In general, and at least in the United States, executives at public companies don’t need to be convinced that their companies need to have D&O insurance. That is not always true with officials at private companies. Some officials at some private companies – particularly very closely held private companies – are skeptical that they need the insurance. These individuals believe they will not see any claims that would trigger the insurance.
Many of those who resist the need for D&O insurance are affiliated with companies that have only a very small number of shareholders. These company executives look at the ownership structure and conclude their company could never have a D&O claim. This perspective overlooks the fact that the plaintiffs in D&O claim include a much broader array of claimants than just shareholders. D&O claims plaintiffs also include customers, vendors, competitors, suppliers, regulators, creditors and a host of others. In our litigious age, just about anybody is a prospective claimant.
These issues – including both the reluctance of some private company executives to purchase D&O insurance and the breadth of risks that private companies face – are detailed in the results of the Chubb 2013 Private Company Risk Survey. The Chubb survey updates a prior survey the company conducted three years previously. For the most recent survey, the company commissioned an outside survey firm to conduct a telephone survey of 450 private company representatives in the U.S. The survey report can be found here.
The report concludes that “private companies increasingly are at risk of professional and management liability from a vast range of events, including costly lawsuits, governmental fines, data theft and other criminal activities.” Despite these risks, “a large percentage of company decision makers are not taking steps to protect themselves with professional management liability insurance – even though a dramatically growing number of managers are concerned about the risk.”
In detailing the exposures that private companies face, the report shows that in the three years prior to the survey, 44% of private companies experienced at least one loss event related to D&O liability, EPL, fiduciary liability, employee fraud, workplace violence or cyber liability. The likelihood of a claim was greater for larger companies; 76% of companies with more than 250 employees had experienced a loss event. But even the smallest companies had significant levels of loss activities; 33% of companies with only 25-49 employees had experienced a loss event.
The survey also showed that significantly more private company officials expressed concerns about their company’s risks and exposures than respondents had in the prior survey. Nevertheless, the purchase rate for D&O, EPL and other management liability insurance policies has changed little during the period between the surveys. One reason the report cited for the low purchase rate is that many respondents believe that their risks are covered under their general liability (GL) policy. For example, 65% of the respondents mistakenly believe that their company’s GL policy provides D&O liability insurance protection.
As noted above, many private company executives believe that D&O insurance is for publicly traded companies, but as a private company they don’t need it because they believe their company will never have a D&O claim. However, the survey report shows that D&O lawsuits are almost as common for private companies as for public companies. In the past ten years, D&O claims have affected 27% of private companies, compared to 33% of public companies. Thirteen percent of the survey respondents had experienced a D&O related event in the last three years.
The companies that have had D&O-related events learn quickly that D&O claims are expensive. The survey report show that the average total costs for D&O lawsuits for private companies (including judgments, settlement, fines and legal fees) is $697, 902. Two survey respondents reported D&O claims losses of $10 million. The report shows that the D&O claimants include not only shareholders or other owners but also vendors, competitors, employees, suppliers, regulators and governmental authorities, as well as others. Despite the magnitude of these claims exposures, only 28% of private companies purchase D&O insurance.
In my experience, the one group of private company executives from whom you will never hear the statement that their company doesn’t need D&O insurance are executives from companies that have had a D&O claim. They know how costly these kinds of claims are to defend. D&O claims may not happen frequently in the life of a company – indeed, among the many private company D&O claims I have been involved in over my many years in the industry, most involved companies that were experiencing their first-ever D&O claim. Frequently, the claims involve disputes they never anticipated and that they had never previously experienced.
Pricing for D&O insurance has been increasing in recent months, largely due to the insurers’ adverse claims experience (which should tell you something right there). Even at the recently increased pricing levels, the purchase of D&O insurance is still relatively advantageous to the buyer. For their premium payment, D&O insurance buyers obtain coverage that is quite broad. Private company D&O insurance policies are materially broader than D&O insurance for public companies. In particular, the entity coverage under a private company D&O policy is significantly broader than the entity coverage under public company D&O insurance policies. The entity coverage in public company D&O insurance policies is generally limited just to securities claims. However, private company D&O policies contain no such limitation, so the private company D&O insurance policy provides significant balance sheet protection for the insured entities.
The survey report shows other areas where private companies are vulnerable and perhaps not appropriately insured. For example, 28% of survey respondents reported plans to reduce or eliminate employee benefits in the year ahead, and 25% reported the likelihood of merger or acquisition activity, which are both factors that potentially could increase fiduciary liability risk. Nevertheless, only 26% of companies purchase fiduciary liability insurance – again apparently out of a mistaken belief that their company’s GL policy protects them for their fiduciary liability exposures.
The report also shows that private companies have significant employment-related risks. The report showed that 25% of the survey respondents had experienced an EPL-related event in the last three years and that 45% of respondents are concerned about a lawsuit for wrongful termination, sexual harassment, discrimination or retaliation. The average total costs associated with an EPL event was $70,267, yet despite the claims and concerns, only 30% of companies surveyed purchase EPL insurance, again out of the mistaken belief that the company’s GL policy protect against the exposure.
Another interesting finding in the survey has to do with private companies’ perceptions of Cyber Risk. The survey reports that 27% of managers are concerned about cyber risk. Citing outside sources, the report notes the significant costs for companies experiencing cyber risks. Despite these concerns and risks, the survey reports that 90% of companies do not purchase cyber insurance.
As the survey report notes, the “bottom line” is that “private companies are vulnerable.” Whether or not a company should purchase insurance is an important business decision for company executives to make. It may be a rational business decisions to do without insurance, at least for some companies. However, the decision is less likely to be made correctly if it is based on an under-appreciation of the risks and exposures that the company faces or if it is based on a mistaken belief that other types of insurance will protect the company from the exposures that the management liability insurance policies are designed to protect against. Private company executives who fully understood their company’s risk exposures and the absence of insurance coverage under GL policies for these exposures are likelier to appreciate the need to purchase management liability insurance protection, including in particular D&O, EPL and Fiduciary Liability insurance.
Beyond the question of whether or not to buy the insurance, there are a host of choices that private companies choosing to purchase D&O insurance must make. These issues include such considerations as whether or not to buy separate or combined limits for the various management liability coverage lines, or whether to have the insurance structured on a duty to defend basis or a reimbursement basis. These insurance-related issues are discussed in an earlier post about private company D&O insurance (here), which is part of my series of posts on the Nuts and Bolts of D&O Insurance (about which refer here).
The Week Ahead: This upcoming week I will be attending the PLUS D&O Symposium in New York. On Tuesday, January 27, 2014, I will be moderating a panel entitled “Not Just Securities Class Actions: Regulatory Actions, Derivative Actions and Breach of Fiduciary Claims.” Joining me on the panel will be Sharon Binger, the assistant regional director for the SEC in New York; Damian Brew from Marsh; Joe Finnerty from DLA Piper; and Mary McIvor from AIG.
I will also be around the event venue during the entirety of the conference, and I hope that readers who see me there will make a point of saying hello, particularly if we have not previously met. I look forward to seeing everyone in New York. Information about the D&O Symposium can be found here.
Coming Attractions: While I am out of the office and on the road this upcoming week, I will be having some significant back end work done on this blog. Though there will be a few minor changes to the blog’s appearance, most of the changes will be behind the scenes. Essentially, I am moving the blog off of an antiquated blogging platform to a more flexible and robust platform. Among other things, the changes should mean fewer technological glitches and also more control on my end on how the blog appears to readers.
Because my hosting service (LexBlog) will be switching the site over to the new blogging platform on Wednesday and Thursday this upcoming week, I will not be adding any new content those days. The site should remain fully accessible without interruption while the changes are implemented, I just won’t be posting anything new between Tuesday and Friday. I am hoping that these changes will facilitate improvements to the site’s appearance, performance and functionality. Please keep an eye out for the changes, which should be in place by or before next weekend.