Having sufficient director and officer insurance has always been a worry for senior executives, but lately the focus of that concern has expanded to include compliance officers.
Credit (or blame, depending on your perspective) the vital role these compliance officers have today. The more important they are, the greater the risk they may be dragged into a lawsuit for various actions they do or don’t take while on the job. “You can’t say for certain, but a compliance officer would have made a difference in corporations like Enron, Worldcom, Tenet, and Hewlett-Packard,” José Tabuena, head of compliance at MedicalEdge Healthcare Group, said at the Society of Corporate Compliance and Ethics annual conference in September.
Assessing how much D&O insurance compliance officers should have might seem like a daunting task, given the wide range of liability protection out there. But David Siesko of the consulting firm Siesko Partners says a methodical approach can unravel any mystery to the process. “People tend to complicate insurance, and it’s really not that complicated,” he said at the same SCCE panel with Tabuena.
Compliance officers first must know what policies cover them. D&O insurance can cover compliance executives in two ways, according to Kevin LaCroix, a director with OakBridge Insurance Services. First, the CCO would be covered if he were a duly elected officer or director of the company. Wrongful acts protected under that arrangement “can be as straightforward as breach of fiduciary duty, or as complex as shareholder and securities class-action lawsuits,” he says.
In addition, coverage may also be available in situations where the compliance officer also holds the job of general counsel, or where companies offer separate professional liability insurance—which provides in-house attorneys with coverage for claims alleging professional malpractice. “To the extent that it’s appropriate, to the extent the additional premium is something the company is willing to pay, it is something that might be relevant to providing a high level of protection for employed lawyers and compliance officers,” says LaCroix.
Coverage Disputes
Compliance executives also would do well to know how their employer and insurer agreed upon such coverage, Siesko said. Why? “It’s rarely done correctly,” he said, which leads to fights between the company and the insurance carrier over what is covered. You don’t want to be caught in the middle of that.
“The part of any insurance acquisition process is to fully consider all of the alternative structures, in addition to fully considering what all the adequate limits might be.”
— Kevin LaCroix,
Director,
OakBridge Insurance Services
Such disagreements can occur in situations where compliance officers play dual roles. For example, if the definition of an “insured” person is restricted to directors and officers, the problem may be addressed by having compliance officers added to the definition of insured.
And make sure to add the insured by office, rather than the individual’s name, LaCroix warns; personnel can change during the course of a policy, and “you’d want to make sure whoever filled that position was insured.” (This also ensures that the compliance officer remains covered even if he or she ceases to be a company officer or director, he adds.)
Tabuena
What’s more, changes to any of those terms should be made consistently throughout the policy, Tabuena said. If someone is added to a D&O policy as an insured person, but the terms “insured person” or “employee” are not adjusted throughout the policy, ambiguity may arise—“and when there is an ambiguity, there is a coverage argument, usually,” he said.
Also remember that no standard insurance form exists. Indeed, each carrier offers multiple forms depending on the type of company and jurisdiction from which the policy will be issued, LaCroix says. If there has not been careful consideration of possible consequences should litigation arise, that can lead to confusion in its own right.
For example, court decisions have prompted substantial questions as to whether many policies provide insurance for Section 11 of the Securities Act, which imposes civil liability for misstatements or omissions of material facts in a securities offering registration. In the case In re CNL Hotels & Resorts, the 11th Circuit Court of Appeals affirmed a Florida district court’s summary judgment that a Section 11 settlement is not a covered loss under a D&O insurance policy.
SECTION 11 VIOLATION?
The following court decision in CNL Hotels vs. Houston Casualty determines that Section 11 does not constitute a covered loss.
In its motion for partial summary judgment, Landmark points to evidence that shareholders
in the underlying suit purchased their stock in secondary markets at a (split-adjusted) price of $20 per share, and that a planned public offering collapsed when an industry expert opined that the shares were only worth approximately $12 per share. (Doc. 169 at 4-5). The plaintiffs in the underlying suits sought to recover the $8 per share difference, attributing the inflated price to the use of “materially false and misleading” offering documents in violation of Section 11. (Doc. 169 at 5). CNL admitted to Landmark that the overwhelming majority of the shares had not been redeemed, traded, or sold in the market, Doc. 169 at 5 – in other words, that if the share price was inflated, CNL reaped the benefit. In its own motion and its responses to the Defendants’ motions, CNL never contradicts or produces any evidence to rebut these factual allegations.
In sum, then, the Court concludes that the Settlement Amount represents CNL being
compelled to return money that it wrongfully appropriated. See Level 3, 272 F.3d at 910-11. As such, based on the foregoing, the Defendants are entitled to a partial summary judgment that the Settlement Amount is not a “loss” as that term is used in the Insurance Policies. See, e.g., Conseco, 2002 WL 31961447. The Defendants are also entitled to a partial summary judgment that the Settlement Amount is uninsurable under New York law. See, e.g., Bear Stearns at *4 (N.Y.Sup. 2006).
IV. Conclusion
In consideration of the foregoing, it is hereby ORDERED and ADJUDGED that the
Motion for Partial Summary Judgment filed by Plaintiff CNL Hotels & Resorts, Inc. (Doc. 143) is DENIED.
And it is further ORDERED that the motions for partial summary judgment filed by
Defendant Houston Casualty Company (Doc. 168) and Defendant Landmark American Insurance Company (Doc. 169) are GRANTED IN PART and DENIED IN PART. To the extent that those motions seek rulings that the Settlement Amount 1) does not constitute a “loss” as that term is used in the Insurance Policies and 2) is uninsurable under applicable law, they are GRANTED. To the extent they seek a ruling that the “Disgorgement Exclusion” precludes coverage of the Settlement Amount, they are DENIED WITHOUT PREJUDICE. To the extent that they seek a ruling that Section 11 claims are per se uninsurable, and in all other respects, they are DENIED.
DONE and ORDERED in Chambers, Orlando, Florida on March 14, 2007.
Source
CNL Hotels vs. Houston Casualty (March 14, 2007).
To avoid that possibility, several insurance carriers have added language clarifying that their policies will provide protection for Section 11 exposure, LaCroix says. Still, wording can vary widely among different insurance policies. “Not all of them provide adequate protections,” he says. “Some of them have escape hatches; some of them have narrowing of scope of what’s being offered.”
Companies also need polices that are clear and precise in describing what locations are covered in any given jurisdiction, Tabuena says. Focus on the actual definition of the words of the insurance contract itself, he says; do not do what one company did and write a policy that read: “The properties that this policy covers are located in the green filing cabinet in the second drawer on the second floor of 70 Pine Street.” A policy like this is too vague and doesn’t say anything about what the actual contract covers, he says.
Insurance Limits
Assuming that insurance coverage has been clearly written, the next concern should be how much coverage a compliance executive has, Siesko said. Litigation costs can be a particular concern, since an insurance claim could be anything from a threatened grand jury investigation or internal corporate probe to a full-blown regulatory enforcement action.
LaCroix
If so, you could easily exhaust your insurance limits, especially if you have multiple cases going on simultaneously, LaCroix warns. “In a really bad situation, you can have civil litigation, regulatory proceedings, even criminal cases,” he says. “Each one of those will require expenses to be incurred” and may require insurance payouts toward settlements.
Simply buying greater limit protections isn’t necessarily the answer, LaCroix says. Situations may arise where a company can face limitless amounts of exposure loss (think asbestos) and never be fully protected.
While no simple solution exists to assess exactly how much coverage is enough, compliance officers can resolve part of the problem by opting for supplemental insurance dedicated solely to their own protection, he says. These supplemental structures can take any number of forms, such as “excess Side A coverage,” which directly reimburses directors and officers for their personal liability arising from the performance of their duties. Companies may also be covered through other individual coverage, such as independent director liability coverage, he says.
Also be vigilant for coverage issues largely off today’s radar screen, such as pollution exclusions. In the event that climate change exposure becomes a big issue, that exclusion could prove disastrous.
“There may be claims that we haven’t fully anticipated, that may emerge that will require innovation in policies and insurance coverage,” LaCroix says. “What the future may hold, we will all have to wait and see.”
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