PRIVATE COMPANY DIRECTORS & OFFICERS: Turmoil in the D&O Market – 2020 Proper Pricing and Coverage Protection
| Edward M. Kraine
The Directors and Officers insurance marketplace, for the first time in over 10 years, is in turmoil from both a price and coverage standpoint.
This type of insurance has been the bedrock of protection for many years in the publicly held company sector. These companies regularly experience securities claims from issues alleging mismanagement and causing shareholders value to drop.
An important element here is the liability that can visit directors and/or officers, and the fact that most state statutes make directors and officers personally liable for their actions, putting them in great financial peril.
Also, private company D&O policies have been placed with many insurers for a number of years. The D&O policy is very broad in its protection. Many purchasers in the private sector buy it as a “peace of mind from worry and anxiety” solution to help lessen company risk issues.
The reasons are: closely held family disputes; action from outside investors, lenders and competitors; and, potential acquirers of privately held companies. The insuring agreement literally protects insureds against “any act, error, omission, statement, mis-statement, failure to act or misleading statement.” Some carriers use “any actual or alleged breach of duty, or neglect in carrying out corporate duties.”
However, insurers will place limitations or exclusions to these coverage grants which diminish protections. These coverage “takeaways” have done little to decelerate the plaintiff’s bar from filing lawsuits followed by successful judgements or dispute resolutions.
THE CHANGING D&O LANDSCAPE
Two major contributors to the sudden change in pricing and coverage are the emergence of pandemic issues and “nuclear judgments” on behalf of the plaintiffs, especially in the publicly held company sector.
Insurance carriers may use four strategies which diminish protection:
- Pandemic/Coronavirus – Carriers can add exclusions. Also, there is significant question in activity at renewal, regarding control in the protection of employees.
- Price Increases – Significant price increases on existing limits of insurance and/or decrease in limits for the same price as expiring.
- Deductible Increases – This strategy mitigates the carrier’s participation in a claim, placing more burden on the client.
- Elimination of Enhancements – This reduces the scope of coverage by eliminating “automatic” features of the D&O policy. They include: eliminating or lowering Side A limits; adding antitrust exclusion; adding creditor claim or bankruptcy exclusions; and finally, some carriers refusing to insure certain industries, such as aircraft, hospitality, gaming and nursing home type businesses.
CORONAVIRUS UNKNOWNS AND WEAK FINANCIALS
As mentioned, insurers are very focused on exposure to the fallout from COVID-19 and the difficult financial environment it has created. Carriers are looking at liquidity/solvency, guidance and disclosures, revenue disruption, supply chain and logistical concerns and business plan changes. They also really want to know if you can operate your business remotely and successfully.
Here are some underwriting questions to expect:
1. Business Continuity Plans (BCP):
- Under the BCP operating environment is it possible to maintain standard risk/operational controls and procedures? If not, please provide full details of all weaknesses and/or any reduction in the control environment, as well as the impact this has to the insured’s operational resilience.
- What plans have the Company put in place to mitigate any IT or control weaknesses? Any risk management framework?
- Is the Company able to sustain their alternative operating approach under their BCP indefinitely or is it time-limited?
- Do your contracts with your customers contain force majeure clauses and if so, are pandemics listed as a specific peril under these clauses?
- Liquidity – How much cash does the Company currently have and how long will the cash last at the current burn rate? Does the Company have access to additional liquidity through credit facilities or other sources? Please provide details.
- Revenues – Is the Company still generating revenue? What percentage of their revenue stream has been impacted by the crisis? What additional revenue impacts are expected over the next 90-120 days?
- Costs – Is the Company able to mitigate/reduce costs in the short term? How so?
- Capital – What is the Company doing right now to preserve capital while still meeting short-term obligations? Did the Company have money allocated for long term capital investment that they are able to use to help weather the crisis?
- Supply Chain – Has the Company experienced, or do they expect to experience disruptions to their supply chain? What are they doing to reinforce their supply chain?
- Debt - Is the Company in jeopardy of breaching any debt covenants as a result of COVID-19? Does the Company anticipate any issues in complying with the next test? Has the Company been in communication with its lenders re: short-term waivers/amendments to accommodate any disruption/potential disruption to its business? What is the timing of the Company’s financial stress-testing (reviewing for 3-month sustained downturn? 6-month? 12-month?)?
- Has the Company updated its disclosures in response to COVID-19? If not, is this expected? Did the Company use outside counsel to craft disclosure updates? Who?
- Has the Board and/or Board Committee met specifically regarding COVID-19? What is the cadence of these meetings? Key initiatives and ownership at both Board level and C-suite level?
- How is the Company/Board evaluating its risk of reputational harm?
- What is the Company doing to preserve cash? Has the Company eliminated dividends and/or share repurchase plans?
OTHER UNDERWRITING ISSUES
Bankruptcy/Insolvency – The current environment could result in waves of bankruptcies. For companies facing restructuring or bankruptcy, D&O coverage is especially valuable. While valuable to the policyholder, this creates concern for the underwriter/carrier.
Private and Not-for-Profit Companies – A client’s financial health and industry sector matter. Financially distressed firms, companies in challenged or emerging industries will see premium increases, higher deductibles and/or coverage restrictions. Portfolio companies of private equity firms may see greater underwriting scrutiny and pressure.
THIS IS A CALL TO ACTION
It is imperative that the client answer the aforementioned questions as thoroughly as possible and provide supporting materials. Failure to do so could result in non-renewal, less favorable terms and conditions and/or significant price increases.
At The Fedeli Group, we are committed to helping you work through these issues and answer any questions on your renewal, or the purchase of this valuable protection.
Please call our Directors & Officers consultants: Keith Hartzell, Tim Moroney or Ed Kraine at 216-328-8080 for a more in-depth analysis of your needs.