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Posts Tagged ‘directors and officers’

Limitations On Directors & Officers’ Liability Coverage

Posted on: December 20th, 2018

By: David Molinari

Directors and Officers (D&O) Liability Insurance is insurance coverage intended to protect individuals from personal losses if they are sued as a result of serving as a Director or Officer of a business or other type of organization. Directors and Officers policies may also cover legal fees and other costs the organization may incur as a result of such a lawsuit. Directors and Officers Liability Insurance applies to anyone who serves as a Director or Officer of a for-profit business or a non-profit organization. D&O policies can take on different forms depending on the nature of the organization and the risk organizations face. D&O Insurance is a specialized form of coverage for claims based on acts committed in corporate capacities; and the corporation obligation to indemnify its Directors and Officers for such claims.

The availability of such insurance is an important factor recruiting or attracting persons to serve as Directors and Officers of corporations. So important that such insurance is provided by statute.  In California, California Corporation Code Section 317 allows for a corporation to purchase and maintain insurance on behalf of any agent of the corporation against any liability asserted against or incurred by the agent in their official capacity; or arising out of the agent’s status, whether or not the corporation would have the power to indemnify the agent against the liability. However, the existence of Directors and Officers coverage has limits. California Corporation Code permits a corporation to purchase Directors and Officers Insurance, it does not require an entity to do so.  The Corporation Code does not authorize an insurance company to cover a risk that it could not or does not lawfully cover. A Directors and Officers Liability policy is not an incentive for leaders of a business to increase risky behavior or an incentive to adopt aggressive negotiation strategies, policies or interpretations or their contracts and arrangements in the belief that if their actions are rejected by the courts, the insurance company will pick up the tab.

One distinction where coverage is unavailable; yet individuals in positions of management, decision and control mistakenly believe they are covered, is in situations where the loss arises from nothing more than a breach of contract the corporation entered. Directors and Officers liability policies are seen as safety nets affording management the ability to shift risk for unsuccessful business decisions and deals to an insurance carrier.

Directors and Officers policies typically exclude coverage for breach of contract. The policies generally limit coverage to liability that arises from errors committed in the officers’ or directors’ official capacity.  This limitation effectively excludes contract liability because an officer acting in their official capacity cannot be held individually liable for breach of a corporate contract. The limitation protects against making an insurer an unwitting investor in a corporation’s dealings.

Often directors or officers seek coverage of claims by focusing upon broad language in policies that define a “loss” but ignore the conditions on how that loss arose. Under Directors and Officers policies, the issue is whether the loss resulted from a wrongful act. Policies only cover losses resulting from wrongful acts, whether actually committed or merely alleged. Suffering a loss does not include judicial enforcement of contractual obligations. An officer or directors’ decision to refuse to make payments under a contract because of a dispute with the contracting party does not give rise to a loss caused by a wrongful act. Even though an officer or director’s actions in precipitating the breach may have been careless, such a loss is not covered by a policy. If that were the case, any default arising from a mistaken assumption regarding a company’s contractual liability could transform a contract debt into an insured event. Refusing to pay a debt, even in reliance upon erroneous advice of counsel, would convert a contractual obligation into damage arising from a negligent omission. That result would make the insurance company a defacto party to a corporate contract and potentially require a carrier to pay a full contract price, with interest while letting the corporation completely off the hook for its voluntarily assumed obligations.

No insurer reasonably expects the benefits of a professional liability policy are available to cover a contract price for a business deal gone wrong.  Such expectations would expand the scope of an insurer’s liability enormously and unpredictably, creating a moral hazard problem by encouraging corporations to risk breaching their contractual obligations believing in the event of a suit, the D&O carrier would ultimately be responsible for paying the debt.

Recruiting qualified individuals into directors and officers positions in for-profit and non-profit organizations often requires additional benefits to entice acceptance of added responsibilities in corporate governance and decision making. In the non-profit realm, often individuals are volunteers, so additional benefits are often thought to be needed to recruit and fill these positions.  Directors and Officers Liability policies offer enticement and protection for assuming increased responsibilities. Yet, the existence of director and officer liability policies and the protections they afford should not encourage the opportunity to take greater risks in negotiations or contracting. Adopting a risky business strategy should not be undertaken in the misbelief that if the business deal goes wrong, insurance benefits are available to protect against the loss.

If you have any questions or would like more information, please contact David Molinari at [email protected].

Georgia’s Failed Bank Litigation Addresses “Insured vs. Insured” Coverage Exclusion

Posted on: January 10th, 2013

By: Kelly Morrison

Georgia is no stranger to failed banks, and thus continues to host to a number of FDIC lawsuits against former directors and officers.  Not surprisingly, these lawsuits are testing the legal waters regarding several coverage exclusions, as D&O insurers batten down the hatches in anticipation of further lawsuits.

On January 4, 2013, Northern District of Georgia Judge Robert L. Vining, Jr., issued an opinion regarding the common “insured vs. insured” coverage exclusion.  This recurring issue addresses whether the FDIC’s claims as receiver for a failed bank against the bank’s former officers and directors triggers the standard D&O policy’s “insured vs. insured exclusion.”

The case arose from the failure of Omni National Bank of Atlanta.  After suit was instituted in March 2012, the bank’s D&O insurer filed a separate declaratory judgment action, seeking a holding that no coverage existed due to the FDIC’s role as receiver for Omni.  Essentially, the D&O insurer argued that the FDIC had “stepped into the shoes” of Omni Bank, and their subsequent claims against former officers and directors were thus barred under the insured vs. insured exclusion.

Judge Vining rejected this argument, finding the policy language ambiguous due to the FDIC’s “multiple roles” as governmental regulator and receiver, noting that receivership gave the agency power to act on behalf of the bank’s depositors, creditors, and shareholders.  This reasoning is consistent with an earlier holding from the District of Puerto Rico in October 2012.

Although the insurer can develop and renew this argument in the FDIC’s lawsuit, this is undoubtedly a negative development for D&O insurers, who can now expect to defend FDIC actions through the summary judgment stage, a much more expensive proposition than the quick exit offered by a declaratory judgment.