Privately-held companies, on the one hand, and companies whose shares are public traded, on the other hand, face very different liability exposures. Because of these differences in liability exposures, the directors and officers liability insurance available for these types of entities varies – the D&O insurance form available for private companies is quite a bit different from the D&O insurance form available for public companies. A recent law firm memo took a brief look at the differences between the two forms of coverage. There some important additional considerations, that I discuss below.
The Law Firm Memo
As discussed in a May 23, 2019 memo from the Pillsbury law firm entitled “The Private vs. Public D&O Insurance Form: Important Considerations for Companies Looking to Avoid Growing Pains” (here), “the coverage provided by a ‘private form’ D&O insurance policy varies greatly from the coverage provided under a ‘public form.’”
As the authors discuss in their memo, because public companies face significant securities litigation exposure, public company D&O insurance is generally more expensive while private company D&O insurance is more affordable. By the same token, the entity coverage in a public company D&O insurance policy is limited to Securities Claims, while the entity coverage available in the private company is broader (although also subject to exclusions not typically found in the public company D&O insurance policy). Private company D&O insurance policies often are written on a “duty to defend” basis, under which the insurer chooses the defense lawyer and directly pays the lawyer’s bill, while public company insurance is written on a reimbursement basis, which, while allowing the policyholder to select the counsel, sometimes leads to disputes over the legal bills. As the authors note, there clearly are some advantages to the private company form, but the move from the private company form to the public company form is a necessary part of the process of becoming a public company.
The authors make some interesting points in the clearly intentionally brief memo. I do think there are some additional considerations that need to be kept in mind for companies when thinking about the differences between private company D&O insurance coverage and public company D&O insurance coverage.
Additional Considerations Concerning Private vs. Public Company D&O
Private Company Exposure Under the Securities Laws: The first additional point worth considering is that while the D&O insurance community tends to view the division of liabilities between private and public companies as clear and distinct, the fact is that the difference may be more nuanced than is sometimes appreciated. Among other things, the D&O community tends to proceed on the assumption that potential liability under the federal securities laws is strictly a concern for public companies. However, in a series of recent actions, the SEC has made a point of demonstrating that the SEC will pursue company executives for securities law violations, even if the executives work for a private company.
As discussed here, the SEC has recently pursued a number of enforcement actions against private company actions; in connection with the most recent of these actions, the SEC’s representative specifically said in the press release that “Company executives must provide investors with accurate information irrespective of whether their companies are publicly or privately traded.”
The potential securities law liability exposure of private company executives has important implications for private companies’ D&O insurance. However, these implications may not always be taken into account. Thus, whether or not a private company’s D&O insurance policy would respond in the event of an SEC enforcement action against the company’s executives will depend significantly on the policy’s actual wording, including, among other things, the wording of the policy’s securities exclusion.
This exclusion is intended to preclude coverage under the private company policy for liabilities incurred in connection with taking the company public – the insurer does not undertake to insure a public company under a private company policy and so the insurer excludes public company liabilities under the policy. The wordings of these exclusions vary widely, and in some versions the exclusion is written sufficiently broadly that the insurer might seek to rely on the exclusion to preclude coverage for the kinds of actions that the SEC has recently brought against private company executives. Ideally, the exclusion would not even go into effect unless the insured company has completed a public offering; however, not all exclusions are so limited.
The bottom line is that it is important in connection with the placement even of private company D&O insurance for the possibility of an SEC enforcement action against the company or its executives is taken into account.
Private Company Exclusions
Another important consideration to keep in mind when thinking about the differences between the private company and public company D&O policies has to do with the policy exclusions. As I noted above, while the entity coverage under private company D&O insurance policies is broader than the entity coverage available under public company D&O insurance policies, the private company policies typically also include exclusion that are not found in the public company policies. These private company D&O insurance policy exclusions sometimes are written sufficiently broadly that they could in many instances significantly reduce the amount of coverage actually available under the policy.
The Antitrust Exclusion: The first of these exclusions is the so-called antitrust exclusion found in the base forms of many private company D&O insurance policies. The exclusion is referred to as the “antitrust” exclusion because it does typically preclude coverage for antitrust and anti-competition claims. However, as discussed at greater length here, the exclusion’s often sweep more broadly than just with respect to antitrust claims. Depending on how any particular exclusion is written, it could preclude coverage not just for antitrust claims, but for deceptive trade practices, unfair trade practices, or restraint of trade.
The problem with these kinds of exclusions in private company D&O insurance policies is that it is quite common for lawsuits filed against private companies to include these kinds of claims. For example, imagine a situation in which the private company policyholder’s competitor is upset because the policyholder has hired one of the competitor’s former employees. The competitor’s lawsuit likely will include multiple different claims, including, for example, tortious interference with prospective business advantage, unfair trade practices, and deceptive trade practices. If the policyholder’s D&O insurance policy contains a broadly worked antitrust exclusion, the exclusion could preclude coverage for some or even most of the claims in the lawsuit.
The real frustration for the policyholder is that coverage without an antitrust exclusion often is available. Many private company D&O insurance carriers will remove the antitrust exclusion upon request, and in other instances the carriers will offer the antitrust coverage subject to, for example, a sublimit, a higher retention, or coinsurance. Thus, even if the policyholder cannot get the exclusion removed, some form of antitrust coverage may still be available. The problem for the policyholder is that these changes must be made at the time the coverage is placed; once the coverage is in place, it is not a realistic option to try to make these kinds of changes.
The Professional Services Exclusion: Another private company D&O insurance exclusion that can have the effect of narrowing the amount of coverage that is available under the private company D&O insurance policy is the professional services exclusion. These exclusions are intended to preclude coverage for claims of errors or omissions in the delivery of professional services for a fee to a client of the firm. The basic purpose of the exclusion is to keep claims in their proper lane – that is, to make sure that E&O claims are dealt with by the company’s E&O insurance policy, and don’t get shoved into the D&O policy.
The problem for policyholders is that these exclusions often are written on a very broad basis – that is, the exclusion precludes coverage not just “for” claims of errors or omissions in the delivery of professional services, but rather for claims “based upon, arising out of, in any way relating to” to the delivery of professional services. As discussed at greater length here, this type of broad form exclusion is a problem for all companies, but particularly for a company in a services industry. For a services company, just about anything the company could possibly do would be “based upon, arising out of, or in any way relating to” the delivery of professional services. The broadly written exclusion potentially could be the exception that swallows up all coverage potentially available under the policy.
The difficulty with this particularly issue is that it cannot always be easily dealt with. Notwithstanding the fact that the “based upon, arising out of, in any way relating to” language sweeps much more broadly than is necessary or even justifiable in light of the exclusion’s legitimate purposes, many carriers will refuse to alter the exclusion to a narrower “for” wording. However, even though this is a more difficult issue to address, the time to take this issue up is when the policy is put in place.
My point here about the private company securities law liability exposure and the private company policy exclusions is that while private company insurance may be more affordable than public company D&O insurance, and may theoretically provide broader coverage, that does not mean that the private company D&O insurance transaction is one that should be taken more lightly. The fact is that a private company D&O insurance placement is a very complex transaction. A private company in the process of placing its D&O insurance would be well advised to make sure to enlist the services of a skilled and knowledgeable expert; without the engagement of these kinds of services, the private company could well wind up with an off-the-shelf product that provide substantially narrower coverage than a more actively negotiate policy would provide.
Private companies, every bit as much as public companies, should engage in their insurance placement transaction an experienced insurance professional with detailed knowledge of the policy forms and their pitfalls.