Directors & Officers liability insurance pricing, terms, andavailability are headaches for risk managers. Fortune 500 companieshave seen premiums jump 200 to 400 percent. A recent poll conductedby CFO.com revealed that 27 percent of respondents said theirD&O coverage costs have doubled or tripled. You need not be aFortune 500 company, though, to face daunting D&Ochallenges.

Even before the Enron and WorldCom scandals, the D&O arenaexhibited increasing litigation. Not only is coverage gettingpricier, but policies also cover less. Exclusions create newfinancial vulnerabilities. Some call current D&O policies“baskets with leaky holes.”

As claims mount and the litigation wave breaks, high-profileclaims increase, payouts escalate, and the struggle continues forrisk managers and business executives. They need strategies andtactics to effectively manage D&O risks in a challengingenvironment. Certainly, directors and officers liability exposureshave always been problematic. But never has the crisis been moreacute than in the post-Enron era.

Recent misadventures create a bonanza for shareholder plaintiffsand a growing public perception that accusation equals guilt.Corporate accounting shenanigans and lavish CEO perks havespotlighted corporate governance and the role of corporate boards.Sarbanes-Oxley has heightened corporate governance requirements forpublic companies. Breaching any part of “SOX” provides a road mapfor plaintiffs to sue directors and officers.

Best Practices in D&O Risk Management

Regardless of whether a company is publicly or privately held,the need for sound D&O risk management has never been moreessential. One D&O risk management tenet is savvy claimsmanagement. A starting point is to learn lessons from past claims.Corporate management should turn each D&O claim into a learningexperience, focusing on what could be done differently to preventfuture losses. Some companies marginalize claims as a nuisance orsmear campaign and consign them to the legal department. Instead,companies could profit by viewing them as weathervanes to forestallbigger financial problems before they damage the company,employees, or investors.

Loss-reporting compliance also is key. Promptly report any claimor potential claim to the insurer; do not wait for suit papers toarrive. Many claims surface before litigation commences. Attorneyletters of representation or other signposts precede most D&Olawsuits. The sooner one gets these to the D&O insurer, thequicker it can investigate, ramp up its defense, and the soonerinsureds preserve their coverage rights. Delayed reporting maycause insurers to either disclaim coverage or cloud financialprotection by issuing reservation-of-rights letters.

Most policies have a conditions section that requires prompt ifnot immediate notice of claims and lawsuits. Breaching thisrequirement may jeopardize D&O insurance coverage. Do not putyourself or your organization in this position!

Counsel Selection in D&O Claims

Evaluate the quality of legal representation and advocacy youwill receive. Do this when placing or renewing coverage, not afteryou have procured the policy! Ask the insurer for a list of lawfirms it uses to defend D&O claims. Check them out! Are theyspecialists in D&O defense or do they dabble in many fields?Are they jacks-of-all-trades but masters of none? D&Olitigation is a demanding specialty; if the carrier makes thedecision, make sure it picks defense counsel based on thoroughnessand expertise, not the lowest hourly rate. Again, the time toaddress this is before — not after — the renewal and placementprocess. Make this one of your broker's “specs” in the renewalchecklist.

Ask the insurer for input into defense counsel selection. Thetype of law firm an insured needs may not be the type an insurerprefers. Policyholders want the best and most thorough D&Odefense. Typically, insurers are preoccupied with costs. To someinsurance claim personnel, this boils down to hourly rate.

From an insurer's standpoint, the lower the hourly rate, thebetter. From the insured's perspective, a lower hourly rate mayindicate that his case cannot command the time and attention of themost seasoned and experienced attorneys in a law firm. Someinsurers write indemnity-only contracts for D&O coverage,letting the policyholder pick the defense counsel of its choice.Determine in advance what kind of coverage you will have and yourinfluence over the attorney selection process.

Get the D&O insurer's advance agreements regarding counselselection and consent-to-settle provisions. Ask defense attorneysfor three references in the D&O field and then be sure to checkthem.

Managing the D&O Insurer and Insurance

Another key facet to D&O risk management is deft handling ofthe relationship with D&O insurers. Build good karma byinviting underwriters in early to meet senior management andperhaps the chairman. Let upper management “sell” the company tounderwriters by demonstrating straightforwardness and offering adetailed dialogue about how the company is managing a wide range ofrisks, including corporate governance. Package yourself as a soundD&O risk!

To launch a D&O application to the top of the underwriter'spile, be thorough. Include narratives and, if available, brochuresabout the risk. The more underwriters understand, the moreconfidence they will have in properly pricing the insurance.

Consider “layering” in order to get the desired D&O limits.While total limits may be available, it may take several layers toget to $30 million or above. Trim premium costs by marketingD&O layers to underwriters with pre-set prices (“I will let youwrite this layer of $10 million excess of the primary $10 millionif your price does not exceed…”). Often, underwriters will try toget from 70 percent to 85 percent of the price of the layer justbelow (assuming the same limit). Telling underwriters that thebusiness is available for them at the lower end of the price rangecan produce savings for superior risks.

Use increased per-claim deductibles and coinsurance to cutpremiums. Compute the effect of increased deductibles and/orcoinsurance to determine the most desirable amount. The higher thedeductible — in the context of a catastrophe approach to lossfunding — the more premium one can save.

Getting the Best Deal

Supply D&O biographies to underwriters. This fosterstransparency regarding corporate governance and impressesunderwriters that the company takes a professional approach todirector and officer selection. Further, often it is not theD&O exposures that drive the price, but rather the perceptionof the exposures. Perception becomes the driving reality behindprice hikes. Mold those perceptions positively by helpingunderwriters see your organization as a good risk. Sell yourself tounderwriters. Brokers can help, but risk managers should go theextra mile in taking the case to the underwriter personally.

Also, seek face-to-face meetings with D&O carriers mid-termin the policy period. Ask them:

• Where do they have issues?
• Is your class of business one they will continue to write?
• What corporate governance safeguards do they deemimportant?
• What financial metrics do they check?

If the insurers have concerns, tackle them head on and explainwhy you are better than the average. If the insurer foreshadowsprice hikes, specifically ask what you can do to mitigate that.

Prepare early if you are thinking of switching carriers. Do notwait until 30 or even 60 days before renewal. In fact, startpreparing for the D&O renewal 120-180 days ahead of time.

As in other lines of insurance purchase, price is important butshould be only part of the buying decision. Ask about the insurer'sloss control services in D&O: consulting services, seminars,newsletters, checklists, etc. Companies specializing in D&Ocoverage may offer these. Others dabbling in the coverage may beclueless. Consider price but do not buy on price alone. Sometime aD&O insurance quote is cheaper for a good reason.

None of these strategies will magically eliminate the stress andchallenges accompanying today's D&O exposures. They should,however, offer a way to cope and to help risk managers tame theD&O beast.

Kevin Quinley CPCU, AIC, ARM, is senior vice president ofMedmarc Insurance Group in Chantilly, Va. He can be reached [email protected].