We promise limited calls
The Who, What, and Why of D&O insurance
- DetailsWritten by PolicyBazaar -
- Hits : 214 -
Modified 20 September 2018
When companies start to grow to a certain size, it becomes more important for directors and officers of the company to be more careful about their decisions and opinions. Now, the responsibility of providing a peace of mind to the directors and officers for their efficient working is of the company itself and thus, a directors and officers liability insurance become an important tool for an organization. In this article, we will talk everything about a directors and officers liability insurance covering what it is, who it covers and what it covers. So, without wasting any further time, let us get started.
What Exactly are Directors and Officers Liability Insurance?
Let’s break down this question into two parts, one of which is about the Liability insurance where we’ll try and understand what type of an insurance is liability insurance exactly and then we’ll approach towards understanding what is D&O insurance.
Liability insurance: one of the easiest ways to define liability insurance is that it is third party car insurance for the companies. Let us understand why so? See, whenever you are on a road, there is always a probability that you can be involved in an accident in which there can be a third party involved too who can suffer some damage as well. Now, if the accident is caused by you, then you automatically become liable to pay for the damage caused by you to the other party and this is where a third party car insurance kicks in.
It pays for the damage of the other party and even covers the legal bills if that other party tries to sue you. Now, in the corporate world these accidents are analogous to customer related issues, conflicts with another company and many other cases and even though, mostly there are no medical bills involved but when it comes to the legal costs that are paid to resolve these conflicts, the numbers are really high and this is where a liability insurance kicks in to help out the company. It pays for the liabilities that a company has towards the other one.
D&O Liability Insurance: since you have got an idea about liability insurance, now, it will be easy for you guys to understand the D&O insurance. This liability issuance provides cover for the directors and officers of an organization for the claims made against them while the time they are serving the organization. The need for this type of cover usually arises due to some decisions that are taken by the directors and officers of the company results of which doesn’t turn out to be good or wrongful and corrupt practices followed by them.
To help you understand it even better, in the next section we will list out some of the common scenarios where the D&O insurance can be useful for the company.
Popular Scenarios Where Directors and Officers Liability Insurance Comes in Handy
- Breaching Fiduciary Duties: A Fiduciary duty is the one where one party is obliged to act in the best interest of another. An organization’s fiduciary duties are towards their trustees, shareholders, and many a time even employees. Now, breaching of these duties is the scenario when an organization does not act in the best interest of the other party. This can be in form of not releasing fund in time when the creditors of an organization are need of some capital in which case the creditors of the company have all the rights to sue the directors of the company. The cost of all the legal procedures will be covered by the D&O insurance
- Misrepresentation: Misrepresentation is a false or inaccurate statement made between 2 parties with an objective to win the consent of one of the party by the second one. For a company, misrepresentation occurs when for example a false deadline is provided to the other party in order to get the contract but in actual when the order is to completed by the given deadline, the officers of the company become legally liable and can be sued by the customer or the party. Faking the other party about your licensing information in order to get the contract is also an example of misrepresentation. Some other instances of misrepresentation include false advertising and lying about environmental Consciousness.
- Directors vs. Director Action: Directors of an organization have their shares in the organization and when one of the directors of the company intentionally tries to manipulate the true net worth of the company for personal gains, then it is termed as Directors Vs. Director action, in this scenario, no outsider is required to hold the culprit legally liable and the cover would be provided by the D&O insurance for the entire legal process.
- Failure in Complying with the Workforce Rules: The responsibilities of the directors and officers of a company are not only towards increasing the turnover of the company. They are equally responsible towards maintaining a healthy working environment in the organization and making sure that none of the employees is facing any discrimination in the company on any grounds either from the fellow employees or the higher authorities. In case the directors and officers do not comply to the right practices in the company and if the employees have to face the effect of it, then the employees are eligible to sue them for the discrimination they face.
- Several Other Reasons
- When the directors and officers of the company follow corrupt practices and make wrong uses of the funds the company and other resources too.
- The absence of corporate governance
Which Companies Need D&O Liability Insurance?
People at higher positions in a company are by default exposed to the public which means that it will not always be the case that their decisions, actions or opinions will be positively accepted by the public or other companies and thus, in response they can receive the statements like “See you in court” or any other form of it.
There is a popular myth that surrounds D&O insurance and according to that myth, it is believed that this insurance is only important for the companies which are working in the public domain. But whatever was discussed in the first para of this section does not indicate anything that the need for a D&O insurance is only felt in a public domain. In fact, in reality, it is needed by all the companies because each one of them has directors and directors have public exposure. Even the current surveys suggest something similar that all the companies whether in the public domain, private domain or non-profit companies encounter issues concerning legal liability of their directors and officers.
Why Should a Company have a Directors and Officers Liability Insurance?
The biggest reason for a company to have a D&O insurance is to be prepared beforehand if any third party powerful enough says the statement “see you in court”. Okay, coming to the serious part, in this section we are going to discuss the importance of a D&O insurance for a company. Below we have mentioned a few points that highlight the importance of this insurance for a company. Let’s have a look:
- According to the Indian government laws, a company is responsible to provide cover for the legal cost of the cases against their directors and officers. Now, the total legal cost even in minor cases is not less and thus, D&O insurance becomes an important tool to cover for this cost.
- Bankruptcy is a condition in which no company wants to see itself but when it happens, only Directors and officers liability insurance stands as a shield to protect the company from its creditors.
- Obviously, D&O insurance provides a peace of mind to the directors and officers and therefore, a company that has this insurance can easily attract new directors and officers.
- A D&O insurance not only attracts new directors and officers, it also helps in gaining new mergers and acquisitions.
- If a company is planning to go into the public domain, then getting a D&O insurance while being private is a better way to go because it makes it easy to get insured after becoming public.
- Who is covered under D&O insurance?
- In this section, we will list out all the people whose actions and decisions are covered by a D&O insurance
- First and foremost, management committee members, members of the board of directors, supervisory board members and obviously directors and officers are the people who are provided coverage under a D&O insurance.
- Members of the internal audit committee who either have been or are directors of the company are also covered.
- Any employee or a person listed as to-be director of a public offering company.
- Decisions made by the legal heirs and domestic partners of the directors and officers are also covered.
- Shadow directors are also covered under D&O insurance. Shadow directors are also known as de-facto directors are those who are not actually directors of the company but holds maximum share in the company and thus, their decisions also matter for the company.
- Previous Subsidiary: A company that was a subsidiary of the organization is provided cover for the decisions that were taken by its directors during the time that company was a subsidiary of the of the organization.
- Non-Executive Directors: Non- executive directors of a company are not the active directors of a company and they are responsible for providing advice and viewpoint for decisions to be taken by the executive directors. Since the viewpoint of a non-executive can be held liable for a decision taken, therefore, they are also covered under a D&O insurance.
Types of D&O Insurance and its Coverage
- Bundled and Standalone Packages: Liability insurance is not of a single type and thus, it can be bought as a bundle of multiple liability insurances or D&O insurance can be purchased individually. The decision is more or less dependent upon the size of the company whereas we move from a small-sized company to a bigger sized organization, the preferred choice shifts from a bundled package to individual liability insurances.
- Types of Coverages: There are three major categories of coverages provided under a D&O insurance which are discussed below:
- A-Side Coverage: Under A-side coverage, the settlement cost, judgment and defense cost is covered if bankruptcy is declared by the company.
- B-Side Coverage: This type covers losses indemnified by the company and provides cover for the director, officers and sometimes employees too.
- C-Side Coverage: It sets an upper limit for the coverage provided to the directors and officers and is also known as ‘Entity coverage’.
What is Covered under D&O Insurance?
Just like we talked precisely about who all are the people who are covered under D&O insurance, in this section, we will talk precisely about what is exactly covered under this liability insurance. Let us start.
- Losses faced by the company, if the directors and officers are found to be legally liable for a wrongful act or decision.
- Payments for the legal procedures for the directors, officers, and employees, if they are indemnified by the company.
- Cost of legal procedure in situations like litigation due to bankruptcy, breach of conduct, lawsuits and all the cases that were mentioned in the second section of this article are also covered.
The extensions are optional add-ons that are provided by the insurer.
- External Directorship: It covers the decision taken by the directors while not working specifically for the company but are authorized by the company for doing so.
- Pollution: A lot of companies now are following eco-friendly production practices. The ones who are not doing so can be read about in the newspaper quite frequently and thus, one of the extensions of D&O insurance is to provide cover for the defense cost insured while fighting against environment-related lawsuits.
- Policy Period Extension: This extension allows extending the coverage period of the policy based upon the conditions to which both the insurer and the insured agrees.
- Most Read
- What is Professional Indemnity Insurance?
Date: 22 March 2018
- What is Corporate Insurance & What are its Features and Benefits?
Date: 13 March 2018