Directors & Officers liability insurance pricing, terms, and availability are headaches for risk managers. Fortune 500 companies have seen premiums jump 200 to 400 percent. A recent poll conducted by CFO.com revealed that 27 percent of respondents said their D&O coverage costs have doubled or tripled. You need not be a Fortune 500 company, though, to face daunting D&O challenges.

Even before the Enron and WorldCom scandals, the D&O arena exhibited increasing litigation. Not only is coverage getting pricier, but policies also cover less. Exclusions create new financial vulnerabilities. Some call current D&O policies “baskets with leaky holes.”

As claims mount and the litigation wave breaks, high-profile claims increase, payouts escalate, and the struggle continues for risk managers and business executives. They need strategies and tactics to effectively manage D&O risks in a challenging environment. Certainly, directors and officers liability exposures have always been problematic. But never has the crisis been more acute than in the post-Enron era.

Recent misadventures create a bonanza for shareholder plaintiffs and a growing public perception that accusation equals guilt. Corporate accounting shenanigans and lavish CEO perks have spotlighted corporate governance and the role of corporate boards. Sarbanes-Oxley has heightened corporate governance requirements for public companies. Breaching any part of “SOX” provides a road map for 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 more essential. One D&O risk management tenet is savvy claims management. A starting point is to learn lessons from past claims. Corporate management should turn each D&O claim into a learning experience, focusing on what could be done differently to prevent future losses. Some companies marginalize claims as a nuisance or smear campaign and consign them to the legal department. Instead, companies could profit by viewing them as weathervanes to forestall bigger financial problems before they damage the company, employees, or investors.

Loss-reporting compliance also is key. Promptly report any claim or potential claim to the insurer; do not wait for suit papers to arrive. Many claims surface before litigation commences. Attorney letters of representation or other signposts precede most D&O lawsuits. The sooner one gets these to the D&O insurer, the quicker it can investigate, ramp up its defense, and the sooner insureds preserve their coverage rights. Delayed reporting may cause insurers to either disclaim coverage or cloud financial protection by issuing reservation-of-rights letters.

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

Counsel Selection in D&O Claims

Evaluate the quality of legal representation and advocacy you will receive. Do this when placing or renewing coverage, not after you have procured the policy! Ask the insurer for a list of law firms it uses to defend D&O claims. Check them out! Are they specialists in D&O defense or do they dabble in many fields? Are they jacks-of-all-trades but masters of none? D&O litigation is a demanding specialty; if the carrier makes the decision, make sure it picks defense counsel based on thoroughness and expertise, not the lowest hourly rate. Again, the time to address this is before — not after — the renewal and placement process. Make this one of your broker's “specs” in the renewal checklist.

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

From an insurer's standpoint, the lower the hourly rate, the better. From the insured's perspective, a lower hourly rate may indicate that his case cannot command the time and attention of the most seasoned and experienced attorneys in a law firm. Some insurers 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 your influence over the attorney selection process.

Get the D&O insurer's advance agreements regarding counsel selection and consent-to-settle provisions. Ask defense attorneys for three references in the D&O field and then be sure to check them.

Managing the D&O Insurer and Insurance

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

To launch a D&O application to the top of the underwriter's pile, be thorough. Include narratives and, if available, brochures about the risk. The more underwriters understand, the more confidence 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 to get to $30 million or above. Trim premium costs by marketing D&O layers to underwriters with pre-set prices (“I will let you write this layer of $10 million excess of the primary $10 million if your price does not exceed…”). Often, underwriters will try to get from 70 percent to 85 percent of the price of the layer just below (assuming the same limit). Telling underwriters that the business is available for them at the lower end of the price range can produce savings for superior risks.

Use increased per-claim deductibles and coinsurance to cut premiums. Compute the effect of increased deductibles and/or coinsurance to determine the most desirable amount. The higher the deductible — in the context of a catastrophe approach to loss funding — the more premium one can save.

Getting the Best Deal

Supply D&O biographies to underwriters. This fosters transparency regarding corporate governance and impresses underwriters that the company takes a professional approach to director and officer selection. Further, often it is not the D&O exposures that drive the price, but rather the perception of the exposures. Perception becomes the driving reality behind price hikes. Mold those perceptions positively by helping underwriters see your organization as a good risk. Sell yourself to underwriters. Brokers can help, but risk managers should go the extra mile in taking the case to the underwriter personally.

Also, seek face-to-face meetings with D&O carriers mid-term in 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 deem important?
What financial metrics do they check?

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

Prepare early if you are thinking of switching carriers. Do not wait until 30 or even 60 days before renewal. In fact, start preparing for the D&O renewal 120-180 days ahead of time.

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

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

Kevin Quinley CPCU, AIC, ARM, is senior vice president of Medmarc Insurance Group in Chantilly, Va. He can be reached at kquinley@cox.net.

Special Reports /

Risk Managing D&O Claims and Litigation

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