Directors and Officers (D&O) coverage can be particularly complicated, largely due to the structure. A D&O policy consists of three “sides” of coverage. Each side plays a pivotal role in providing sufficient coverage for a company and the directors and officers who serve it, and knowing how the different parts of your coverage work together can help you verify that you are adequately protected.
The ABCs of D&O
The three sides of D&O coverage are known as Sides A, B and C.
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Side A provides coverage for claims against the directors and officers when the company cannot or will not indemnify them.
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Side B provides coverage for claims against the directors and officers, via reimbursement, when the company provides indemnification.
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Side C provides coverage for claims against the company itself.
All three sides are important.
Side B is fairly straightforward. D&O insurance exists primarily to provide financial and legal protection for the directors and officers who may face litigation stemming from the actions and decisions they make in an official capacity. Companies frequently provide indemnification for their directors and officers, so Side B provides reimbursement coverage paid to the company.
Side C is also fairly straightforward. Many D&O claims name both the individual directors and officers and the company itself, so both parties need insurance coverage.
Side A is sometimes overlooked. Since many companies offer indemnification, the company’s leaders may not see the need for robust Side A coverage. This oversight can leave directors and officers exposed because indemnification is not always possible. A common scenario involves a securities lawsuit that emerges after, and largely as a result of, a company’s bankruptcy declaration. Once the company becomes insolvent, it can no longer provide indemnification, so officers must rely on Side A coverage and hope it’s sufficient to cover their legal expenses.
Even if the company remains solvent, indemnification may be off the table, for example, in the case of shareholder derivative lawsuits. In these lawsuits, shareholders file lawsuits on behalf of the company against the directors and officers, putting the company and its leadership on opposing sides. These actions have become common in recent years, so corporate leaders should be prepared for them, and one of the best ways to prepare is to ensure that you have sufficient D&O insurance with robust Side A coverage.
Other Important Elements in a D&O Policy
While the three sides of D&O insurance make up the core coverage, there are other policy elements that also deserve attention.
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Exclusions. Common exclusions bar coverage for criminal acts, insured-versus-insured claims, prior acts, environmental claims, contractual liability claims and bodily injury and property damage claims. Your D&O policy may provide additional exclusions.
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Claim-Made Coverage. D&O policies work on a claims-made basis, so claims are only covered if they emerge during the claims period. In contrast, a liability policy operating on an occurrence basis would provide coverage for claims as long as the incident in question occurred while the policy was in force, even if the lawsuit doesn’t emerge until after the policy has lapsed. The claims-made structure of D&O policies can cause coverage gaps, particularly if the company goes insolvent, creating the need for robust tail coverage that extends the reporting period.
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Definitions. A D&O policy will provide definitions for key terms. Although your eyes may glaze over when you read these dense policy terms, understanding exactly how your policy defines things like claims and losses can be crucial, and many insurance disputes come down to the specific definitions used.
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Policyholder Requirements. A D&O insurance policy is a contract between the insured and the insurer, and both sides take on obligations. The policy will outline the policyholder’s requirements, such as providing prompt notice of a claim, as well as requirements for how legal processes will be handled in the event of a claim. Knowing your obligations is critical to avoid missteps that could jeopardize your coverage.
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Limits. In the event of a claim, your limits will determine how much coverage you have. It is important to consider both your aggregate and per-occurrence limits. Also, D&O policies typically have “shrinking” limits, meaning the limits are eroded due to defense costs. Keep this in mind when assessing whether your limits are sufficient.
It’s easy to gloss over the fine print in a D&O policy – until you’re facing a claim and realize you may not have the coverage you thought you had. Learn more about management liability insurance and ask for a complimentary review of your D&O coverage.
