The ongoing COVID-19 pandemic and its impact on the global economy have led many businesses to take a close look at whether they would be prepared if a bankruptcy filing becomes necessary. While insurance may be the last thing on people’s minds as the world grapples with the virus’s human toll, companies facing this period of economic uncertainty should pay close attention to whether their directors and officers (D&O) insurance programs are appropriately structured to address the potential consequences of the current economic reality. Given the remaining uncertainties concerning the duration of the pandemic and its economic effects, a properly constructed D&O program is critical even for companies that presently feel secure in their current and forecasted performance. This is especially true given the very tough D&O underwriting environment resulting from the pandemic. While the D&O market was generally becoming more difficult for new and renewing policyholders before the pandemic began, pricing and coverage conditions have become even less favorable to insured parties as insurers struggle with severe underwriting pressures arising from pandemic-related claims activity.
In the bankruptcy context, D&O insurance proceeds commonly become directors’ and officers’ final source of financing for defense costs and other liabilities. Given the economic damage resulting from the pandemic and the many questions concerning a “new normal,” it is critical to review the scope and structure of existing D&O insurance programs sooner rather than later. This can provide directors and officers with a head start in arranging their indemnification sources and pursuing adjustments to D&O coverage before insurers either decline coverage enhancements or require significant premium increases. Waiting until a bankruptcy seems likely only invites complications and unfavorable underwriting conditions. The points below address some coverage issues that are important for all businesses to consider, including ones examining their preparations for a possible bankruptcy filing.
- Will my carrier pay for COVID-related claims? Potential COVID-related claims against a company’s directors and officers present a whole new world of issues to consider when analyzing D&O coverage. Pandemic-related exposures vary widely depending on a company’s industry, size, and other factors. Plaintiffs can premise actions against directors and officers on an alleged failure to disclose the expected impact of the pandemic and its ability to interfere with operations, inadequate planning for business interruptions, lack of adequate health and safety protocols, and failure to take action as the scope of the economic slowdown became apparent. From disrupted supply chains to defaults on financial obligations, D&O underwriters are bracing for a blizzard of COVID-related D&O claims and developing coverage defenses based on policies’ phrasing. While existing D&O policies generally do not explicitly exclude COVID-related losses, they do contain exclusions for “bodily injury” and “property damage” (BI/PD) subject to a variety of carve-backs. These and other coverage limitations can impact the value of a D&O policy as a company grapples with the consequences of bankruptcy. As a company makes arrangements for a possible bankruptcy scenario in the age of COVID, it should discuss with counsel and its brokerage team whether anticipated claims – even if they seem to only remotely relate to COVID – would be covered or whether coverage modifications are recommended.
- What about privacy breaches and cyber attacks? While much of the country continues to work from home, hacking events compromising the privacy of personal data remain a major concern for businesses of many types. Given the prevalence of such events and the frequency of actions brought against companies’ management when they occur, alleged violations of privacy laws and regulations such as the EU General Data Protection Regulation and California Consumer Privacy Act pose additional exposures for directors and officers. Policyholders should consider whether their data protection personnel qualify as “insureds” under their D&O policies and whether regulators’ fines and penalties qualify as covered loss. Some D&O carriers add exclusions to address the risk of “silent cyber” coverage where a policy does not otherwise explicitly grant or exclude coverage in connection with cyber breach events. To the extent that coverage expansions might be pursued to cover certain individuals or to address certain privacy breaches, consider whether such expansion threatens to erode coverage available for other D&O exposures and whether coverage is more appropriate under a cyber insurance program instead. Preserving a D&O policy’s limits can be critical as a bankruptcy becomes a real possibility, or as directors and officers otherwise remain exposed to claims arising from their acts and omissions.
- Are my policy limits sufficient? There is no one-size-fits-all formula for determining how much D&O coverage a company should buy. While certain coverage amounts can intuitively seem too low based on likely legal costs if a claim occurs, determining appropriate coverage limits involves far more than instinct. An experienced broker can provide a benchmarking analysis based on claim trends and industry-specific exposures to help identify coverage limits that address likely claims while not wasting money by leaving a company over-insured. Counsel can help ensure that policies’ phrasing is as beneficial to the policyholder as possible and consistent with market trends; buying a lot of coverage is not necessarily helpful if the coverage is subject to too many exclusions. Working together with counsel and brokers is particular valuable in the wake of the pandemic as jittery insurers seek to charge high premiums, limit the scope of coverage and cut their underwriting capacity in areas that make them nervous.
- Do I have the right policy period? D&O policies cover losses arising from claims that are first made during the applicable policy period. While a policy period is often one year long, extending the policy period can be key in the bankruptcy context. Companies emerging from bankruptcy, and their directors and officers, can benefit from runoff (“tail”) coverage, which provides ongoing insurance in connection with pre-emergence acts. While policies typically provide by default that runoff coverage exists through the end of the existing policy period, it is particularly helpful to extend the runoff period beyond the existing policy period, ideally for six years. However, this is not free. And in the current D&O environment, run-off coverage periods are often more expensive than they were before the pandemic. In addition, it is critical that the policy period run through the entire bankruptcy process to make sure that the run-off coverage does not begin (and the policy does not otherwise expire) too early, even if this requires purchasing a policy extension. Timing is key. When companies experience distress, buying a tail prior to any bankruptcy filing is often preferred because post-filing expenditures for insurance premiums may be possible only with express court approval. In addition, negotiating insurance adjustments before the distress becomes acute is vital because liquidity issues may preclude buying more coverage immediately before a filing, and creditors might impose restrictions on spending as conditions to forbearances. Counsel and brokers can help negotiate run-off premiums and coverage extensions that are appropriate in light of market conditions and help negotiate payment of premiums at a point in time that takes into account the status of the policyholder’s distress.
- Which D&O carriers are the best fit? While insurers seek to compete against each other to offer attractive coverage terms and pricing, the simple truth is that insurers do not take a uniform approach to their relationships with policyholders. Each insurer is subject to unique internal guidelines and procedures that govern how it determines whether to make claim payments and how large those payments should be. In addition, not every insurer has the same understanding of the mechanics involved in the bankruptcy process and the coverage implications of a policyholder’s expected path through that process. Given that excess insurers typically follow primary insurers’ policies and coverage determinations, making an informed selection of a primary insurer is particularly important. Counsel and brokers often have experience with each of the major players in the D&O market and can provide guidance with respect to the quality of a policy’s phrasing and an insurer’s reputation for paying claims.
- What about the Insured v. Insured exclusion? D&O policies typically exclude coverage for claims brought by or on behalf of an insured, and while these exclusions are subject to certain exceptions for matters brought in the bankruptcy context (among others), different insurers phrase these exceptions very differently. The rule of thumb is often that simpler is better, and carving out all claims brought while an insured is experiencing financial impairment (as defined in the policy) can help maximize the scope of coverage available in the bankruptcy context. Where insurers instead require identifying each party whose claims trigger an exception to the exclusion, it can be best to negotiate expansive phrasing that addresses claims brought by creditors, debtholders, noteholders, equityholders, creditors’ committees, equity committees, bankruptcy trustees, and similarly formed bankruptcy constituencies. Many D&O carriers are reluctant to expand their templates’ exclusion carve-outs in the current D&O environment, so conferring with seasoned advisors can be helpful to negotiate appropriate phrasing and address insurer concerns regarding exposures arising from the bankruptcy process.
- Does my D&O program include Side-A Difference-in-Conditions (DIC) coverage? Side-A DIC coverage provides excess insurance solely in connection with claims brought against directors and officers for which the company does not provide indemnification. While this is true of most Side-A D&O coverage, the DIC feature provides that if an underlying insurer denies coverage on various grounds or otherwise does not provide coverage, the DIC insurer will “drop down” into that underlying insurer’s coverage layer. The Side-A coverage can be particularly valuable in the bankruptcy context as companies are sometimes unable to indemnify their directors and officers even if they want to. In addition, Side-A coverage can provide unique protections for an insolvent company’s directors and officers because it is available for claims brought against individuals only, so there is no risk of claims against a company exhausting the coverage. Side-A DIC coverage sometimes is not subject to BI/PD exclusions, potentially addressing coverage gaps impacting COVID-related claims. Given that bankruptcy can render a company unable to indemnify its directors and officers and exhaust entire layers of D&O coverage, purchasing additional layers of Side-A DIC coverage can provide some comfort that D&O claims will be covered throughout the bankruptcy process.
The pandemic has created enormous economic tumult over the past year, and directors and officers of companies confronting a potential bankruptcy face unique uncertainties concerning their exposures. Even businesses that do not currently forecast tough times can benefit from maintaining a robust D&O program in case the unexpected occurs. While every D&O policy includes some exclusions and other limitations on what an insurer will cover, working with experienced counsel and brokers can help maximize the value of D&O coverage even as underwriters remain extremely cautious. Don’t be surprised if securing solid coverage is expensive – good policies are far from cheap right now. But even though financing reliable coverage can be a significant undertaking for a distressed business, the coverage can be invaluable for directors and officers after the bankruptcy process begins.