By MICHAEL DANDINI, senior vice president of Hartford Financial Products, the management and professional liability underwriting unit of The Hartford Financial Services Group Inc.
It's no secret that it's a buyer's market for directors' and officers' liability insurance. New carrier entrants in the wake of the financial crisis have created an abundance of capacity with rates at their most competitive since the late 1990s. Today's risk managers have their choice of more than 50 carriers vying for their business with expanded coverage offerings and more favorable terms and conditions. At the same time, the liability landscape continues to evolve as new legislation and increased regulatory activity bring heightened scrutiny of management practices and oversight.
The stakes are high and the pressure is on for risk managers to select appropriate coverage with carriers who will be around to pay their claims as profits wane and the market turns.
It remains to be seen whether it will take a single catastrophe or a series of events to trigger a market hardening. While the financial crisis has been a significant event for the D&O industry, many of the claims are still working their way through the system, so we have yet to see its full impact. Likewise, there has been an initial wave of claims following the explosion on BP's Deepwater Horizon rig, but it could be years before its overall claims-related impact is known.
As claims continue to flow from these events, the insurance industry has also been responding to recent activity on the legislative and regulatory front, notably the Dodd-Frank Wall Street and Consumer Protection Act of 2010.
Dodd-Frank brings new provisions that are expected to have a significant impact on securities litigation and enforcement. These include provisions concerning executive compensation and corporate governance such as shareholder "say on pay," executive compensation disclosures and compensation committee independence. Of particular note is the expansion of "clawback" provisions that go beyond those in Sarbanes-Oxley Section 304--which applied only to CEOs and CFOs--to include all current and former executive officers.
Also under Dodd-Frank, whistleblowers are now eligible for rewards of up to 30 percent of recoveries over $1 million--a significant incentive that is likely to increase claims. Dodd-Frank also expands on the False Claims Act, which allows a whistleblower who provides new knowledge about an existing case to qualify as an original source.
Another notable development is the uptick in Foreign Corrupt Practices Act (FCPA) and Securities and Exchange Commission investigations, fueled by increased federal funding in recent years.
The cumulative impact of these developments is that companies are being required to behave differently and to make investments that allow them to do so. Companies are under intense government and public scrutiny for their actions, and if their compliance or lack thereof results in a material impact on their financial performance, their directors and officers face increased exposure to shareholder-related suits.
The good news for risk managers is that some insurers have responded to these legislative and regulatory developments with expanded coverage options and broader policy terms and conditions to address new areas of exposure. These include more extensive coverage for defense costs, such as e-discovery, preclaim inquiries and other first-party expenses, as well as potential coverage for some costs associated with FCPA and SEC investigations.
Increasingly, terms and conditions that previously may have been offered as optional are being included in the D&O policy for little to no additional charge. Policy language is evolving from explicitly excluding certain types of exposure to removing a particular exclusion, to affirmatively covering these new exposure areas. As such, risk managers must closely monitor changes to policy language.
Intense competition for business has also prompted new dialogue about multiyear policies that guarantee the current price for two or three years. It is unlikely that most long-term carriers will choose to offer multiyear policies, given the risk of diminished underwriting quality and profit deterioration. However, more aggressive carriers in this space may face financial constraints when the time comes to fund their losses.
As buyers look to get the best value for their D&O premium dollars, they have a number of factors to consider. First, they need to review their policy to determine whether there is sufficient clarity regarding coverage for critical exposures based on their specific business and risk profile. Loose or vague policy language creates ambiguity. In some cases, the language may simply remove an exclusion, rather than affirmatively grant coverage, leaving the decision point to the time of a claim, which is far from an ideal time to learn that a particular loss may not be covered.
Instead, risk managers need to know what they're buying up front. If coverage for a specific exposure is important to their directors and officers, it should be self-evident and clearly worded in the insurance agreement. In today's litigation environment, the stakes are too high for a "maybe" on critical coverage areas.
Risk managers should be mindful of the expertise and track record of their carriers. Ideally, the carrier's underwriting and claims teams should work closely together, each bringing the expertise necessary to understand exposures specific to the business, recommend the appropriate coverage and the ability to respond in the event of a loss.
With many more carriers offering coverage now than before the crisis, new entrants with a "clean slate" may seem attractive to buyers, however, they may also lack critical industry experience, adequate reserves or scale to handle claims arising from a significant industry event.
It's also worth paying close attention to a carrier's management of its book of business. Disciplined underwriting and a prudent approach to risk selection are important indicators of a long-term commitment to the market. In the current environment, underwriters have had to make tough calls, and in some cases, they are walking away from business if it is priced too low relative to the risk. If an insurer seems too willing to accept an unusually low price to win the business, it is important to consider the other types of accounts they may be writing and the overall quality of that carrier's portfolio. Taking on insufficiently priced business can have a direct impact on a carrier's ability to fund for losses and pay claims.
Another important consideration is an insurer's reasonableness in handling claims. Having good first-hand experience with a company, an individual underwriter or a claim handler is ideal; however, brokers are also keenly aware of a carrier's claims capabilities and can provide excellent insight regarding a carrier's reputation in this area.
While costs are top of mind these days, price should be just one of many considerations when choosing a D&O carrier. With heightened awareness among directors and officers about the importance of this coverage, it's in everyone's best interest to build a D&O insurance program based on a foundation of mutual trust. Carriers need to be able to count on their customers to provide the necessary information to underwrite the account accurately, and buyers need to be able to trust their carrier's ability and fairness in covering claims.
For risk managers, today's soft market is an opportunity to build a D&O insurance program with experienced carriers who will be there to pay their claims, regardless of market cycle. Despite the current state of the economy and the insurance market, companies and carriers continue to enjoy successful long-term relationships built on experience and trust.
December 1, 2010
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