Company directors and senior managers across the globe are increasingly likely to face costly regulatory investigations, criminal prosecutions or civil litigation, which not only put their company’s assets, and their own assets, at risk, but also may threaten their personal liberty, according to a report published by Allianz Global Corporate & Specialty.
“Tightening regulations, emerging technologies, increasing shareholder activism, intensifying class action litigation activity, escalating merger objections and IPO activity and the rise of regulator activism are among the many challenges facing corporate directors and officers,” said the report titled “D&O Insurance Insights – Management liability today: What executives need to know.”
In a section titled “Notifications and loss trends,” the AGCS report said the number one cause of D&O claims by number and value is non-compliance with laws and regulations.
The other top causes of D&O loss by number of claims received are: negligence; maladministration/lack of controls; breach of trust/fiduciary duty; and inadequate/ inaccurate disclosure.
“Claims severity is rising due to higher legal costs, increasing complexity, expanding regulatory investigations and cross-border actions,” the report said.
While claims arise internally from trustees, subsidiaries, the company itself, and whistleblowers, externally they arise from creditors, shareholders, customers, suppliers, competitors, tax authorities, government regulators or even former employees, AGCS continued.
“There is a general trend for actions to be dismissed or resolved more slowly, meaning lengthier litigation, increased defense costs and higher settlement expectations among plaintiffs, particularly in the UK, Canada, Australia, France, Spain, Hong Kong and the US,” it explained.
According to AGCS, the average securities class action case in the US can take between three and six years to complete, while legal defense costs average around $10 million, rising to $100 million for the largest cases.
AGCS quoted a study by Marsh, which found that UK professional and management liability insurance notifications increased from between 200 to 300 in the years 2005 to 2007 to a peak of 1,685 in 2012, a figure that has since averaged at 1,300. (Published in June 2016, the Marsh report is titled “Professional and Management Liability Insurance Claims: Common Pitfalls for Unwary Policyholders.”)
Biggest D&O Exposures, Claims
“The biggest exposures, and source of D&O claims, are in the US and Australia,” AGCS said, noting that Germany is also seeing an increase in executive liability.
“Germany, together with the US and Australia, is now the region with the most D&O claims in the world,” said Martin Zschech, regional head Financial Lines Central & Eastern Europe, AGCS, who was quoted in the report.
Directors and officers also need to be wary of emerging risks, which can drive claimants to bring legal proceedings against officers or boards, AGCS cautioned. The report pointed to data breaches and cyber-attacks, climate change, human slavery in the global supply chain, environmental pollution and climate change-related disclosures, which are risks that “could result in reputational risk and shareholder activism, public outcry or governmental investigation.”
“Any cyber event that significantly impacts a company’s reputation and its share price could result in shareholder action. The best way that directors and officers can protect themselves is to discuss cyber risk at a board level and address these exposures as part of robust risk management solutions,” said Emy Donavan, regional head of Cyber Liability North America, AGCS.
“Many directors used to see cyber as an IT issue and not an exposure for the board to consider,” says Donavan. “But there is no escaping cyber risk in the context of business judgment. Directors need to be adequately informed, otherwise they leave themselves exposed. While there is still not significant case law addressing cyber for directors and officers, it will not be possible to just plead ignorance. That will not save directors from personal liability.”
Systemic D&O Liability
As executive liability exposures become more complex and interconnected, “many large claims involve regulatory investigations and civil litigation in multiple jurisdictions,” the report said.
The report cited emissions testing problems in the automotive industry as an example “of a potentially systemic commercial D&O loss.”
Meanwhile, it continued, the leak of the Panama Papers demonstrated how a data breach can affect “professional service providers and financial institutions, which could in turn spark multiple claims across several jurisdictions.”
Risk Management Culture
In order to tackle increasing D&O liabilities, executives need to develop a first-class risk management culture, the report indicated.
“Examples include instilling sophisticated cyber and IT risk management, keeping records of all information relevant to a managerial role and maintaining open communication with authorities, investors and employees,” the report said.
“Executives should ask tough questions about compliance related topics such as sanctions, embargoes, tax haven registrations, price-fixing and fraud and learn more about ‘classic’ D&O exposures such as M&A, capital measures and IPOs,” AGCS affirmed.
“D&O coverage can be complex, so ensure key risks are covered. Conflicts of interest between the directors and the company must be avoided,” the report went on to say.
“A company’s internal risk management and compliance structure should have all these points on the radar, and procedures in place that adequately address or prevent them. This is probably the only defense left for directors and officers if they face a problem in one of these areas.”
The report listed common D&O risk scenarios as:
- Employment practices and HR issues
- Shareholder actions
- Reporting errors
- Inaccurate or inadequate disclosure (for example, in company accounts)
- Misrepresentation in a prospectus
- Decisions exceeding the authority granted to a company officer
- Failure to comply with regulations or laws
- Corporate manslaughter
- Creditor claims
- Mergers and acquisitions
- Competitor claims
- Claims made by the company, itself
It went on to list common D&O exclusions as:
- Intentional non-compliant acts
- Illegal remuneration or personal profit
- Property damage and bodily harm (except corporate manslaughter)
- Legal action already taken when the policy begins
- Claims made under a previous policy
- Claims covered by other insurance
- Fines and penalties
Source: Allianz Global Corporate & Specialty