Back in the 1980s, there was a joke in the City comparing the new class of non-executive director with a shopping trolley. The two main advantages of the non-exec, it was said, were that he was easier to control and capable of taking on more food and drink.
While the joke was off the mark even in the 1980s, in both the US and UK over the last 25 years, expectations of directors, both executive and non-executive, have been transformed. Directorship now carries with it burdensome responsibilities and the increasing risk of personal accountability, not only in the civil courts, but also in criminal proceedings. Directors can be interviewed by regulators, hounded by prosecutors and even extradited to jurisdictions where they may fear an unfair trial.
Over the same period, there has been a growing recognition that, to encourage business leaders to take on these responsibilities, clarity and codification is needed; as is protection in the event that they are criticised by an aggrieved minority of members or by a regulatory or prosecuting authority. Particularly in common law countries, where proceedings are more common and where financial scandals have been prominently reported, many legislatures have relaxed the restrictions on companies indemnifying their directors and/or meeting the cost of D&O coverage.
Just as it has become commonplace for professionals to be sued in the civil law jurisdictions of “old Europe” (and for professionals to insure, or even be required by law to insure, against that risk), so it has for claims to be pursued against directors and for D&O insurance to be taken out. The trend has spread as investment is increasingly made across borders and as multinational organisations acquire smaller entities and impose their corporate governance culture. The exposure of directors to increased liabilities associated with listings, particularly on US Exchanges, has also led to increased demand for annual D&O and “long-tail” prospectus liability insurance products.
Whilst the scope for potential liability has grown in most jurisdictions, the trend towards increased exposure has often been the result of a greater willingness to sue rather than a change in law. Most jurisdictions, for example, have long imposed on directors a duty to act with due skill and care, and in the best interests of the company, or required directors to have proper regard for the interests of creditors when faced with insolvency. What has changed is that legal rights are now being pursued and enforced more often and more vigorously than ever before.
The demand for D&O insurance will inevitably grow across Europe over the coming decade, particularly in those jurisdictions with a strong regulatory environment. It currently appears that this demand will be matched by the appetite to supply of UK-based insurers and reinsurers. The current softness and saturation of the UK market may explain this appetite just as much as the desire to write risks over a broader geographical canvas. At the same time, however, there is also widespread concern amongst UK underwriters that, in Central and Eastern Europe particularly, the writing of D&O cover is fraught with uncertainty. Chiefly, this uncertainty derives from the perceived unpredictability of local courts and from the different ways in which the concept of corporate governance is developing in different jurisdictions.
In practical terms, a careful underwriter who is looking to diversify into other jurisdictions has two ways of containing his risk. The first is through the use of tight wordings, properly tailored to local legal requirements. The second is through the underwriting process.
In recent years, CMS Cameron McKenna has carried out numerous policy drafting and adaptation assignments for international insurers entering local markets across Europe. In itself this speaks volumes for the importance attached by insurers to getting their wordings right. However, in spite of the emphasis already placed on wordings by some insurers, D&O policies are often complex documents, especially when translated. In part, this is unavoidable as D&O is a sophisticated product. However, it is also due to uncertainty as to how the policy will be interpreted in the local jurisdiction. There are some particularly vexed areas:
1. Arbitration, which is often stipulated as the dispute resolution forum to avoid the unpredictability of local courts, is treated with suspicion in some jurisdictions.
2. The possibility that choice of law and jurisdiction clauses will not be enforceable.
3. Differences in the treatment of claims where an insured is accused of dishonest acts, which result in complex provisions dealing with such accusations.
4. Reluctance to cover the risk of claims brought by the company. Although “Insured v Insured” exclusions nearly always contain coverage “write backs” in relation to shareholder-derivative or liquidator actions, the concern remains that companies could try to claim against the directors as a way to recover from their insurers the consequences of the company’s poor financial performance.
5. Claims made cover, while now legal in most European jurisdictions, can be subject to complex rules, which may override express policy clauses. The claims made approach is sometimes not understood even by local brokers and difficulties in enforcement are not uncommon.
6. Unusual local laws, e.g. those requiring all onerous terms to be printed in a different font or countersigned by the insured directors.
Of course, policy wordings can only provide part of the protection necessary in an unfamiliar environment and reliance also needs to be placed on good underwriting process. Again, there are difficulties here for the underwriter:
1. Are the prospective insureds willing or able to provide full disclosure? Even where disclosure is given, it can be generalised and extensive questioning often produces little further detail.
2. What is the senior management’s attitude to corporate governance? How can this be assessed when there is no prospect of meeting the Board?
3. Is there evidence that:
(a) the Board is independent of the major shareholders of the company?
(b) the company is well capitalised with acceptable debt leverage?
(c) the company’s accounting systems are robust (are the company’s public records and accounts reliable)?
4. What is the local business culture? Perhaps unconventional incentive payments, whilst illegal, are nevertheless common. Is unpredictable Government intervention a hazard? An underwriter may be able to contain his exposure by imposing tailored exclusions, but will these operate as intended or be disregarded by local courts?
5. Risk can be managed to some degree through reinsurance and by insisting on large co-insurance elements but in many respects this simply shifts the problem elsewhere.
The picture then is of directors and officers across Europe feeling increasingly exposed to claims and, consequently, of an increasing demand for D&O coverage. Faced with a soft, saturated market in the UK and US (where there is now a high D&O take up even amongst SMEs), insurers have an appetite to meet this demand but (sometimes justified) limited confidence in their ability to assess and contain local risks.
Significant progress has been made in developing wordings and processes that enable cost-effective cover to be marketed across multiple jurisdictions and the market for D&O will inevitably develop further over the next decade. When the claims volume rises and corporations with extensive regional operations start to hit major problems, only the insurers who have underwritten prudently and who have high calibre claims support will continue to thrive in that market.
Stephen Tester is a partner and Will Sefton a senior associate in CMS Cameron McKenna’s specialist D&O sector group, part of the firm’s leading Insurance and Reinsurance Group. CMS Cameron McKenna has over 300 lawyers in offices in Central and Eastern Europe and was voted Central and Eastern European law firm of the year 2007 by PLC Which Lawyer.
