How to Select a D&O Policy for Your Business

Dani Milton
November 3, 2020

Our society is a litigious one. Not only do businesses, educational institutions and nonprofits face potential lawsuits that can harm their bottom line, but their board of directors or officers may also be sued. One lawsuit made the headlines in 2019. Bloomberg News reported that investors sued the board of directors of Google’s parent company, Alphabet, Inc. Their shareholders argued that these officers failed in their duties to reign in their executives’ alleged misconduct. These administrators included Android software creator Andy Rubin, who received a $90 million exit payment. Unfortunately, many officers can face significant liability because of their actions or managerial decisions. When directors, executives or officers lose lawsuits brought against them, they can be personally liable for any financial judgment. They may have to pay for these expenses and legal fees out of their own pockets if they don’t have the right insurance coverage to protect themselves. Businesses turn to Directors and Officers Liability Coverage to indemnify their board members from legal liability in lawsuits. Today, you’ll learn how this essential coverage can help protect administrators at your organization.

What Is a Directors and Officers (D&O) Liability Insurance Policy?

Directors and Officers (D&O) insurance policies have become an essential tool to help reduce risk exposure for businesses. Companies buy this coverage to shield their senior leadership team from third-party liability claims. They cover current, past, and future directors of a company and its directors. Lawsuits occur because of bad actions made by directors, officers or executives while performing their duties. This coverage pays off awards and settlements, defense costs and damages arising from allegations of wrongdoing. It also shields the personal assets of administrators. D&O policies cover the following individuals and entities:

  • Administrative teams
  • Boards of directors
  • Officers
  • For-profit companies
  • Privately held companies
  • Nonprofit organizations
  • Educational institutions
  • Public entities

This insurance only pays for claims during the policy’s term, which may extend to 72 months in some countries. In addition to D&O policies, businesses can also use their bylaws or articles of incorporation to provide some indemnification for their senior staff.

The Three Sides of D&O Insurance Policy Structures

Insurers create D&O policies that best suit the needs of businesses and nonprofit organizations. The structure of this coverage depends on which of three insuring agreements the company purchases. Every D&O policy has three coverage options called sides, which include:

Side A (Direct Coverage) – This part protects the personal assets of directors and officers during claims when the company isn’t legally or financially able to provide indemnification. Side A coverage offers an extra layer of coverage to protect these administrators’ assets.

Side B (Corporate Reimbursement) – This side reimburses public or private companies by indemnifying and paying for legal fees on behalf of directors and officers. This coverage protects the company, its corporate assets and balance sheets when it indemnifies the individual officers.

Side C (Entity Coverage) – This area gives protection for public companies (the entities, not individuals) for security-related claims. Side C also eliminates disputes related to coverage allocation when directors, officers, and insured organizations are co-defendants in a securities lawsuit. It also provides broad coverage for claims made against the business and its corporate assets.

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The Different Structures of D&O Insurance Coverage

When shopping for a D&O policy, businesses should select coverage based on their company’s structure and any potential risks. The most popular kinds of D&O policies that insurers sell are AB and ABC Policies. Each one offers different protection based on an organization’s anticipated liabilities, legal costs and exposures. ABC Policies: Publicly listed companies generally purchase this coverage to address securities-related risks.

AB Policies: Insurers only offer AB coverage to private businesses and nonprofits, which don't have publicly traded shares.

D&O policies can also be purchased as stand-alone insurance with no additional coverages or packaged with additional special options. They include:

Employment Practice Liability Insurance (Optional) - EPLI coverage protects against employment-related claims against private businesses and nonprofits. They offer coverage for wrongful termination, failure to promote, sexual harassment and related suits.

One Side or All Sides - Businesses can buy ABC D&O policies or select a single-sided one. For instance, a Side A-only option offers broader direct coverage for officers at a lower premium rate. This approach is risky since the majority of claims fall under B or C coverage.

Excess & Side A DIC Coverage - Businesses can buy additional policies to increase the policy limit and coverage. They can add "follow form" policies with the same terms and definitions to their policy increase limits, or buy "difference in condition" to expand coverage.

Special Coverages - In addition to the above policies, businesses can buy additional specialty coverages for their business, such as employed lawyers insurance, reputational insurance, independent directors liability coverage, or investigation coverage.

Speak with your insurance company or a reputable attorney to find out which structured D&O policy will best fit your business needs. You can also use SmartFinancial’s transparent insurance technology platform to compare D&O coverages and select one that’s right for your organization. You’ll only need to fill out our short form, and we’ll provide several quotes from local agents within minutes.

D&O Can Protect Business Leadership against Different Legal Claims

Some executive teams may discover they’re personally liable for their mistakes, poor management decisions or failure to comply with federal regulations for their industry. When this happens, shareholders or employees may sue the management team for exposing them to dangerous risks that jeopardize the business or employees.

D&O policies can mitigate losses that businesses endure due to any fines, legal settlement, or judgments. Common risk scenarios can arise from different sources, including: Federal and industry regulators – Inspectors may conduct investigations that uncover regulatory violations that may lead to civil or criminal litigation, fines and penalties against organizations.

Shareholders, bondholders, and investors – International laws allow securities holders to file claims against a board whose reckless actions harm the business. Securities lawsuits generally fall into two categories. They can be direct, meaning the shareholders file the claims, or they can be derivative when a business files a lawsuit on behalf of its investors.

Creditors - Financial institutions may argue that a company’s board or its administrators mismanaged its operations that damaged the value of its assets. They can also sue when leaders are derelict in their fiduciary responsibilities.

Liquidators – A company’s executives can file a lawsuit on behalf of a business against its board of directors for a breach of duty.

Market competitors – When a business violates intellectual property laws harming another company, their competitors can bring legal action against the rival’s board of directors or its officers.

Employees – Workers can hold a company’s senior executives responsible for harmful or reckless acts on a job site.

Common Scenarios that May Not Receive Coverage on D&O Policies

Although D&O policies indemnify companies against risk, there are some situations that this insurance may not apply. In some instances, another insurance policy will provide coverage. In other cases, there are potential crimes or other legal violations that local officials may prosecute. Here are some additional risk scenarios that may not be covered:

  • Misrepresenting their company’s holdings in their prospectus
  • Corporate officers that exceed the authority granted to them
  • Damaging employment practices and human resources (HR) issues
  • Pollution and related regulatory claims
  • Liability related to cyber crimes
  • Corporate manslaughter
  • Divestitures
  • Mergers and acquisitions

Exclusions on D&O Policies

D&O policies don’t protect administrative leadership against all scenarios. This coverage typically has several standard exclusions. They include the following:

Prior Knowledge/ Retroactive Date Claims Exclusion – These clauses prohibit coverage for legal activities, claims or liabilities known to businesses before they purchased the D&O policy. To avoid this scenario, insurance underwriters ask questions about any previous circumstances that may lead to future claims. It helps them to determine whether it’s risky to insure the applicant.

Fraud, Dishonesty, and Illegal Profit Exclusion – This area prohibits the reimbursement of deliberate acts of dishonesty, deception, criminal acts or omission used for the personal advantage of directors and officers. Generally, these administrators weren’t legally entitled to these proceeds.

Pollution Exclusion– This article denies coverage of situations associated with contaminants and industrial pollution that harmed other people or ecosystems.

Bodily injury and property damage exclusion (except corporate manslaughter) – Many D&O policies prohibit this coverage because companies may file for damages under other insurance policies they may have.

Claims Made Under Previous Policies – Organizations cannot file claims for damages they’ve filed under another policy.

Insured Versus Insured Claims – Carriers generally exclude lawsuits between administrators at the same company to avoid corporate disputes, infighting or possible collusion.

Antitrust Exclusion – Most D&O policies don't pay for defense costs and losses arising from activities that inhibit competition.

Accounting of profits and other illegal compensation exclusions - These policies won't cover accounting errors or compensation that was gained through unlawful methods.

Prior Acts Exclusion – This coverage won’t cover any losses in connection with any claims alleging, arising out of, based upon, or attributable to any wrongful acts attempted, committed, or allegedly attempted before a certain date.

ERISA Exclusion – These policies typically exclude all Employee Retirement Income Security Act claims. This exclusion ensures that the policy won’t cover claims addressed by fiduciary liability policies.

Fines and Penalties Exclusions – D&O coverage doesn’t cover regulatory fines and penalties your company may have to pay due to violations of the law.

CyberSecurity Exclusion - Many D&O insurance coverage excludes cyber-related crimes.

Contractual Exclusion - They exclude claims arising from oral or written contracts.

Professional Services Exclusion - D&O policies exclude claims related to errors, omissions, or negligence while providing professional services to a customer. These claims generally fall under E&O policies.

The Value of Protecting Company Leaders

D&O coverage is not only great for indemnifying administrative leadership against liabilities, it provides other benefits to businesses, including: Retaining Talented Leaders – Some administrators may turn down employment positions at companies when they face personal liability because of their decisions. D&O coverage can shield your management staff from these risks.

Attracting Investors – Private equity firms and venture capitalists require enterprises to carry D&O coverage before they will invest.

Covering Legal Fees – Business leadership can face excessive attorney fees, even when courtroom proceedings exonerate them. These policies can pay for legal fees of corporations or nonprofits.

How Does D&O Insurance Work at For-Profit Companies?

Here is a scenario that explains how D&O insurance may work in practice. At a large factory, an administrator makes a reckless decision that breaks federal regulations and harms their employees. As a result, several individuals decide to sue the manager for wrongdoing. The administrator decides to contact the factory’s legal and risk management departments. Their legal and risk management departments inform their D&O broker/insurer and provide their claim. If the insurer greenlights the claim, it will pay for the defense costs of the company. In another situation, the insurer will pay for the loss and defense costs when an insurance claim is covered and the administrator loses the legal case. When a manager isn’t insured under a D&O policy, they will have to pay all defense costs and any financial losses, which could impact their personal assets and career.

D&O Coverage for NonProfits

D&O policies are generally associated with for-profit companies; however, they also provide suitable protection for nonprofit organizations. Some nonprofits may assume their administrators won’t need this coverage because they believe their executives have a lower risk of being sued. Unfortunately, the opposite is true in today’s legal environment. Since the community subject these officers to higher standards than for-profit companies, they have increased liability risks.

There are two types of nonprofit organizations that face different levels of D&O exposure. Public benefit nonprofits – These groups serve the communities and other segments that fall under specific categories such as religious affiliation, academics or financial need. These include churches, museums, libraries, schools, civic groups, hospitals and community organizations.

Mutual benefit nonprofit – These organizations serve their membership. Examples include trade associations, cooperatives, social organizations and athletic clubs.

Other situations that can affect their exposure regard whether the association operated as a trust, association, or corporation. Additional places include taxes. For instance, the insurer will take into account whether, whether the organization operated as a public charity or a private foundation. Board members at nonprofits face an extraordinary amount of risk because of their administrators’ alleged behavior. It may include:

  • Mismanagement of assets
  • Discrimination (age-based, race, sex, employment-related, or against people with disabilities)
  • Harassment
  • Acting beyond their authority
  • Libel and slander
  • Wrongful termination of employees
  • Poor supervision or administration
  • Failure to deliver required services

Some nonprofits believe that general liability insurance and umbrella coverage can help them settle suits. But these policies only cover bodily injury, property damage, and personal injury (such as libel- and slander). They don’t address discrimination or wrongful termination settlements that D&O insurance can cover. Are you searching for a Directors & Officers policy for your business, nonprofit, or educational institution? SmartFinancial can help. There's no smarter way to buy insurance using our technology. You'll only need to fill out one simple application, and we'll provide quotes from multiple local agents with the options to buy online, over the phone, or in person. SmartFinancial provides smarter insurance products powered by technology.

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