What is D&O insurance?

D&O insurance is short for directors and officer liability insurance. This is insurance coverage that protects individuals from personal losses if they are sued as the result of being a director or officer within a business or organization. Furthermore, it can cover legal fees and other costs that arise because of said suit.

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Who is Covered With D&O Insurance?

D&O insurance applies to individuals who serve as a director, or officer within a business, which could be a for-profit business or even a non-profit organization. The D&O insurance policy insures this individual against personal losses, but it can also reimburse a business or nonprofit if they incur legal fees and other expenses when defending their employees in a lawsuit.

This insurance goes further, however, and can cover losses that a company or organization incurs when defending the officer/director in civil or even some criminal cases. These losses can happen during an investigation or in a trial.

D&O insurance is similar to corporate governance, fiduciary duty (owed to stakeholders such as shareholders and beneficiaries), and corporate law.

Types of D&O Insurance

Most of these policies include three types of insurance agreements. You will often see these called Side A, Side B, and Side C. For more on D&O insurance and ABC’s explained you can see our blog here.

Side A

Side A coverage covers directors and officers for claims where the company refuses to or isn’t able to pay for the indemnification. This can happen if a company declares bankruptcy. With coverage from Side A, the officer is the one who is insured, and their personal assets are at risk due to a case.

Side B

When the company grants indemnification, Side B comes into play, as this covers the losses of the company in this situation. The policy will give the money back to the company for legal costs because they have paid. Under Side B, the company is the one insured, and its assets are the ones at risk.

Side C

This coverage has another name called entity coverage, and it extends its coverage towards the corporate entity itself. Under this coverage, the company is insured and its corporate assets are the ones who are at risk.

As you can see, there are many types of coverage that are created for different companies in unique legal situations. What a business uses as coverage is determined by their needs, what legal trouble they are likely to face, and the money within the company.

How a D&O Insurance Claim Works

The process of a D&O insurance claim in practice is fairly easy. It begins with a director or officer who has not performed their role correctly. Perhaps they have committed malpractice, some kind of inaccurate disclosure that led to damage to the client, made a reporting error, or violated a regulation of some kind. Either way, a client or customer has now filed a claim against the director/officer within the company for the damage it has caused them.

First, the director/officer will be told that this suit is being brought against them, then if there are legal/risk management departments within the company they too will be informed of said claim, otherwise, it’s important to inform a lawyer who works in conjunction with your company. When the company has all the information, they forward this to the broker/insurer.

Depending on the terms of the D&O insurance, the following will occur: If the claim falls under coverage, the insurer will cover the defense cost when this goes to trial. If the claim is covered and the case is lost, and the director/officer was found to be at fault, the insurer pays for the defense costs and the financial losses incurred as a result of the suit.

Does Your Company Need D&O Insurance?

D&O insurance should be heavily considered by most companies; as there is a lack of control over employees’ actions, as well as common mistakes that happen in all industries. In fact, 25% of private companies reported they had experienced a loss resulting from situations that D&O insurance would have covered over the last three years. Shockingly, the average loss was $390 thousand, which could have been avoided had D&O insurance been in place. Although this is not insurance that every company will need, the vast majority will benefit from coverage over time.

Although D&O claims are considered a public company issue, this is not the case. Even non-profit companies face these litigation risks. Any business with a corporate board, or advisory committee should look into this insurance. You do not have to be a big company with lots of funds to have your management sued over company affairs. Other insurance that is similar include E&O insurance, find out the difference between E&O and D&O insurance here.

Should a Start-Up Get D&O Insurance

If you are a new business, you actually run a higher likelihood of running into legal issues due to inexperienced executives. You or they may make unrealistic promises, overlook minor statutes or make uneducated HR decisions. Also, if your start-up is backed by investors, many actually require you to have this insurance, as it incentivizes new, experienced, hires to your company.

As a start-up, you are just beginning, and cannot afford to put your business at risk with costly litigations that may eat through what funds you do have. Lawsuits can often reach costs of 7 figures, which would crush a business just starting.

Should a Small Company Get D&O Insurance

Just because you are not a giant in your industry does not make you immune to costly lawsuits from unsatisfied clients/customers/shareholders. Although these lawsuits are often made by disgruntled shareholders, this is not usually the case when it comes to small companies. The most damaging suits for smaller companies are from customers, vendors, and third parties. It’s important to not make the mistake that smaller businesses make by believing they are immune to these issues because they are privately held, have never had the issue before, or are family-owned. In fact, it’s because the company is small and does not have the same funds that a larger company has, that puts these companies at a higher risk of being shut down altogether.

What Are the Common Scenarios?

The common issues that arise, in a case that D&O insurance will then cover, are the following:

Employment practices
HR issues
Reporting errors
Claims made by the company
Competitor claims
Creditor claims
Mergers and acquisitions
Insolvencies
Corporate manslaughter
Failure to comply with regulations and rules
Decisions that go past the authority given to a director/officer
Inaccurate disclosures
Shareholder actions

The common issues that also arise in a lawsuit against a director/officer or company, which D&O insurance will not cover, are the following:

Fraud
Illegal rumination or personal profit from said illegal act
If a property is damaged
If a person is harmed
Legal action that is already taken against the company/director/officer before the insurance exists
Claims that are better covered by other insurance
Fines and penalties
Intentional non-compliance

If you are interested in learning more about business insurance coverage types that do cover the above you can read about that by following the link.

What is the Cost of D&O Insurance?

There is not a one size fits all price that this insurance costs, and it will vary depending on the size of your company, what industry you are in, your risk appetite, your revenue, and whether you experience claims like this often. If you are a business that has been established for a long time with no history of a claim like this or are a company with a low bankruptcy risk or other financial risks, the insurance will cost less than if you were not. The average annual cost for this insurance of $1million in coverage is about 5k-10k dollars.

What’s the Best D&O Insurance For Your Company?

This will depend on the type of insurance that you need and what you can afford. But here are a few things to look at:

If you need a policy that only covers directors/officers then you only need Side A insurance.
If you are a company that wants coverage for the company as a whole, you need to look into Side B or C.
Consider how much coverage your company will likely need before deciding.

Duty to Indemnify or Duty to Defend?

The next thing to consider is your indemnity or duty of defense policy.

The company can choose its own legal defense team when there is an indemnity policy. The insurance will reimburse the company for the defense costs if they deem the price to be reasonable or industry standard.

When under a duty to defend the insurer becomes responsible for the defense of the company. This is preferable for smaller companies because it makes the process more streamlined and all defense costs are covered.

What Is Covered By D&O Insurance?

The following is covered by this insurance:

Legal fees
Settlements
Financial losses when the insured is held liable

The following are common allegations and breaches that are often covered by this insurance:

Breaches of fiduciary duties
Failure to comply with regulations
Lack of corporate governance
Creditor claims
Reporting errors.

Outright fraud, criminal activity, and lawsuits that happen between employees in the same company are not generally covered by this insurance.

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D&O insurance offers a wide range of essential benefits. It can protect your business from a costly lawsuit that could otherwise close down the company.

At KSA Insurance we work with businesses in South Carolina and across the southeastern United States to help them find comprehensive D&O insurance policies that offer complete protection at affordable rates.