D&O Insurance Policies:
4 April 2006 Tim Hayes
A Directors & Officers insurance policy should provide funding for legal action. But as Tim Hayes writes, it pays to check the small print.
Last week, the US authorities requested to have the 'Enron Three' extradited. They were traders at NatWest and allegedly helped to defraud Greenwich NatWest of £7.3m. But this is not their only problem. They may have to pay for their entire legal defence themselves, which is known to run into millions rather than thousands. Would your directors and officers (D&O) insurance policy cover?
Their legal argument was that any criminal conduct should be dealt with in the UK since this is where they carried out the alleged actions. However, if they are not tried within the UK they will instead be tried in the United States. There, it is very common for all legal actions to be privately funded and the NatWest traders, and any other directors, are unlikely be afforded funding.
The average director is probably comfortably thinking "This will never happen to me as we have a D&O insurance policy in place to fund legal action for directors (as allowed under section 337A of the Companies Act 1985)." But have you read the small print?
It is important to be particularly aware of the exclusion clauses of your company's policy. There might be a clause which excludes liability for matters which are uninsurable under English law. There may also be exclusions for those involved in the manufacturing sector, for example liability for pollution or radioactive contamination. This means that any legal expenses arising from an HSE prosecution, following for example contamination of drinking water, could be excluded.
The Companies Act 1985 prohibits companies from either exempting directors from, or indemnifying them against, any liability 'in connection with any negligence, default, breach of duty or breach of trust by him in relation to the company'.
Although the company is allowed to purchase insurance to cover the expenses of fighting any legal action, it can also reclaim all the costs and damages awarded if the defence is unsuccessful – leaving the director to repay it all.
Another issue is the question of 'ease of access' to legal funding. If you are 'visited' by a Government body such as the FSA or the SFO wanting to question your directors in connection with cartel activity or other criminal conduct, you will need access to a good lawyer immediately. But some policies refuse to make payment for legal fees before the proceedings have been concluded.
This may leave the director to cover all the legal costs for his defence in the meantime.
THE JUBILEE LINE FRAUD CASE
A recent example of what happens when legal costs get out of control is the Jubilee Line fraud case. It was in court for just under two years and took several years prior to that to prepare. It is estimated to have cost the tax payer in the region of £60m0 of which £14m was funded via criminal Legal Aid. Some of the leading QCs involved are believed to have received up to £3,000 a day at trial.
A final, but very important point, is whether your policy lets you access the legal representatives best suited to represent the company's interests. Given the extent of the investigative powers conferred on bodies such as the DTI and the FSA, it is imperative that the legal advisors are fully conversant with all the issues likely to be raised by such bodies. A good legal advisor may spell the difference between 'no further action against the company' versus 'financial penalty, negative publicity and a trip to the local prison'.
If your insurance company limits your choice of legal supplier, you need to ensure that the lawyers being offered to you are qualified in the specific areas of your business. Ask your insurer to provide a list of firms who they are happy for you to use.
This is not an area for 'standard' policies. D&O policies should be considered as part of the risk awareness strategy of any firm. Ensure that it protects you now and in the future, especially if the company's trading style changes. More importantly, make sure it allows access to specialist lawyers. The inability to fund a proper defence could be the difference between a prison spell versus a weekend on the Rivera.