The following is a guest post from Will Walker, president of Symphony Specialty, a division of Symphony Risk Solutions. Opinions are the author’s own.
Today, liability exposure for directors and officers, whether at the C-suite or on the board of directors, is more significant than ever. Think of heightened shareholder expectations, economic uncertainty, increased regulatory scrutiny, continuous supply chain disruption, advances in technology and more.
Not too long ago, there were minimal expectations of outside board members. Today, the tides have shifted, and the impact of corporate governance, board oversight and breach of fiduciary duties can quickly result in a director or officer becoming a defendant in a lawsuit or being subpoenaed in a regulatory investigation, with full attention paid to their level of engagement, among other board activities.
To ensure adequate protection, it is essential that the board of directors, regardless of the company’s structure or purpose, has a clear understanding of the directors and officers (D&O) liability coverage and limits.
Effective board members ask critical questions about the coverage in place. The recent board exodus at 23andMe, where all but the CEO stepped down, underscores the importance of understanding your rights and the policy scope and provisions under D&O coverage.
D&O insurance, by design, is intended to transfer the risk of loss to an insurance carrier and provide a level of balance sheet protection. Having a D&O policy is not enough. Critical questions should be asked regarding the policy, such as whether it will protect the directors and officers as a priority in the event of a claim.
In the case of an internal board disagreement that culminates in the separation of one or more members of the board, directors and officers may not be indemnified and may not have access to the D&O policy or insight into the claims management process. That’s why obtaining a copy of the company’s D&O policy proactively provides board members with the knowledge they’ll need in the event of litigation against the company or the directors and officers for alleged malfeasance or breach of duty. If the company is unable to indemnify the board, understanding how the D&O policy will respond is critical.
Bankruptcy is another significant concern for D&O insurers, and it is important to review whether there are sufficient and dedicated limits to protect board members in such scenarios. As such, assessing the adequacy of D&O limits before serving on a board of directors is crucial.
Top executives are typically aware of these risks and understand the importance of mitigating them through effective risk management strategies related to board service.
Action items for CFOs
With so much on the plate of the CFOs, it’s understandable to view insurance as a box to check and care more about the “what” then the “why.” However, it is crucial to fully understand the D&O policy purchased to best protect the leadership team and board.
D&O insurance should not be a point of contention when attracting and or retaining quality board members and fellow C-suite professionals. When procuring D&O insurance coverage, consider the following:
- Ensure the company has a best-in-class D&O policy: Focus on the limits, as well as the quality of the coverage terms and conditions. It is not enough to rely on traditional peer benchmarking based on size and market cap. Insurance providers often receive questions such as, “What are others in my industry class purchasing for D&O coverage?” However, it is important not to base purchasing decisions solely on industry class, market cap, or balance sheet size. The next level of risk assessment must ask: Why are the chosen limits in place? Are they enough to defend us all should we need them?
- Secure dedicated Side A coverage with adequate limits: Side A D&O coverage offers peace of mind for both company leaders and independent directors, allowing them to operate with the comfort that they are protected for decisions made on behalf of the company. This coverage serves as a highly protective last line of defense if the company is unable or unwilling to fulfill its indemnification obligations. Having dedicated Side A coverage also helps to attract and retain top independent board members and C-suite officers. After culture, mission and vision, board members and executives will want to know how they will be protected.
Action items for board directors and officers
To minimize personal liability and ensure engagement in best practices, a board of directors should take the following actions:
- Conduct a financial health test: It is critical to assess the financial stability of the company before accepting a board position.
- Evaluate the company’s overall financial health
- Confirm that D&O insurance limits are sufficient to cover potential liabilities
- Review whether the terms and conditions are customized or standard
- Understand legal coverage: Directors should ensure they fully understand the D&O policy and the legal protections it provides. Consulting with legal and insurance professionals helps to mitigate litigation risks and ensures there is adequate protection in case of insolvency or other financial difficulties.
- Be aware of corporate responsibility: Today’s board members are expected to stay informed about the company’s activities. Regulatory agencies such as the SEC and DOJ are more active than ever in enforcing corporate governance and responsibility. Even a private company or non-profit entity should consider public corporate governance standards as a best practice to reduce future risk and as a mechanism positioning you for future capital raise and attracting board members. A customized approach is always preferable because one size does not fit all when it comes to D&O insurance.
