D&O LIABILITY INSURANCE:
WHERE WE HAVE BEEN - WHERE WE ARE GOING
David M. Gilfillan, Sr. V.P. – AIG
Patrick M. Kelly - Wilson, Elser, Moskowitz, Edelman & Dicker LLP
Paul Lefcourt, Senior V.P. – ECM Insurance Services, Inc. Management
Liability Practice Liability
Evan J. Rosenberg, Sr. V.P. Chubb & Son
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OVERVIEW
• Evaluation of Public Company D&O Insurance
Coverage and Exposure - An Historical
Oversight
• Private D&O Issues
• Bankruptcy Issues
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
EVOLUTION OF PUBLIC COMPANY D&O
INSURANCE COVERAGE AND EXPOSURE
1994 and prior - D&O policies covered the Directors
and Officers only; the corporation was not covered
as a defendant.
1994 - Equity Coverage for Corporation - sold by
endorsement.
1995 - Entity Coverage in D&O policies Nordstrom and Safeway .
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David M. Gilfillan - AIG
1995 - PRIVATE SECURITIES LITIGATION
REFORM ACT OF 1995 (“PSLRA”)
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Stayed discovery pending outcome of motion to
dismiss.
Allowed for sanctions for frivolous filings.
Promoted process to have investors with largest
financial stake in litigation become lead plaintiff
instead of “race to court house” by law firms with
stables of plaintiffs.
Set high standard for “scienter” (intent to deceive).
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David M. Gilfillan - AIG
EFFECT OF PSLRA
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Rush to court house by plaintiffs in 1995;
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Slow filings in 1996;
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Average filing in 1997; and
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Record filings in 1998.
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David M. Gilfillan - AIG
D&O INSURANCE MARKET 1995 - 2001
Too much capital and competition in market led to:
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expanded terms,
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higher limits, and
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inadequate pricing.
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David M. Gilfillan - AIG
2001 - WORLD TRADE CENTER LOSSES
AND ACCOUNTING SCANDALS LEAD TO
HARD MARKET AND GREATER REGULATION
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Large number of high profile accounting scandals
(Enron, Worldcom, Tyco, Adelphia, IPO Laddering
Litigation, etc.) and
Increasing number of restatements by public companies
(up every year between 1997 (116) through 2002 (270)
Lead to loss of investor confidence in Corporate America
and passage of Sarbanes-Oxley Act of 2002.
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David M. Gilfillan - AIG
SARBANES-OXLEY ACT OF 2002
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Act mandates new and improved governance,
infrastructure and controls to improve the accuracy
and reliability of corporate financial reporting.
Act focuses on public accounting oversight, auditor
independence, corporate responsibility, and analysts’
conflicts of interest.
SEC to improve its monitoring of financial reporting
and stiffen its penalties.
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David M. Gilfillan - AIG
2001 TO PRESENT, NET EFFECT - D&O
COVERAGE HAS RESTRICTED
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Less Availability
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Narrower Coverage
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Higher Premium
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David M. Gilfillan - AIG
FIVE YEAR COMPARISON: DOW JONES
INDUSTRIAL, S&P, NASDAQ
Copyright 2002 Yahoo! Inc.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
COMPANIES RESTATING EARNINGS
2002
330
2001
207
2000
233
1999
216
1998
158
1997
116
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
FEDERAL SECURITIES FRAUD CLASS ACTION FILINGS
488*
500
450
400
350
300
259
250
234
231
202
200
164
204
188
213
175
163
150
109
100
72
50
0
91
92
93
Pre-Reform Act
Source: Cornerstone Research
94
95
96
97
98
99
Post-Reform Act
00
01
02
2003
YTD
* 2001 includes 312 IPO suits
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
TOP TEN LIST - MAXIMUM DOLLAR LOSS
Maximum Dollar Loss Since January 1, 2000
Cisco Systems
Intel Corp
Bridgestone Corp.
Lucent Technologies
Oracle Corp.
WorldCom Inc.
Internet Infrastructure
Nortel Networks Corp.
Diamler Chrysler AG
AT&T Corp.
$ 330.52 B
231.47 B
163.63 B
114.75 B
98.40 B
83.26 B
78.53 B
77.04 B
63.35 B
61.44 B
Source: Cornerstone Research
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
SHAREHOLDER LITIGATION DEMOGRAPHICS
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Highest percentage of cases are against computer,
electronics and telecom companies -- 56% in 2001
(PwC)
NASDAQ companies predominate -- 64%
California and New York are the most popular
venues
Average market cap losses for companies sued in
2001: $6.3 billion
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
ACCOUNTING CASES AS A PERCENTAGE OF ALL
CLASS ACTIONS
60%
51%
50%
38%
40%
30%
20%
10%
0%
1991 to 1995
Pre-PSLRA
1996 to 2002
Post-PSLRA
Source: NERA Economic Consulting
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
“MEGA” SETTLEMENTS
Cendant (1999)
3.186 B
Waste Mangt. I (1999)
220M
3Com Corp. (2000)
259M
Waste Mangt. II (2001)
457M
Bank of America (2002)
490M
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
AVERAGE SETTLEMENTS HAVE
INCREASED SINCE PSLRA
Filed
Pre-Reform
Filed
Post-Reform
Average Settlement
$8.4 million
$27.3 million
Average Settlement
(Excluding Cendant)
$8.4 million
$16.6 million
Median
$4.0 million
$5.2 million
Source: NERA Economic Consulting
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
LEGISLATIVE RESPONSE - SARBANESOXLEY ACT OF 2002
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Increase SEC Enforcement
New Public Company Accounting Oversight
Board, and accountant disciplinary scheme
New liability for “improper influence”
CEO/CFO certification requirements
Code of ethics for senior corporate officers
New D&O “bars”/disgorgement remedies
New criminal penalties
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
Why Is Sarbanes-Oxley Important
To Private Companies?
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Indirect and long term effects
Governance measures
Requirements of business partners
Increased liabilities
Effect on going public
Increased accounting standards
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
INCREASED SEC ENFORCEMENT
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$776 Million for FY 2003 - At Least 200 Additional
Staff
Incentive Self-Policing / Self-Reporting
“Real Time Enforcement”
–
–
–
–
–
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Worldcom Action One Day After It Restated
“Segmenting” - Triage Approach - Identifying Wrongdoing Seek Interim Relief
Civil Penalties Against Public Companies
Disgorgement Returned To Investors
Coordinating With U.S. Attorney In Criminal Matters
Increased Scrutiny Of Attorney Conduct
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
NEW CRIMINAL EXPOSURES
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Securities fraud - 25 years
Criminal conspiracy - 20 years
Mail and wire fraud - 20 years
Document alteration/destruction - 20 years
Willful filing of false CEO/CFO certification - 20
years
Willful/knowingly false statements in SEC filings 20 years
Audit workpaper destruction - 10 years
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
NEW LAWYER DUTIES?
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•
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Sarbanes-Oxley authorizes SEC to bar attorneys from
practice before the SEC
SEC is directed to establish “minimum standards for
professional conduct for attorneys”
Must report material violations to senior management /
audit committee.
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Attorney liability as “associated person” to accounting
firm
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Attorney liability for “improper influence”
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
FUTURE EXPOSURES FOR OUTSIDE
PROFESSIONALS
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Whistleblower claims under Sarbanes-Oxley
Claims against disclosure counsel/deal counsel
Claims against accountants for future restatements,
deepening insolvency, and expanded third party claims
Claims against research analysts and investment banks for
“false” research reports, earnings forecasts, and
recommendations
Claims by SEC that accountants or lawyers “caused”
violations
– New requirements for accountants
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
SETTLEMENTS/PREMIUMS: 1996-2001 (courtesy AIG)
16
$16,000,000
400
14
$14,000,000
350
12
$12,000,000
300
10
$10,000,000
250
$8,000,0008
200
$6,000,0006
150
$4,000,0004
$2,000,0002
D & O Premium Index Scale
= 1 - 1.25
$00
100
Number of Cases
Average Securities Class Action
Settlement Value
18
50
0
1994 1995 1996 1997 1998 1999 2000 2001
Year
# of Cases (Stanford Law School)
Settlements (NERA)
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
TYPICAL PRIVATE COMPANY CLAIMS
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EPLI
Wage & Hour Claims
Breach of Contract
Claims by Investors
Patent & Trademark
Anti-trust
Not For Profit Issues
ERISA (fiduciary coverage)
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EPLI - RETALIATION
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Claims by employees that their employer has
retaliated against them for whistle blowing,
complaints about hostile work environment, etc.
D&O policies often are written with:
- - specific EPLI sublimits.
- - increased Self-Insured Retention for EPL claims.
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California issues.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
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WAGE AND HOUR CLAIMS
D&O policy will typically contain a Regulatory Exclusion
barring coverage for claims by Federal and State agencies
such as the FDIC.
Certain “regulatory” type wage and hour claims may be
presented directly by the insured company’s employees:
“off the clock” - typically class actions by employees for
uncompensated work, i.e., Wal-Mart, Nordstroms, etc;
Mis-classifying employees - incorrectly classifying employees as
“management” to avoid paying overtime;
“Deleting” overtime - managers “deleting” overtime actually
clocked by employees to contain expenses.
•
D&O policies often contain an exclusion for Fair Labor
Standards Act claims that will be triggered by such claims.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
BREACH OF CONTRACT CLAIMS
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Typical policy language excludes Loss “based on or
attributable to any actual or alleged contractual liability of
the Company or any other Insured under any express
contract or agreement . . .”
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Most often suits are between vendor and the insured company expressly excluded;
Suits by D&Os for stock options - usually outside the definition
of Loss, which excludes employment benefits, stock options, etc.;
Express contractual liability generally excluded - However,
liability not arising out of express contract may be specifically
excepted from the exclusion.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
CLAIMS AGAINST D&Os BY INVESTORS
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D&O policies cover only acts by officers and directors on
behalf of the corporate entity. The D&O policy does not cover
wrongful acts taken to protect their personal rights and
interests. Olsen v. Federal Ins. Co. (1990) 219 Cal. App. 3d
252.
Loss within the meaning of an insurance contract does not
include restoration of ill-gotten gain. Level 3
Communications, Inc. v. Federal Ins Co. (7th Cir. 2001) 272
F.3d 908 (applying Ill. Law)(amount paid by corporation to
settle claim for rescission and restitution based on fraud not a
covered “loss”)
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
IMPACT OF CORPORATE
INSOLVENCY/BANKRUPTCY
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When insolvency or liquidation is imminent,
duties of D&Os are expanded to include fiduciary
duties to creditors to protect the company’s assets
from dissipation.
The duties of the D&Os run primarily to the
creditors - not to the shareholders.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
IMPACT ON CLAIMS AGAINST D&Os
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In Chapter 11 “reorganization”, the corporation
becomes “Debtor-in-Possession” -- D&Os take on
duties of a bankruptcy trustee with fiduciary duties
to the creditors.
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In Chapter 7 “liquidation”, the bankruptcy trustee
ousts existing management of the debtor. The
trustee, on the estate’s behalf, may pursue claims
against the D&O for breach of fiduciary duty, selfdealing, waste and gross mismanagement.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
ACTIONS AGAINST D&Os
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Automatic stay does not apply to non-debtors, such as
D&Os. Thus, insurer may pursue a coverage action
against the D&Os -- as their rights under the D&O
policy are not property of the estate. See: In re Pintlar
Corp., 124 F.3d 1310 (9th Cir. 1997); In re Spaulding
Composites Co., Inc., 207 B.R. 899 (9th Cir. 1997).
The court can “extend” the stay to enjoin third-party
actions against the D&Os. See: § 105(a); A.H. Robbins
Co. Inc. V. Piccinin, 788 F.2d 994 (Dalcon Shield
Litigation); In re Johns-Manville Corp., 26 B.R. 420
(Bankr. S.D.N.Y. 1983) (Asbestos Litigation).
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
PAYMENT OF THE D&Os’ LEGAL COSTS
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The automatic stay bars proceedings against assets
of the estate.
“Estate” includes virtually any legal or equitable interest
the debtor may have in tangible or intangible property,
including the debtor’s insurance policies.
In re
Minoco Group of Companies Litd., 799 F.2d 517 (9th Cir.
1986); A.H. Robbins v. Piccinin, 788 F.2d 994 (4th Cir.
1986); Matter of Vitek Inc., 51 F.3d 550 (5th Cir. 1995).
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
IS THE D&O POLICY AN ASSET OF THE
BANKRUPTCY ESTATE?
Split of authority:
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Proceeds of D&O policy not property of the estate.
See: In re Louisiana World Exhibition, 832 F.2d
1391 (5th Cir. 1987) -- because the policy provided
coverage only to the directors and officers and not to the
debtor. See also: In re Daisy Systems, 132 B.R. 752 (N.D.
Cal. 1991); David v. Gleason, 1990 WL 261364 (N.D. Cal.
1990).
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
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Proceeds are property of the estate.
Other courts have limited Louisiana World to its facts
-- i.e., where the debtor-corporation had no interest
in the policy proceeds.
See: A.H. Robbins v. Piccinin, 788 F.2d 994 (4th Cir.)
cert. denied, 479 U.S. 876 (1986); In re JohnsManville Corp, 26 B.R. 420 (S.D.N.Y. 1985); In re
Sacred Heart Hosp. Of Norristown, 182 B.R. 413
(Bankr. E.D. Pa. 1995); Matter of Vitek, Inc., 51 F.3d
530, 534 n.17 (5th Cir. 1995)(limiting its holding in
Louisiana World to its facts).
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
SEEK RELIEF FROM STAY
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Acts taken in violation of the automatic stay are void ab
initio and may result in a claim for actual damages by an
injured party.
Bankruptcy Code § 362(d)(1) provides that upon
motion, the court may grant relief from the automatic
stay “for cause.” See: In re Sonnax Industries, Inc.,
907 F.2d 1280 (2d Cir. 1990).
The Insurer should seek relief from the stay before
paying fees, thereby avoiding a finding that it acted as
volunteer - and avoid “double payment” of Loss.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
APPLICATION OF INSURED v. INSURED
EXCLUSION TO CLAIMS BY THE TRUSTEE
Is an action by the Trustee against the D&Os
for pre-petition claims of the estate excluded
from coverage because the Trustee stands in
the shoes of the corporate entity?
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
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Majority position: the Insured v. Insured exclusion will
not bar coverage for suits by the Trustee against the
D&Os.
Rationale:
The Bankruptcy Estate is a separate entity from
the debtor/DIP - with its own rights and duties therefore not as “Insured.”
•
Minority position: I v. I exclusion bars coverage.
Rationale:
Trustee brings action on behalf of the
Corporation/Debtor.
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
IMPACT OF BANKRUPTCY AUTOMATIC
STAY ON COVERAGE ACTIONS
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Bankruptcy Code § 362(a)(1) provides that the automatic stay
precludes “the commencement or continuation … of a judicial,
administrative or other action against the debtor …”
The automatic stay will prevent the D&O insurer from either
commencing a coverage action or continuing with a pending
coverage action against the debtor-corporation. See: In re Minoco
Group of Companies Ltd., 799 F.2d 517 (9th Cir. 1986).
The automatic stay does not apply to actions or proceedings
brought by the debtor. Debtor may sue the D&O insurer for a
declaration of coverage.
Where the D&O insurer is the defendant -- it may assert its
coverage defenses without violating the automatic stay. In re
Financial News Network, 158 B.R. 570 (S.D.N.Y. 1993)
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Wilson, Elser, Moskowitz, Edelman & Dicker LLP
CURRENT TRENDS IN
D&O
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Privately-Held
Corporations
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Coverage Issues
SEC coverage
Duty to Defend / choice of counsel option
Hammer Clause
Subsidiary threshold
Discovery terms
Bankruptcy coverage
Exclusive limits for D’s and O’s
Why buy D&O?
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D&O Coverage Issues – 2
Exclusions to watch
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–
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Bankruptcy/Insolvency Exclusion
Creditors Exclusion
Non-Duty to Defend
Major Shareholder
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Non-Profit
Organizations
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D&O Coverage Issues
Broad EPL coverage
Duty to Defend
Defense outside the limit
Non-employment discrimination coverage
Retention waivers
For-profit subsidiary coverage
Punitive damages coverage
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Managing Clients’ Expectations
in a Hard Market
Meet with client early and often
Set realistic Premium/Retention Increases
Explain coverage changes
Preserve Coverage on Renewal
Discuss challenges of “Moving” Coverage
(i.e. Continuity Issues)
Explain Marketing Efforts
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How to obtain positive D&O
terms
Start Early
Submit complete submission
Use a theme
Determine priorities
Underwriter meeting / conference call
Don’t hide problems
Emphasize Relationships
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