I spotted this interesting article in a recent edition of The Lawyer magazine: Broken cover. The thrust of it is that D&O cover is not fit for purpose, particularly when it comes to the insurance of legal representation expenses in the context of regulatory investigations and enquiries. Here’s a flavour:
“The insurer’s investigations into a case can last years during which time the director still needs to establish his defence. This action undermines the whole point of taking out D&O insurance.” (Tony Barnfather, head of law firm Pannone’s regulatory unit)
Whilst I have some sympathy for the views expressed, I think the overall picture is not quite as black and white as the article suggests. Certainly it is true that there is the potential for considerable frustration and anxiety among (dare I say it both) directors and their lawyers whilst they await confirmation of cover from insurers and approval of the costs that have been incurred (the two things not being the same). It is also true that elements of this angst can be addressed in the detailed terms and conditions of the cover.
Perhaps it is worth standing a little distance back and considering some of the underlying interwoven commercial and legal issues at play:
Investigations vs. Proceedings
D&O policies (like errors and omissions policies) are essentially “claims made” liability policies. In other words, their basic purpose is to respond to claims alleging legal liability made against insured persons during the policy period. Regulatory investigations and enquiries are almost by definition pre-cursors to the “claims” which are the subject of cover under D&O policies. They are the process by which the regulators or investigators determine whether any claim should in fact be brought. Accordingly, legal representation expenses cover which is offered by extension to the basic cover, is never as broad for investigations as it is for proceedings.
The question as to where the line should be drawn between insured legal representation expenses and those which are not covered for investigations and enquiries is probably one of the most contentious in all D&O insurance. Requirements that the relevant investigation or enquiry be “formal” or “official” are breeding grounds for satellite coverage disputes, at least under English law where there is no clear definition of these concepts. There are plenty of ways to skin this cat and opportunities for innovative (but never perfect) solutions.
D&O policies should be truly “severable”—i.e. the consequences of the act, knowledge and conduct of the company and/or individual directors or officers should not be visited by insurers on those directors who are not implicated in such knowledge or activity. Unlike the position with investigations, this issue is solvable in the wording. Although many policies contain language designed to deliver this result, the relevant clauses are often in practice limited or restricted in scope.
Insurers seek to retain mastery over the conduct of regulatory investigations and defence costs in general often in quite subtle ways. They may, for example, include in the definition of covered costs the twin concepts
- that the relevant costs be both “reasonable and necessary”
- that they be the subject of “prior written consent”
The practical effect of these words can cause tension in the claims process even if coverage is confirmed. Again this is an area which deserves close attention in the wording.
Benefit of the Doubt
D&O policies will often give insureds the benefit of the doubt such that if allegations of fraud or dishonesty are made, defence costs and legal representation expenses are advanced until such point as there is a final adjudication or admission by the insured of the relevant conduct. Attention should be paid to the precise nature of the adjudication and/or admission involved so as to ensure that the benefit of the doubt for directors continues until the exhaustion of all relevant legal processes. Attention also needs to be focused on the question as to whether insurers have the right to claw back funds in the event of such adjudication or admission.
High, Dry and Broken?
So is the picture as bleak as that painted in the Lawyer article? Are directors really “….being left ‘high and dry’ when D&O policies taken out to fund their defence are withdrawn at the ‘eleventh hour’…”? Of course there are cases where directors have suffered that fate. And yes, tightening up the wording is part of the answer.
I think though, as the authors of the Lawyer article themselves suggest, that more debate is needed. It seems to me that only when the beneficiaries of D&O policies (i.e. the directors and officers themselves and not the companies which purchase the policies on their behalf) engage in serious debate around the cover that they personally need, will they really be able to have the confidence that they will not be left high and dry.
On a final practical note, I would suggest that the claims teams of the major D&O insurers be invited to participate in this debate so that there is less scope for misunderstanding as to the intention behind the cover before it is too late.