table 3 DETERMINISTIC AGGREGATE EARTHQUAKE LOSS EXPOSURE FOR THE BRADLEY LAKE HYDROELECTRIC PROJECT(MAXIMUM CREDIBLE EARTHQUAKE EVENT') Total Aggregate Aggregate Financial Loss Insured Percentage Loss ($Millions) Category Value ($Millions)|NEL |PML NEL PML Structures $129.1 8%15%$10.3 $19.4 e Contingency for cleanup and recovery?$1.0 $1.9 e Demand Surge $1.5 $3.0 e Business Interruption?1 month 2 months TOTALS}$128 $24.3 1 The governing MCE corresponds to a M8.0 event on the South Central Alaska Area Source. 2 Contingency assumed at 10%of total direct property loss. 3 Business interruption downtimes are presented.Business interruption insured values were not available.BI losses can be obtained by multiplying the downtime by the BI value per unit time. Table 4 500-YEAR PROBABILISTIC AGGREGATE EARTHQUAKE LOSS EXPOSURE Total Insured 500-Year 500-YeartProbable Category Value Probable Financial Loss Percentage Loss ($Millions)($Millions) 1.Structures $129.1 7%$9.0 e Contingency for cleanup and recovery $0.9 e Demand Surge $2.0 e Business Interruption®1 month TOTAL $11.9 *The 500-year probable loss corresponds to a loss having a 99.8%annual probability of non-exceedance. 5 Contingency assumed at 10%of total direct property loss. 6 Business interruption downtimes are presented.Business interruption insured values were not available.BI losses can be obtained by multiplying the downtime by the BI value per unit time. DISCUSSION DRAFT Appendix D Best's Rating and Report Updates for ARECA Insurance Exchange caeOEAag yer!er |of'Best's Ratingand Report'Updates ffora|BRARECA Insurance Exchange¥;;ee SS Pee Ee Oy ae Best's Rating of A-(Excellent) Financial Size Category of V ($10 million to $25 million) Rating Category (Excellent):Assigned to companies that have,in our opinion, an excellent ability to meet their ongoing obligations to policyholders.The Financial Size Category is assigned to all companies and reflects their size based on their capital,surplus and conditional reserve funds in millions of U.S.dollars. The objective of Best's rating system is to provide an opinion of an insurer's financial strength and ability to meet ongoing obligations to policyholders.Our opinions are derived from the evaluation of a company's balance sheet strength, operating performance and business profile as compared to Best's quantitative and qualitative standards.View our Best's Rating System and Procedures for more information. While Best's Ratings reflect our opinion of a company's financial strength and ability to meet its ongoing obligations to policyholders,they are not a warranty,nor are they a recommendation of a specific policy form,contract,rate or claim practice. View our entire notice for complete details. *Note:The above information reflects the most recent Best's Rating for this company,which may have been released subsequent to the creation of the following Best's Company Report. Best's Company Reports provide detailed business overview,extensive financial data and analytical commentary,product and geographic information,company history,as well as the rationale supporting the financial strength rating assigned by A.M.Best.These reports are updated on a regular basis based on input and analysis performed throughout the year. Best Company Report Revision Date -06/30/2003 * The Report Revision Date *represents the last significant material change made to this report.Other non-material changes may have been made to this report subsequent to this date,but are not reflected in the report revision date.The Best Company Report below was created based on the following dates. u cad arani " aulat\ Rating and Commentary|:4415 raHa |iSPLMERPeetasieeLoatiy|sais rmanelal2 |}[Best's Rating:06/13/2003|"ime Period:2nd Quarter 5General.InfoPeol+-4 .Corporate Structure:N/Amation33 -2003 Rating Rationale:. States Licensed: 06/13/2003 Last Updated:09/24/2003 12/26/2004 Report Commentary :Status:Quality Cross |Officers and Directors: 06/30/2003 Checked 02/19/2003 *Note:The Rating and Commentary 'date outlines the most recent updates to the Company's Rating,Rationale,and Report Commentary for key rating and business changes.Report commentary may include significant changes to Business Review,Financial Performance/Eamings,Capitalization, Iinvestment/Liquidity,or Reinsurance sections of the report.The Financial 2 date reflects the current status of the financial tables found within the body of the Company Report,including whether the data has was loaded as received or had been run through our quality control cross-check process.The General Information 3date covers key areas that may have changed such as corpororate structure,states licensed or officers and directors. "3Best's Company Report for'ARECA Insurance ExchangeARECAINSURANCEEXCHANGE 703 West Tudor Road,Suite 200,Anchorage,Alaska,United States 99503 Web:www.areca.org Tel:907-561-6103 Fax:907-561-5547 AMB#:01878 NAIC#:16926 FEIN#:92-0090419 Report Revision Date:06/30/2003 BEST'S RATING Based on our opinion of the company's Financial Strength,it is assigned a Best's Rating of A-(Excellent).The company's Financial Size Category is Class V. RATING RATIONALE Rating Rationale:The rating reflects ARECA Insurance Exchange's (the exchange)excellent capitalization,strong earnings and sound liquidity position. These positive ratings factors are derived from the exchange's emphasis on firm underwriting and loss control,long history and relationships with subscribers, and expertise within its specialization of providing commercial coverages to non-profit electric cooperatives and municipal utilities in Alaska.The exchange's excellent capital position is reflective of its modest underwriting leverage,a conservative investment risk profile and prudent catastrophe management.Additionally,the exchange benefits from its outstanding policyholder retention experience. Somewhat offsetting these positive rating factors is the exchange's limited scope of operations and fluctuating operating returns in recent years.In addition,the exchange maintains elevated gross catastrophe leverage stemming from an earthquake as depicted in a probable maximum loss analysis (PML).However, this catastrophe exposure is offset by high-quality reinsurance that has reduced net exposure to a manageable level when compared to policyholder surplus. Overall earnings have fluctuated in recent years as a handful of large claims have adversely impacted underwriting results while challenging equity market conditions and the low interest rate environment have affected investment income generation.Despite the impacts of the aforementioned,the exchange has generated overall profitable earnings during the last several years,which compare favorably with commercial casualty industry averages.In addition, although the pre-dominant amount of business is transacted in Alaska,insureds are dispersed throughout the large geographic state where pro-active loss control measures implemented by the exchange have helped to offset some of the disadvantages of operating in a restricted market.Further,subscribers may be called upon to increase surplus as deemed appropriate and are assessable up to one year's premium payment.Due to the exchange's track record of producing favorable earnings and maintaining excellent capitalization,A.M. Best views the rating outlook as stable. FIVE YEAR RATING HISTORY Best's Date Rating 06/13/03 A- 02/19/03 A- 11/21/01 A- ad 4 7 cd 44 {i aa{ i i 4 H i ' . 4 | i \ 10/06/00 07/06/99 A- A- KEY FINANCIAL INDICATORS Statutory Data ($000) Direct Net Pretax Period Premiums Premiums Operating Ending Written Written Income 1998 4,754 2,898 1,260 1999 4,223 2,587 924 2000 4,550 2,879 840 2001 5,335 3,189 1,744 2002 5,531 3,216 1,318 06/2002 -5,222 3,125 349 06/2003 5,720 3,453 -242 Statutory Data ($000) Total Policy- Period Net Admitted holders' Ending Income Assets Surplus 1998 1,378 19,843 15,420 1999 1,363 21,077 15,738 2000 1,002 21,184 15,744 2001 1,779 21,082 17,042 2002 1,464 20,391 16,663 06/2002 341 21,908 15,913 06/2003 .-295 23,062 16,063 Profitability Leverage ___Liquidity Inv.Pretax Overall _Oper. Period Comb.Yield ROR NAInv NPW Net Liq Cash- Ending Ratio (%)(%)Lev toPHS Lev (%)ae 1998 93.8 5.7 43.8 12.4 0.2 0.4 497.2 165.8 1999 107.3 53 35.1 25.1 0.2 0.5 452.0 179.6 2000 111.1 5.5 288 28.1 0.2 0.5 442.5 129.0 2001 72.1 44 562 24.0 0.2 0.4 521.8 124.9 2002 83.9 42 406 24.9 0.2 0.4 547.0 143.6 SY¥rAvg 92.9 5.0 41.2 06/2002 87.8 XX 19.1 XX 0.2 0.6 365.4 608.0 06/2003 117.9 XX =-14.4 XX 0.2 0.7 329.5 (*)Data reflected within all tables of this report has been compiled from the company-filed statutory statement.Within several financial tables of this report, this company is compared against the Commercial Casualty Composite. BUSINESS REVIEW ARECA Insurance Exchange (the exchange)provides commercial auto,fire, boiler and machinery,workers'compensation and other liability coverages for non-profit electric cooperatives or municipal (publicly-owned)utilities in the state of Alaska.The exchange is composed of 23 electric cooperative members that are spread geographically across the state.In what began as a self-insured pool in 1983 in an effort to provide affordable boiler and other related insurance coverages,the company's present pool consists of homogeneous subscribers.To qualify as a subscriber of the company,each subscriber must be a member of the Alaska Rural Electric Cooperative Association.All business is produced internally,where policies are issued on an assessable basis,and can be assessed equal to the amount of the annual premium payment.Additionally,the exchange can require subscribers to contribute additional capital,in the form of a note,if necessary. ARECA Insurance Exchange is limited to consumer and municipal-owned utilities.The exchange has experienced long-term participation from its subscribers,with only one subscriber being lost since inception.The pro-active loss control measures that the exchange exhibits has helped to offset disadvantages associated with operating in a single state and a tightly restricted market. The organization is governed by a board of directors which is comprised of representatives from each of the electric cooperative member utilities.In 1999, the surplus limit was increased from $15 million to $20 million before all nt aa) t a) : at 4 ot Ma a4 wt j3 i : capital and surplus in excess of the limit must be refunded back to its subscribers. 2002 BUSINESS PRODUCTION AND PROFITABILITY ($000) %of Pure Loss Product ___Premiums Written __Total Loss &LAE Line Direct Net NPW Ratio Reserves Workers'Comp 1,252 1,146 35.6 74.5 2,268 Fire 1,813 969:30.1 -1.4 12 Oth Liab Occur 1,591 757 23.5 0.0 1,276 Comm'l Auto Liab 309 281 8.7 15.0 32 Boiler &Mach 565 63 2.0 Totals 5,531 3,216 100.0 27.2 3,589 Major 2002 Direct Premium Writings By State ($000):Alaska,$5,531 (100.0%). FINANCIAL PERFORMANCE Overall Earnings:The exchange has produced favorable operating earnings over the last several years as its five-year average pre-tax return on revenue and surplus measures exceed industry averages.Driving these favorable results is the positive generation of investment income and relatively favorable aggregate loss experience.Returns on revenue have been extraordinary but are misleading due to the low underwriting leverage maintained by the exchange.While the exchange has produced favorable operating results,its underwriting performance has fluctuated in recent years due to increased loss severity in its workers'compensation book and a handful of large property losses,which have adversely impacted claims payment experience and legal defense costs. Additionally,the exchange's investment income generation has declined since 2001 due primarily to its re-allocation of assets into equity securities and the negative effects that the low interest rate environment has had on its bond portfolio.As a result of its increased allocation in equities,given the recent downturn in equity markets,total returns declined during 2002.Nonetheless,on a total return basis,the exchange has produced returns on surplus that are comparable with the commercial casualty industry composite.Prospectively, A.M.Best expects the exchange's overall earnings to remain profitable,but at less than historic levels,as increased loss cost trends combined with a challenging investment environment could suppress near-term operating | returns. i PROFITABILITY ANALYSIS :Company ____Industry Composite Pretax Return Pretax Return Period ROR on Comb.Oper.ROR on Comb.Oper. Ending (%)PHS(%)Ratio Ratio (%)PHS(%)Ratio Ratio 1998 43.8 9.2 93.8 56.0 75 12.66 1093 91.3 1999 35.1 93 107.3 67.1 6.5 95 1104 93.2 2000 28.8 64 111.1 72.7 7.9 2.0 109.8 91.8 2001 56.2 99 72.1 43.2 -6.2 -9.1 121.2 106.6 2002 40.6 42 83.9 58.3 0.5 5.9 1099 97.0 3-Yr 41.2 7.7 92.9 59.1 3.0 2.2 112.1 96.1Avg :06/2002 191 XX 878 643 XX XX XX #XX:06/2003 -144 XX 4179 974 \XX $XX XX XX Underwriting Income:ARECA has produced good underwriting results, which reflect the exchange's underwriting discipline,commitment to loss prevention measures and management's experience and extensive knowledge of its specialty markets.As a result,the exchange has benefited from overall favorable loss experience as reflected by its five-year average total loss ratio, which is significantly below the commercial casualty industry composite.While loss experience has been relatively favorable,the exchange's expense levels are elevated in comparison to other commercial carriers due to the lack of . scalability in its operations and the expenses associated with its extensive loss control methods.Additionally,in three of the past five years,an increase in the severity of workers'compensation claims,a small number of fire losses that hit reinsurance attachment points,and significant increases in loss adjustment expenses due to litigation costs,have contributed to annual underwriting losses. Nevertheless,the exchange has produced annual combined ratios,which on average,outperform its peer group of commercial casualty insurers. 4 Ca oaft "|wya def i aod UNDERWRITING EXPERIENCE Net Undrw Loss Ratios Expense Ratios Income Pure Loss &Net Other Total Div.Comb Year ($000)Loss LAE LAEComm Exp.Exp.Pol.Ratio 1998 170 39.4 16.1 55.5 ..38.3 38.3 .§=-©.9.8 1999 -171 39.9 27.3 67.2 ...40.0 40.0 ..107.3 2000 306 62.9 5.4 68.3 w.=42.8 42.8 .111.1 2001 833 37.0 -1.8 35.2 ..36.9 36.9 we 72.1 2002 533.27.2)20.6 47.7 ..36.2 36.2 ..83.9 3-Yr 41.0 132 542 0.0 38.7 387 00 92.9Avg 06/2002 50 44.5 22.3 66.77 XX XX 21.1 ...87.8 06/2003 -587 95.8 59 1017 XX XX =162 ..117.9 Investment Income:During the last two years,the exchange's investment income generation has deteriorated due primarily to its reallocation of invested assets into equity securities and the corresponding declines in the equity market conditions.Additionally,the low interest rate environment has also impacted the yield on the exchange's fixed income portfolio,which still accounts for the majority of the exchange's invested assets.The exchange's investment income had historically been strong and provided sustainable returns that ultimately supported overall earnings.In addition,prior to 2002,the exchange's five year average return on invested assets approximated those exhibited by the commercial casualty industry composite with returns generated primarily from investment income and complemented by capital gains from the common stock portfolio.However,given the recent downturn in equity markets,total return on invested assets declined during 2002.Currently,the exchange's fixed income holdings are primarily allocated in U.S.Government and investment grade corporate bonds,while the common stock portfolio is well diversified and currently accounts for less than 15%of total invested assets.Common stock investments cannot exceed 25%of total invested assets,which is the limit set by the State of Alaska Division of Insurance for the exchange.Additionally,the exchange is working with an investment consultant to improve the overall performance of its invested asset portfolio. INVESTMENT INCOME ANALYSIS ($000) Year 1998 1999 2000 2001 2002 06/2002 06/2003 Year 1998 1999 2000 2001 2002 5-Yr Avg 06/2002 06/2003 Net Inv Income 1,090 1,059 1,121 896 833 429 344 Company Inv Inc Inv Growth Yield %% -3.0 5.7 -2.8 5.3 5.8 5.5 -20.0 4.4 --7.0 4.2 -25.8 5.0 XX XX XX XX Realized Unrealized Capital Capital Gains Gains 118 55 439 80 162 0 35 -162 147 -758 -8 -467 -53 647 Industry Composite Total Inv Inc Inv Return Growth Yield %%% 6.6 -5.3 5.7 8.1 -5.6 5.4 6.3 7.6 6.1 3.7 -15.0 5.2 1.1 0.6 5.1 5.1 -17.7 5.5 -0.2 XX XX 4.7 .XxX XX INVESTMENT PORTFOLIO ANALYSIS Asset Class Long-Term bonds Stocks Affiliated Investments Other Inv Assets 2002 Inv Assets ($000) 12,370 4,150 357 3,109 %of Invested Assets 2002 2001 61.3 67.2 20.6 19.6 2.8 2.8 15.4 10.4 Annual %Chg "11.5 1.6 -4.8 44.0 Total 20,185 100.0 100.0 3.0 BOND PORTFOLIO ANALYSIS %ofMktVal Avg.Class Class Struc.Struc. Asset Total to StmtMaturity 1-2 3-6 Secur.Secur. 0 Class -Bonds Val(%)(Yrs)(%)(%)(%)oe} Governments 52.1 2.5 12.7 100.0 wes States,terr &143.66 185 1000 ..423 5.5 poss Corporates 33.7 6.1 4.0 100.0 Total all bonds 100.0 4.0 10.6 100.0 wes 6.0 5.5 Capital Generation:Due to fluctuations in operating earnings and the redistribution of capital to its subscribers,growth in the exchange's surplus base has been limited during the prior five-year period.During 1999 and 2000, weakened pre-tax earnings limited surplus growth.Due to solid operating earnings recorded during 2001,the exchange was able to bolster its surplus significantly.However,during 2002,surplus declined due to a decrease in operating earnings and an increase in unrealized capital losses on its common stock portfolio.In addition,surplus growth has been restricted due to the exchange's policy to return subscribers'capital and surplus equal to the greater of five times net earned premiums or $20 million. CAPITAL GENERATION ANALYSIS ($000) Source of Surplus Growth Pretax Total . Net Operating Inv.Contrib. Year Income Gains Capital 1998 1,260 173 -1,397 1999 924 519 -1,077 2000 840 162 -1,054 2001 1,744 -127 -976 ing 2002 1,318 -611 -1,032 5-Yr Total 6,086 116 -5,536 06/2002 349 -475 1,779 06/2003 -242 594 1,464 Source of Surplus Growth___ Other,Change PHS Net of in Growth Year Tax PHS % 1998 -310 -275 -1.8 1999 -48 318 2.1 2000 58 7 0.0 2001 656 1,297 82 2002 -53 -378 -2.2 5-Yr Total 303 969 06/2002 -2,783 -1,129 -6.6 06/2003 -2,417 -601 -3.6 Overall Capitalization:Despite a decline in surplus during 2002,the exchange's level of capitalization is excellent as measured by Best's Capital Adequacy Ratio (BCAR),which adequately supports the current rating.The capital position is reflective of the exchange's conservative underwriting leverage and investment philosophy.Although investment leverage has risen in recent years due to an increased allocation of common stocks,this leverage remains moderate and is mitigated by the low underwriting leverage and the conservatism of the balance of invested assets.In addition,while the exchange remains exposed to considerable losses stemming from an earthquake on a gross basis,the net probable maximum loss (PML)from a 250-year event has been reduced to less than 5%of surplus as depicted in a PML analysis.The exchange's low underwriting leverage and geographic spread of risk throughout the state reduces the financial impact of such an event. QUALITY OF SURPLUS ($000) %of PHS Dividend Requirements Year-Cap Stk/Un-Stock-Divto Div to End Contrib.assigned holder POINet Inc. Year PHS Cap.Other Surplus Divs (%)(%) 1998 15,420 ©98.0 8.9 -6.9 .wee wee 1999 15,738 97.9 8.7 -6.6 2000 15,744 99.8 64 -6.2 2001 17,042 92.4 104 -2.8 2002 16,663 99.0 8.8 -7.7 06/2002 15,913 '103.6 2.1 -5.8 06/2003 16,063 105.7 -18 -3.9 Underwriting Leverage:The exchange maintains conservative underwriting leverage as surplus comfortably supports the exchange's level of premium writings and associated liabilities.While overall loss and loss expense reserves have fluctuated in recent years due to loss reserve strengthening in some years and take-downs in others,net written premiums have increased at incremental levels reflecting the exchange's limited opportunities for growth,changes in premium retention levels,and the withdrawal of a large subscriber. Prospectively,A.M.Best expects the exchange to increase its premium writings at a moderate rate,as it looks to expand its package policy to existing subscribers and other affiliated members of the Alaska Rural Electric Cooperate Association.However,A.M.Best believes that the impacts of these additional premium writings will have minimal effects on the exchanges overall favorable leverage position. LEVERAGE ANALYSIS Company _Industry Composite NPW toReserves Net Gross NPW toReserves Net Gross Year PHS to PHS Lev Lev PHS toPHS Lev Lev 1998 0.2 0.2 0.4 0.6 1.0 2.0 3.7 4.8 1999 0.2 0.3 0.5 0.6 1.0 1.9 3.6 4.9 2000 0.2 0.3 0.5 0.6 1.1 1.9 3.9 5.4 2001 0.2 0.2 0.4 0.6 1.3 2.1 4.6 6.5 2002 0.2 0.2 0.4 0.6 1.4 2.2 4.9 6.9 06/2002 0.2 0.2 0.6 XX XX XX XX XX 06/2003 0.2 0.3 0.7 XX XX XX XX XX Current BCAR:777.7 PREMIUM COMPOSITION &GROWTH ANALYSIS :Period ___DPW ___GPW a Ending ($000) (%Chg)©($000)(%Chg) "1998 4,754 8.5 4,754 8.5 |1999 4,223 11.2 4,223 11.2 2000 4,550 7.7 4,550 7.7 2001 5,335 17.3 5,335 17.3 2002 5,531 3.7 5,531 3.7 5-Yr CAGR wee 4.8 wes 4.8 5-Yr Change wee 26.2 we 26.2 06/2002 5,222 126 5,222 12.6 06/2003 5,720 9.5 5,720 9.5 Period NPW NPE Ending ($000)(%Chg)($000) (%Chg) 1998 2,898 5.6 2,877 4.3 1999 2,587 -10.7 2,636 -8.4 2000 :2,879 11.3 2,920 10.8 2001 3,189 10.8 3,103 6.3 2002 3,216 0.8 3,247 4.6 5-Yr CAGR wee 3.2 wee 3.3 5-Yr Change wee 17.2 wes 17.8 06/2002 3,125 10.2 1,828 22.8 06/2003 3,453 10.5 1,686 -7.8 Reserve Quality:The exchange's loss reserves have historically developed favorably on a calendar year basis.However,the exchange has experienced adverse development on an accident year basis in years 1999 and 2001.The development in regards to accident year 2001 was considerable and is attributed to increased legal defense costs associated with claims in litigation. Additionally,as the result of an aging workforce within its specialized market, loss cost trends are increasing in the exchange's workers'compensation business,which accounts for approximately two-thirds of total loss reserves. However,the impacts of these events on the exchange's financial strength are somewhat mitigated due to its modest liability leverage. LOSS &ALAE RESERVE DEVELOPMENT: CALENDAR YEAR ($000) Original DevelopedDevelop.Develop.Develop.|Unpaid Unpaid Calendar Loss Reserves to to to Reserves Rest Year Reserves Thru 2002 Orig.(%)PHS (%)NPE (%)@ 12/2002Dev.(%) 1997 2,290 2,176 -5.0 -0.7 78.9 249 11.4 1998 2,821 1,794 -36.4 -6.7 62.4 395 22.0 1999 3,590 2,632 -26.7 -6.1 99.8 N15 27.2 2000 4,109 2,614 -36.4 -9.5 89.5 1,304 49.9 2001 3,284 3,273 -0.3 -0.1 105.5 2,365 72.3 2002 3,353 3,353 ves ...103.3 3,353 100.0 LOSS &ALAE RESERVE DEVELOPMENT: ACCIDENT YEAR ($000) Original Developed Develop.Unpaid Acc Yr.Acc Yr. Accident Loss Reserves to Reserves Loss Comb Year Reserves Thru 2002 Orig.(%)@12/2002 Ratio Ratio 1997 1,323 931 -29.6 57 54.3 90.6 1998 849 372 ---56.2 146 28.8 67.1 1999 1,272 1,342 5.5 320 72.1 112.1 2000 1,334 969 =-27.4 589 55.2 98.0 2001 1,054 1,627 54.4 1,061 83.1 120.0 2002 988 988 bee 988 51.1 87.3 CEDED REINSURANCE ANALYSIS ($000) Company Industry Composite Ceded Business Rein Rec Ceded Business ReinRec Ceded ReinsRetention toPHS ReinstoRetention toPHS Reins to Year Total (%)(%)PHS (%)(%)(%)PHS(%) 1998 2,431 61.0 3.7 15.8 79.8 82.1 111.1 ;1999 2,589 61.3 6.0 16.5 76.4 92.1 129.7 7 2000 2,244 63.3 3.6 14.3 745 105.5 151.1 |2001 2,704 59.8 3.3 15.9 70.9.140.6 191.5 n 2002 2,734 58.2 2.5 16.4 72.0 148.4 2043 2002 REINSURANCE RECOVERABLES ($000) Paid &Total Unpaid Unearned Other Reins Losses IBNR Premiums Recov*Recov US Insurers 300 wee 120 wee 420 Total (ex US ---_-- Affils)300 eee 120 vee 420 Grand Total 300 vee 120 vee '420 *Includes Commissions less Funds Withheld 4 INVESTMENT LEVERAGE ANALYSIS (%OF PHS) z Company Industry we Composite Class Real Other Class 3-6 Estate/InvestedCommon Inv.Affil 3-6Common Year Bonds Mtg.Assets Stocks Lev.Inv.Bonds Stocks 1998 wee wee 0.6 11.8 12.4 3.6 8.3 29.4 1999 wee we wee 25.1 25.1 3.5 8.5 32.6 |2000 wee wes wee 28.1 28.1 3.8 8.7 =27.1 .2001 wee wee vee 240 240 34 119 22.8 |2002 wee wes wee 24.9 249 3.3 11.9 17.2 :LIQUIDITY Overall Liquidity:The exchange maintains solid balance sheet liquidity as non- affiliated assets significantly exceed overall liabilities.While the exchange's current and quick liquidity ratios compare favorably to industry composite averages,quick liquidity did decline markedly from historical levels in 1999, reflecting the exchange's re-allocation of cash and short-term investments into common stock holdings in recent years.While positive cash flow generation has enhanced liquidity over the five-year period,negative underwriting cash flow 7 has weakened overall cash flow ratios in recent years due to the increased =outflows of loss payments.However,the liquidity position of the company is "I strengthened by the sizable portion of invested assets in high quality fixed a income securities. |LIQUIDITY ANALYSIS |Company Industry Composite Gross Gross Quick Current Overall Agents Quick Current Overall AgentsBalBal to ,...to+(0 +(9 +4 (9 0 1)0 xYearLiq(%)Liq(%)Lig (%)PHS(%)Lig (%)Liq (%)Lig (%)PHS(%) 1998 255.1 481.9 497.2 ..25.6 108.4 1384 17.0 1999 136.5 437.5 452.0 ..241 107.3 139.3 19.3 2000 161.7 428.2 442.5 23.6 104.9 137.8 20.2. 2001 140.1.500.3 521.8 0.4 209 97.6 132.0 19.4 2002 228.4 526.5 547.0 0.6 22.8 968 130.7 19.9 06/2002 XX 327.8 365.4 9.9 XX XX XX XX 06/2003 XX 291.3 329.5 2.4 XX XX XX XX CASH FLOW ANALYSIS ($000) ne Industry:Company Composite oi Underw Oper Net Underw Oper Underw Oper 7 Cash Cash Cash Cash Cash Cash Cash Year Flow Flow FlowFlow(%)Flow(%)Flow(%)Flow(%) 1998 457 1,628 350 1185 165.8 90.9 103.1 1999 631 1,662 1,023 130.2 179.6 85.2 98.3 2000 -130 888 -17)95.7 129.0 85.8 100.7 2001 -81 866 -96 97.7 1249 864 102.5 2002 314 1,212 257 111.5 143.6 99.6 111.7 06/2002 552 977 -380 158.1 608.0 XX XX 06/2003 792 1,113 -867 180.4 wee XX XX HISTORY The exchange was organized under the laws of Alaska on December 15,1983 and commenced business December 20,1983.The exchange began as a self- insured pool in an effort to pool together high costs of boiler insurance and medical workers compensation insurance coverage.The exchange is presently comprised of 23 homogeneous subscribers,where qualifications include being a member of the Alaska Rural Electric Cooperative Association. MANAGEMENT The affairs of the reciprocal are handled by the attorney-in-fact,ARECA Insurance Management,Inc.,a wholly owned subsidiary.Eric Yould,who is executive director of Alaska Rural Electric Cooperative Association,oversees operations.In 1992,J.Michael Pate was elected chairman and president,having previously served as treasurer.The attorney-in-fact receives reimbursement of expenses as compensation. Officers of the Atty-in-Fact:Chairman of the board and president,J.Michael Pate;vice president,Meera Kohler;secretary,Henry Strub;treasurer,Eric Yould. Directors:Ken Gates,John Grubich,Darron Scott,Donna Vukich. REGULATORY An examination of the financial condition was made as of December 31,1999 by the Insurance Department of Alaska.An annual independent audit of the company is conducted by KPMG,LLP.An annual evaluation of reserves for unpaid losses and loss adjustment expenses is made by Willis Risk Solutions. TERRITORY The company is licensed in Alaska. i i \ aSad a4 i 4 va ' ' REINSURANCE PROGRAMS The largest net amount insured in any single risk is $1,000,000.An excess of loss treaty covers property lines for $12,000,000excess $1,000,000 with facultative limits available for $15.0 million excess of $5,000,000.Workers' Compensation is covered for loss above $500,000 up to $4,500,000,and $13,500,000 Aggregate Limit on the Occupational Disease.Automobile Liability reinsurance affords recovery of loss above $500,000 up to $500,000. No retention exists for Boiler and Machinery losses,but reinsurance provides for limits of $15.0 million excess of $15.0 million.General Liability is covered for loss above $500,0000 with limits of $1.5 million excess of $500,000. company's principal reinsurer is General Reinsurance Corporation. The ADMITTED ASSETS 12/31/2002 12/31/2001 2002%2001% Bonds 12,370 13,971 60.7 66.3 Common stock 4,150 4,086 20.4 19.4 Cash &short-term invest 2,980 1,981 14.6 9.4 Real estate,offices 557 585 2.7 2.8 Total invested assets 20,056 20,622 984 97.8 Premium balances 100 95 0.5 0.4 Accrued interest 129 178 0.6 0.8 All other assets 106 187 0.5 0.9 Total assets 20,391 21,082 100.0 100.0 LIABILITIES &SURPLUS 12/31/2002 12/31/2001 2002%2001 % Loss &LAE reserves 3,589 3,520 17.6 16.7 Unearned premiums 106 136 0.5 0.6 All other liabilities 34 384 0.2 1.8 Total liabilities 3,728 4041 183 192 Capital &assigned surplus 17,954 17,521 88.0 83.1 Unassigned surplus -1,291 -479 -6.3 -2.3 Total policyholders'surplus 16,663 17,042 81.7 80.8 Total liabilities &surplus 20,391 21,082 100.0 100.0 SUMMARY OF 2002 OPERATIONS Other investments 552.547 FUNDS PROVIDED STATEMENT OF INCOME 12/31/2002 FROM OPERATIONS 12/31/2002 Premiums earned 3,247 Premiums collected 3,024 Losses incurred 882 Losses paid -988 LAE incurred 668 LAE paid 4ii .Undrw expenses 1,164 Undrw expenses paid 1,331 i:incurred "|Other expense |Other 20"incurred ™income/expense -|Net underwriting 533 Undrw cash flow 314 "i income "Net investment income 833 Investment income 947 Other |49 Other 49income/expense income/expense Pre-tax oper income 1,318 Pre-tax cash 1,212operations | Realized capital gains 147 Realized capital gains :Net income 1,464 Net oper cash flow 1,212 :INTERIM BALANCE SHEET =:ADMITTED ASSETS 03/31/2003 06/30/2003 4 Cash &short term invest 3,974 2,113 Bonds 13,090 13,134 :Common stock 4,135 5,001 Total investments Premium balances Reinsurance funds Accrued interest Total assets LIABILITIES &SURPLUS Loss &LAE reserves Unearned premiums All other liabilities Total liabilities Capital &assigned surp Unassigned surplus Policyholders'surplus Total liabilities &surplus 21,751 -20,795 1,968 2,121 11 6 104 140 23,834 23,062 03/31/2003 06/30/2003 3,216 4,536 2,459 1,874 1,642 590 7,318 6,999 17,780 16,690 -1,264 -628 16,516 16,063 23,834 23,062 INTERIM INCOME STATEMENT Premiums earned Losses incurred LAE incurred Underwriters expenses incurred Net underwriting income Net investment income Other income/expenses Pre-tax operating income Period Ended Period Ended 06/30/2003 06/30/2002 1,686 1,828 1,614 813 100 407 558 658 -587 -50 344 429 -30 -242 349 Increase/ Decrease -142 801 -307 -101 Realized capital gains -53 -8 -45 :Net income -295 341 -636 :INTERIM CASH FLOW "|Period Ended Period Ended Increase/ 7 06/30/2003 06/30/2002 Decrease Premiums collected 1,777 1,501 275 :Benefit &loss related pmts 985 755 230 id Undrw expenses paid wes 194 -194 'Underwriting cash flow 792 552 240 Investment income 321 455 .=133 Other income/expense 7 30 30 Pre-tax cash operations 1,113 977 136 Net oper cash flow 1,113 977 136 ©Copyright 2003 by A.M.Best Company,Inc.ALL RIGHTS RESERVED. No part of this report may be reproduced or distributed in any form or by any means,or Stored in a database or retrieval system,without the prior written permission of the A.M.Best Company.BCRO7312003 DISCUSSION DRAFT Appendix E Confidentiality Agreements »ARECA Version =WIMG Version «E-mail Correspondence "ade,DIAUINY LAGAW 1 buen J of 1 Subject:RE:Bradley Lake Project From:"Keith Day"<kday@areca.org> Date:Tue,4 Nov 2003 09:15:27 -0900 To:"Gary Griffin"<gary@eniffincom.com> CC:"Eric Yould"<eyould@areca.org>,"Erica Sykes"<esykes@areca.org> Gary, As discussed,we would propose the attached. antl Original Message----- From:Gary Griffin [mailto:gary@griffincom.com] Sent:Monday,November 03,2003 12:47 PM To:Keith Day Cc:Eric Yould;acopoulos@aidea.org;Sherri McKay; 'ccgriffin@griffincom.com' Subject:Bradley Lake Project Please see attached letter. 1/5/2004 4:08 PM saeteeoeeeRUeeSeoeaORIG VAL CONFIDENTIALITY AGREEMENT Warren,McVeigh&Griffen,Inc.("WMG,Inc.”),as 'an express condition of being permitted to receive and review information provided by ARECA Insurance Exchange (AIE),does acknowledge and expressly agree to observe and comply with each of the conditions stated herein as well as the overall general requirement to maintain the information provided to it by AIE in a confidential status.WMG,Inc.,further agrees that this Agreement shall extend and apply to any principal,shareholder,officer,director,employee,or agent of WMG,Inc.,to the same extent as if signed individually by that person.Specifically WMG,Inc.,agrees to the following: 1.The information provided by AJE is and shall remain confidential in accordance with the requirements herein. 2.WMG,Inc.,agrees and understands that the duty to maintain such information in a confidential status means that WMG,Inc.,will not at any time release,divulge,convey,or distribute any such information to any third person except that an abstract,digest,or analysis of the information may be given to the members of the Bradley Lake Project Management Committee which has engaged WMG,Inc.,to review the insurance needs for the Bradley Lake Project.However,WMG,Inc.,may request of AJE,and upon mutual agreement be permitted to include copies of specific information in its report to the extent such abstract, digest,or analysis as discussed above would not suffice to adequately communicate necessary information to the Bradley Lake Project Management Committee.More specifically,WMG,Inc., will not communicate or permit or facilitate the communication or release of such information to any third person who is or may be a competitor of AJE in the insurance industry. 3.WMG,Inc.,further agrees that it will not,either by itself or in conjunction with others,use the information being provided to it as a means of directly selling insurance to the State of Alaska for the Bradley Lake Project or in any way competing with AJE for the insurance to be provided to the Bradley Lake Project. 4.WMG,Inc.,understands and agrees that the release of information may be damaging to AIE and that AIE may suffer loss of revenues as a consequence of any breach of this Agreement.WMG,Inc.,therefore agrees to the AIE's right to enforce the terms of this Agreement through exercise of its legal remedies,including the legal process of seeking injunctive relief and/or damages where appropriate. 5.At the conclusion of the work being performed for the Bradley Lake Project Management Committee,WMG,Inc.,shall return the copies of all information provided by AIE or destroy all copies of the information and so inform AJE.An exception for this requirement will be made for information deemed by WMG,Inc.as supporting work-papers whose retention is deemed required by WMG,Inc.,for a period not to exceed seven years.The retention of such information must be noticed to AJE upon the earlier of three months from date of this agreement or upon conclusion of WMG,Inc.'s current subject engagement with the Bradley Lake Project Management Committee.WMG,Inc.,agrees that such data retained under this provision will not be used for any other purpose and is in al]other ways subject to the terms and conditions of this agreement. 6.WMG,Inc.,agrees that the duties and responsibilities stated in this Agreement will continue even after WMG,Inc.,has concluded its present assignment for the Bradley Lake Project Management Committee. DATED this day of ,2003,at Anchorage,Alaska. WARREN,MCVEIGH &GRIFFEN,INC. Title: ARECA Insurance Mangement,Inc., Attorney In Fact for ARECA Insurance Exchange WMG -CONFIDENTIALITY AGREEMENT Page 2 "vonnridentdiily Agreement Subject:Confidentiality Agreement From:Gary Griffin <gary@griffincom.com> Date:Tue,11 Nov 2003 10:33:14 -0800 To:"Keith Day"<kday@areca.org> CC:Sherri McKay <Sherri_McKay@chugachelectric.com>, "ccgriffin@griffincom.com™<ccgriffin@griffincom.com> Attached is an edited version of the confidentiality agreement you oy proposed.The proposed changes made by us have not been reviewed by 'a lawyer as we have no authorization from the BPMC to charge for such a legal review. _lofi 1/5/2004 4:07 PM Epinep CONFIDENTIALITY AGREEMENT Warren,McVeigh &Griffien,Inc.("WMG,Inc.”),as 'an express condition of beine-permitted_te-receive-and_reviewreceiving information WMG_has requested from ifermation-provided-by ARECA Insurance Exchange (AIE),does acknowledge and expressly agree to observe and comply with each-efthe conditions stated herein as well as the overall general requirement to maintain the-infermation-providedto-it-_by-A}ésuch information in a confidential status.WMG,Inc.,further agrees that this Agreement shall extend and apply to any principal,shareholder,officer,director,employee,or agent of WMG,Inc.,to the same extent as if signed individually by that person.Specifically WMG,Inc.,agrees to the following: 1.The information previded-requested by and provided to WMG by AIE is and shall remain confidential in accordance with the requirements herein._Publicly available information such as but not limited to information filed by ATE with the Alaska Department of Insurance or any other governmental regulatory body is not considered confidential information under this agreement. 2.WMG,Inc.,agrees and understands that the duty to maintain such confidential information in a confidential status means that WMG,Inc.,will not at any time, except as WMG may be subpoenaed _or deposed_under a legal proceeding,release,divulge, convey,or distribute any such confidential information to any third person except that an abstract,digest,or analysis of the confidential information may be given to the members of the Bradley Lake Project Management Committee (BPMC)which has engaged WMG,Inc.,to review the insurance needs for the Bradley Lake Project.However,WMG,Inc.,may request of AIE,and upon mutual agreement be permitted to include copies ef-specificof_specific confidential information in its report to the extent such abstract,digest,or analysis as discussed above would not in WMG opinion sufficeete-adequately communicate necessary information totheBradleyLakeProjectManagementCommittee.More specifically,WMG,Inc.,will not communicate or-permit-er-facilitate-the-communication-or release ef-such confidential information to any third person whethat is er+may-be-a competitor of AIE in the insurance 'industry. 3.WMG,Inc.,further agrees that it will not,either by itself or in conjunction with others,use the confidential information being provided to it:WMG as-a-means-efto directly directly selling insurance to the State of Alaska for the Bradley Lake Project or in any way eompetine-compete with AJE for the insurance to be provided to the Bradley Lake Project_but this does not include WMG assisting the BPMC in investigatingor evaluating additional or alternative insurance programs if such assistance is requested by the BPMC.- 4,WMG,Inc.,understands and agrees that AEI believes the release of confidential information may be damaging to AJE and that AIE believes it may suffer loss of revenues as a consequence of any breach of this Agreement.WMG,Inc.,therefore-agrees-to theunderstands that AIE_may have the right to*s-rightte enforce the terms of this Agreement through the exercise of its-legal remedies,including thetegal-process-of seeking injunctive relief and/or damages-where-appropriate. 5.At the conclusion of the work being performed for the Bradley Lake Project Management Committee,WMG,Inc.,shall return the copies of all information provided by AIE or destroy all copies of the information and so inform AJE.An exception for thisrequirementwillbemadeforinformationdeemedbyWMG,Inc.as supporting work-papers whose retention is deemed required by WMG,Inc.,for a period not to exceed seven years.The retention of such information must be noticed to ATE upon the earlier of three months from date of this agreement or upon conclusion of WMG,Inc.'s current subject engagement with the Bradley Lake Project Management Committee.WMG,Inc.,agrees that such data retained under this provision will not be used for any other purpose andis in all other ways subject to the termsandconditionsofthisagreement. 6.WMG,Inc.,agrees that the duties and responsibilities stated in this Agreement will continue even after WMG,Inc.,has concluded its present assignment for the Bradley Lake Project Management Committee. DATED this day of ,2003,at Anchorage,Alaska. WARREN,MCVEIGH &GRIFFEN,INC. Title: ARECA Insurance MangementManagement,Inc., Attorney In Fact for ARECA Insurance Exchange WMG -CONFIDENTIALITY AGREEMENT Page 2 AE:Contidentlalty Agreement' t "AA m4 Subject:RE:Confidentiality Agreement From:"Keith Day"<kday@areca.org> Date:Mon,24 Nov 2003 16:10:45 -0900 To:"Gary Griffin"<gary@griffincom.com> CC:<acopoulos@aidea.org>,"Eric Yould"<eyould@areca.org>,"Erica Sykes" <esykes@areca.org> Hi Gary, We have some information that we would be happy to provide you once we've received the requested release from our policyholder, notwithstanding any confidentiality requirements.With regard to your ; 4 proposed revisions to the non-disclosure agreement,we are unable to 'accept your proposed revisions.However,as we stated previously, for information we believe requires coverage under a non-disclosure agreement,we would be happy to provide that information to you under the terms of the non-disclosure agreement previously provided to you, assuming of course our policyholder also provides the previously requested written release. Please feel free to call me directly if you have any questions @ 907-563-2556. Best regards. -----Original Message----- From:Gary Griffin [mailto:garyégriffincom.com] Sent:Monday,November 24,2003 03:21 PM To:Keith Day Cc:acopoulos@aidea.org Subject:Confidentiality Agreement Did you have any comments regarding the confidentiality agreement we sent back to you on 11/11/03?Do you plan on providing us with any information? -lofl 1/5/2004 4:08 PM