D&O policies include a range of exclusions for risks that an insurer does not wish to cover. Close attention should be paid to these excluded circumstances and events, so you aren’t caught out in the rain without a jacket.

D&O is designed to provide broad and thorough protection for policyholders. However, it doesn’t cover everything.

Policies contain a range of exclusions for situations and types of losses that insurers consider unfavourable, and do not wish to cover. Some are commonplace and exist in all policies, whilst others may only appear occasionally.

Some are commonplace and exist in all policies, whilst others may only appear occasionally. Below we outline the various forms of exclusions which exist in the marketplace.

Known claims and circumstances

Due to the claims-made and notified’ nature of D&O a policy will not cover known claims and circumstances; in other words, claims that should have been notified in past policy periods. For this reason, all claims and circumstances which directors and officers are aware of prior to the inception of a policy, are excluded.

By definition, insurance aims to protect policyholders from unforeseen risk. Hence, there is no reason for an insurer to cover a loss or potential loss which will certainly occur. This is clearly understandable from an insurer’s perspective, as they do not wish to issue coverage and receive their premium, only to then to immediately pay it back out in claims.

For example, if a new D&O policy is incepted today, it will not cover a potential employment dispute that an organisation’s management was aware of prior to today. In this scenario, the employment dispute in question will have to be covered under a past D&O policy, or not be covered at all.

Prior or pending litigation

A prior or pending litigation exclusion removes coverage for a claim if that claim has commenced before the prior or pending litigation date. This date is specified in the policy schedule and usually represents the date an organisation first acquired D&O coverage or most recently transferred insurers.

The purpose of a prior or pending date is to exclude cover for claims that may have already commenced and therefore, should have been notified under a past policy. It takes the form of an absolute exclusion, meaning that a claim will be not covered if it has commenced in any respect – even if management aren’t aware of it – prior to the specified date.

A typical example of where prior or pending litigation issues arise is when an older lawsuit against the organisational entity is later amended to implicate its management, after the prior or pending date. Policyholders can also be exposed if a lawsuit is filed with courts before the prior or pending date, but management don’t find out about it until afterwards.

Both these instances would see a claim be excluded, as the litigation proceedings technically began before the prior or pending litigation date.

Other insurances

D&O does not intend to cover risks which can be covered by other classes of insurance. These types of exclusions have two objectives; firstly, so underwriters can accurately measure the potential exposures of D&O liability, and secondly, so the chances of double insurance are minimised.

For example, any professional services provided by an organisation, such as accounting services provided by an accounting firm or engineering services provided by a civil engineer, are generally not covered as professional indemnity insurance is designed specifically for this purpose.

Other common exposures not covered by D&O are those relating to personal injury and property damage; as most organisations carry general liability and workers compensation insurance to cover these risks.

There may be some occasional exceptions to this, however, particularly in relation to employment claims involving mental anguish, humiliation and emotional distress; where some coverage may be added back in using a coverage carve-back.

Catastrophic hazards

D&O policies are likely to exclude hazards that are deemed to be catastrophic for an insurer’s own financial position. A catastrophic hazard is a situation considered so destructive, that an insurer could not realistically cover the cost of payouts in the event that it occurred.

Examples include losses resulting from nuclear events, war, terrorism and instances of environmental damage. While some more modern policies may not explicitly exclude some of these risks, the existence of catastrophic loss exclusions are not just limited to D&O policies. In fact, they often appear in other insurance classes too!

When catastrophic hazard exclusions are included, some, particularly those related to environmental damage, also include a carve-back to add back in Side-A coverage for the benefit of executives. In these situations, despite environment-related coverage not existing for Side-B and Side-C claims, individuals will remain protected if indemnification from the organisation is not available.

Conduct exclusions

Insurers are legally prohibited from covering criminal or fraudulent conduct, because any attempt to do so would undermine the fundamental principals of the law. Dishonest acts by any individual, resulting in illegal profit or remuneration such as those generated by insider trading or embezzlement, are excluded.

While conduct exclusions aim to discourage inappropriate behaviour, it’s important to note that an insurer will generally advance defence costs to an individual accused of these offences. This is done so on the presumption of innocence, as a formal court ruling or admission of guilt is required to decline coverage completely.

Insured vs. insured

D&O traditionally excludes claims brought against directors and officers by others insured under the same policy. This discourages infighting among senior management by removing an insurer’s backing and also removes any incentive for collusive behaviour.

While this behaviour is generally uncommon, directors or officers have been known to concoct claims against themselves in order to recover losses resulting from an organisation’s poor performance.

Insured vs. insured exclusions are for the most part, standard. However, there are a range of common carve-backs. These include adding coverage back in for derivative claims, cross-claims, bankruptcy claims and employment-related claims.

Modern policies may contain a more favourable consensual claims exclusion, which only excludes claims when it can be ascertained that management has deliberately invited or solicited litigation, rather than excluding all claims that are brought by those who are also insured.

Major shareholder exclusion

Another type of exclusion, that is a slightly different take on the insured vs. insured exclusion, is the major shareholder exclusion. The major shareholder exclusion aims to exclude coverage for any claims by a claimant who owns more than a certain percentage of a company, typically 10-15%.

The rationale behind this form of exclusion is to remove any incentive for collusion and infighting between shareholders and management. It also encourages shareholders who hold a significant stake in a business, to take a proactive approach in staying informed of their investments.

Specific exclusions

During the underwriting process, an insurer may identify a specific circumstance, event, or risk, which they are not willing to accept. As a result, they may offer coverage to an organisation on a restricted basis.

Often referred to as laser exclusions, specific exclusions are applied on a case-by-case basis and refer to any risk that an underwriter wishes to avoid, such as excluding coverage for specific entities, individuals, events, activities, or jurisdictions.

Specific exclusions may also be used where an organisation has disclosed a serious claim or circumstance occurring in a past policy period. Although any claim that materialises out of this notification will automatically be excluded by any new policy (because it is a known claim), an underwriter may prefer to explicitly state this fact. That way, the insurer’s intention is clear for all parties involved.

That way, the insurer’s intention is clear for all parties involved.

Important! Specific exclusions are reasonably common, but if possible, an organisation should attempt to acquire D&O coverage without them.

Private company exclusions

The insurers of private D&O policies do not intend to cover the risks associated with public companies. Public companies are generally higher risk as they attract larger and more frequent claims. Private organisations, on the other hand, have simpler structures and therefore, their policies typically exclude capital raisings and the public trading of securities.

If a private organisation wishes to raise funds by undertaking an initial public offering (IPO), additional coverage must be applied for. An organisation will need to provide specific details of the offering, such as how many shares are available, to whom, and the type of prospectus documents involved. Based on this information an underwriter can add coverage by endorsement, provided that an extra premium is paid to account for the increased risk.

Based on this information an underwriter can add coverage by endorsement, provided that an extra premium is paid to account for the increased risk.

Miscellaneous exclusions

In addition to those listed above, there are other more unusual types of exclusions. Three of the most common include the failure to maintain insurance exclusion, the commissions exclusion and exclusions relating to bump-up costs. A summary of each is included below:

Failure to maintain insurance: The failure to maintain insurance exclusion excludes any claim which alleges the mismanagement of an organisation’s insurance programme.

Commissions: The commissions exclusion eliminates coverage for any directors or officers who are found to have made financial payments to employees or representatives of foreign governments.

Bump-up costs: In claims involving mergers & acquisitions, bump-up related expenses are excluded. Shareholders may claim bump-up costs when they believe that management has undervalued the value of their investment in a transaction. The ‘bump-up’ represents the claimed difference between the transaction price and the alleged fair price of a company’s shares.

Conclusion

As you can see, despite the broad coverage offered by D&O insurance policies, not all risks are covered. While many may consider this to be a downside of acquiring coverage, each exclusion has a specific purpose and for the most part, they intend to discourage any deliberate, immoral or illegal behaviour.

A D&O policy’s insuring agreements, along with its coverage extensions, make up the total protection available to a policyholder. Below we outline the most common extensions found in the market.

Coverage extensions provide an organisation with protection in addition to what is offered by a D&O policy’s insuring agreements. They exist because insuring agreements, despite their broad construction, cannot always address all management exposures adequately.

Extensions attempt to bridge this gap, providing coverage for situations which would otherwise not be enough to trigger a policy to respond.

In addition to their practical nature, extensions are offered by insurers to strengthen their product offering. They are created to solve a wide range of problems and are continually being improved to address the changing landscape of D&O liability.

While many extensions are considered standard, others may be tailored to the needs of the policyholder. Outlined below are some of the most common coverage extensions in found in the market.

Advancement of defence costs

The advancement of defence costs extension compels an insurer to forward defence costs to an insured as they are incurred throughout a claim. Most commonly, it requires an insurer to settle an insured’s legal expenses within a defined period of time.

Without this extension, an organisation or its executives may be required to fund their own defence costs until an insurer can assess their claim and reimburse them at a later date, which may take some time. Most policyholders consider this coverage to be essential, as legal costs can be expensive and not everyone has the resources to pay for these services up-front.

Importantly, however, if it is eventually determined that a claim is not covered – i.e. because it is explicitly excluded by the policy – any defence costs that have been advanced by the insurer must be repaid.

Retired directors and officers

According to the claims-made and notified provisions of D&O, an organisation must have an active policy at the time a claim is received for it to be covered. As some incidents may take many years to materialise into a form that resembles a claim, if a policy is not renewed, an organisation’s retired directors and officers can be left unexpectedly exposed.

This is a relevant concern for retired executives, as once they have departed an organisation they have no control of its ongoing insurance programme. Therefore, they cannot guarantee that their former organisation will continue to purchase the insurance, which is required for their future well-being.

As a solution, insurers often agree to automatically protect retired directors and officers for a defined period of time, by providing them with an extended reporting period. An extended reporting period allows retired executives to report claims to an insurer after their departure, even if the organisation that they served no longer carries an active policy.

Outside directorship

Many insurers extend the coverage of a policy to protect directors and officers while they participate on the boards of external non-profit organisations. This coverage enhancement has evolved out of the common practice of experienced managers occupying non-profit leadership positions pro bono.

Provided that both the insurer and the insured organisation agree, outside directorship coverage protects managers over and above the indemnification and insurance protections carried by the non-profit itself. This provides executives with the comfort of knowing that they will remain protected in the event that their non-profit’s insurances are insufficient or completely exhausted.

This provides executives with the comfort of knowing that they will remain protected in the event that their non-profit’s insurances are insufficient or completely exhausted.

New subsidiaries

The new subsidiaries extension automatically covers any new subsidiaries acquired by an insured organisation during the period of insurance. This extension ensures that any new subsidiaries receive the same protection as their parent organisation, providing essential coverage to the directors and officers of these acquired operations.

For new subsidiaries seeking protection under this extension, it’s important to note that coverage commences from the date of acquisition, and only covers acts that are committed after this date.

Additionally, the automatic coverage provided is usually subject to the relative size of the acquired entity. Subsidiaries exceeding 10-20% of the parent organisation’s value will typically require approval by endorsement.

Spouses, heirs & legal representatives

When confronted with an impending claim, some directors and officers may consider transferring ownership of their assets to a friendly third party, such as a husband, wife or legal guardian.

In doing this, their assets can be placed out of reach from a claimant’s demands. And while in some cases this may be a sensible legal strategy, it may also result in a friendly party being implicated in the same claim.

The spouses, heirs & representatives extension ensures that any related party who may be dragged into a claim, due to their ownership or control of an executive’s assets, is protected. The cover provided by this extension is generally very handy, but its scope is limited; as it will protect them from the consequences of an executive’s actions, but not their own.

Continuity of coverage

Continuity of coverage allows a claim notification to be accepted late, as long as the policyholder has held uninterrupted D&O coverage over a period of time. Continuity of cover is generally available to organisations with existing D&O coverage and it creates a strong incentive for an organisation to remain loyal to its insurer each renewal.

A late notification is a claim notification which should have been made in a previous policy period but wasn’t. Perhaps an organisation didn’t think that a particular circumstance warranted notification at the time, or maybe the notification failed to occur by mistake. Whichever the case, the continuity of cover extension allows a policyholder to successfully lodge a late notification with an insurer, which would otherwise be declined on this basis.

Whichever the case, the continuity of cover extension allows a policyholder to successfully lodge a late notification with an insurer, which would otherwise be declined on this basis.

For example, consider an organisation that has renewed its D&O policy for another year, but realises that it failed to notify its insurer of a claim (or circumstance which could lead to a claim) in the previous policy period. If it has renewed its coverage with the holding insurer, and the policy contains a continuous coverage benefit, the late notification may be accepted.

Now, instead of this circumstance being excluded due to its late notification, as the current policy excludes known claims and circumstances, the insurer may accept the notification provided the claim has not been prejudiced as a result.

Important! While continuity of coverage is a nice benefit to have, it shouldn’t be relied on as a substitute for prompt claims notification.

Other common extensions

While not as frequent as those listed above, the following extensions may also be available to policyholders:

• Civil or bail bonds: The cost of funding civil or bail bonds, allowing a director or officer to be released from prison.
• Public relations expenses: The cost of engaging a public relations firm to mitigate reputational damage to an executive or organisation.
• Extended reporting period: A designated time period after the expiration of a policy, whereby claim notifications will be accepted by an insurer.
• Deprivation of assets: Where an executive has their assets confiscated or frozen, an insurer will provide necessary payments for schools, housing, utilities and personal insurance services.
• Extradition costs: The defence costs associated with opposing an extradition proceeding, including any bail process and subsequent trial.
• Joint ventures: Coverage for claims arising from joint venture operations.

Conclusion

Coverage extensions provide an organisation and its management with a greater level of protection, over and above a policy’s insuring agreements. They are considered to be the ‘bells and whistles’ of D&O, and ensure that a policy will respond to circumstances and situations which would otherwise not be enough to trigger coverage.

The insuring clauses of a D&O policy perform a pivotal role in laying out coverage for an insured organisation and its management team. Below we take a look at the key terms which define the scope of a policy’s protection.

The insuring agreements of a D&O policy specify the scope of its coverage. Each one outlines the promise of the insurer to protect the policyholder, also known as an ‘insured’, in accordance with the terms and conditions of the policy.

While the exact structure of insuring agreements varies between policies, they typically follow a common format; covering an insured from loss arising from claims-made alleging wrongful acts during the policy period.

For a real-world example of what this may look like, consider the insuring clause for individuals on page 6 of AIG UK’s CorporateGuard policy:

The insurer shall pay the loss of each insured person except to the extent that the insured person has been indemnified by the company for such loss.

While this example doesn’t follow our template exactly, a quick look into the definitions of ‘loss’ and ‘insured person’ show that our highlighted terms eventually play a very important role.

A D&O policy usually includes separate insuring clauses for Side-A and Side-B coverage, as well as any entity coverage that may apply; such as Side-C, employment practices liability, or management liability.

Because insuring agreements are at the core of a policy’s function, it’s important to understand how to read and interpret them correctly. This is not only essential for placing cover but also handling claims, as they are often the subject of much scrutiny when determining whether an incident shall be covered or not.

Outlined below are the main components of an insuring agreement. In practice, these should be read in conjunction with coverage extensions, exclusions and conditions.

Key term definitions

D&O insurance, like other policy classes, relies on a range of key terms with special meaning. These terms are contained within the policy wording and play an important role in determining how a policy will respond to any specific claim or circumstance.

To assist with a policy’s interpretation, key terms are generally denoted throughout the document with bold, underlined or capitalised text. In AIG’s policy mentioned above, they are italicised.

Despite there being literally dozens of key terms scattered throughout a policy, none receive more attention than those within the insuring agreements; the definitions of insured, loss, claim, claims-made and wrongful act.

Insured

The definition of an ‘insured’ determines who is covered by a policy. For any individual or organisation seeking coverage for a claim, they must first fall within this predefined description.

The definition is usually broadly drafted, to ensure all those within an organisation who are exposed to managerial risks, are protected. A typical definition includes all directors, officers and corporate entities of the named insured.

Coverage is generally extended to protect the directors and officers of an organisation’s subsidiaries as well, provided that the parent entity has controlling ownership.

As some incidents can take years to materialise into a claim, all past, present and future directors and officers of an organisation are automatically covered. This retrospective coverage ensures that former managers remain protected for actions undertaken during their period of service, as long as their organisation continues to purchase ongoing D&O coverage.

For the actions of a person to be covered by a D&O policy, they must have been acting in their status and capacity as director or officer of the insured organisation. To satisfy this requirement, they must have been elected or appointed to their position, and been acting in their official capacity at the time of the alleged offence.

To ensure that adequate coverage exists for all managerial personnel, many policies broaden the insured person definition to include middle and front-line managers, as well as employees with supervisory functions.

If there is any uncertainty about whether a particular individual falls within this description, they may also be specifically noted on the policy as insured.

Loss

The definition of loss specifies what claim costs will be paid for by a policy. As D&O is a form of liability insurance, it intends to indemnify the policyholder from the financial implication of claims, which would otherwise be incurred by an organisation or the individuals themselves.

The definition of loss usually includes many of the typical expenses faced by defendants when involved in litigation, including investigation costs, legal fees, and the costs of settling any claim to make the whole thing go away.

It is also likely to include court awarded judgements such as damages, as well as civil fines and penalties as long as there has not been any intentional, deliberate or reckless breach of the law.

It’s important to note, however, that not all claim costs are covered. Of course, each policy is different, but many of the typical costs that are not included in the definition of loss include:

• Criminal fines and penalties
• Taxes
• Employment-related benefits such as retirement fund contributions
• Restitution and a host of others

Claim

In order for an insurer to indemnify an insured from a loss, the complaint against them must first fall within the definition of a claim. A typical definition will include any written demand received by an insured, as well as any civil, regulatory or administrative proceeding arising in the line of their corporate duties.

The definition of claim is also likely to include any criminal proceeding brought against an organisation or its managers, which may occur on its own, or alongside any pre-existing civil litigation.

And while any fines or penalties resulting from criminal prosecution cannot be covered, D&O will provide a policyholder with the resources to contest the allegations.

Allegations against an insured must generally be formal in nature to be covered, such as physically receiving a letter of demand from an aggravated third party claimant. However, some informal proceedings may also be included.

These slightly more informal claims may comprise of investigations, examinations, inquiries and formal hearings by regulatory authorities, including official requests for documentation. They can also involve mitigation processes to reduce the chance of a claim arising in the future, such as mediation, arbitration, and other forms of alternative dispute resolution.

Claims-made (and notified)

D&O policies operate on what is known as a ‘claims-made and notified basis’. This means that a policy provides coverage for claims that are made against an insured and notified to the insurer during the period of insurance. Therefore, for a claim to be covered it must satisfy the following requirements:

1. Management must first become aware of the claim or circumstance during the policy period; and
2. The claim or circumstance must be notified to their insurer within the same policy period

As most policies provide some form of retroactive coverage, it may not be so important exactly when the alleged act took place, as long as the insurer is notified as soon as management become aware that a claim may materialise sometime in the future.

In practice, this means that a claim or circumstance is likely to be covered by the policy active at the time management become aware of the incident, and not necessarily policy period in which the alleged wrongful behaviour occurred.

For more information on claims-made reporting, I recommend taking a look at this post.

Wrongful act

The definition of a wrongful act specifies what type actions by an insured person will be covered by a policy. Once again, this term is often broadly defined to ensure that directors and officers are protected against the myriad of potential claims in existence.

Generally speaking, a wrongful act is considered to be any actual or alleged:

• Act: an action or decision that others deem to be wrongful, including breach of contract, intellectual property infringement, libel and slander
• Error: an honest mistake, poor and careless decisions, incorrect reporting and compliance
• Omission: omitting, or not presenting important information, relied on by others to make informed decisions
• Misstatement: making incorrect and false statements, whether innocent or deliberate
• Misleading statement: a statement that is unclear, deceptive or creates a false impression by remaining silent or telling part-truths
• Breach of duty: a failure to perform managerial duties with care and diligence
• Breach of trust: failure to perform adequately as a fiduciary. Claims may allege an abuse of power, misappropriation or other act, which violates the confidence of others
• Neglect: general carelessness, a failure to seek professional advice when required, or failing to satisfy the duty of care owed to stakeholders
• Breach of warranty of authority: performing acts on behalf of an organisation when unauthorised to do so

Covering allegations

The ability for a D&O policy to cover alleged acts, in addition to actions that are known to have occurred, ensures that management has protection for even the most obscure situations. This is important because claims often feature many details, recounts of actions, opinions and conflicting interests, for which the true position of liability is unclear.

Conclusion

The function of a policy’s insuring clauses is central to the operation of D&O insurance. A policy wording contains dozens of terms that have special meaning, including those terms which are absolutely critical to the interpretation of the insuring clause; insured, loss, claim, claims-made and wrongful act.

D&O insurance is purchased by organisations of all shapes and sizes. While the primary purpose of coverage is to protect individuals, depending on the organisation’s size a policy may also provide some benefit to the entity itself.

The coverage afforded by D&O insurance has evolved over time, with many improvements occurring in recent years. As more insurers have entered the market, increased competition has lead to broader coverage and reduced premiums, making D&O a valuable risk management solution for many organisations.

As the exposures faced by directors and officers are continually changing, insurers’ policies are regularly updated to address their needs. As new features are added, they become a point of difference for a while, before eventually being adopted by the market as a whole.

D&O provides an organisation and its management with coverage on many fronts. While no two policies are the same, a typical policy provides three forms of protection as standard, as outlined in its insuring agreements; Side-A, Side-B and Side-C.

Side-A: Directors and officers liability

Side-A, also known as directors and officers liability, is the first insuring agreement of a D&O policy. Side-A protects executives from claims when corporate indemnification is not available from their organisation.

As non-indemnification can occur for many reasons, Side-A coverage plays an important role in protecting individuals when this financial support is not available. It provides an essential last line of defence, ensuring that their assets remain safeguarded from the consequences of personal liability.

For example, consider a board of directors implicated in a claim following an organisation’s bankruptcy. As the organisation effectively has no money, it cannot fulfil its corporate indemnification obligations.

As a result, the directors immediately notify their D&O insurer and seek protection under the Side-A insuring agreement. The insurer is now responsible for financing the costs of their defence and any subsequent claims settlement.

Side-B: Corporate reimbursement

Side-B, also known as corporate reimbursement, is the second insuring agreement of a D&O policy. Side-B reimburses an organisation for the expenses it occurs when defending its management in accordance with its corporate indemnification obligations.

By indemnifying its executives, an organisation is responsible for paying all legal expenses and claim settlements on their behalf. The costs of doing this can be impairing for even the largest of organisations and can potentially affect its financial stability. Side-B coverage, therefore, supports an organisation financially when it is, in turn, supporting its management.

Take, for example, an executive who is named in a formal investigation by regulatory authorities following allegations of wrongful behaviour. The organisation, as per its indemnification obligations, begins to incur defence costs on behalf of the executive and therefore, lodges a claim with its insurer under the Side-B insuring agreement, requesting reimbursement for these costs.

Important! Side-B is only intended to cover the costs incurred on behalf of directors and officers, and will not protect an organisation from claims made directly against it.

Side-C: Entity securities coverage

Some D&O policies also include a third insuring agreement, Side-C, also known as entity securities coverage. Side-C coverage is typically reserved for publicly listed companies and protects the corporate entity from its own liability exposures.

The coverage provided by Side-C is limited to claims made against a company as a result of the offer, sale or purchase of its securities; in other words, the shares listed on the stockmarket available for purchase by investors.

Side-C has been developed in response to the increased frequency in which companies become involved in shareholder related disputes. By electing Side-C coverage, a company can be protected for the legal and claim settlement costs it incurs whilst defending its own corporate actions.

Side-C is typically offered by insurers as an optional insuring agreement, allowing policyholders to elect this protection for the payment of extra premium. The extra premium is charged to compensate the insurer for the additional claims exposure that Side-C brings.

Let’s consider that a company and its management are named in a securities-related lawsuit. The company indemnifies its managers according to its corporate indemnification obligations. In turn, the company makes a claim under Side-B for reimbursement of the costs incurred in defending management.

In addition to the claim against management, the company is also required to defend its own interests, and therefore, makes a claim under Side-C for the costs specifically related to the defence and settlement of the claim against the entity.

Other forms of entity coverage

As well as the benefits it provides to public companies, D&O has become an increasingly popular risk management solution for private companies and non-profits. As a result, many insurers have developed policies specifically to meet the needs of these privately owned, unlisted organisations.

The differences between the D&O coverage available to private organisations, and that of their public counterparts, generally relates to the breadth of coverage available for the entity.

While it is certainly possible for the managers of private organisations to be implicated in a claim, more often than not, it is the entity that is targeted. To account for this and to ensure that an organisation’s assets are adequately protected, many private D&O policies include broader entity coverage than traditionally offered.

The theory behind this expanded coverage is that the personal wealth of private company managers is often closely tied to the organisation’s financial health. Many executives have a significant shareholding in the organisations they operate, so therefore, any loss incurred by the entity is likely to affect their personal net worth as well.

In addition to Side-C, the two most common forms of entity coverage available include employment practices liability and management liability.

Employment practices liability

Employment practices liability insurance (EPL) protects an organisation from employment-related claims. EPL ensures that the entity is covered for its own defence and settlement expenses if an employee (or similar party) makes a claim against it.

While EPL is often available to large organisations on a stand-alone basis, it may also be attached to a D&O policy as an optional insuring agreement, for the payment of extra premium.

Management liability

Management liability insurance (ML) is a type of D&O policy specifically tailored to meet the needs of small and medium enterprises. It is structured as a package-policy and contains a range of broad entity style coverages to protect an organisation and its managers from a variety of claims.

These entity coverages, typically only available to larger organisations on a stand-alone basis, make ML a very cost effective insurance solution. In addition to traditional directors and officers liability and corporate reimbursement insuring agreements, it often includes the following:

• Corporate liability: broad civil liability coverage for claims made against the entity
• Employment practices liability: entity coverage for employment-related claims
• Superannuation trustee liability: entity coverage for claims arising from the management of retirement, superannuation or 401k schemes
• Crime: coverage for crime committed against the entity, such as fraud and misappropriation
• Statutory liability: entity coverage for pecuniary penalties and possibly fines, resulting from breaches in legislation
• Taxation investigation: coverage for investigations undertaken by taxation authorities

The benefits of entity coverage

Entity coverage provides an organisation with peace of mind during difficult times. Without this protection, an organisation is potentially exposed to hardship whilst honouring its indemnification obligations and whilst defending claims made directly against it.

By transferring these liabilities to an insurer, an organisation can shield itself from claims. This proactive approach to risk management is not only wise from the entity’s point of view but also from the perspective of shareholders, who appreciate the preservation the company’s capital.

Conclusion

As we’ve shown, large organisations will acquire D&O coverage to protect their executives and the organisation’s interest in defending them. Depending on the size and corporate structure of their particular organisation a D&O policy may be able to expand to provide some level of protection for the entity itself. While this is not the primary reason for acquiring D&O, it is certainly beneficial.

Directors and officers inherit a great deal of responsibility and with that, we want to make sure that they’re protected. Corporate indemification and D&O insurance allow them to get on with the job without putting their personal assets on the line.

As we’ve seen from some of our previous posts, occupying a position of management has many underlying risks. Not surprisingly, these risks are often a major consideration when contemplating such roles.

A person is likely to question if the monetary and career rewards of becoming a director or officer are worth it, when weighed up against the potential for personal liability and its serious implications.

A risky proposition

For some, the risks are enough to deter them from stepping into management. While, for others it’s a risk that can be tolerated, provided they have access to adequate protection.

Many organisations recognise that personal liability is a strong deterrent, so over time, a number of defence mechanisms have been developed to encourage the best and brightest leaders to step into the ranks of management.

These safeguards have a strong influence on the recruitment of talented leaders and generally come in two forms, corporate indemnification and directors and officers liability insurance.

Corporate indemnification

The first line of protection for directors and officers is corporate indemnification. Corporate indemnification is an agreement between an organisation and its executives, whereby the organisation agrees to protect or ‘indemnify’ each individual from personal liabilities arising from the performance of their managerial duties.

This promise of indemnity is often stipulated in an organisation’s constitutional documents as well as a contractual agreement known as a deed of indemnity. Many corporate officers may also find that an indemnification clause is built into their employment contract.

Deed of indemnity

A deed of indemnity is usually drafted with the assistance of specialist lawyers and aims to indemnify an individual to the ‘maximum extent as permitted by law’. A deed will typically state that should an executive be implicated in a claim, the organisation will step in to protect them.

This protection generally comes in the form of financial support, whereby an organisation agrees to incur any costs associated with defending and settling claims made against them.

Directors and officers liability insurance

While corporate indemnification provides directors and officers with some comfort that they will be supported during times of difficulty, it has become common practice to arrange a second line of protection, directors and officers liability insurance; often known simply as D&O.

D&O, like corporate indemnification, plays an important role in protecting management from personal liability, albeit in slightly different circumstances; in instances of non-indemnification, whereby management is unable to obtain indemnification from their organisation as promised.

Non-indemnification

Without the support of their organisation, non-indemnification leaves executives personally exposed to the consequences of litigation. This presents executives with the very real threat of facing the full brunt of personal liability on their own, as their organisation cannot adhere to its indemnification obligations.

An organisation may not be able to indemnify its directors and officers due to one of three reasons:

1. It is legally prohibited from during so

An organisation may not be able to indemnify an individual because it is legally prohibited from doing so. For example, if an executive is deliberately involved in fraud or other criminal activity, it may be unlawful for an organisation to indemnify them from any subsequent litigation.

2. It decides not to

In some situations, an organisation may be unwilling to extend indemnification to management. For example, in a derivative shareholder lawsuit, an organisation may decide not to indemnify an executive because it is technically the organisation itself that is suing them. In this situation, it would not make sense for an organisation to indemnify the same person that it is litigating against.

3. It is unable to

Directors and officers may not be able to be indemnified because an organisation cannot afford to do so. This is probably the most common scenario of non-indemnification and usually occurs when an organisation is in severe financial difficulty or is insolvent – which is, ironically, when directors and officers are most at risk.

D&O beyond personal protection

Modern directors and officers liability insurance has become more than just personal protection for an organisation’s management. As corporate indemnification provisions have expanded to protect executives, organisations are now also exposed to the financial implications of claims whilst fulfilling their indemnification obligations.

When an organisation indemnifies its directors and officers, it becomes responsible for their defence expenses. These costs, along with associated fines, penalties, settlements and court awarded judgements can have a serious impact on the financial health of even the largest of organisations.

As a result, today’s insurance market has evolved to offer policies that provide an organisation with support too, when fulfilling its indemnification obligations as well as personally protecting executives when it cannot. D&O has therefore become an important component of an organisation’s own risk management programme, in addition to the benefits it provides to executives.

Conclusion

For many companies and non-profits, the use of corporate indemnification and D&O insurance is a tried and tested method of protecting their leadership teams from the threat of expensive lawsuits. The combination of these two risk management strategies can ensure that managers go to work each day, without constantly worrying about the personal implications of their decisions.

Some managers can go through their entire career without so much of a mild disagreement. Unfortunately, many others won’t be so lucky and may encounter the full brunt of an investigation or lawsuit. Below, we take a look at what it feels like to be held personally liable for your actions.

When discussing directors and officers liability, insurance professionals are often quick to point out the importance of being protected by a good insurance policy. Conversations generally focus on how claims arise, how much it can cost to defend them, and why purchasing D&O insurance is an ideal solution.

While there is certainly nothing wrong about this line of discussion, often the personal implications of D&O litigation aren’t conveyed very well. That is, what being held personally liable means for an executive and their family, and how such a situation will affect their life.

Because the reality is, that if an executive is confronted with an investigation into their actions or a fully-fledged lawsuit, the journey is likely to be one of the most stressful experiences of their professional career.

What does it feel like to face a claim?

So what does it feel like to confronted by a claim? As an executive is guided through the legal process of defending a claim, they are likely to experience months (or years) of uncertainty, anxiety and fear, as sleepless nights become the norm.

They will work closely with lawyers to recount their version of events, spending countless hours responding to queries and providing documentation to support their position, all to explain how and why they made the decisions they did.

Whether they believe that they are guilty of the allegations made against them or not, executives are required to undertake the necessary and often expensive steps to defend and settle any claim made against them. Unfortunately, this may also include claims that they believe are unfounded or frivolous, as these incidents must be treated with the same seriousness as those with merit.

While not too many company executives speak publicly about their experiences, there have been a few people that have described the process in a commercial setting. Internet expert, Neil Patel, posted about what it’s like to face a class action, while Matt Warren, the owner of an online retailer, was interviewed about how it felt to be sued by some of the world’s largest watch companies.

Either way, it’s certainly not a pleasant experience. Even if you’ve been given tips on how to cope with it.

A long, tedious process

The claim process will take its toll financially and emotionally, on the organisation and the executives involved. As a claim is defended, legal expenses will begin to mount. Even moderate claims can involve thousands of dollars of fees, per executive involved.

Lawyers are required to be paid throughout the duration of a claim. If an executive is lucky, these costs may be passed onto their organisation or an insurance company. Otherwise, the funds will need to be sourced through personal means.

Financial risks

If an executive has no financial support, their personal assets are at risk, as they draw down on private resources to fund the costs associated with defending and settling a claim. This leaves an their wealth exposed to the outcome of proceedings, which adds stress to an already unpleasant experience.

In these situations, once personal savings have been depleted, an executive will need to consider other forms of financing and necessary sacrifices. To fund proceedings, they may cut back on discretionary spending, take out a loan, or even consider selling personal assets such as the family home.

It’s not all about the money

While the financial implications of personal liability are certainly nothing to shirk at, the emotional effects can be just as devastating. Being at the centre of a claim places an executive in an extremely difficult position, and the subsequent challenges will be felt throughout their daily life.

Personal and professionals relationships will be strained, as executives lean on the people around them for support. Additionally, due to their involvement in a dispute, they may suffer reputational damage, especially if the details of the incident receive unwanted media attention.

By the time a claim reaches conclusion, either through successful defence or by reaching an agreed settlement, the entire process  may have taken years. As many grievances are resolved through mediation and other methods of dispute resolution, the claim may never see the inside of a courtroom.

If a claim requires court adjudication the process will be longer and even more expensive; probably adding an extra year or two of grief, and a few more zeros to the overall cost of the claim.