D&O Liability Insurance: Persistent Problems & Simple Solutions

Transcription

1 D&O Liability Insurance: Persistent Problems & Simple Solutions Scott C. Hecht Stinson Morrison Hecker LLP presented to Association of Corporate Counsel Mid-America Chapter Thursday, January 13, 2011

2 D&O Liability Insurance: Persistent Problems & Simple Solutions Scott C. Hecht Stinson Morrison Hecker LLP presented to Association of Corporate Counsel Mid-America Chapter Thursday, January 13, 2011 Time and time again, corporations and their directors and officers, find themselves both defending against regulatory investigations and proceedings, criminal matters or civil litigation, and fighting with their D&O liability insurance carriers about coverage. There are many reasons why a D&O insurer may deny coverage for any given claim. Many of those bases for denial, however, are avoidable. D&O policies are not, in all respects, contracts of adhesion. That is, in many cases, insureds have the opportunity to negotiate for, and secure, favorable policy provisions. If a claim is ever made against the insured, these favorable policy provisions may make the difference between coverage and a declination. Below, I provide an outline of topics related to D&O policy coverage, the negotiation of that coverage, and certain available and negotiable provisions. Here are some limits of the outline: First, whether a particular D&O policy feature is advantageous may depend on the perspective of the affected insured. For example, a provision that is beneficial to a (dastardly) black hat officer because it enhances that person s coverage may be detrimental or disastrous to his (heroic) white hat officer colleague -- coverage for the black hat depletes the available policy limits for the white hat. Second, enhanced policy features (including lower retentions/deductibles and higher limits) may come at an increased cost to the corporation. The corporate risk manager may believe that the increased cost does not justify the enhanced features. While those enhanced features would provide peace of mind to the directors and officers, that peace of mind bears on risks that are somewhat speculative. Third, it is unlikely that any single insurer will offer each and every one of the enhanced policy features noted below. At best, any single insurer will recognize and offer most of these provisions, but perhaps not in the most beneficial form. Moreover, market factors in addition to the risk profile and bargaining power of the insured corporation may play into whether an insurer will offer these enhancements at all Stinson Morrison Hecker LLP Page 1

3 Fourth, remarking on every possible D&O policy pitfall or enhancement would be impossible. Many pitfalls depend on circumstances; insurers continually change policy forms and endorsements, and they are often willing to manuscript forms or endorsements for particular policyholders. While I will try to be thorough and address common issues in my experience, my presentation and materials cannot be exhaustive. As always, I would be happy to discuss particular issues with particular clients, and I would appreciate input on any of the topics of my presentation Stinson Morrison Hecker LLP Page 2

4 1. Beware the insurance agent! Or, whose agent is the insurance agent? (a) The person/entity that the client deals with to procure insurance may be the agent, legally speaking, of the insured (usually referred to as a broker ) or the agent of the insurer (usually referred to as an agent ). A broker owes allegiance and duties to the insured. An agent owes allegiance and duties to the insurer. (c) A broker can usually shop the market for the best combination of price and policy features. An agent is usually limited to offering products from one, or a few, insurers. (d) With agents/brokers, as with all professionals, there are varying areas of expertise, years of experience, and levels of competence. 2. The D&O policy is negotiable, as are most other commercial policies. (a) D&O insurers compete on product features and price. The policy form (and some endorsements) and stated price merely represent the insurer s first offer. (c) Knowledgeable brokers understand market factors bearing on pricing and product features. They understand what is reasonable, what is available elsewhere, and where particular insurers will give and hold. 3. Explanation of D&O Policy (a) Claims-Made Coverage Coverage is for Loss attributable to Claims first made in the Policy Period or Extended Reporting Period for Wrongful Acts General Types of Coverage Coverage for claims alleging breaches of duties of Ds & Os to entity or shareholders. Some limited coverage for claims alleging breach of duties to public at large e.g., statutory/regulatory violations, duties to creditors when institution is in zone of insolvency. No coverage for bodily injury/property damage (covered by General Liability policies); no coverage for claims related to professional services (e.g., professional negligence; covered by E&O Liability policies); no coverage for employment discrimination (covered by Employment Practices liability policies); no coverage for employee benefit-related claims (covered by Fiduciary liability policies) Stinson Morrison Hecker LLP Page 3

5 (c) Policy Structure (i) Side A Coverage Coverage to natural person Ds & Os if corporation is financially unable, or legally prohibited, from indemnifying Ds & Os to the extent permitted by State corporate law. This coverage rarely applies. When it applies, there is no retention/deductible (ii) Side B Coverage Coverage that reimburses the entity to the extent that it indemnifies its Ds & Os. (iii) Side C Coverage Coverage to the corporation itself. (A) With publicly traded companies, this is nearly exclusively for claims based on violation of State and Federal Securities laws (B) coverage. For private companies, this is usually E&O liability 4. Deductibles/Retentions and Limits (i) Amounts of Retentions/Deductibles and Limits (A) Appropriate size depends on many factors, including the amount at risk, the nature of transactions/operations, the client s risk appetite, the client s cash flow situation, and policy pricing. (B) Attorneys can advise on the nature of risks and possible exposure magnitudes. (C) Qualified brokers can provide information concerning retention/deductible and limit amounts of similarly-situated insureds. (ii) Issues with Retentions/Deductibles and Limits (A) Is there provision for exhaustion of the retention/deductible if Side B applies and Company won t indemnify? (B) Are limits shared with other coverages (e.g., E&O, Employment, Fiduciary liability policies)? (C) Are limits shared between policy periods or refreshed upon each new policy period? (D) Are there sub-limits for certain matters (e.g., investigation coverage, or antitrust or unfair trade practices claims)? (E) Limits are typically expanded with Excess coverage Stinson Morrison Hecker LLP Page 4

6 5. What constitutes insured Loss? Generally speaking, Defense Costs and Judgments/Settlements. But, there are important variations. (a) Defense Costs (i) Counsel appointed by insurer (duty to defend; private companies) (ii) Freedom of insured to choose from panel (which may severely restrict choice) (iii) Freedom of choice only encumbered by notice to and prior consent of insurer (which shall not unreasonably be withheld) (iv) What do insurers tend to agree are reasonable hourly rates for attorneys fees? Do insurers apply other (unreasonable) restrictions on attorneys? Judgments/Settlements (i) Loss can include (exclude) punitive damages, if insurable under any the law of any State that could conceivably govern the issue. (ii) Loss can include (exclude) some sorts of fines and penalties, if insurable under any the law of any State that could conceivably govern the issue. (iii) Loss can include (exclude) indemnification for certain Securities claims (e.g., Section 11 and Section 12 of the Securities Act) regardless (because) of the notion coverage would amount to the return of what is essentially stolen money. 6. What constitutes a Claim triggering coverage? Generally speaking, a written demand for monetary damages. (a) Claim can include (exclude) investigation of an Insured Person triggered by the receipt of a subpoena, formal investigative order or similar document identifying the person. Claim can include (exclude) an investigation of the corporation. 7. What sort of Insureds and Wrongful Acts are covered? Generally speaking, acts, errors and omissions of Ds, Os, Employees (and Corporation in the case of Side C coverage) are covered. (a) Capacity issue can include (exclude) service with respect to other entities (not-for-profits) that the Insured Person serves, usually at the request of the insured Corporation. as a D&O. Policy may include (exclude) coverage if not duly elected or appointed 2011 Stinson Morrison Hecker LLP Page 5

7 (c) Policy may include (exclude) coverage for mere employees, with respect to certain sorts of claims. (d) Policy may include (exclude) coverage for spouses, and domestic partners to the same extent that coverage is provided for partners. 8. Extended Reporting Period (a/k/a Tail, Run Off, or Discovery ) Coverage When a Policy is purchased in the normal course, it is assumed the corporation will remain a going concern and coverage will be purchased for successive policy periods. By virtue of a transaction (which might be a merger, sale of assets, bankruptcy, cessation of operations, or similar), succeeding coverage may not be available. This tail coverage is for pre-transaction Wrongful Acts that result in Claims after the end of the current Policy Period. A Policy should include price for a tail up front. A one-year tail is probably standard; a longer tail (three or six years) is better, but usually requires underwriting, as well as pricing, both determined at the end of the Policy Period, when the coverage is purchased. If there is a tail option with the price set up front, the insurer will not be able to avoid providing tail coverage or charge an excessive price once there is a triggering transaction. 9. Conduct-Related Exclusions (e.g., Fraud, Willful Criminal or Statutory Violation, Improper Personal Profit) and Standard of Proof Issues. (a) Policy may exclude coverage based on an unspecified standard. Regardless of whether Claim alleges excluded conduct, this exclusion allows the insurer to seek a finding in collateral coverage litigation that the Claim resulted from excluded conduct. Policy may exclude coverage based on In Fact finding of excluded conduct. This In Fact finding may be based on a finding by a court, jury, arbitrator that is short of a judgment or final adjudication. The cases indicate that this finding may be procured in collateral coverage litigation. (c) conduct. Policy may exclude coverage based on Written Admission of excluded (d) Policy may exclude coverage based on a Final Adjudication of excluded conduct. This standard typically requires that the Claim allege the excluded conduct, and that there be a judgment of the excluded conduct. The judgment may be rendered with respect to the Claim, or it may be rendered elsewhere (not in coverage litigation), for example, a criminal conviction or plea, and sentencing, would likely constitute a Final Adjudication. Importantly, a settlement without (or before) a final adjudication prohibits a declination of coverage. (e) Policy may exclude coverage based on a Final Adjudication of excluded conduct with respect to the Claim subject to the insurance. That means, for example, that the insurer cannot decline coverage for securities litigation based on a guilty conviction in a related criminal matter Stinson Morrison Hecker LLP Page 6

8 10. Severability of Exclusions (a) Policy may exclude coverage for all Insureds (the Corporation, Black Hat, and White Hats) based on the excluded conduct of the Black Hat. Policy may exclude coverage for Black Hat based on his conduct; it may exclude coverage for Corporation based on Black Hat conduct, but only if the Black Hat is the CEO, CFO, GC, etc. However, the Policy will not exclude coverage for any other Insured Persons based on the excluded conduct of a Black Hat. (c) Policy may only exclude coverage for Black Hat based on that Black Hat s excluded conduct (and it will not exclude coverage for the Corporation or any other Insured Person). Backs 11. Pollution (sometimes Bodily Injury/Property Damage) Exclusion, with Give (a) The Policy may include coverage for any Securities Claims resulting from pollution (or bodily injury/property) damage. So, for example, there would be no coverage for bodily injury/property damage related to an energy company s oil spill, but there would be coverage for securities lawsuits based on the company s (mis)representations in securities filings about the company s environmental safeguards. The Policy may include (exclude) Side A coverage for pollution or bodily injury/property damage. 12. Insured v. Insured Exclusion, with Give Backs (a) The Policy may include (exclude) coverage for Claims asserted by receivers, bankruptcy trustees, creditors committees, etc., against other Insureds. The Policy may include (exclude) coverage for Claims asserted by Insureds asserting Whistleblower Claims. (c) The Policy may include (exclude) coverage for Claims asserted by Insured former Ds & Os, when those Insureds ceased being Ds/Os more than (3 or 4) years in the past. 13. Notice of Claim (a) The Policy may require that the insurer be notified within a specified period of time, or as soon as practicable, and in any event, within the Policy Period. The Policy may require that the insurer be notified as soon as practicable within the Policy Period, but if the Claim is made within (e.g., 30) days of the end of the Policy Period, the insurer must be notified within (e.g., 45) days of the end of the Policy Period Stinson Morrison Hecker LLP Page 7

9 (c) The Policy may require that the insurer be notified as soon as practicable, and in any event, within (e.g., 30) days of the end of the Policy Period. (d) practicable. The Policy may require that the insurer be notified as soon as (e) Additionally, the Policy may only start the notice clock ticking only when the Corporation s General Counsel, Director of Risk Management, or similar, become aware that the Claim has been made. 14. Issues with the Application for Insurance (a) Rescission Exclusion Based on Misrepresentations in Application, Severability, (i) The Policy may allow exclude coverage or allow rescission as to any and all Insureds based on material misrepresentations in the application for insurance. (ii) The Policy may exclude coverage as to the misrepresenter and the Corporation (if the misrepresenter or those with knowledge happen to be the CEO, CFO, GC, etc.). (iii) The Policy may prohibit rescission (which is somewhat hollow if it includes an exclusion for the same conduct). Securities Filings Incorporated as Part of the Application (i) The Policy may provide that the application incorporates public filings going back to the 12 months prior to the beginning of underwriting of the first preceding policy issued by the insurer. (ii) The Policy may provide that the application incorporates only those public filings going back 12 months from the beginning of underwriting on the policy at issue. 15. Cancellation The Policy may (may not) allow for unilateral cancellation of the Policy by the Insurer during the Policy Period. 16. Recoupment (a) The Policy may provide that the Insurer has the right to seek recoupment of advanced defense costs or other proceeds under the Policy, in the event it is determined that those proceeds need not have been advanced. The Policy may remain silent on recoupment Stinson Morrison Hecker LLP Page 8

10 17. Subrogation (a) The Policy may disallow the Insurer subrogation rights against the Corporation or any Insured Person except to the extent that coverage is excluded as against the Corporation or a particular Insured Person by a conduct-related exclusion. The Policy may provide that exhausted limits are reinstated to the extent that the Insurer recovers as a result of a recovery by contribution, subrogation, etc. 18. New Entities (a) The Policy may allow coverage, through the end of the Policy Period, for new subsidiaries (not partnerships) smaller than the named Corporation as to which the named Corporation first gained management control (defined) during the Policy Period, subject to underwriting and the payment of premium. The Policy may provide an automatic coverage extension, through the end of the Policy Period, for new subsidiaries (not partnerships) smaller than the named Corporation as to which the named Corporation first had management control (defined) during the Policy Period. 19. Priority of Payments The Policy may provide that payments as to policy proceeds are made as to Side A coverage, Side B coverage, Side C coverage, in that order. 20. State Law Liberalization The Policy may provide that, if the Policy conflicts with State law in some respect, the rule with the outcome most favorable to the Insured will be applied. 21. Other Products for Insured Person Personal Asset Protection (a) Side A Only Excess Side A DIC ( difference in conditions ) Coverage (i) Purpose is personal asset protection for Insured Persons. (ii) Ordinarily is Excess insurance at top of tower. If there is a problem with the underlying coverage in the tower (i.e., a difference in conditions ) this coverage drops down. (iii) Many features beneficial to Individual Insureds (c) Coverage Exclusively for Independent Directors (or features for exclusive benefit, such as enhanced ability to purchase tail coverage) 2011 Stinson Morrison Hecker LLP Page 9

11 (d) Coverage Exclusively for Retired Directors (or features for exclusive benefit, such as enhanced ability to purchase tail coverage) (e) Coverage Exclusively for Audit Committee Members (or features for exclusive benefit, such as enhanced ability to purchase tail coverage) # # # 2011 Stinson Morrison Hecker LLP Page 10

12 This booklet is designed to give general information only. It is not intended to be a comprehensive summary of the law or to treat exhaustively the subjects covered. This information does not constitute legal advice or opinion. Legal advice or opinions are provided by Stinson Morrison Hecker LLP only upon engagement with respect to specific factual situations.