When reviewing your corporate insurance policies, one of the worst
possible mistakes is budgeting for employment practice insurance and general liability insurance — and then overlooking directors and officers (D&O) insurance.
“Corporate managers need to understand
that no matter the size of their company,
they are not immune to litigation against
directors and officers,” says Ron Hodges,
partner and director of the Litigation Department at Shulman Hodges & Bastian
LLP. “They have read a great deal about the
Enrons and Tycos of the world, but smaller
public [and private] companies in their
own communities are just as vulnerable.”
Directors and officers insurance protects
personal assets and/or company assets. It
also provides access to valuable resources
to help companies manage litigation.
Smart Business spoke with Hodges
about how companies large and small can
minimize their exposure to D&O lawsuits.
How can a company be damaged by a lawsuit
against its directors or officers?
With or without insurance, a D&O claim
against a company can be devastating on a
number of fronts.
Financially, it can cripple a company. We
have seen companies literally forced to
close their doors or seek bankruptcy protection just by virtue of the professional
fees associated with litigating a claim —
notwithstanding the fact that they might be
in the right.
From a time standpoint, D&O claims can
cripple a company because executives
must occupy their time dealing with litigation matters when they could be more productive by spending time on the nature of
their business.
Finally, any company facing D&O litigation is potentially susceptible to negative
publicity. Mere rumors and allegations will
have a negative effect on a business and on
the reputation of the principals — regardless of whether the allegations turn out, at
trial, to be true.
A director’s and officer’s lawsuit is a taxing
and a very significant event for a company,
regardless of whether or not it has merit.
What kind of claims are the most common?
Many claims occur in the employment
arena where directors and officers have
not handled an employee dispute properly
or they themselves were personally
involved in the termination. Typical suits
include wrongful termination, discrimination, harassment or misrepresentation of
employee benefits.
But the most common claim is for a
breach of fiduciary duty, most often in the
instance of a transaction that personally
benefits a director or officer to the detriment of the company or its other shareholders.
A third type of claim results from a company owing money to a vendor or customer, which tries to hold directors and
officers personally responsible for all of
the corporate debt and obligations.
Who most often brings legal action against
directors and officers?
In our society, we tend to deflect responsibility for our own actions. If a customer
knows there is risk involved in a certain
business move, he or she still wants to
blame others for losses — and the directors and officers are there to blame.
Another scenario stems from a need to
survive. Companies in dire financial straits
may attempt to pursue the recovery of
money by filing a lawsuit just to leverage a
settlement during a negotiation.
Companies often face the daunting task
of assessing the business realities a case
presents. It is often less expensive to settle
a meritless claim than pursue the defense
through trial. That is unfortunate, but a
reality nonetheless.
How much are premiums for directors and
officers insurance?
Coverage should be commensurate with
the growth of the particular business. And
if a company is doing poorly, it may need
less insurance.
There are two different types of insuring
provisions. One protects corporate assets,
the other protects the assets of the individual. Some companies only maintain the
insurance that protects the assets of the
company, because it has lesser premiums.
Other cost factors are how much insurance you are purchasing and how much
the insurance company is willing to write
for your particular company.
What else can guard against D&O lawsuits?
Astute corporate leaders should certainly
consult with their professionals — including their insurance brokers — at least once
a year. Encourage your outside professionals to interact with each other. When you
have done that, you need to properly document that interaction. You need to show
that you have exercised prudent judgment
in your corporate decisions and that you
have sought the advice of objective outside
professionals regarding whether a given
action is appropriate from a business and
legal point of view.
Documentation acts as a safety net for
officers and directors when they are scrutinized in litigation that sometimes has the
unfortunate benefit of 20-20 hindsight.
RON HODGES is a named partner and the director of the
Litigation Department at Shulman Hodges & Bastian LLP. Reach
him at (949) 340-3400 or [email protected].