How Necessary is Directors and Officers Insurance?

A company’s officers make decisions and take actions every day as part of their regular duties. Does everyone agree with those decisions? No. Sometimes a director of a company makes a decision that results in criticism or complaint. A claim may arise in an effort to either punish, reprimand, or to recoup lost investments from those officers deemed responsible for bad decisions. This is where Directors and Officers Liability insurance comes into play in the event that a claim is made against company officers.

While any large, publicly traded multinational company has Directors and Officers Liability protection the fact is any business or not-for-profit organization has potential Directors and Officers exposure.

Why Does a Company Get Directors and Officers Insurance?

Not everyone is perfect. Directors are human beings and can make mistakes, even with the best of intentions. When any decision could result in losses, for either the company itself or other third party organizations, Directors and Officers have a lot to ponder.

Ask yourself two questions.

Do companies want their officers to be held personally liable for the complex decisions they are called upon to make? Do directors and executives want to work for a company that does not want to protect them?

Current directors and officers of a company as well as past board members are covered under a D&O insurance policy. Here are some scenarios that a company could consider as reasons for purchasing Directors and Officers (D&O) insurance:

Employee termination could then result in an Employment Practices Liability claim
Reporting Errors
Failure to comply with laws or bylaws
Misrepresentation
Inadequate disclosure

Even if a claim’s alleged wrongful acts brought against a company’s board of directors is ultimately thrown out of court there are still the defence costs and legal bills to pay. Considering corporate legal fees in Canada can range from $400 to $1,000 or more per hour, having a Directors and Officers insurance policy will help cover the legal costs associated with defending against a covered loss.

Knowing What D&O Exclusions There are is Important, Too

When a board member of a company commits fraud, a crime, property damage or bodily harm they can expect any such act will not be covered under a D&O liability insurance policy.

Illegal personal profit, such as embezzlement, is also not covered under Directors and Officers insurance.

Who Can File a Claim or Lawsuit Against a Company?

Customers, suppliers, banks and creditors, employees, Canada Revenue Agency (CRA), competitors, other Directors and Officers, or other investors. Any of these potential claimants could in effect trigger a class action type lawsuit.

That is a lot of potential plaintiffs, which should only underscore how broad and impactful board members’ decisions can be in today’s business world.

How Does a Company Purchase Directors and Officers Insurance?

Ultimately, like all insurance policies, purchasing D&O coverage is not as simple as pulling a product off the shelf and paying for it. A broker will need to review your company’s risks and determine what kind of management exposure exists. The type of industry your business operates in will also influence the amount of D&O insurance your business may need. Retail companies will have different limits requirements from pharmaceutical companies, as an illustration.

Proactive Help in Protecting a Company’s Board is Paramount

Not only can an insurance company offer protection for a business’s board, but insurance can also provide help in lessening the chances of a D&O claim by offering proactive guidance.

Here are some items a company’s board should consider:

Understand the risks of being a director and officer of the organization
Understand what statutory or civil liabilities there are and consequently avoid running afoul of them
Know what each director’s obligations are to the organization
Each board member should avoid outside employment that would conflict with the organization’s interests
Maintain the strictest of confidences for sensitive company information
Establish a proper financial management reporting policy

Maintaining the Health and Stability of the Organization is Job Number One

Increasingly boards must develop and update their companies’ strategies in order to keep up with changes in business, legal, industry and information security areas.

Board members must take active steps so as to ensure that every employee, client or customer, or other stakeholders are protected from reasonable harm.

An example of protecting from harm means having proper cyber security with encryption, firewalls and other important protections. This is frequently not enough because company stakeholders are are challenging Boards for failing to have adequate Cyber Insurance Policies. These cyber policies protect the company, employees, clients and third party vendors in the event of a cyber attack.

A cyber attack results in loss of reputation and clientele and with this in mind investors are taking a hard line on cyber security negligence. They are requiring the boards of directors to ensure proper cyber insurance protection.

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At the End of the Day, Think Directors and Officers Insurance

A Board of Directors must understand what the job requires and how they need to act, but also how they can be protected. Actively protecting the board with Directors and Officers Liability Insurance combined with proper guidelines and proper protections is critical to the success of the board and of the company. So is directors and officers insurance important, in a word, very.

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Disclaimer
Lackner McLennan and Erb and Erb provide these informational articles to educate the public about insurance and investment related matters. This article does not substitute for broker advice regarding your specific insurance or investment needs. For a comprehensive strategy to tackle what you, your family, or your business, may need we invite you to speak directly to a broker who can guide you through all the options available to you.