Publicly held companies generally receive greater media attention about scrutiny from shareholders and government regulators than private companies, but that doesn’t mean that private companies are immune to lawsuits regarding management activities that can disrupt operations and create a financial burden for the business.
“People think that privately held businesses and nonprofits do not have much exposure. The reality is that there are many lawsuits that are brought by shareholders, employees, regulatory agencies, competitors and customers that are not covered by general liability insurance. Only a directors and officers policy can provide coverage for an actual or alleged wrongful act, breach of duty or mismanagement,” says Peter Bern, CEO of Leverity Insurance Group.
Smart Business spoke with Bern about the risks private companies face and how directors and officers insurance (D&O) can help limit exposure.
What are some potential D&O claims for private companies?
Regardless of your company’s size, the legal cost to defend a director, officer, or employee is substantial, as are the potential penalties that can be personally incurred. Because of the personal liability risk, which is not covered under a personal insurance policy, protecting these key individuals and the entity itself is critical.
Private companies have investors, shareholders, creditors and employees that can bring lawsuits alleging wrongful acts, mismanagement, breach of duty or neglect. Regulatory agencies, suppliers, competitors and customers can also be plaintiffs.
Types of lawsuits include the following:
- Breach of fiduciary duty, including self-dealing and conflicts of interest.
- General business mismanagement and bankruptcy.
- Failure to deliver services.
- Failure to disclose information.
- Disclosing materially false or misleading information.
- Regulatory agency actions and investigations.
- Merger and acquisition complications and objections.
- Shareholder derivative actions suits.
- Freeze-out mergers forcing minority shareholders to sell stock below fair market value.
How can companies determine what coverage they need?
Because there is no standardized policy, it makes it difficult to comparison shop. There are special endorsements or enhancements that can be placed on these policies. It’s a matter of analyzing needs and selecting the necessary limits and coverages accordingly.
Underwriting factors for D&O insurance include company characteristics such as:
- Age: Companies with less experience and shorter history of effective management are riskier.
- Industry: Investment banking and securities expose executive management to more risk than those experienced by board members of a small nonprofit.
- Financial stability: If a company’s finances are unstable, there is a greater chance of becoming insolvent during a lawsuit.
- Litigation history: Insurers will analyze a company’s history of previous lawsuits and any adverse business developments.
Is D&O coverage becoming more commonplace?
It’s been around for a long time, but it had been very cost prohibitive. Also, directors and officers thought it wasn’t necessary to purchase coverage if the company wasn’t publicly traded. But even nonprofits have exposure. They have volunteers donating time, making decisions and moving money; D&O covers them if there is mismanagement.
Still, many companies are not aware D&O insurance is available. Without D&O coverage, executives are not protected personally — business pursuits are excluded from homeowners insurance.
Whether you’re a privately held, nonprofit or a public company, it is likely that your business can benefit from a D&O liability policy. Since there is no such thing as a ‘standard’ policy, a professional insurance agent is invaluable when purchasing D&O coverage. He or she will understand your organization and can help design a policy that will meet the needs of the directors and officers, shareholders and the entity itself.
Peter Bern is the CEO of Leverity Insurance Group. Reach him at (216) 861-2727 or firstname.lastname@example.org.
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