Directors and officers are the overseers of their companies. The protectors need protection for themselves in the form of director and officer insurance (D&O insurance). All types of insurance are designed to provide protection against known risks at an unknown time in the future. Board directors and officers may be held liable for allegations of business misconduct against them in relation to their board duties.
Despite high levels of identifiable risks, many corporations fail to purchase director and officer insurance, mistakenly believing that their board directors and officers will never be sued. According to a survey by Chubb Insurance Company, only about 28% of private companies purchase D&O insurance. Chubb reports that about 65% of executives incorrectly believe that their companies have D&O liability protection under their general liability insurance coverage or commercial umbrella policies.
Directors and officers should never assume that a company has purchased D&O insurance to protect them. They should always ask for a copy of the policy and be aware of its liability limits.
Directors & Officers Insurance Is an Essential Part of a Comprehensive Corporate Liability Insurance Policy
Nearly all private corporations have some type of commercial insurance policy. Commercial insurance policies may have many different parts. Commercial insurers customize insurance packages according to each company’s needs and liabilities.
Comprehensive commercial insurance packages may include coverage for:
- D&O insurance
- Professional liability (errors and omissions)
- General liability
- Commercial crime
- Boiler and machinery
- Employment practices
- Workers’ compensation
- Product liability
- Commercial automobile
- Business interruptions
- Farm or other industry-related
A comprehensive commercial insurance policy will usually include director and officer insurance, and most insurance agents encourage private companies to purchase it.
Directors & Officers Insurance Policies Impact Decisions of Board Nominees and Investors
D&O insurance is an attractive benefit for board directors and officers of the company. Many directors and officers will refuse to accept a position with a corporation that doesn’t have a value D&O policy and refuses to purchase one.
Director and officer insurance policies are also an important consideration for investors. Private companies often seek funding from venture capital companies or private equity companies. They should be aware that many investors will refuse to invest in companies that aren’t protected by D&O insurance policies. Shareholders want to be assured that boards of directors will manage their operations with the necessary duty of care, skill and due diligence.
Diligent Boards allows boards to store copies of their director and officer liability policies securely in the cloud for easy access when a board nominee or investor requests a copy.
Diligent Insights is a program that provides customized, curated content on issues like director and officer insurance and other governance topics.
Directors and Officers Insurance Offers Many Important Protections
Directors and officers should be aware of the many other purposes and benefits of director and officer insurance.
D&O insurance protects the directors and officers, and the company, from financial loss. D&O is a liability policy that protects directors’ and officers’ personal assets when a company isn’t able or willing to extend its indemnity coverage to protect them.
In the event of a lawsuit or allegation of wrongdoing, companies must retain and pay for a lawyer or team of lawyers. Substantial claims may lead to catastrophic financial losses and excessive legal fees. Private companies that have director and officer insurance policies can rest assured that their insurance company will reimburse them for their legal fees.
There is a provision in commercial insurance policies called “claims made and notified,” which is a reporting condition of the policy. This means that when a director or officer of the company reports a claim and notifies the company of it, the insurance companies can begin to investigate and mitigate the claim.
Directors and officers should be aware that D&O insurance policies are capped according to the limit on the policy and that they will be held personally responsible for any amounts over the director and officer insurance policy limits if allegations prove to be true. Directors and officers should be aware of the limits and make decisions accordingly.
Another benefit of D&O insurance is that it gives directors and officers direct access to competent legal advice. They may never need it, but getting the proper legal advice may alleviate a claim altogether.
Private companies that have their sights set on going public will need to obtain director and officer insurance before setting up their initial public offering (IPO). Commercial insurance companies will more easily insure companies that purchased D&O policies while they were private companies. Insurance companies are likely to take a second look at companies that waited until they were approaching IPO status before securing a D&O policy.
What D&O Insurance Policies Don’t Cover
As is typical with any insurance policy, director and officer insurance policies may contain additions, conditions and exclusions. It’s important for directors and officers to clearly understand what is and isn’t covered. Directors and officers are bound by the duty of care, which means that they must make decisions as an ordinary, prudent citizen would. Insurance companies won’t pay for claims that existed before the date of the policy’s inception and they won’t pay when directors or officers engage in fraudulent or dishonest behavior. D&O insurance policies won’t provide coverage when other policies do, or when a director or officer gets sued by a peer. Director and officer policies often contain several more exclusions.
What Directors and Officers Insurance Policies Do Cover
Third parties may sue directors and officers for a variety of reasons. Some of the most common reasons include the following:
- Breach of fiduciary duties: duty of care, duty of loyalty, duty of obedience
- Claims resulting in financial losses or bankruptcy for the company
- Misrepresentation of the company’s assets
- Misuse of company funds or fraud
- Not abiding by workplace laws
- Stealing intellectual property
- Poaching a competitor’s customers or former employees
- Failure to apply best practices for corporate governance
Director and officer insurance policies hold directors and officers harmless for losses the company incurs in connection with their roles as company leaders. Similar to other types of insurance policies, D&O insurance policies may require the company or the directors or officers to pay a deductible before paying for the rest of the claim. Depending on the circumstances of the allegations and the success of a competent legal defense, board members may be charged or have charges dropped. Legal fees and settlements can be enormous and could easily bankrupt a company that doesn’t have the benefit of D&O insurance.