The marketplace for directors' and officers’ liability insurance is changing, but what those changes ultimately will mean is not yet clear. In a classic case of cause and effect, litigation and losses that have been pressuring D&O insurers for some time are prompting underwriters to raise rates, tighten terms and conditions, and cut capacity. D&O for public companies has changed dramatically, and financial pressures are now forcing changes to coverage for private and nonprofit organizations as well.
The private company D&O marketplace is hardening overall, for the first time in many years. The last hard market for management liability lines occurred between 2001 and 2003, when rates for all classes of business went up. In 2019, however, changes are happening. Insurers are showing varying appetites, with some aggressively courting certain risks and others showing declining interest in quoting some industries, such as healthcare. Insurers also are willing to walk away if they are unable to get their desired rates.
What that means for retail agents and their insureds is the D&O marketplace is becoming more complex and difficult to navigate. Generally, insurers are seeking higher rates for both private and public company risks:
- Private companies: 5% to 15% increases, depending on geography
- Public companies: 25% increases, with 25% to 35% or even higher on accounts with prior losses or difficult financial conditions
The majority of accounts will need to explore the marketplace to obtain the broadest coverage and best pricing for their D&O programs.
D&O insurance is designed to respond to a wide range of claims against individual directors' and officers'. Liability can arise from claims including the organization’s financial performance, mismanagement, failure to comply with regulations or laws, employment practices, and even cyber events. Publicly traded companies have the additional risk of facing lawsuits over their reported earnings and stock performance.
Initial public offerings represent another subset of D&O risk because they typically come with high expectations from investors. IPOs have steadily risen since 2016, and so far in 2019 several high-profile companies have gone public (source). Although IPO performance has generally been strong this year, a large percentage soar then crash, triggering litigation. For that reason, underwriters that cautiously entertain D&O for IPOs usually insist on sizable retentions and lower limits. Unicorns, or start-ups valued at $1 billion or more, are seeing some of the highest-ever rates for D&O coverage.
D&O coverage comes in three forms, known as “sides”:
- Side A. Provides financial protection when the company cannot or will not indemnify the individual directors' and officers', such as per a court order.
- Side B. Reimburses the company when it indemnifies individual directors' and officers'.
- Side C. Also known as entity coverage, this responds when both individual directors' and officers' and the company are named as co-defendants. This will only apply to public companies in the event of a securities lawsuit, but it can apply to private companies for other causes of loss, such as employment practices, unless specifically excluded.
LOSS DRIVERS AND MARKET REACTIONS
Two of the biggest factors influencing the changes in the overall D&O marketplace. One is increased litigation, driven in part by the #MeToo movement of victims reporting sexual misconduct and concerns about companies’ failure to maintain adequate data security, and the other is a longer-term deterioration of profitability for liability insurers.
Statistics on private litigation are difficult to find, but one measure of litigation trends is lawsuits brought by federal agencies. Since 2016, the U.S. Equal Employment Opportunity Commission (EEOC) has sharply increased the number of lawsuits it has brought against employers. Reflecting momentum in reporting incidents of workplace sexual harassment, the EEOC in fiscal 2018 received more than 7,600 such claims, the vast majority filed by women (source).
Two major factors in the market’s reaction to publicly traded companies are the continuing growth of shareholder derivative litigation and multiple years of profitability pressure. Securities class-action litigation continues at a near record pace, according to the Securities Class Action Clearinghouse (SCAC), a collaboration of Cornerstone Research and the Stanford Law School. Through the first half of 2019, the SCAC reports that the total number of filings, 198, is the fourth highest since the enactment of the Private Securities Litigation Reform Act in 1995 (source).
Another factor in the insurance market’s reaction to publicly traded companies is the U.S. Supreme Court’s March 2018 ruling in Cyan Inc. v. Beaver County Employees Retirement Fund. The Cyan decision found that states retain concurrent jurisdiction in lawsuits alleging claims under the Securities Act of 1933, in effect increasing the exposure of directors' and officers' to such litigation in state courts in potentially multiple state court actions arising out of IPOs and Secondary Offerings (source).
During the past five years, D&O liability premiums have grown modestly, but they have been outpaced by increases in losses and loss containment costs. According to A.M. Best Company, in 2014 the P&C industry’s direct loss and direct cost containment ratio was 58.4%, compared with 66% in 2015, 65% in 2016, nearly 80% in 2017 and more than 73% in 2018. Direct written premium in D&O between 2014 and 2018 only grew 3%, to $6.6 billion (source).
Insurers’ reactions to these trends vary. Their options, if they want to continue offering D&O coverage, are straightforward: raise rates, tighten terms and conditions, or reduce the amount of coverage they are willing to write for certain types of business. Underwriters may exercise one, two or all three of those options when writing an account.
More insurers are broadening the exclusions in D&O policies, a change from the past, when underwriters were more willing to carve out coverage of certain exposures. For instance, the antitrust exclusion historically was intended to preclude coverage, including defense costs, for claims alleging violation of federal antitrust laws. Now, some underwriters are expanding the wording so the exclusion could apply to any type of claims alleging anticompetitive behavior. An example: a private company is sued by a competitor that alleges it harmed the competing firm’s ability to compete by hiring away key employees. In other exclusionary language, the addition of the words “arising out of” broaden the impact of the underlying exclusion. Therefore, it is important to review the policy wordings carefully, to avoid coverage gaps.
As the size of awards and settlements increase, some trends are emerging in excess programs, including:
- Limit reductions. Some excess D&O underwriters are cutting back capacity and offering reduced limits. That can mean a coverage tower will require the participation of more markets than before, which can make placing coverage somewhat more challenging.
- Increased limits factors. Traditionally, the rate on an excess layers might cost 50% to 60% of the underlying layer. ILFs reflect the fact that claims are penetrating higher layers, forcing insurers to charge more for those layers than they might have in the past. ILFs of 70% or more are not uncommon in D&O today.
- Rate inversions. In some cases, rate inversion is occurring on excess layers, with underwriters charging more for higher layers than lower ones. This may eventually lead underwriters to require disclosure of pricing on all underlying layers.
WHAT RETAILERS SHOULD DO
Retail agents seeking D&O coverage for their customers should take the following steps to obtain the best offerings in the marketplace:
Prepare insureds for changing conditions. Managing expectations is always prudent, but it is especially important when market conditions are firming. Insureds may have become accustomed to relatively easy renewals at expiring terms, with minimal to no rate increases. Retailers should initiate conversations with their insureds well in advance of preparing submissions.
Start early on renewals. For D&O risks, retailers should begin discussing renewal plans with their insureds at least 60 days out, and even longer is recommended. This is a change from prior years, where a program could be bound without difficulty relatively close to renewal. As insurers look to mitigate their exposure by offering lower limits, D&O programs may require more participation and therefore take longer to fill out. More time to renew makes it easier to find solutions.
Gather all the details. A submission with missing data is easily dismissed or moved to the bottom of an underwriter’s pile. The more information that underwriters have up front on an insured’s risk, the better consideration it will get. That is particularly true when an account has prior loss experience. Submissions should provide comprehensive information and document steps the insured took to mitigate future occurrences.
Work with a specialist partner. There is no substitute for knowledge of the D&O marketplace when creating insurance programs. A specialist wholesale partner with experience and scale in this line of business has strong relationships with leading markets. Some retailers may be tempted to submit the same risk to more than one wholesaler to get competitive pricing, but that is a mistake. Doing so sends a negative message that makes the submission less attractive to insurers. Every professional wholesaler strives to get the broadest coverage at favorable pricing. Trust your wholesale partner to seek the best offerings available in the current marketplace.
As D&O underwriters react to increasing claims and pressure on profitability, private and nonprofit organizations should expect to see changes in insurance market conditions. Retail agents need to prepare their insureds for shifts that could include sharp rate increases, tighter coverage terms, and reduced capacity. Navigating this evolving marketplace and obtaining the best coverage available requires a specialist with experience in the complexities of D&O coverage.
Contact your CRC Group producer for more information.
- Ed Antonucci is a Director in CRC’s Chicago office and member of the ExecPro Practice Advisory Committee.
- Allyson Benda is a Senior Broker in CRC’s Nashville office, and member of the ExecPro Practice Advisory Committee.
- Mike Robison is a Senior Broker in CRC’s Dallas office and ExecPro National Practice Leader.
- Jason White is a Managing Director in CRC’s Los Angeles office and ExecPro National Practice Leader.
- TC Forscht is a Senior Broker in CRC’s Nashville office and member of the ExecPro Practice Group.
- William Helsley is a Senior Vice President in CRC’s Suwanee, GA office and member of the ExecPro Practice Group.