"The turn of the D&Omarket seems to be the result of growing negative fundamentals,"says Andrew Doherty. (Photo: Shutterstock)

From a changing insurance marketplace to the increasingseverity of D&O claims, there are a number of trends executivesand their organizations should have on their radars in 2020.

AndrewDoherty, USI Insurance Services' national D&Opractice leader, shares his analysis of the topfive D&O coverage insights for organizations in2020.

PC360: What does the D&O landscape hold forinsurance buyers in 2020?

Andrew Doherty: Theoverall D&O landscape is, and will likely remain, as close to a hard market as we have seen in avery long time. For many public companies, it is undoubtedlyalready a hard market that will continue in 2020. For privatelyheld and not-for-profit organizations, the outlook shows a firmingmarketplace, just not to the degree that public companies arefacing.

"When will the market begin toabate?" is the question most buyers are asking today. In the past,there were clear, major events that triggered a market change. Forexample, in 2000-2002, the overall D&O market was responding tothe tech-bubble bursting, IPO laddering claims that also implicatedinvestment banks, the aftermath of 9/11 as well as theunprecedented accounting-related scandals that took down leadingpublicly traded companies like Enron and WorldCom. Another exampleis the financial crisis of 2007-2009 that led to the collapse ofleading financial institutions and brought the Dow Jones Industrial Average below 6,500 inMarch of 2009, a more than 50% drop from an October 2007high. 

Today, the turn of the D&Omarket seems to be the result of growing negative fundamentals.Increased claim frequency and severity, significant defense costinflation and defense complexity, shareholder activism, andcontinuing M&A activity are a few examples. Also, the number ofpublicly-traded companies today is lower than it has beenhistorically, which impacts the public company premium base forinsurers. We don't have a major shock to the overall stock market —in fact, stocks remain near all-time highs. Therefore, to see thisrecord number of securities class actions over a time of overallstock price appreciation feels odd. Also, the increase in complexshareholder derivative cases (shareholders suing D&Os on behalfof the company) is a relatively new phenomenon. So, the takeaway —this hardening market is a clear message from D&O carriers thatthe declining premiums that were being collected over the last 10years are just not enough to pay defense and settlement costs inthe current litigation environment. D&O carriers are steadfastand consistent in 2020.  

On a positive note, insurers aregenerally maintaining the broad levels of coverage that have becomeexpected within most D&O policies — particularly for theindividuals. As of now, we do not see that changing. The ability toexpand coverage likely will be met with pushback from insurers, butinsurer-imposed broad exclusions on D&O policies have not beensignaled to date. That said, large private companies may be acategory of insureds that faces pressure to pare back coverage forthe organization itself. 

PC360: What can clients do to prepare for upcomingD&O renewals and placements?

Doherty: Highlighting allthe positive risk profile qualities of a company goes withoutsaying, as it reminds insurers that risk differentiation needs toremain a part of the underwriting analysis. That said, not allcompanies have positive risk profiles leading to their renewals.Therefore, other key areas of focus should be on:

• Asking brokers to improve the processand communication aroundsecuring and renewing coverage. That means, when possible,accelerating the timing of key events like underwriter meetings andapplication/information submissions, as well as improving thecommunication flow from existing underwriters to brokers to riskmanagers and other senior executives and key decision-makers withinthe organization.
• Remaining thoughtful and open-minded about theD&O program structure and terms. Buyers should ask brokers about alternativestructures and compare the impact on premiums versus the change inpotential coverage in the event of a claim(s).
• Budgeting conservatively.Until we see how 2020 plays out, all things are pointing to more ofthe same in the D&O marketplace.
• Thinking long-term by:|
  • Asking carriers for the same loyalty shown to them during thesoft market. Especially if there have been no D&O claims/nopayments of loss. This may not stave off premium increases, but itshould mitigate them on a relative basis.
  • Showing loyalty to carriers that have handled claims well andpaid significant claims. Coming to the table as a partner committedto a long-term resolution may keep carriers from "looking to recoupeverything all in one year." Not all carriers think this way, butthe true leading ones do.

PC360: What alternative structures are worthconsidering when it comes to obtaining optimalresults?

Doherty: Some simpleconsiderations include:

• Buying less overall D&O coverage based on an analytical look at the currentlimits and your risk profile. This requires a willingness to retainmore risk going forward; or
• Raising the SIR (self-insured retention, or "retention")applicable to the company's covered loss. Important in this consideration is that theretention applicable to individual insureds (directors, officers,employees) will not be impacted and will remain at $0 for loss notbeing advanced or indemnified by the company. It is also importantto remember that higher retention likely only impacts the primaryand lower excess layers of a program, minimally (if at all)impacting layers above a certain level.

Others are slightly more complicated:

• If you buy a typical D&Oprogram structure that has both shared coverage for the D&Osand the organization itself, as well as the usually less expensiveexcess (and difference in conditions) Side A only coverage forindividual D&Os, consider reducing the sharedcoverage (the ABC coverage) while increasing the Side A only tomatch the reduction in the shared coverage. For example, instead of buying $30M of Side ABC+ $10M of Side A DIC, buy $20M of Side ABC + $20M of Side ADIC.
• Only purchase Side A D&O protection for individualD&Os. Again, you canmaintain the same level of overall D&O limits that executivesand the board are accustomed to, but your costs will go down. Thatsaid, in certain cases, the cost reduction may not be as much as itwould have been historically. Where Side A only costs could beestimated at substantially less than 50% of ABC coverage in yearspast, in today's environment, the costs may be as much as 75%+ ofthe cost of ABC coverage.
• Retain more risk via co-insurance. In this structure, the insured retains the riskof the retention per usual but also shares in the loss above theretention at a pre-determined percentage. 20% is typical. That 20%may be part of the limit that the insurer offers (limit-reducing),or it may dilute the loss (loss-reducing) so that the insurer stillpays its full limit, but only after a larger overall loss hasoccurred. This can be complicated and needs clarity throughout alllayers of coverage. 
• Buy limits in smaller sizes. For example, instead of buying $60M in overalllimits in four blocks of $15M, buy six layers of $10M instead. Theincreased limit factors (ILFs) that typically discount the premiumof the layer below may help save overall costs. That said, manycarriers are fortifying their ILFs today so that discounts are lessthan they used to be. Also, in the event of a large loss ($60M orgreater), claims-handling negotiations will now involve sixdistinct policies and likely six distinct carriers – a potentiallycomplicating factor.

Some may be much morecomplicated:

• In extreme cases,consider invoking the extended reporting periodoptions. If renewal terms are soegregious (significant increases in retention and premium, limitsbeing cut, and/or onerous exclusions being added), putting existingcoverage into "runoff" for claims alleging past acts and thensecuring "go-forward" coverage with different carriers for claimsalleging only go-forward acts may be less expensive. It is a riskyventure and not ideal, but if push comes to shove, all optionsshould be on the table.
• Establish an indemnification trust instead of D&Oinsurance. This involves thecompany setting aside capital in the event of a D&O claim/loss.Questions remain around how this arrangement may work in the eventof bankruptcy or even in response to a shareholder derivative claimsettlement, as well as what legal differences may exist from stateto state.
• Put D&O in a captive insurancecompany. Again, this alsobecomes very complicated as questions arise over the ability to paySide A loss (no indemnification from company to its D&Os) via acaptive insurance company.

PC360: Is the market disruption only impactingpublicly traded companies?

Doherty: As noted above,this is not just a public company issue for 2020. Larger privatelyheld companies and companies in more volatile industries and/orwith more complex legal structures will also likely feel more painin 2020.

Andrew Doherty, national D&Opractice leader, USI Insurance Services.

One significant distinction inthe D&O coverage for private companies versus public companiesis that the coverage extended to a private (or not-for-profit)organization itself is often broader than the "securities claimsonly" coverage extended to most public companies. This fullorganization (or entity) coverage expands the D&O contract toan almost "all-risk" type policy, covering claims brought not justby shareholders, but also to claims brought by other constituentslike creditors, competitors, customers, vendors and, of course,employees. Employees as potential litigants mostly stem from thefact that private companies often buy employment practicesliability (EPL) for the organization in tandem with D&Ocoverage. Many private companies also buy D&O in tandem withother related coverages like fiduciary liability, crime, specialcrime (kidnap and ransom), professional liability (E&O), andeven cyber or privacy coverage.  

Whether it is "true" D&Oclaims arising out of bankruptcy or company valuation disputes,claims falling under the extended entity coverage, or claims underthe ancillary coverages mentioned above, increases in defenseexpenses and the costs to resolve claims are escalating for privatecompanies as well as public companies. In 2020, larger privatecompanies may be forced to buy the D&O contract like publiccompanies, meaning that coverage for the entity will only beextended for shareholder claims. Mid-sized to smaller private (andnot-for-profit) companies should not face this change, but theywill see continued upward pressure on premiums andretentions.   

PC360: How do related exposures and lines ofcoverage play into thismarketplace?  

Doherty: The ancillarycoverages mentioned above are all under pressure, just to differentdegrees. 

• EPL coverage has alwayshad some level of frequency, but the severity risk in the wake ofthe #MeToo movement has moved the focus from the classor mass action risk alleging systematic discrimination to the riskof high-profile, executive-suite level allegations of sexualharassment, discrimination or worse.  
• Fiduciary liability policies are digesting recent, and current "excess-fee"claims against retirement plan sponsors allegingexcessive plan fees in violation ofERISA.
• Crime (bond) policies aredealing with the continued proliferation of social engineering orfraudulent inducement losses. These are losses where criminalsinduce employees of a company to do something that results in aloss of funds. Whether via email or over the phone, these crimescontinue to plague insureds and insurers.
• The professional liability (E&O)market, in general, is more stablethan D&O, but E&O exposures have always posed severityrisks to insurers – certain industries more than others. Defending claims is getting moreexpensive in all areas of liability, so this will likely continueto pressure premiums generally.
• Cyber/privacy coverage deserves its own full analysis for 2020, butsuffice it to say that, as these exposures get more complicated andlosses materialize, premiums and terms will come under somepressure. USI's 2020 P&C Insurance MarketOutlook predicts up to10% in premium increases. 

What has become apparent in thelast few years, and what we anticipate in 2020, is that any and allof these ancillary exposures are potential fodder for follow-onD&O claims. In other words, all roads lead to the boardroomthese days.

When a major cyber breach happens, companies may notonly have to deal with the breach fallout itself. If it is severeenough and disrupts the business significantly, it could result ina D&O claim, a securities claim, a derivative claim, or both.The same holds true for a high-profile EPL situation where thetrust in leadership and the brand gets eroded, promptingshareholders to sue D&Os for poor management. And these threatsextend to almost any event — an environmental disaster, a humanhealthcare-related disaster, etc. Thus, the reality of what istermed "event-driven" D&O litigation threatens allcompanies.

The bottom line: It is a toughtime to be a director or officer of a company. Today, heavy is thehead that wears the crown. But awell-thought-out strategy to proactively address issues andcommunicate effectively with carriers will go a long way inachieving the most optimal results available. 

Related: 

• 4 questions to identify the risk ofpollution-related D&O exposure
• Social accountability drives complex D&O/EPLImarket in 2019
• Why do nonprofit organizations need D&Oinsurance?