Directors and Officers (D&O) claims often accompany Employment Practices Liability (EPL) claims. For example, a female lawyer who worked part time sued her supervisor, the officers of her law firm and the firm itself, charging that her boss had retaliated against her for reporting his sexual advances by changing her hours so she could not be home when her children arrived from school. While the company’s EPLI coverage was triggered to defend the law firm, the D&O coverage helped protect the
personal assets of her boss and the firm’s officers.
Inadequate or inaccurate disclosure to investors in private‐placement materials.
A private investor was persuaded to invest in a startup based on materials showing the company had secured the sole license to create and market products using an exciting new food supplement. The products were months away from market and the private‐placement materials showed they’d have a wide open market and great growth potential. As it turned out, the startup was not the only company licensed to use the supplement. The patent owner had retained the right to use it as well. In fact, the patent owner launched a competing product weeks ahead of the startup, causing it to quickly fail. The investor sued the startup managers for misrepresentation and breach of fiduciary duty.
Employment law is complicated, and when the stakes are high, plaintiffs’ attorneys will use everything in their arsenals to score a win. A major financial services company sued an independent brokerage and its officers for tortious interference with its prospective business advantage after the independent company hired a department manager away
from the large company. The new hire recruited some of the people he had formerly supervised, and they solicited and brought their customers with them to the new brokerage, despite their having signed non‐compete contracts that prohibited disclosing information or directly completing with the financial services company for one year after leaving.
Breach of fiduciary duty
When the owner of a thriving wholesale auto parts company passed away, the business was left to his two sons, who had no experience with the business and not a lot of interest in running it. Disregarding the advice of various relatives and suppliers to appoint a professional manager, they paid themselves extraordinarily large salaries and bonuses, while assuring suppliers that business was flourishing. They continued to do so until the business went into bankruptcy. Beyond the expected lawsuits seeking
payment, the creditors also filed a derivative lawsuit against the owners, which was addressed by their D&O coverage.
Conspiracy, bribery and theft
The reach of D&O coverage may extend beyond civil cases. A large construction company was after a lucrative state contract for road construction and repair, and had heard that the official responsible for awarding public works contracts was susceptible to bribery. The
company president, unaware the official was already under investigation, was taped offering the official free use of a summer home. When the state’s attorney filed criminal charges against the company’s directors and officers, their defense costs were paid by the company’s D&O coverage.
Questions to Ask
May I see your financial statements?
Insurance underwriters want to be comfortable with a risk before they will write its Directors and Officers (D&O) coverage, so they traditionally turn to the financial statement to quickly learn about a business’ health and operations. Financial statement include a balance sheet, a cash-flow statement, and a profit-and-loss statement.
Was your financial statement reviewed by an outside auditor?
The balance sheet provides a picture of the assets and liabilities of a business, so a report showing a company with few assets and a lot of liabilities would be a red flag for an underwriter. So would indications of a cash-flow problem, or that the decisions by the company’s directors and officers are affecting the value of the company. Since the underwriter gleans so much the information from the financial statement, he or she is much more comfortable knowing an outside auditor has attested to its accuracy.
For a startup company: May I have your business plan and a current statement of your assets and liabilities?
Every company – even a new one – has assets and liabilities and should be able to provide current information on these. The investments in cash and equipment are all assets, while a bank loan is a liability. A startup company should be keeping track of such matters and be able to provide current information on these. Absent an audited financial statement, the startup should provide its business plan, where it shows projected assets, projected revenues and projected expenses based on the research they did. A good plan helps tell the business’ story and demonstrate that this particular management team can take the business to a higher level.
What kind of experience do your officers and board members have in running a private company?
Experience in running a successful business and making difficult business decisions can help predict management’s ability to handle changes in the business climate, while retaining the value that investors and shareholders want to see. It helps to have a list of officers.
Ask an Expert
What’s the difference between private and public D&O?
Private and public D&O policies are very similar; the difference is simply whether the policy holder is a public or private company or organization. Directors and officers of both experience similar risks. They are often industry experts or high-ranking executives, held to high standards by shareholders and held accountable for their decisions. We tend to see public companies fielding more claims than private companies because they have more stakeholders.
How can agents assess the risks private and public companies face?
Although there are many factors, agents should be aware of two key pieces of information used to assess risk:
Financial statements: Financial statements are the ultimate gauge of an organization’s financial health. They reveal how well the board manages its finances as well as the amount of assets—the larger the assets the larger the risk exposure.
Study the industry: Agents should study the industry in which the company operates to recognize risks associated with it.
What are common claims private/public companies need to be wary of?
A common D&O claim we see is infringement of antitrust legislation, which prevents or controls trusts or other monopolies in order to promote competition. Claims can be filed on patent infringement, false advertising, or even slander of another company. Derivative suits are also very common. Essentially a shareholder can file a suite if he/she believes the company’s directors and management are failing to exercise their authority for the benefit of the company and all its shareholders. A derivative suit could be filed when a shareholder believes an incident of fraud, mismanagement, self-dealing and/or dishonesty that is being ignored by officers has occurred. The most common claims typically involve breach of contract or mismanagement of funds.