The Pitfalls of Directors and Officers (D&O) Insurance

Posted on October 23, 2015 by Marijana Dabic

After assessing your company’s risks, you’ve made the decision to purchase Directors and Officers (D&O) insurance. Now what?

It’s essential to know the ins and outs of your D&O policy, including policy limits, what’s covered and, most importantly, what’s not. Why? Because you may assume you’re covered for a claim when policy exclusions could apply. As time-consuming as it may be, it’s critical to read the fine print in your policy, as the language in the exclusions may affect the coverage of potential claims.

Types of Exclusions in D&O Policies

Some exclusions that insurers and insureds dispute concern incidents that happened or allegedly happened before the D&O policy went into effect. In some cases, the insurer simply won’t cover the claim; in other cases, the insurer may render the policy void.

The Known Circumstances Exclusion. With this exclusion, the insurer will not pay for claims that arise from a negligent act, error, omission or personal injury that occurred prior to the start date of the D&O policy. The insurance carrier attests that the insured knew or could have foreseen that any of the above happened and could have been the basis for a claim. This exclusion is found more frequently in private and non-profit policies than in public company policies. What is especially important to note is that the premium is usually not returned to the insured if it is determined that they withheld their knowledge of circumstances that occurred prior to the start of the policy.

In the case of a rescission scenario, the premium is returned to the insured. Rescission means that the policy is rendered void after the insurer discovers that the insured answered untruthfully to any of the warranty questions on the insurance application. Warranty questions ask the applicant if they know of any fact, circumstance or situation that might reasonably be expected to give rise to a claim. Rescission also can occur if the applicant provided false or misleading information in the company’s financial data. These scenarios usually happen only in public company D&O policies.

Prior Acts Exclusion. Similar to the known circumstance exclusion, this exclusion is also concerned with pre-policy circumstances. The insurer is not responsible for wrongful acts committed or attempted before the coverage was enacted. A wrongful act is that which damages the rights of another. These acts are not only limited to criminal offences, but can also include acts that result in civil lawsuits.

Other exclusions found in D&O policies revolve around the duty to defend and defence expenses in the event of a claim. If the insurer has the right to the duty to defend, then they are able to select the insured’s defence and have greater control over the rates and billing practices of the defence counsel.

Reasonableness of Defence Fees. This is more prevalent in private company and non-profit D&O policies, as most of those policies give the insurer the right and duty to defend the insured’s claims, whereas public companies retain the right to choose their own defence counsel. If this is written into your D&O policy, it means that the insurer will only pay for “reasonable and necessary” defence fees. Some insurers also provide detailed information on litigation guidelines.

Consent to Settle and the Hammer Clause. If the insurance carrier has no duty to defend, such as in cases against public companies, then they have no right to settle the case when they want to settle it. As a result, the insured may elect to continue with litigation, even if that would exhaust the policy limit, because the defendants don’t want settling the case to be perceived as an admission of their wrongdoing or incompetence. This creates a lot of tension between insurers and the insured, especially if the insured does not include the insurer in the settlement discussion. Therefore, some insurance policies have a consent to settle exclusion in the policy, prohibiting the insured from settling the claim without the insurer’s prior written consent. The hammer clause is similar to the consent to settle exclusion, although less common. Basically, the hammer clause informs the insured that if they go against the insurer’s recommendation to settle, the insured will be responsible for any judgment won by the plaintiff and legal fees that go beyond the settlement offer.

Most D&O insurers expect that D&O insurance is only a part of a company’s wider insurance portfolio. In some cases, however, this assumption doesn’t always prove to be true. Certain firms may go without Umbrella insurance or even General Liability insurance policies, making D&O one of their only forms of insurance. Because of this, many D&O insurers write exclusions in their policies stating what claims they won’t cover because other types of insurance would potentially cover the claim.

“Other Insurance” Exclusions. D&O insurance is just one form of insurance in a comprehensive risk management plan for most companies. Because of this, most D&O policies have exclusions for claims that involve bodily injury, property damage and fiduciary claims, which could be covered by other types of insurance such as a Commercial General Liability policy or a Fiduciary Liability policy. To protect their best interests in the event of a claim, the insured should notify all insurers from their various policies, thus allowing the insurers to determine who is liable for the claim.

Contractual Liability Exclusion. This exclusion is especially pertinent to private companies and non-profits that have broad entity coverage under a D&O policy. Since contractual obligations are not liabilities imposed by law but rather an obligation that is voluntarily undertaken, many D&O policies have an exclusion that prevents insurers from having to cover contract-related claims, especially breaches of contract that arise when the company enters into a contract with another party. When examining this exclusion in your D&O policy, make special note of the wording of this clause. This exclusion can substantially affect the extent of your coverage under the policy—the narrower the scope of the exclusion, the better for you.

D&O insurance protects directors and officers from poor business decisions, but most policies do not protect them from wrongful acts and gross misconduct. These exclusions include:

Conduct Exclusions. Most D&O policies have exclusions that deny coverage for certain types of misconduct. There are two categories of misconduct exclusions:

For loss relating to fraudulent or criminal conduct
For loss relating to illegal profits or remuneration to which the insured was not legally entitled

It’s especially important to look at the wording on these exclusions in the policy; subtle wording differences can significantly impact the accessibility of the coverage.

Insured vs. Insured Exclusion. In some D&O cases, one insured director may bring a claim against another insured director, and some insurers do not want to cover this because they don’t want to get involved in the infighting between a company’s directors and officers.

Obtaining D&O insurance is important to protect the directors and officers of your company; but simply purchasing the policy won’t benefit you unless you know the extent of your coverage.

Why Excess Liability (Umbrella) Insurance is a Necessity?

Posted on October 15, 2015 by Marijana Dabic

Excess Liability Insurance (ELI), more commonly known as Umbrella Insurance, is one of the most important types of insurance your company can buy. It protects your business from holes or limits in existing policy coverage as well as from financially draining lawsuits. Just as you carry an umbrella to protect you from a potential downpour, ELI protects your company from the types of claims that could close your business.

Umbrella Basics

Businesses choose ELI to back up the limits contained in their underlying liability policies (commercial general liability, business auto, employer liability, and professional liability.) For the most part, it is used to cover exceptionally large events or losses with low probabilities of occurrence. Without ELI, these events – as few and far between as they may be – would be financially devastating to many companies.

Who should consider ELI?

All types of companies would benefit from ELI. Because it extends coverage so at a relatively small additional cost, many choose to pay the extra price. The amount of coverage needed will always depend on the total value of your assets. Here’s how it works:

Assume a jury ordered your business to pay $3 million in damages for a liability claim, but your general liability policy has a $2 million limit. Your company would normally be required to cover the additional $1 million. However, with a $4 million ELI policy, the $2 million commercial policy would exhaust itself, and then the Umbrella policy would cover the outstanding $1 million.

Other Benefits of ELI Coverage

Ultimately, ELI acts as a sort of dual policy, providing coverage in two ways:

Paying liabilities in excess of existing policy limits
Providing coverage in areas not included with existing policies

You have already read how ELI acts with basic coverage to cover costs; however, it also provides extra coverage in other areas by using a Self-Insured Retention (SIR), a dollar amount that functions like a deductible. So if ELI is being used in areas without any other basic coverage, it will kick in after you pay the set SIR.

ELI is also beneficial because an effective policy can save your business money and cover more assets by using fewer individual policies. However, depending on your policy, some coverage may be excluded under ELI. Common exclusions include employment practices liability, professional liability and product recall coverage.

Review Your Pollution Liability

Posted on October 8, 2015 by Marijana Dabic

At first glance, your company may not appear to be at risk for the pollution liability exposures facing the heavy manufacturing sector. However, pollution liability coverages also address common exposures that you might face.

Are you adequately protected?

Does your business have all the insurance protection it needs—or does it even have all the coverage you assume is in place? Here are some examples of pollution claims:

Carbon monoxide escapes from a restaurant’s heating, ventilating or air conditioning system causing illness and dizziness among patrons.
A fuel line on a contractor’s air compressor suddenly ruptures, discharging fluid, which scars a recently resurfaced parking lot.
A cleaning compound is inadvertently deposited down the drain of a day care centre, causing fumes, which makes some children ill.
A private country club dumps herbicides in an abandoned well, causing groundwater contamination.
An off-site service person ruptures a chemical hose, resulting in extensive premise damage.
All of these incidents occurred and none were determined to be covered under the applicable commercial general liability policy.

Review your coverage

Every business should review these exposures since coverage varies among types of commercial policies and court interpretations.

Furthermore, individual insurance companies vary with how their policies address the issue, and there are even differences among company claims adjusters, managers and executives in their applications of pollution exclusion clauses.

It is also important to be certain your primary liability policy endorsements track with your umbrella policy so there are no coverage gaps. We recommend careful analysis on a case-by-case basis to avoid any surprises concerning coverage.

One popular solution to gaps in coverage is to obtain additional, specific coverage for on- and off-premise pollution liability or for on-premise pollution liability alone. An alternative may be to add an endorsement, which provides limited pollution coverage to existing policies.

By gaining a better understanding of pollution and product liability and the extent of your policy exclusions, you could avoid unexpected financial loss.

A Word to the Wise About Construction Defects

Posted on September 30, 2015 by Marijana Dabic

Possibly no two words strike more fear in the hearts of architects, engineers and contractors than “construction defect.” A claim for a construction defect can cost astronomical amounts to correct and defend. Additionally, it can also damage their reputation and negatively impact their future opportunities for work. It’s enough to break a business.

Construction Defect Risks

Today, their risk of becoming involved in a construction defect claim is greater than ever. New technology, materials and applications have changed the way commercial buildings, homes and condominiums are constructed.

Advances are enabling the design and construction of buildings that are more attractive and less costly. Yet, many of these advances have yet to be tested in real application over time, where problems may be uncovered that were never anticipated in the lab.

At the same time, new applications require new skills from contractors, who may overlook important requirements for installation or take shortcuts that cause devastating consequences. When problems occur, it’s hard to know the cause without investigation, and everyone on the project is forced to become involved. Often, whoever has the most money or the most to lose becomes the primary target for plaintiff lawyers. Essentially, you could be held responsible for others’ mistakes.

Let’s consider two of the most costly examples of construction defect: EIFS and FRT plywood.

EIFS

Architects love using exterior insulation finishing systems (EIFS) in their design process. EIFS cladding systems resemble stucco, but are less costly to install and can be fashioned into a variety of architectural shapes, including soft curves and geometric designs. This unique flexibility makes EIFS treatments ideal for special elements such as porticos, archways and ornate overheads for windows, doors and decorative trim.

As with any exterior cladding, water can enter behind or around the system. Early applications often lacked drainage features that are more commonly used today. With no place to go, constant exposure to moisture can cause wood to rot and can cause damage to other materials within the building or home. Moisture-related problems can lead to an avalanche of individual and class action lawsuits by consumers.

For those using EIFS in their designs, strict adherence to guidelines for materials and methods of application is your best defence against a construction defect claim.

FRT Plywood

Back in the early 1990s, flame resistant plywood (FRT) was touted as an alternative to fire walls in multi-unit buildings. It appeared to be a revolutionary product and was quickly adopted by architects and builders, especially in the Northeast. However, high temperatures in attics caused early and unexpected deterioration of the material. Suppliers went bankrupt, and builders were left to face clients with major defects in their buildings, condominiums and homes.

For those using new building materials in their projects, it is important they do their research, examine their confidence in the manufacturer and the testing and consider their comfort level with the risk.

Types of Construction Defects

Generally, there are four categories of construction defects:

Design deficiencies are typically related to building designs that do not meet code or perform to standard.
Material deficiencies occur when use of inferior materials causes significant problems, such as when windows leak or fail to perform despite proper installation.
Construction deficiencies are problems created by poor quality of workmanship.
Subsurface deficiencies usually involve cracked foundations or other structural damage caused when soil is not properly compacted and prepared for adequate drainage.
Disputes lie in the determination of fault and damages, and require the party responsible for the defect to remedy the situation.

Insurance

Under the standard commercial general liability (CGL) policy, an insurance company has a duty to defend insureds for construction defect claims if any damages are potentially covered under the policy. Coverage for construction defects only exists if there is an “occurrence” under the policy.

If the court finds against the insured and they are a subcontractor, the policy will frequently pay for property damage caused by the occurrence. It does not, however, cover the costs to remedy the insured’s work—the faulty workmanship or material that led to the damage. In many cases, the cost to correct the construction defect will be greater than the actual property damages incurred. General contractors should keep in mind that the whole project is their work.

Architects and engineers will want to consider the additional protection of a professional liability policy. Professional liability provides coverage when a design does not function as anticipated or promised.

How Risk Can Be Managed

Many risks contractors, architects and engineers face are not typically covered by insurance. In addition to insurance, risk can be reduced in two ways.

Transferring Risk

Some of the risk can be transferred to a responsible third party. General contractors transfer risk to the subcontractors they use on a construction project through indemnification and hold harmless agreements as well as additional insured requirements in their construction contracts.

Indemnification and hold-harmless agreements are typically included in standard construction contracts. However, if the subcontractor lacks the financial resources to meet its obligations, the contractor still could be obligated for any construction defect claims. That’s why it is important for contractors to check the financials of their subcontractors and choose wisely. And never, under any circumstances, uninsured subcontractors should be used. They put contractors at great risk and could increase the cost of contractors’ own insurance.

Whenever hiring subcontractors, contractor should have them add contractor’s business to their liability policy as an additional insured. The contractor will be protected by the subcontractor’s policy for work the subcontractor does for the contractor, up to the policy limits. It’s a good idea to require liability limits of at least $1 million on the subcontractor’s policy.

Coverage should always be requested as for an additional insured on a primary basis. This way, the contractor can ensure that the subcontractor’s insurance responds first to a claim. (Contractor’s insurance becomes excess coverage and responds only if the judgment exceeds the subcontractor’s policy limits.) The contractor should be sure to specify the length of time they will be added to the policy for completed operations. Construction defects often come to light long after a job is completed. The contractor can verify coverage by requesting a copy of the certificate of insurance on an annual basis.

Risk Control

The best way to avoid a construction defect claim is through quality construction. Work should only be performed with architects, engineers and contractors who have good reputations and track records of good performance. Work should be planned and performed in the correct sequence and with proper supervision. Any and all plan changes should be documented. Organized records are critical to the contractor’s defence.

Relying on Construction Expertise

The legal landscape for the construction industry is complicated and always changing. In today’s legal climate, customers who are dissatisfied with work are increasingly resorting to litigation. The recommendations listed here are a starting point for understanding and avoiding construction defect claims. Gain professional guidance and recommendations by consulting your insurance broker and your attorney.

Managing Cyber Security During a Merger or Acquisition

Posted on September 22, 2015 by Marijana Dabic

During a merger or acquisition, insurance policies and finances need to be scrutinized and the future of employees addressed. Cyber security is often put on the back burner, which is unfortunate because this is a time when company data is at its most vulnerable.

Data transfers must proceed without a hitch, or else the companies risk damaging reputation, losing customers and hurting future sales. Additionally, legal responsibilities must be upheld before, during and after the data transfer process.

Use the following checklist to ensure you’ve covered all of your cyber security bases:

Identify all data assets that will need to be transferred.
Gather and merge all data standards, policies and processes from employees at both companies.
Identify potential risks that could occur during data transfer.
Prior to any data transfers, ensure data is backed up.
Run background checks on any employee who will be involved in the data transfer process.
Craft a business continuity plan to prepare for potential data loss or outages during the period when the transfer will be occurring.
Assign a high-level person the job of overseeing all data transfers. They will have the task of dividing and conquering by assigning one person to each data asset that needs to be transferred.
Legally transfer ownership of data assets as quickly and completely as reasonably possible.
Host training sessions on new data standards, policies and processes.
Update disaster recovery plans, business continuity plans and emergency plans to include newly acquired data assets.
Update the risk profiles for newly acquired assets.

Preparing for Data Transfer

Planning for data transfer should begin as early in the merger or acquisition process as possible. It is wise to assign one person the task of overseeing all data transfers so that there is little room for miscommunication or error. That person can then delegate smaller tasks, such as identifying data assets, identifying potential risks during transfer and making sure the data transfer is in compliance with federal or provincial law, but the person in charge should be aware of the current status of all tasks at all times. This person should also manage the implementation of the interim business continuity plan so that daily operations are disturbed as little as possible.

Keep in mind that if the acquired company has already completed portions of the data transfer or consolidation tasks, you should review the work to ensure accuracy.

Consider relocating IT employees from the acquired company early so that they can help with the data transfer and risk identification process, as they will be more familiar with their data and systems. Sufficient time should be mapped out to allow any older data to be converted for use in newer software and programs.

Finally, ensure that your system configuration records are up to date prior to any data transfers or consolidations. This will help isolate any issues that might occur and allow for an effective fix.

Good Practices for Data Transfer

Even if your company is completely prepared for the data transfer, it’s still possible that issues will arise during the process. Here are some good practices your company can utilize to minimize these risks:

Try to avoid using any kind of removable media to transfer data from one place to another. If the only method you can use is removable media, then take extreme care to be sure all records are encrypted, especially if they involve personal information.
If you have any data that isn’t getting transferred, you should dispose of it safely and completely to ensure it cannot be stolen.
Do not try to move all data at one time. Set small goals to complete every day or week to prevent an overload on your system or large, messy mistakes.
Consider halting some of your company’s cyber services until all data has been switched over in order to protect the services from being adversely affected by the transfer. Another option would be to run a similar service until data has been transferred.
Increase protective monitoring systems to prepare for the possibility of a disgruntled employee. Mergers and acquisitions are scary, uncertain times for employees, whose roles are often modified or eliminated to accommodate a new company structure. Update all clearances and access capabilities for employees based on new roles and duties.

Safe and secure data transfer during a merger or acquisition is of utmost importance. Communication is crucial during this time and basic duties and responsibilities should be quickly laid out and assigned to employees before, during and after the transition. Data transfer is not just about preventing and managing a compromise or interruption to services; you also need to keep your customers’ and stakeholders’ needs in mind, and take their concerns into consideration. Most importantly, ensure your new and existing clients know that you’re keeping their data safe.

The Pitfalls of Directors and Officers (D&O) Insurance

Why Excess Liability (Umbrella) Insurance is a Necessity?

Review Your Pollution Liability

A Word to the Wise About Construction Defects

Managing Cyber Security During a Merger or Acquisition

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