Insurance Agency Tips: Don’t Need Directors and Officers Insurance?
July 7, 2020
Many times, private companies do not see the need for Directors and Officers (D&O) insurance as it is thought of as a coverage meant for public companies with a board of directors and shareholders. However, in today’s highly litigious environment, Directors and Officers insurance is becoming more and more of an essential coverage not only for public companies but for private companies as well.
Directors and Officers insurance provides coverage for defense costs and loss payments arising from wrongful act allegations against company directors and officers. Coverage is provided in three parts: Side A, Side B, and Side C. Side A covers individual directors and officers for non-indemnifiable claims on a first-dollar basis; Side B reimburses the company for indemnifiable claims to its directors and officers; and Side C protects the company. Sides B&C are subject to the policy’s retention or deductible. D&O policies are normally claims-made policies, meaning coverage applies to claims made and reported during the policy period and may include a retroactive date and/or pending and prior date which excludes wrongful acts prior to a set date. Allegations can be brought from any number of individuals or organizations including investors, customers, competitors, employees, government regulators, and more.
An important part of what a D&O policy can provide is the defense cost coverage. Private company D&O policies may include a duty-to-defend clause where the insured would have access to defense coverage from the insurance carrier above any retention or deductible. Some carriers will also allow adding an additional defense limit on top of the D&O aggregate limit. A payment in the hundreds of thousands of dollars can be catastrophic for many private businesses, especially when those types of losses are not budgeted for.
A 2018 Chubb Insurance Company Private Company Risk Survey1 found that the average reported D&O loss was just under $400,000, and 26% of private companies reported experiencing a D&O loss in the previous three years. Even with such a high average claim cost and one-fourth of the respondents having had a claim in the previous three years, less than half (43%) of the responding companies purchased D&O insurance. Of the respondents who did not purchase D&O insurance, multiple reasons were offered: 33% of respondents didn’t believe coverage was necessary because the business was privately held; 32% did not experience a D&O-related claim in the past; 31% did not think coverage was necessary because the business was family run; 22% did not purchase D&O insurance because they were not contractually obligated to; and 22% believed coverage was provided by other types of insurance, such as General Liability.
Being privately held or family-owned does not make a company immune to D&O-related claims or allegations. A company and its executives do not need to be guilty of wrongful acts in order to have allegations made against them. Many times privately held companies have multiple shareholders or investors. Claims alleging mismanagement or misrepresentation can be brought from these shareholders or investors for items like inaccurate disclosure of financials or mismanagement of finances/the organization. Other examples of potential claims can be from customers for negligent hiring or supervision of an employee, from a competitor due to unfair trade practices, or from a vendor or supplier for improper inventory management.
The current COVID-19 pandemic may also lead to D&O related wrongful act allegations due to the rapidly changing business landscape. Claims from employees, shareholders, investors, and creditors may allege breach of fiduciary duty in planning for or responding to the pandemic. Companies are also moving towards working remotely and the increased cyber exposure may lead to cyber and D&O claims for misstatement or mishandling of the company’s cyber protection. COVID-19 took the world by storm in a matter of a few months showing how quickly things can change. A D&O policy could be crucial at a time like this when a large payment may have a significant impact on a company’s well-being.
The main reason privately held companies should think about buying D&O insurance is for peace of mind. A D&O policy can fill in coverage gaps between other policies to provide additional protection and round out a company’s insurance program. At the very minimum, have a broker or agent quote D&O insurance to identify the cost for your company.