New Reality: Less for More

Coping with the bear market in directors' and officers' liability insurance.

Insurers are also introducing new policy language that guts many D&O protections and could cost companies millions. For instance, some now seek to increase deductibles and remove the deductible waiver (which would allow the company to recoup the deductible if it wins a case). Many insurers are demanding that clients agree to co-insurance, which requires the company to pay a portion (usually 10 to 20 percent) of the entire cost of the claim. “We’re looking at having customers share in the risk as a means of managing premium increases and enhancing partnership when claims occur,” says Jim Proferes, deputy D&O underwriting manager for The Chubb Group of Insurance Cos. Translation: in exchange for putting a little skin in the game, companies get smaller premium increases, as well as a powerful incentive to fight harder should claims be made.

The list of changes goes on: multiyear policies are a thing of the past; noncancelable insurance is heading that way; and insurers now charge handsomely for entity coverage, which covers a corporate entity’s liability in shareholder claims. Companies can also expect problems getting employment practices liability coverage as well as coverage of punitive and exemplary damage payments in states where such coverage is allowed.

Canceling Coverage

Perhaps most disconcerting is that insurance companies now seem quite willing to cancel policies or exclude coverage for certain claims, a company’s “worst nightmare,” according to Stephen Weiss, a partner in the Washington, D.C., office of law firm Holland & Knight. “When you buy insurance, you’re trying to buy certainty and cap your liabilities. Pulling the rug out from under you…is so inconsistent with what [insurers] are selling that they won’t talk about it.”

But companies renewing their D&O policies absolutely should talk about it. Cancellation of a policy for nonpayment has always been standard, but insurers now want to make it easier to rescind a policy by making it harder to get a “severability” clause. This clause means that if an insurer finds material misstatements on an application, it can revoke the insurance policy, but only for the person who filed the application; other directors and officers remain protected. These days, severability clauses are getting more expensive–when they can be obtained. Some insurers simply refuse to offer them.

Moreover, insurers are increasingly willing to view a restatement of earnings as a grounds for rescission, using the material-misstatement angle. The St. Paul Mercury Insurance Co. and Royal Insurance Co. of America, two of Enron’s pool of D&O insurers, have made filings in the U.S. Bankruptcy Court indicating that they reserve the right not to honor their contracts, because they are based on just such “material misrepresentations.”

To mitigate the risk of such filings against other companies in the future, the National Association of Corporate Directors (NACD) is recommending that corporate directors and officers participate in education programs that should help them fully understand and focus on their corporate governance responsibilities. “It will take a while for people to focus on the other side of this problem,” acknowledges Peter Gleason, vice president of research and development at the NACD. “We have to go from ‘What do we do about this?’ to ‘How do we alleviate the problem to begin with?’”

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