Just Starting Your Business? What You Need To Know About D&O

In all the excitement of starting a new business, it’s easy to overlook your insurance needs. But securing the right coverage is an important step in the process. One essential coverage is directors and officers liability insurance, commonly known as D&O.

You might be thinking, “We’re too small for D&O” or “Isn’t D&O just for publicly traded companies?” Or maybe you’ve heard that general liability or commercial umbrella insurance covers claims against directors and officers. These are common misconceptions that could leave you unprotected if an allegation is made against your leadership.

Private firms and nonprofits need D&O, too

Plaintiffs’ attorneys do not limit their lawsuits to large organizations. Small and midsize companies are often the target of claims against directors and officers. Even nonprofit leaders aren’t immune to liability complaints.

Private companies have unique risks. Founders and CEOs tend to be more involved in operations and may invest a large amount of their personal wealth in the company. A big loss for them means a big loss to the company.

D&O insurance can be complicated. Your insurance professional can work with you to craft a portfolio of coverages that protects your company and your individual leaders.

What D&O covers

D&O insurance protects your organization’s leadership from personal financial exposure in the event an investor, an employee, a vendor, a competitor, a customer or another party sues them. It covers directors and officers for claims made against them while serving on the board or as an officer of the organization.

There are several kinds of D&O coverage your insurance professional can present to you:

Side A covers the defense expenses, settlements and judgments of your directors and officers if the company cannot indemnify them (such as in a bankruptcy).

Side B reimburses the company when it indemnifies individuals, thus protecting the company’s assets.

Side C, also known as “entity coverage,” insures the company if the directors, officers and company are named as codefendants.

Side A DIC, or “difference in conditions,” policies provide additional coverage that the underlying D&O policy doesn’t insure.

D&O policies have terms during which the insurer will cover “claims made” against your firm’s directors and officers. This is usually one year. If you are obtaining coverage for the first time, make sure there are no exclusions for activities associated with the launch of your business. You should also inquire about legal representation.

If a claim is filed against your company or its leaders, you may have the option to choose your own legal team. But in many cases, your policy will assign lawyers who specialize in D&O lawsuits.

Types of exposure

Directors and officers can be sued for many reasons. Some of the more common exposures include:

Failure to comply with regulations or laws
Failure to provide a safe and secure workplace
Mismanagement
Human resources (HR) issues
Cyber liability
Bankruptcy

Some exposures are excluded from D&O coverage. Fraud, bodily injury, property damage and claims pertaining to the Employee Retirement Income Security Act are excluded. Those may be insurable through other types of coverage.

You might also need a separate employment practices liability (EPL) policy to protect your company, board and officers against employment claims. These are one of the most common types of lawsuits brought against a company’s management.

It’s wise to review your EPL and D&O needs whenever you hire new talent, close a financing deal, invest in new equipment or operations, acquire or merge with another business, or open a new location.

Stand-alone versus bundled

Most public companies purchase stand-alone D&O coverage. Private and nonprofit companies are often more comfortable purchasing D&O insurance as part of a bundled package, which may combine it with fiduciary liability and other related coverages.

Pay attention to your policy limits. These are how much money the insurer will make available for claims brought against your named insureds. Limits can be eroded by payments made under Side B and C, thus reducing the funds available under Side A to pay for the individual needs of directors and officers.

As a point of reference, D&O losses for private companies run about $400,000 on average.

Questions you will be asked

To determine your risk, you will be asked for detailed information about your company. This includes the type of business you have, who your customers are, and whether any claims have been made against your company or leadership.

It will help if you already have policies and procedures to protect your organization against lawsuits. For example, you should have:

Written HR policies banning discrimination and sexual harassment
A written policy regarding social media use in the workplace
A business continuity plan
A network security and privacy policy
A corporate governance program
Written procedures to address fiduciary duties
Written guidelines for performance reviews and policies for addressing unacceptable performance

Build the best program from the start

One of the first questions a potential director or officer will ask is if your company has a D&O policy. These individuals will think twice about joining your firm or serving on your board if they are exposed to personal liability. They don’t want to put their personal assets at risk. In addition, most venture capital and private equity firms won’t invest in a company that doesn’t have D&O coverage because they want to protect their investment.

Obtaining a directors and officers liability insurance policy is an investment in your company’s financial strength. It’s an indispensable part of your risk management portfolio. From budgeting to risk prevention, your insurance professional will tailor your D&O policy to your needs so your leaders can focus on guiding your new endeavor toward success.