What is D&O insurance?
Directors and Officers (D&O) insurance is a form of liability insurance tailored to protect the personal assets of directors and officers from civil, criminal, and regulatory actions that can arise from the actions or decisions taken within the scope of their managerial duties. This form of business insurance is critical as it addresses the unique risks that face directors, non-executive directors, and officers, whilst performing their duties.
Directors and non-executive directors are often tasked with the stewardship of the company, involving making strategic decisions that can affect the company’s future. Their roles inherently involve risk, and individuals or boards can be held liable for their decisions. D&O insurance helps mitigate these risks by covering potential legal expenses, awards, and settlements.
D&O insurance plays a critical role in modern risk management. It not only provides essential protection to business leaders but also supports the overall governance and management framework within which companies should operate. For any business, but particularly for those in growth phases or industries with high regulation, D&O insurance is not just a safety measure - it's a strategic necessity.
Understanding D&O Insurance
The primary function of D&O insurance is to provide financial protection to company directors’ and officers against personal losses if they are brought into a legal allegation or regulatory investigation. This can include protection from compensation claims from employees, investors, suppliers, competitors, customers, regulators, or other parties for wrongful acts have been alleged.
Company directors have personal liability because of the fiduciary duties and responsibilities they hold in managing the affairs of the company. These duties are critical in ensuring that directors act in the best interests of the company and its stakeholders.
What does D&O insurance cover?
D&O insurance provides coverage for directors, officers, and sometimes the company itself, against legal actions that may arise from the decisions and actions taken within the scope of their managerial duties. The business insurance covers legal fees, court costs, and other expenses associated with defending directors, officers, and potentially the company against litigation. This is crucial because even if allegations are found to be without merit, the defence costs can be substantial.
If a legal action results in a settlement or a judgment against the directors and officers, D&O insurance can cover these costs, up to the policy limits. This includes financial settlements and the damages awarded by the court. D&O policies will also provide coverage for expenses related to defending directors and officers against regulatory investigations. This is particularly important in industries that are heavily regulated, such as financial services and healthcare.
While D&O insurance does not cover fines or penalties resulting from criminal acts, it can cover the legal cost if an individual director or officer is accused of criminal wrongdoing, provided there was no intentional illegal act.
How does a D&O policy work?
Policies are typically structured in three main parts:
Side A Coverage: This directly protects individual directors and officers against claims where the company cannot indemnify them. This is particularly relevant in cases where the company is bankrupt or insolvent.
Side B Coverage: This reimburses the company when it indemnifies the directors and officers, covering the expenses the company incurs in defending its senior management.
Side C Coverage (Otherwise known as Entity Coverage or
Corporate Legal Liability): This extends coverage to the company itself for claims made against it alongside its directors and officers.
Common Claims Covered:
D&O claims can arise from a wide range of circumstances, aimed at the directors and officers of a company, stemming from their management decisions and actions. are Below are some common types of wrongful acts typically covered under a D&O insurance policy:
Breach of Fiduciary Duty: This includes failures by directors and officers to exercise a reasonable level of care, skill, and diligence in carrying out their duties.
Misrepresentation: A claim for making false or misleading statements about the company’s financial status, operations, or compliance with regulations.
Breach of Statutory Duties: Company directors are required to adhere to various statutory duties under the Companies Act 2006.
Failure to Comply with Regulations: This covers the failure to adhere to regulatory requirements (i.e. health and safety).
Misuse of Company Funds: Improper or unauthorised use of company resources, which could lead to allegations of fraud.
Decisions Exceeding Authority: Actions taken against directors or officers that go beyond the scope of their powers, possibly involving company agreements.
Neglect: A claim for inadequate corporate governance, board oversight or not maintaining proper checks and balances within the company.
Employment Practices Liability: A claim arising from employment-related issues such as wrongful dismissal, discrimination, or harassment.
What does D&O insurance not cover?
Understanding D&O exclusions is important for companies and their leadership to manage risk effectively and know where additional business insurance or risk mitigation strategies might be necessary.
Illegal Acts or Fraud: D&O insurance does not cover acts of intentional wrongdoing or fraud committed by directors or officers. Generally, defence costs will be provided until it is determined by a final adjudication that an individual has engaged in fraudulent or criminal behaviour.
Professional Services: D&O insurance will not cover liabilities that are specifically related to professional services or advice. This type of risk is generally covered under
professional indemnity insurance.
Prior Claims and Known Issues: Any claims that arise from wrongful acts that were known or ongoing before the D&O policy began are generally excluded. This is often addressed through a "pending and prior date" exclusion.
Bodily Injury or Property Damage: Claims related to bodily injury or physical damage to property are typically not covered under D&O insurance, as these are generally handled by
public liability or other specific types of insurance policies.
Employment Practices Liability: D&O policies will typically provide cover to the individual directors, officers, for employment claims, however, allegations made against the company will be excluded. Therefore, it is typically recommended that cover is also sought for
employment practices liability insurance (EPLI). That provides comprehensive cover for claims related to wrongful termination, harassment, discrimination, and other employment-related issues.
Cyber Incidents: D&O insurers are more commonly applying cyber related exclusions. To ensure that companies purchase adequate
cyber insurance and do not rely on their D&O insurance for failing to adequately protect the business from a cyber-attack or data breach.
D&O insurance is a complex product, and the exclusions can significantly affect the coverage. It’s recommended you discuss the availability of coverage with your insurance broker.
Why is D&O insurance necessary?
Given the complexity and the risks associated with corporate governance, combined with the litigious environment in which modern businesses operate, D&O insurance is not just a luxury but a necessity. It helps ensure that directors and officers can focus on steering their companies towards success without fear of personal liability.
Financial Protection: Directors and officers of a company can be held personally liable for their actions and decisions made in their official capacities. This means their personal assets are at risk in the event of an alleged wrongful act.
Investor Confidence: Having D&O insurance reflects positively on the company’s governance standards. It shows it is committed to responsible management and protecting its leadership and stakeholders.
Attracting Talent: Companies need skilled and experienced individuals to serve as directors and officers. Qualified candidates, however, will be cautious about assuming roles without adequate cover.
Peace of Mind: Coverage provides peace of mind, allowing directors’ and officers to perform their duties without fear of personal financial loss. This can encourage more decisive and innovative management practices.
Indemnification: While some companies indemnify their directors and officers against certain liabilities, this indemnification may not always be sufficient or available if the company either becomes insolvent or interests are not aligned.
