Management Mess-upCoverage

The illustrations present main coverage features of the base policy form only. Refer to the actual policy forms

and endorsements for complete scope of coverage 

Chapter 1

Directors and Officers Liability

In today’s business climate of corporate transparency and accountability, an organization’s officers and directors face a myriad of employment-related exposures. Sarbanes-Oxley regulatory mandates and shareholder activism mean directors are more frequently at risk, translating to rising claims and escalating settlement costs.

In the wake of unprecedented corporate scandals in recent years, clearly the trend of corporate accountability applies to large corporations. But privately held companies, including nonprofits, are not exempt from litigation arising out of the management decisions of their boards. They, too, are at risk.

Regardless of your company’s size, the legal cost to defend a director is substantial, as are the potential penalties that can be personally incurred. Due to the personal liability risk, which is not covered under a personal insurance policy, protecting boardroom talent can be a challenge. To help ensure both your officers’ and company’s well-being, a directors’ and officers’ liability insurance (D&O) policy is part of a comprehensive risk financing strategy.

D&O Fills the Coverage Gap

Unlike a commercial general liability policy that provides coverage for claims arising from property damage and bodily injury, a D&O policy specifically provides

DIRECTORS AND OFFICERS

Directors and Officers of public, private and non-profit corporations are subject to stringent duties of care, loyalty and obedience imposed upon them by federal, state and common law.

They are compelled to use their best business judgment in making decisions for the corporation.

The initiators of lawsuits against directors and officers in the public, private and non-profit arena are diverse and can include:

1. - Family members2. - Employees 3. - Investors4. - Shareholders in derivative actions5. - Competitors6. - Customers, Vendors, Suppliers7. - Government Agencies8. - Creditors9. - Donors, Beneficiaries

Directors and Officers Liability

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Section 1

coverage for a "wrongful act,” such as an actual or alleged error, omission, misleading statement, neglect or breach of duty.

For example, a manufacturer told one of its suppliers to increase inventory because they were expecting a large increase in production. As predicted, demand for the manufacturer’s product grew, but the manufacturer increased its inventory with another vendor. The original supplier successfully sued the manufacturer, alleging they suffered damages as a result of having relied on the manufacturer’s promise.

A D&O policy provides defense costs and indemnity coverage for allegations arising out of the management of the enterprise and is typically made up of:

• Coverage for individual directors and officers;

• Reimbursement to the organization for a contractual obligation to indemnify directors and officers that serve on the board; and

• Protection for the organization or entity itself.

Ordinarily indemnification provisions are included in the charter/bylaws of a corporation. Small to midsize privately held companies or nonprofit organizations often do not have the financial resources to fund the indemnity provisions, making the bylaws hollow. A D&O policy can provide an extra blanket of security in the event of a covered loss.

Coverage

A “fraud” exclusion is included in a D&O policy, which eliminates coverage for losses due to dishonest or fraudulent acts or omission, or willful violations of any statute, rule or law.

D&O coverage can be tailored to your needs, but be aware that D&O carriers are not consistent with their policy forms. This fact, plus the complexity of D&O claims, requires the carrier to have market commitment and deep expertise, as well as the financial resources to handle potential claims.

There are also additional forms of coverage to adequately protect directors and officers, including:

• Entity coverage;

• Payment priority for insured persons;

• Severability of the insured as well as severability of the application;

• Coverage over time, meaning coverage responds to past, present and future directors and officers;

• Pay on behalf clause; and

• Duty to defend clause.

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Who can bring a D&O lawsuit? According to St. Paul Travelers, statistics show that shareholders and employees are the most likely groups to sue private companies. Other parties bringing suits may include corporations against themselves, and a variety of third parties, such as competitors, creditors, and regulatory bodies.

Link to a video Directors and Officers claim scenario.

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Interference with a contract

A competitor sued the a privately held flooring company with 15 employees for conspiracy to divert a potential contract from their company. Allegations included interference with a contract and a knowing participation in a breach of duty. The plaintiff sought direct and consequential damages, including lost profits, punitive damages and attorney’s fees. Resolution The case was resolved after mediation. Carrier paid over $193,000 of defense costs.

Misrepresentation of the market

Two minority shareholders filed suit against the board of directors of a telecom company after a less-than-stellar year. The plaintiffs claimed the board breached its duty to the shareholders by mismanaging the business, which resulted in a loss, despite previous forecasts of a significant profit. The plaintiffs alleged that the board misrepresented the state of the market, which influenced their decision to invest. Carrier paid $300,000 in defense expenses before settling the case for $500,000.

Unfair methods of competition and unfair trade practices

The government sued an internet marketing company asserting causes of action including failure to disclose material terms, misrepresentation* and negative marketing. Specifically, it was alleged that the insured improperly sought personal information. The data would then allegedly be analyzed and sold to third parties. Carrier paid in excess of $800,000 in legal defense fees and an additional $75,000 to settle the case.

Misrepresentation

An officer of a private corporation generating $55 million in sales held a conversation with a potential investor in which they discussed the launch of new products over the coming six months. Based on this information, the investor committed over $500,000 to the company. After a year, the products the investor anticipated did not appear in the marketplace.

During this time period, the value of the original investment declined. The investor sued XYZ and its directors and officers for misrepresentation, seeking over $10 million in compensatory and punitive damages.

Section 2

Directors & Officers Claim Senarios

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Following two years of litigation and $250,000 in defense costs, the parties finally reached a settlement with the plaintiff for $335,000. Defense costs and settlement were paid by the carrier.

Fraudulent Misrepresentation, Breach of Duty of Care

The distributor generating $11 million in sales was sold to an unrelated third party. The plaintiff, a former investor, sued the company and its officers for fraudulent misrepresentation and breach of duty in connection with the alleged undervalued buy-out of the investor’s interest in the company just prior to the sale. The case went to trial and was decided in favor of the defendants. The defendants incurred $1.2 million in defense costs.

Theft of Trade Secrets

ABC Company, privately held company generating $80 million in sales sued directors and officers of competitor XYZ after three employees of ABC left to join XYZ. ABC alleged that the three were still employed by ABC when they began sharing proprietary information with XYZ. ABC charged theft of trade secrets. After more than a year of legal wrangling, the case settled. XYZ agreed to pay ABC $160,000 as a settlement, but not before incurring $355,000 in defense costs.

Theft of intellectual property

A software developer sued the insured’s directors and officers for misappropriation of his intellectual property. After a joint venture between the parties failed, the plaintiff claimed the insured organization took his ideas and developed its own software, allegedly retaining and using the intellectual property to create a competing product. Carrier paid in excess of $200,000 in defense expenses, in addition to making a $50,000 contribution toward the settlement.

Misrepresentation and fraud

The insured was a privately held manufacturer with 5 employees. An investor sued the insured’s chairman and director asserting that he was misled regarding how his investment would be used. Allegedly he was told his $525,000 investment would be used for capital improvements, but his investment was instead used to pay operational expenses and existing debt. The investor sought recession and damages based upon the alleged misrepresentations. The case was resolved after mediation for $285,00 on behalf of the insured. Approximately $262,500 was paid in defense costs.

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Chapter 2

Employment Practices Liability

From the moment that you start the pre-hiring process until the exit interview, you are vulnerable for a lawsuit. As a result, your business should take a hard look at whether it can afford to defend itself against alleged wrongful employment practices accusations. If not, there is an insurance solution called Employment Practices Liability that protects against wrongful termination, discrimination (age, sex, race, disability, etc.) or sexual harassment suits from your current, prospective or former employees. This coverage applies to directors, officers and employees, and can sometimes extend to third party liabilities.

Why Choose Employment Practices Liability Insurance?

According to researchers, three out of five employers will be sued by a prospective, current or former employee while they are in business. While many suits are groundless, defending against them is costly and time-consuming.

Employment Practices Liability Insurance provides protection from the following wrongful employment practices, including:

• Harassment

• Discrimination

• Actual or alleged wrongful dismissal, discharge or termination

Section 1

EMPLOYMENT PRACTICES LIABILITY

Employment matters are at the core of millions of dollars in lawsuits filed every year. From contract or compliance issues to Title VII allegations, employment exposures are some of the most complex for modern companies to navigate, and among the most costly to defend.

Employment Practices Liability coverage provides protection for employment causes of action including:

1. - Wrongful Termination

2. - Sexual Harassment

3. - Wrongful Discipline

4. - Wrongful failure to employ or promote

5. - Unlawful Discrimination

6. - Negligent Employee Evaluation

7. - Retaliation

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Employment Practices Liability

• Employment-related misrepresentation

• Employment-related libel, slander, humiliation, defamation or invasion of privacy

• Wrongful failure to employ or promote

• Wrongful deprivation of a career opportunity, wrongful demotion or negligent evaluation

• Wrongful discipline

• Vicarious liability for intentional acts

• Punitive damages

• Discrimination in relation to race, marital status, gender, age, physical and/or mental impairments, pregnancy, sexual orientation and any other protected class established by federal, state and local statutes

Many policies offer the following inclusions and add-ons:

• Consultation, HR assistance and other risk management consultative services.

• Coverage for defense costs outside the policy limits (for qualifying risks).

• Third party liability coverage (for qualifying risks).

• Wage and Hour Coverage for claims alleging wage and hour violations.

• Volunteer workers can be added as additional insureds.

• Extended reporting periods may be added

Link to a video Employment Practices Liability claim scenario.

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Wrongful Termination

A mid-level supervisor, working for a privately held company employing 40 people, with a long history of documented performance issues was terminated for smoking in a restricted area of the company’s building where flammable chemicals were stored. The terminated employee, who was 54 years old, responded by suing the company for wrongful termination, He alleged age discrimination on the basis of comments made by his supervisor (such as “You’re too old”) and disability discrimination because the company refused to make accommodations for his high blood pressure. He also alleged he could only be terminated for good cause. The plaintiff sought back pay, front pay, special damages, and attorney fees totaling an estimated $275,000, in addition to punitive damages. Carrier settled with the former employee, paying $350,000, but not before it had paid $130,000 in defense costs.

Age Discrimination

ABC International, a privately held company with120 employees, terminated a long-time manager for alienating employees and customers and disinterest in his job. The manager was 59 years old when the termination took place, and ABC checked off “other” instead of “poor performance” on the termination form as the reason for the termination. The manager filed a charge of discrimination with the Equal Employment Opportunity Commission, alleging he was terminated because of his age. In his charge, he stated that he had always received regular merit pay increases, was replaced by a worker in his 30s, and that some members of senior management had made comments about needing “to get rid of the old guys.” The manager subsequently filed a lawsuit against the company seeking two years of lost wages and benefits, as well as compensation for emotional distress. Although ABC believed it was innocent of the allegations, the company determined that defending against the lawsuit would be costly. The case eventually settled out of court for $250,000, while expenses totaled more than $60,000.

Section 2

Employment Practices Claim Senarios

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Sexual Harassment

According to a female employee, a supervisor allegedly made abusive and sexually explicit comments to her and several coworkers. The supervisor also made sexual advances toward the employee, who rebuffed the advances. Shortly thereafter, the employee was terminated as part of a wider company reduction in force. The former employee later brought suit against the company and two managers, alleging sexual harassment, intentional infliction of emotional distress, wrongful termination, retaliation, and sex discrimination. She sought $275,000, plus reimbursement of legal fees.

The employer, a private company with 140 employees, responded with a defense stating that the ex-employee’s personnel file showed she had often been tardy for work, had conflicts with managers, and had patchy performance and that her termination was the result of a broad reduction in force. Records indicated she had been a problem employee, frequently talked about her sex life, and made vulgar comments at work. However, it also came to light that management had tolerated sexual jokes around the office but assumed no one was offended. A court panel ruled against the company, ordering it to pay the plaintiff $100,000 plus her legal fees. In addition, the company accrued $31,000 in defense costs.

Sexual Harassment

A female employee, with XYZ Corporation for two years, exhibited a sudden drop-off in her work performance. Her supervisor set up a meeting to discuss her performance, but she failed to show up. She did show up for a rescheduled meeting, but had alcohol on her breath. She complained during the meeting that she faced continuous sexual harassment from a senior manager and his unwanted advances created a hostile work environment. At the suggestion of her supervisor she agreed to take another position at a different location. She failed to show up for work at the new location and skipped several more meetings with her supervisor. The company terminated the employee. She filed a lawsuit alleging sexual harassment and wrongful termination seeking $1 million in damages. She alleged that a senior manager maintained an uncomfortable closeness with her in the workplace and continually harassed her with questions about her personal life. In subsequent employee interviews, it was discovered the employee and the senior manager were engaged in a consensual romantic relationship over the two-year period. Witnesses said that the employee was also engaged in another love affair at the time, but she and the second lover had broken up at about the time her performance dropped off. The company determined that it would rather settle than go to court. After paying more than $120,000 in defense costs, the company settled with the former employee for $250,000.

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Chapter 3

Fiduciary Liability

Employee benefits are a key piece of the job market today. To employers, excellent benefits like health care and retirement funding are an essential for attracting committed, quality workers.

Sometimes though, problems arise even when programs are set up with the best of intentions. Whether a shaky market shrinks funds or bad investment advice leads to sudden loss, companies need to know what kind of protection they provide their fiduciaries.

Fiduciary Liability Basics

Fiduciary liability got its start in 1974 with the passing of the Employee Retirement Income Security Act (ERISA). In short, the act made companies accountable for the security of their employees’ retirement fund. ERISA’s goal was to have money put into retirement funds treated like money in a savings account rather than money invested in the market. Since workers are not responsible for the decisions made, they should not be punished for foolish investing.

Although the government requires that all employers secure the funds of their workers through fidelity bonds, they do not require that companies take any precautions against fiduciary liability. While some aspects of fiduciary risk could be covered by directors’ and officers’ (D&O) or commercial general liability insurance,

Section 1

FIDUCIARY LIABILITY

In 1974 The Employee Retirement Investment Security Act (ERISA) established standards of conduct for the Fiduciaries of employee benefit plans. Fiduciaries are held to the highest standard of care in the administration and management of these plans, and can be held personally liable for failure to act prudently on behalf of plan beneficiaries in violation of ERISA.

Who is a Fiduciary?

Anyone who exercises discretionary administrative or management control or authority over a sponsored retirement or welfare plan or the plan assets.

Who should be concerned with Fiduciary Liability?

1. Plan Administrators2. Trustees3. Directors or Officers4. Human Resource personnel5. Persons with clerical or administrative

responsibility for pension or welfare plans

Fiduciary Liability

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this is rare. Fiduciary liability resembles these other forms of insurance, but resides in its own distinct category.

Fiduciary Liability: What it’s Not

Fiduciary coverage protects a company’s designated retirement fund managers from allegations of irresponsibility. Having this specific role, it complements other policies but does not extend over them.

Employee benefit liability (EBL) protects benefit managers from mistakes and omissions made in the administration of various employee programs. Such policies cover the typically minor issues that arise over proper filing and enrollment, but do not protect against lapses in how a manager does investing. EBL is largely meant to watch over company paperwork.

Fidelity bonds are requirements of the government to ensure the protection of plan assets. These bonds may only be used to restore funds of the retirement plan in the event of a loss. Charges may be brought against a fiduciary regardless of the coverage provided by bonds.

D&O liability, which protects from improper behavior by company executives and managers, does not provide coverage for actions pertaining to ERISA.

Protecting the Company

Due to the complex communication, advisements and stock market risks inherent to the role of a fiduciary, liability for retirement funds is often shared unfairly or misplaced entirely. Poor recommendations made by third-party financial advisors and sudden swings in a turbulent market can leave responsibility solely on even the best of fiduciaries. Fiduciary liability coverage can help defend a company’s reputation and the reputation of its management.

Link to video of Fiduciary Liability claim scenario.

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Administrative Error

A management-level employee of the ABC Hotel, earning a $50,000 annual salary, died in an automobile accident. The employee’s widow, who was the primary beneficiary of the employee’s group life insurance, wrote a letter to hotel management with 150 employees claiming that the life insurance benefit paid to her under the benefit plan should have been five times her deceased husband’s salary, not two times his salary. The hotel denied the widow’s benefit claim. She sued, alleging that, although the benefit amount had been twice his salary at one time, her husband had requested that the amount be changed to five times just weeks prior to his death. The hotel denied that any change had been requested.

After the hotel investigated the widow’s claim, they learned that indeed her spouse had requested an increase in the amount of his group life insurance coverage, but that the hotel’s human resource representative had not properly processed the request. As a result of this revelation, the hotel settled the widow’s case for more than $250,000. The hotel’s defense costs exceeded $25,000

Denial of Benefits, Improper Advice

The HMO under the media company’s health plan denied payment of medical costs for an employee who was hospitalized following an accident. The HMO claimed that the employee never notified the HMO of her hospitalization, as required under the health plan. In fact, the employee had called her employer’s plan administrator, who advised her that because she’d called the employer it wasn’t necessary that she call the HMO, forgetting that the notification rules had recently changed. The employee sued her employer and the plan administrator over the benefits denial, alleging that she had received improper advice. The case settled for more than $500,000—the amount of the benefits, plus attorney fees.

Section 2

Fiduciary Claim Senarios

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Cause of action Negligent Selection of Advisor

It turned out that the internal investment manager hired by a sports apparel retailer to manage investments of its 401(k) plan was allegedly skimming money off the top of employees’ retirement fund contributions. He was also a relative of the company’s plan administrator and, therefore, a thorough criminal background check was not performed. The Department of Labor (DOL) discovered the scheme during a spot audit. The DOL issued a letter advising the sports apparel retailer of its findings and demanded that the retailer and the investment manager make the plan whole (i.e., replace the funds that were stolen, as well as the investment income the funds would have earned had they been invested as directed by the participants.) If the plan was not made whole, the DOL would pursue additional courses of action, including litigation.

The retailer settled with the DOL prior to litigation and agreed to contribute more than $2 million to the employees’ 401(k) accounts—the amount of funds skimmed from the top of the employees’ contributions and the investment income the funds would have earned had they been invested as directed by the employees. Total legal expenses incurred by the sports apparel retailer topped $75,000.

Imprudent Investment

Employees who participated in a 401(k) plan formed a class action and sued the investment committee, the plan administrator, the plan, and the sponsor organization, a health care equipment and services company. They alleged that $12 million invested in ABC Company guaranteed investment contracts (GICs) was imprudent because of that company’s extensive junk-bond holdings. They further alleged that the investment violated the terms of the master trust agreement, which authorized GIC investments underwritten only by AAA-rated companies. ABC Company was not AAA-rated and was eventually placed in receivership.

Participants and their beneficiaries sued for breach of fiduciary duty. Plaintiffs sought to recover their lost profits—the difference in the value of their investments in ABC Company and the value their investments would have had if they would have been placed in AAA-rated investments. It took three years to arrive at a settlement of more than $4 million, including plaintiffs’ attorney fees. Defense costs totaled approximately $750,000.

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Chapter 4

iRisk.info

Internet Risk Information

On a regular basis I am involved in conversations and e-mail exchanges with clients, colleagues, and business associates on a variety of risk related topics.  Chances are high if one person or business has a specific question or concern, others share those same concerns.  The intent of this site is to post some of these discussions on a monthly basis.  This is a personal site, therefore opinions expressed do not necessarily reflect those of past, present, or future employers.

Web hosting is through Bluehost using WordPress as the publishing platform.  Hyperlinks to other sites are indicated by red text and images. Slides and spreadsheets are stored in Google Drive using the Google Documents format.  Video links from YouTube or Vimeo are displayed in pop-up windows.   Adobe Flash is displayed within a new browser window.

What’s up with the term Blog?  Legend has it the term was coined by web designer Peter Merholz.  “Weblog” became “We blog”. He used the terms “blog” and “blogging” online for the first time in a May 28, 1999 post on http://www.peterme.com/browsed/browsed0599.html.  Be forewarned that web legend and facts posted on the internet, including the iRisk.info site, may not be 100% accurate!

Section 1

CONTACT INFORMATION

iRisk.info

Dan Glover

twitter.com/iRiskinfo

danglover197@gmail.com

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Why Blog?