Mind the Gap
By Marc McNulty, CIC, CRM
DIRECTORS AND OFFICERS LIABILITY: A PRIMER
Guidelines for placing a client’s first D&O policy
As a producer who’s still relatively new to the industry, you’ve mastered personal lines and small commercial lines, so now you’re ready for your next challenge. Perfect timing: The phone rings and a client asks you about D&O liability, as they recently read something about it online. You’re generally familiar with it—at least enough to be dangerous—and explain to your insured that D&O is management liability. In other words, it protects individuals against lawsuits alleging wrongful acts against them in their capacity as a director or officer of a company.
Your client responds that they are interested in getting a quote and asks you if you know approximately how much it will cost.
Now you freeze up and wrack your brain, trying to remember if you’ve seen any D&O premium information before. Not recalling an exact premium amount, and not wanting to make up an answer, you tell your client that you will need to send them an application for completion and return. When in doubt, always have the client complete an application, right?
You should never complete an executive liability application on behalf of your client. Too many landmines associated with this practice could land you and your client in trouble.
They then ask if you can complete the application because you already know a lot about their business and how it operates. You freeze up again. Can you do that?
Let’s stop right there. You should never complete an executive liability application on behalf of your client. Too many landmines associated with this practice could land you and your client in trouble. If your client overlooks an incorrect answer on an application that you completed and then signs the application as if they completed it, coverage could be affected if a claim occurs—and not in a positive way.
Dick Clarke, CPCU, CIC, RPLU, a Rough Notes contributor, distinguished executive liability author and teacher, and a member of the National Alliance for Insurance Education & Research faculty, notes the importance of this in a recent James K. Ruble Seminar:
“Almost exclusively applicable to the D&O new business application is the ‘knowledge’ question (some D&O practitioners refer to this question as the ‘warranty’ question, and traditionally, it’s usually absent from the renewal application). This is a statement that there are no known situations which might give rise to a claim under the issued policy. Typically, it’s an ambiguously worded question that requires a finite answer of either ‘yes’ or ‘no.’ If the applicant answers ‘yes,’ there will typically be an underwriting declination. So, the focus is on the accuracy of the finite answer ‘no’ to an ambiguously worded question. (Already, the applicant is in a bit of trouble.) But if the question is not answered honestly, and a claim situation arises later, the insurer can use the inaccurate answer to deny the claim.”
This having been said, you don’t need a completed application to get a premium indication (as opposed to a fully underwritten quote). If you can give your underwriters the company’s web address and its annual revenue, you can usually get a non-binding premium indication that will at least allow your client or prospect to decide if they want to move forward with obtaining fully underwritten terms.
Upon completion and return of the application, and with the assistance of some veteran producers who advised you about where to seek quotes, you submitted the application to several markets and now have quotes back.
The premiums all appear to be similar, with a couple of outliers. Does that mean you can simply pick the least expensive one and present that as the best option to your client?
Certainly not. However, it is best to give your client or prospect options.
Clarke stresses this point by stating:
“Always give the buyer choices. We all want choices, so the more choices the agent can provide, generally, the more favorably the agent is looked upon by the buyer. Many private company (or, ‘closely held’) organizations are able to combine D&O insurance with Employment Practices Liability (EPL) insurance. This is fine, but almost always when this occurs, there is only a single policy limit, applicable to all covered claim situations under either/or D&O and EPL insurance. A great choice to be given to the buyer is to have separate annual aggregate limits (each including defense expenses) apply to these policies, rather than a single (combined coverage) annual aggregate limit. Whether or not the buyer chooses to eliminate the policy annual aggregate limit, giving that choice will leave a lasting impression with the buyer, and this can help ‘cement’ the relationship.”
As Clarke noted, you may receive terms that include an EPL option; therefore, the premium on such an option will typically be more than a quote for D&O only. Don’t eliminate the quote option based simply on the annual premium.
However, there are other considerations to review as well. Does the proposed policy cover full prior acts or does a retroactive date apply? Ideally, you want a policy that provides full prior acts coverage. This will cover your client for wrongful acts that were alleged to have occurred prior to the policy’s inception date.
If a retroactive date is applicable (you will most likely see this listed on the quote proposal as “policy inception” because this is a new coverage for your client), then for coverage to apply, the wrongful act must take place on or after the retroactive date and also must be reported prior to the end of the policy period (or within an extended reporting period if applicable).
Next, is the coverage written on a duty to defend or a reimbursement basis? Under a duty to defend policy, the insurer has the right and duty to defend the insured against any alleged wrongful acts and also has the right and duty to select legal counsel. This differs from a reimbursement policy, under which the insured selects legal counsel (typically from a list of preapproved firms) and then submits paid legal bills to the insurer for reimbursement.
Speaking of defense, check to see if the policy has a hammer clause (also known as a consent to settle clause). If it does, the policy will state that the insurer may settle any claim for the sake of expedience; if the insured does not agree to the settlement, the insurer has discretion to decide how much to pay. This amount typically is based on the initial settlement offer.
Newer producers may wonder why in the world an insured would refuse to settle a case. One reason is that the insured may believe its reputation is on the line, so they don’t want to settle if they’re convinced that they didn’t do anything wrong. Similarly, if they believe they weren’t in the wrong, they may not want to open the floodgates to similar lawsuits from other parties.
Another clause that is easy to overlook pertains to severability. Before we define that, examine this sample policy language:
“We are not liable to pay, indemnify or defend any claim based upon, arising out of, or in consequence of, or in any way involving any wrongful act committed, attempted or allegedly committed or attempted prior to the policy period of the applicable Coverage Part if … any executive knew that such wrongful act is or would reasonably be regarded as the basis of a claim.”
Did you catch the important part? Any executive? I’m sure you can envision a scenario under which one executive might be aware of a situation that could give rise to a claim but he or she fails to inform the other executives about the potential for a claim.
The good news is that the policy has a severability clause that addresses this situation:
“With respect to determining the applicability of the above exclusions, no wrongful act or knowledge possessed by any one of the insureds shall be imputed to any other insureds to determine if coverage is available, unless indicated otherwise.”
Whew! In other words, even though one executive might know about a wrongful act and doesn’t list it on the application and/or report it as a claim to the insurer, the other executives will still have protection under the policy.
Are there other factors to consider in arranging D&O coverage? Certainly, especially if the risk is larger and/or more complex. What I’ve presented here are some key areas to review with your client as they look to purchase their first D&O policy. Good luck with the sale!
Marc McNulty, CIC, CRM, is a principal at The Uhl Agency in Dayton, Ohio, and has been with the agency since 2001.He divides his time among sales, marketing, technology and operational duties. You can reach Marc at email@example.com