I was fortunate enough to speak last year at the Preventing Aircraft Damage (PAD) conference in Dublin, about the contribution aviation insurance makes towards the huge costs incurred by the aviation industry in respect of damage to aircraft on the ground. In this article I hope to expand more on this subject to clear up the misconception that the aviation insurance market picks up the bill. Nothing could be further from the truth.
Firstly, I think it would be helpful to understand how big a problem ground damage to aircraft actually is. Of course ground damage can be anything from ‘hangar rash’ – damage caused to an aircraft while it is towed out of the hangar – to collisions between aircraft or even engine run-ups, leading to the aircraft being destroyed as it dramatically jumps its chocks. Aircraft are expensive assets and damage to them by a vehicle on the ground can be substantial. In addition, the increasing complexity of modern aircraft with features such as composite fuselages means repairs can be expensive. A direct result of the aircraft being AOG (aircraft on ground) is the business interruption costs which is a whole new ball game, and can be very subjective. These can be costs incurred by the airline due to disruptions to the schedule, repositioning of aircraft and crews, replacement aircraft, compensation to passengers – to say nothing of more unquantifiable ramifications, such as reputational impact on the airline.
In 2007, the International Air Transport Association (IATA) estimated that ground damage is running at US$4 billion a year and the Flight Safety Foundation (FSF) estimate in 2006 was US$7 billion a year. In 2002 the National Business Aviation Association (NBAA) estimated that for business aircraft in North America, annual ground damage costs were running at around US$100 million a year; and finally, at PAD in Dublin last year, numbers were cited at US$7 billion. The reality is it’s anybody’s guess and nobody actually knows. What is clear is that it has a massive effect on the bottom line for airlines and to some extent ground handlers. As mentioned these unaccounted costs are growing, due to a number of factors such as increasing cost to repair aircraft, the frequency of these losses due to congestion on the ramp and claims inflation which we estimate for property damage runs at 2% a year. Using the 2% claims inflation takes FSF’s estimate to just shy of USD8.4 billion in 2015.
Some of this cost is contractually picked up by the ground service providers (GSPs) themselves. According to IATA’s standard ground handling agreement, GSPs are liable up to US$1,500,000 for physical damage – but that does not cover consequential losses unless the GSP intended the damage or was deemed reckless. But, how many contracts are standard IATA contracts? And which standard IATA contract is being used, as there have been a number of revisions over the years? What is clear is that some of the cost is defrayed by the GSPs.
So what about the amounts incurred over and above the GSP’s amount or where contractually the amount paid by the GSP is different? Aviation insurers provide ‘hull all risk’ cover to the airlines, which covers property damage to the hull of the aircraft arising from an accident. The cover is broad, as the term ‘hull all risk’ suggests, subject to some fairly standard exclusions such as war/terrorism or pollution. The cover is subject to deductibles which vary depending on the size of the aircraft, so a narrowbody carries a deductible of US$500,000, a hybrid US$750,000 and a widebody US$1,000,000. In other words in the event of partial damage to the aircraft, insurers will only pay repair costs over and above the deductible unless the aircraft is a total loss, in which case no deductible applies. Without wishing to get into too much detail a specific deductible insurance is purchased by a number of carriers which, as the name suggests, covers the deductible. The point, however, is that the cover is only available for property damage and not for business interruption or consequential losses. So if the property all risks cover is not triggered (that is, the damage is below the deductible amount), then any subsequent business interruption is not covered.
Based on the various industry estimates, if we took a figure of US$5.5 billion as an average of the annual cost arising from ground damage, how much of this is covered by insurers? Taking into account GSPs’ own insurance coverage and airlines’ hull and liability cover, then I estimate that aviation insurers only pick up about 15% of the annual cost. Some airlines do purchase consequential loss cover from insurers; however this is typically subject to a deductible of say 15 to 30 days, with a maximum payout per day and with an aggregate cap per policy year. Now insurers could pick up all of the shortfall via consequential loss cover to provide insurance up to the US$5.5 billion but the airlines would then be faced with an insurance bill of some 400% of what they are paying today! Insurance is not the solution.
There are several worthy industry initiatives such as FSF with its Ground Accident Prevention programme and IATA with ISAGO (IATA Safety Audit for Ground Operations). Part of the ISAGO audit is a requirement for SMS (Safety Management System) to be implemented by the GSP. SMS has been a game changer for the airline and airport industries but the point here is that it has been a regulatory requirement, so it’s mandatory and applies to all.
There is, of course, another angle here. Profit margins in the ground handling industry are low, and typically GSP personnel are poorly motivated with a high turnaround of staff who are operating around some very expensive real estate. SMS would help raise the minimum safety standards of the GSPs but the implementation of SMS and its continued certification is costly.
Ground damage is a major issue. The majority of the losses fall onto the airline’s balance sheet, an extraordinary item they can ill afford. Regulators need to step in, as they have done with the airlines and airports, in requiring the implementation of SMS by GSPs to enforce a minimum universal standard of safety on the ramp, thereby putting the GSPs on the same footing as the airlines and the airports.
