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Managing risk
individuals—usually the CEO and
CFO—whose knowledge will be imputed
to the company (as an insured itself). As
another—and perhaps better—alternative,
the company may seek a policy that is not
rescindable for any reason. Obtaining a
fully nonrescindable policy may involve
trade-offs in other coverage or additional
premium.
Frequently, the company’s periodic
securities filings and financial statements
under the Exchange Act and registration
statements under the Securities Act are
expressly made part of the application
for D&O insurance. Claims of inaccurate
or incomplete disclosure in such filings
incorporated into the application for
insurance may be the basis for claims
made by insurers that the application was
materially false or misleading. As a result,
accounting restatements—depending on
their nature, scope and magnitude—may
provide insurers with an additional basis
to rescind a D&O insurance policy.
Conduct exclusion: Almost all D&O
policies contain exclusions barring
coverage for certain “bad conduct” by
directors or officers. Generally, they
include:
• intentionally dishonest acts or
omissions;
• fraudulent acts or omissions;
• criminal acts;
• willful violations of any statute, rule
or law;
• an insured’s obtaining an illegal profit;
and
• an insured’s obtaining an illegal
remuneration.
From an insured’s perspective, each of
these exclusions should be limited as much
as possible. For example, as noted above,
it is important to consider enhancements
to a policy so that the conduct of any
one insured director or officer will not be
imputed to any other insured. This should
limit the exclusion of coverage to the
individual directors or officers who actually
committed the excluded conduct, while
maintaining coverage for other insureds.
It is also important to clarify the
point at which coverage exclusions
apply or are triggered. Certain policies
state that the exclusions apply if the
excluded conduct “in fact” occurred.
This can be troublesome because of
the ambiguity involved in interpreting
what “in fact” actually means. Insureds
should consider seeking a more clearly
defined parameter for determining when
a conduct exclusion may apply. Policies
stating that the exclusions apply only if
the excluded conduct was established in
connection with a “final adjudication”
of the underlying claim generally better
protect directors and officers. However,
although “pure” final adjudication language
provides broad protection for individual
directors and officers, it could result in the
depletion of limits, leaving less in available
limits to protect nondefendant directors
and officers.
Priority of payment provisions: Unlike
many other types of commercial insurance,
traditional D&O policies protect two
distinct sets of beneficiaries: the
company’s individual directors and officers
and the company. Because there is a limit
of liability for D&O insurance programs,
situations may arise in which insurance
proceeds may have to be prioritized among
the insured parties. Typically, a priority
of payments provision requires that the
claims against the individual directors and
officers be satisfied first, before claims
against the company are satisfied.
However, sometimes this provision
may have unintended consequences. For
example, a situation may arise in which
a number of concurrent claims are made
against the company and its individual
directors and officers. This could include
shareholder derivative suits (settlements
of which may not be indemnifiable by
the company) and securities class actions
(settlements of which are indemnifiable). If
the securities class action suits are settled
before the settlement of the shareholder
derivative actions, insurers may delay
payment of any proceeds under the policy
for a securities claim until settlement
of the shareholder derivative action. A
delay in such a settlement payment may
adversely affect timing or funding of a
proposed settlement of such a claim.
“Entity v Insured” exclusion: Many
D&O policies contain a so-called entity v
insured exclusion, which bars coverage for
a claim brought by an insured company
against an insured director or officer or
another insured corporate entity. This
exclusion has historically been broader
than it is today, so many of the concerns
about the overreaching nature of this
exclusion have been eliminated. However,
there remain certain exceptions to this
exclusion that should be considered, most
of which relate to situations in which
a company finds itself in insolvency or
bankruptcy.
(b) D&O insurance and indemnification
Directors and officers no doubt find it
especially troubling when the company is
financially able to indemnify or advance
defense costs to them but chooses not to
or simply ignores their requests. Many
directors and officers assume that in
such a circumstance, the company’s D&O
insurance policy would respond. But that
might not be the case. In a traditional
D&O policy, if the company is permitted
to indemnify an officer or director but
chooses not to, the insurer often will first
seek the application of a “self-insured
retention” (in other words, a deductible)
that under ordinary circumstances
would not apply. This is sometimes
called a “presumptive indemnification”
requirement. Under this circumstance,
the self-insured retention would have
to be paid by an officer or director prior
to accessing any proceeds of a D&O
policy. In some cases, the self-insured
retention may be substantial. Directors
and officers should seek clarification from
their insurance brokers and counsel on
the extent to which their D&O insurance
policies allow directors and officers to
access the policy proceeds in the event the
company is able but unwilling to indemnify
or advance defense costs to them. In fact,
most traditional primary D&O policies,
similar to Side A D&O policies, are now
responding to a loss on behalf of a director
or officer within 60 days if the director or
officer has not received a response from his
or her company regarding whether it will
indemnify the director or officer for the
matter in question. This has significantly
reduced the punitive aspect of presumptive
indemnification.
A properly constructed D&O policy
generally is meant to provide a level
of protection for individual directors
and officers in the event the company’s
indemnification or advancement obligation
NYSE IPO Guide
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