What is directors and officers insurance?

A comprehensive guide to directors and officers insurance.

D&O insurance policy summary

The following summary relates to corporate directors and officers (D&O) insurance policies, which are the most common form of D&O insurance. Another type of D&O insurance is personal D&O insurance, which protects an individual director.

What does D&O insurance cover?

It is important that you obtain a copy of the whole D&O insurance policy. Some directors never see the actual D&O insurance policy. Do not rely only on a summary provided by the company or its insurance broker.

A D&O insurance policy usually comprises:

Policy schedule

• Policy period
• Premium
• Excess (also referred to as a deductible)
• Limit of Indemnity and any sub-limits (lower limits for some parts of the cover) and any reinstatements of the limits.

Policy wording: Side A, Side B and Side C

• Insuring clauses

• Side A Cover is cover for directors where there is no other indemnification, such as under the Deed of Indemnity, available. It is the direct cover to directors in respect of liabilities and legal costs of defending claims against them made by the company or third parties for wrongful acts committed in their capacity as directors or officers.

• Side B Cover reimburses the company for money it has spent in indemnifying those covered by a Deed of Indemnity. That is, it covers the company for its liability to indemnify its directors and officers for liabilities and legal costs in claims made by third parties for wrongful acts.

• Extensions – Side C Cover, for example, is typically purchased by a publicly-listed company to insure the company's liabilities arising out of securities market conduct breaches.

• Endorsements, usually referring to additional provisions.
• Exclusions – being certain acts or losses that are not covered by the insurance policy, such as a prospectus liability exclusion.

Who does D&O insurance cover?

D&O insurance policies may identify the individuals and entities it covers as ‘insured persons’ either by listing their role or their name.

Carefully review:

• The list of roles to ensure that your role is included in the list. Some policies will specify that they cover executive directors, non-executive directors, the Company Secretary, Executive Officers and employees who are involved in the management of an organisation. Ideally, a D&O insurance policy covers all current and former directors. In addition, the policy may cover directors for outside entities.
• A policy that lists insured persons by name should be carefully reviewed, so that all relevant names are included.

What period will D&O insurance cover?

The period of cover is usually shown on the policy schedule and renewal notice. D&O insurance usually runs for 12 months.

Most D&O insurance is offered on a:

• ‘claims made’ basis (meaning that policies provide coverage for claims made against insured persons during the policy period); or
• ‘claims made and notified’ basis (meaning that policies require that the insurer be notified of the claim during the policy period).

Some policies will not cover a director for claims arising from circumstances which they knew about prior to the commencement of the policy.

You should also consider the retroactive date, being the date before which no errors or omissions of the insured persons are covered. Unlimited retroactive cover is ideal.

Cover after a director ceases to hold office

A director may become liable even after they cease to hold the position of director. It is essential that the company maintains D&O insurance for former directors. If D&O cover is not maintained, a former director may be left without any recourse against a policy for claims arising after they cease to hold office.

Ideally, the D&O insurance policy also includes ‘run-off cover’, being cover that applies after a director ceases to hold office. The duration of run-off cover should be at least seven years.

Changing insurers

Before changing from one insurer to another, careful consideration should be given to whether there is continuity in cover, and whether there may be ‘gaps’ between the two policies.

Distinctive features of a D&O insurance policy

Confidentiality

The D&O insurance policy may prohibit disclosure of anything in the policy, including insured liabilities, limit of indemnity or premium. Carefully review the confidentiality provisions, and be careful not to breach them.

Duty of disclosure

Insured persons have a legal duty to disclose every matter that they know, or could reasonably be expected to know, is relevant to the insurer’s decision whether to accept the risk of insurance and, if accepted, on what terms.

This duty applies before entering into an insurance policy, and before renewing, extending, varying or reinstating an insurance policy.

The duty does not require you to disclose a matter:

• That diminishes the risk undertaken by the insurer.
• That is common knowledge.
• That the insurer knows, or in the ordinary course of business, ought to know.

If you fail to comply with your duty of disclosure, the insurer:

• May be entitled to reduce its liability under the policy with respect to a claim; or
• May cancel the insurance policy.

If the non-disclosure was fraudulent, the insurer may also have the option of avoiding the contract.

The effect of other directors’ conduct on your insurance cover

D&O policies cover many people, and in some cases the conduct of one director will impact upon other, innocent directors.

The implications of the duty of disclosure for D&O insurance vary between policies, although in some cases, if one director breaches the duty of disclosure, it may affect a claim by an innocent director. It is important to know how your policy works.

Carefully review the ‘severability and non-imputation’ clauses, which provide that the wrongful acts of one director are not imputed to another. Ideally, the contract and proposal will be separate for each insured and there will be no imputation of acts or omissions from one insured person to another.

D&O Insurance Policy limits and excess

Limit of indemnity

The limit of indemnity is a dollar figure and is usually shown in the policy schedule and is the maximum amount the insurer will pay.

The policy will have an overall (or ‘aggregate’ limit) across all claims and, as a result, claims exceeding this limit will not be covered. You should seek advice from the broker or insurer on whether the aggregate limit is appropriate, having regard to:

• The type of entity, business and the personal liability risks to which directors are exposed.
• Benchmarking information on the limits of indemnity purchased by similar organisations.
• Directors should be aware that policy extensions that cover the company for risks such as employment practices or securities breaches (Side C) have the potential to erode the amount of cover that could be available to directors. Claims brought under such extensions may be the subject of dollar sub-limits.

Excess

An excess (also known as the deductible) is an amount an insured must contribute towards a claim. It is usually shown on the policy schedule.

Ideally, no excess applies to the insuring clauses that cover directors. If there is an excess, the company should pay the excess, and a provision to this effect should be included in the policy.

Common extensions to Directors insurance

You should carefully consider which extensions to policy coverage are appropriate. Common extensions include:

• Extension of insured persons to cover directorships of outside entities.
• Run-off cover, which provides cover against claims that may arise as a consequence of the director’s actions during his or her period of office.
• Prospectus liability cover.
• Extensions that meet the needs of specific industries: such as a pollution extension for companies that conduct business in the mining industry.

Directors and Officers insurance Exclusions

The term ‘exclusions’ refers to those acts or losses that are not covered by the D&O insurance policy.

Typically, a D&O insurance policy will specifically exclude:

• Cover for an act, omission or dispute which occurs prior to the policy period which the director knew or ought reasonably to know was likely to give rise to a claim.
• Any deliberate act of fraud or dishonesty.
• Any failure to take all reasonable precautionary measures to avoid or lessen the chance of any claim being made.
• Failure to co-operate with a legal representative appointed by the insurer to defend a claim.

‘Insured v insured’ exclusion

The Corporations Act prohibits a company from indemnifying the directors for liabilities to the company itself. This gap may be insured, however many policies do not cover this gap. The policy may exclude cover where one insured person (e.g. the company) sues another (e.g. a director).

Carefully consider any policy that has an ‘insured v insured’ exclusion that excludes cover for claims against a director brought by the company or a party related to the company.

Environmental or occupational health and safety regulations

Carefully consider whether the exclusion of environmental or occupational health and safety regulations claims is appropriate, having regard to the company’s industry. Such claims can expose directors to personal liability and are a significant source of personal risk.

Major shareholder exclusion

A major shareholder exclusion prevents parties with significant equity in the company from benefitting by bringing a claim against directors for a wrongful act to which they were party or had the opportunity to prevent. ‘Significant equity’ is often defined as 15% in D&O insurance policies. Carefully consider such an exclusion in the context of the particular company.

Prospectus exclusion

A prospectus exclusion explicitly excludes cover for claims arising from allegations of misstatement or misrepresentation in a prospectus or similar disclosure document.

Listed entities that undertake public offerings should carefully consider the benefits of prospectus cover.

Professional services exclusion

A professional services exclusion explicitly excludes cover for breach of duties other than directors duties. Ideally, if such an exclusion forms part of the policy, it should be carefully crafted so that it does not impact on cover for breaches of directors duties.

Insolvency exclusion

An insolvency exclusion explicitly excludes claims arising out of an insolvency. Insolvency exclusions can be introduced by insurers who are unable to achieve comfort on the financial position of the company.

Careful consideration should be given to an insolvency exclusion because claims made by insolvency practitioners (e.g. liquidators) can present a serious personal liability risk to directors.

Superannuation claims exclusion

A superannuation claims exclusion excludes cover for liability arising out of breach of duty relating to staff superannuation scheme. This may raise issues for directors as the prudential regulator APRA has extensive powers of investigation and enforcement.

Careful consideration should be give to the potential implications of a superannuation claims exclusion.

Change in control

A careful review of the provisions relevant to a change in control, such as a significant change in the shareholding of the company, is essential. Typically, such changes in control must be notified to the insurer, and will affect the company’s D&O cover.