Hurricane Notice: A Rebuild


Hurricane season has hopefully seen its annual climax in the northern hemisphere. In its aftermath, we are able to separate nearly all North America inhabitants into one of two camps: those directly affected by the record shattering hurricanes to make land in the United States, Caribbean, and Mexico over the past few weeks, and those indirectly affected. Globalization allows no one to exist in isolation.

Societally, we must acknowledge the virtual certainty that the most recent hurricanes will not be the last or likely the most damaging. As the climate shifts and ocean waters rise in temperature, the severity of natural disasters may potentially gain momentum. We will be tasked with both strengthening our crumbling infrastructure, and reducing our carbon footprint to mitigate further human and economic loss. It is the latter which serves as our talking point in this discussion, quantifying the seemingly unquantifiable. How can companies accurately account for the potential effects of natural disasters through disclosures to investors in their financial statements?

We consistently see companies use historical precedent and statistical models to numerically present estimations, but as we witnessed with Harvey, Irma, Jose, and Katia, Mother Nature is often immune from probability calculations. Larger modern-day, multi-national corporations have organically diversified their portfolios by strategically expanding their facilities across the U.S. and the globe to facilitate growth, thereby reducing their susceptibility to a direct economic hit from a natural disaster. This will indeed lighten the burden of a future economic recovery, but certain industries will be, to some extent, geographically dependent.

For example the oil and gas industry is disproportionally located in the hurricane devastated metropolis of Houston, TX, and the agriculture industry in flooded Florida. In addition, short-term jobless spikes could eventually transition to labor shortages, as coastal residents are reluctant to return home. German insurance giant, Munich Re, has already announced that the storm’s effects will breed a third quarter loss and could result in as much as a $2.9 billion dollar overestimation on its 2017 profit target.  

All of these realizations should be quantified and qualified on corporate annual reports and factored into financial valuations. However, Accounting Standards Codification (ASC) 275, Risks and Uncertainties, does not require disclosures as they relate to the following:

  • Management or key personnel
  • Proposed changes in governmental regulations
  • Proposed changes in accounting principles
  • Deficiencies in the internal control structure
  • The possible effects of acts of God, war, or sudden catastrophes

In the absence of GAAP related financial disclosures for natural disasters, corporations have taken disclosure positions such as the following:

An excerpt from the 2016 10-K Annual Report from Exxon Mobil Corporation, the largest oil and gas company currently headquartered in the state of Texas,:

Our operations may be disrupted by severe weather events, natural disasters, human error, and similar events. For example, hurricanes may damage our offshore production facilities or coastal refining and petrochemical plants in vulnerable areas. Our facilities are designed, constructed, and operated to withstand a variety of extreme climatic and other conditions, with safety factors built in to cover a number of engineering uncertainties, including those associated with wave, wind, and current intensity, marine ice flow patterns, permafrost stability, storm surge magnitude, temperature extremes, extreme rain fall events, and earthquakes. Our consideration of changing weather conditions and inclusion of safety factors in design covers the engineering uncertainties that climate change and other events may potentially introduce. Our ability to mitigate the adverse impacts of these events depends in part upon the effectiveness of our robust facility engineering as well as our rigorous disaster preparedness and response and business continuity planning.

The French chemical manufacturer, Arkema, experienced multiple fires and explosions during and after Hurricane Harvey, which flooded their Houston plant, resulting in the failure of multiple refrigeration tanks that cooled highly flammable chemicals. 

Arkema Fire

Source: http://www.nydailynews.com/news/national/massive-fire-breaks-houston-area-chemical-plant-article-1.3462017

Yet, the company only mentions “natural disasters” once it’s in 2016 Annual Report:

The Group’s sites are covered by leading insurance companies against material damage and any resulting business interruption. This cover is intended to avoid any significant financial loss and to ensure the resumption of operations in the event of property damage. However, certain property and types of damage can be excluded from the insurance policy’s cover depending on the country in which the loss occurs.

The cover includes a “direct damage” component and a “business interruption” component (including sub-limits for machinery breakdowns, natural disasters and terrorism), with the compensation period for the latter limited to either 24 or 36 months, depending on the site. Deductibles vary depending on the size of the site concerned. The maximum total retention in the event of a major claim is between €22 million and €26 million.

The combined cover limit of the policies in place for direct damage and business interruption can amount to €630 million.

The 2017 hurricane season is already among the worst of its kind in recorded history. As the calendar year hurricane winds and rain lessen, one will have to wonder whether the discussion over the lack of disclosure requirements for natural disasters will gain traction. In their absence corporations and their investors, like millions currently in the Sunshine State, will have to operate, completely in the dark.