Directors and officers' (D&O) insurance may be essential cover for any business whose senior decision makers (executives and members of company boards) may be subject to legal action based on allegations of wrongdoing or failure to properly fulfil their duties. Similar actions can also be brought against the company itself.

These claims may be instigated by regulatory bodies, shareholders, stakeholders, business partners or individuals, and can be extremely costly to the executives and the business.

A director or officer will usually be indemnified (protected) for liabilities and legal costs that arise from their position through the company's constitution and a deed of indemnity. Directors and officers' insurance is designed to cover exposures where the company is unwilling to take on particular risks or prohibited from indemnifying directors for certain liabilities. Statutory limitations on the extent to which a director or officer can be indemnified by a company are set out in the Corporations Act.

The three sides of D&O insurance

Directors and officers' insurance cover typically comprises three separate agreements: side A, side B and side C, which each protect different aspects of risks to individual officers and the company itself, under distinct types of cover. Understanding the protections these provide and how they are activated is key to ensuring your C suite insurance covers your business's executive risks.

Side A: cover for claims against directors and officers

Side A provides cover for claims made against directors and officers in circumstances where no indemnity is provided by the company, for example, in the case of insolvency, or where the company is prohibited from indemnifying the director.

For example, shareholders of an insolvent company might bring a legal claim against its executives for financial mismanagement. While the insolvent company would not be able to indemnify the directors for the cost of their legal defence, holding side A D&O insurance provides them with protection.

Side A cover protects the personal assets of individual executives by providing cover for legal costs, damages and penalties that the director would otherwise have to pay out of their own pocket.

There is generally no excess or deductable payable by the director under Side A.

Side B: company reimbursement cover for claims against directors and officers

Side B cover under a D&O policy is for the benefit of the company and provides for the company to be reimbursed for its indemnification obligations to directors and officers. The cover is, in essence, balance sheet protection for the company. There is typically a deductible (or excess) applicable to a claim on Side B.

Side B claims are the most common D&O claims. For example, a board member might be the subject of a regulatory investigation, where the company indemnifies the board member for legal costs in relation to the investigation. The company then makes a claim under the D&O policy under side B to be reimbursed for the amounts paid to the director for his or her legal costs.

Side C: D&O protection for corporate assets from the costs of legal claims against the company

Side C provides cover for the company itself and is triggered when a securities claim is brought against the company. Securities claims often include allegations of breach of continuous disclosure obligations, breach of fiduciary obligations and/or misleading and deceptive conduct, and usually are brought in the form of a class action.

For example, a group of disgruntled shareholders of a publicly listed company might sue for losses sustained as a result of allegedly false or misleading statements made in public statements. The company defends itself against the claim, incurring costs related to legal representation. Side C would cover the expenses incurred by the company in the defence of the lawsuit, including legal fees, expert witness fees and other related expenses.

For a publicly traded company, Side C covers securities claims only, but privately owned and not-for-profit businesses may be able to access broader coverage under a management liability policy, unless they are specifically excluded in the terms of the insurance policy. Not all insurers offer side C cover.

Why it's important to check terms of D&O insurance cover carefully

The scope of cover provided under a D&O policy depends on the terms and conditions of each policy. Directors and companies should carefully review the terms of their D&O policy to understand how the policy will cover a claim and any restrictions on cover, including for insolvency, or in the event of non-disclosure or misrepresentation by an insured.

The Corporations Act` prohibits a business purchasing insurance, other than for legal costs for its directors and officers, for liabilities arising from conduct involving a wilful breach of duty or improper use of their position or access to information to gain a personal advantage or damage the business.

To comply with this requirement D&O insurance policies typically contain an exclusion for claims arising from conduct where the liability is the subject of a prohibition, for example, dishonest or fraudulent conduct.

Broker expertise in D&O insurance cover is critical

Purchasing D&O cover through a broker who thoroughly understands your business and the complexities and depth of consideration required for professional D&O cover is crucial to navigating the applicability of side A, B and C covers, and the ability of D&O insurance to provide protection to the relevant risks you may encounter.

Gallagher has a dedicated team which specialises in D&O insurance. We take the time to gain a deep understanding of your business and industry, and work in partnership with your team to implement a robust risk management program that protects you now and into the future.

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