VideoEven as they seek bailout dollars from Washington, financial-services firms shouldn't expect any relief from their insurers. Premiums for directors'-and-officers' (D&O) liability insurance are soaring, financial limits are contracting, and policy terms and conditions are tightening. The situation is so acute that the cost of D&O policies for some firms is nearing the actual coverage limits provided. Is 95 cents for a dollar of insurance really worth it?
Not all CFOs in the embattled sector confront the same woes, however. Jill Paterson, executive vice president and CFO of Fireman's Fund Insurance Co., had it relatively easy. Allianz, parent company of Fireman's Fund, was able to renew its D&O coverage with only a slight increase in premium and no change in terms and conditions. "Our experience was well below industry average," says Paterson, chalking it up to Allianz's conservative investment philosophy. "From an investment standpoint, we're actually kind of boring," she says.
Boring is good these days if a company is seeking decent treatment by D&O insurers at renewal time. More daring plays in subprime mortgages and credit default swaps have decimated investment portfolios, invited regulatory intrusions, and incited shareholder wrath. As share prices swoon for many banks, investment banks, and insurance companies (in some cases reaching zero, with many others watching to see how Washington's actions will affect them in this regard), securities class-action lawsuits against their directors and officers are keeping lawyers busy. Of the 210 federal securities class actions filed last year, almost half (103) involved firms in the financial-services sector, according to Stanford Law School Securities Class Action Clearinghouse. "This level of litigation intensity against a single industry [financial services] is unprecedented," says Joseph Grundfest, director of the clearinghouse.
The financial firms named as defendants in a securities class-action suit last year represented more than half the sector's total market capitalization, with nearly a third of all large financial firms named as defendants. NERA Economic Consulting cites 110 securities class actions related to the credit crisis, an increase of almost 300 percent from 2007. So far, only three settlements in the subprime/credit crisis have been reached, two for less than $10 million and the other a $475 million tab absorbed by Merrill Lynch.
Given the volume of lawsuits and the possibility of other large settlements, insurers are skittish in the extreme, and not only regarding D&O coverage; errors and omissions, fiduciary liability, and employment-practices liability are also under scrutiny and are similarly tightening.
Fortunately for industries outside of financial services, it's a completely different story. D&O insurance premiums remain largely unchanged, with the same coverage terms, conditions, and limits. "From an insurance standpoint it's an odd dynamic: two different D&O markets, one for financial institutions and one for everyone else," says Dan Bailey, a partner at law firm Bailey Cavalieri, which specializes in D&O litigation. "One market is relatively flat, the other has been hit very hard, with prices more than doubling for many."
Dave Hennes, director of risk management at The Toro Co., a $1.8 billion manufacturer of turf-maintenance equipment, says negotiations on his upcoming property/casualty (P&C) insurance–policy renewals, including D&O, have been about as exciting as watching grass grow. "We're hearing from our brokers that after several years of softening prices, the market is flattening and we should expect roughly the same or slightly lower costs, as well as the same terms and conditions in the expiring policies," he says.
No Casualties in P&C
In a bit of good news, P&C insurance (not including D&O) is posing no issue at all. "Thirty-four banks have failed since the beginning of the financial crisis; no insurers have failed," says Robert Hartwig, president and chief economist at the Insurance Information Institute. "Banks are reducing and eliminating their lines of credit; insurers are renewing existing policies and paying claims. Not a single [P&C] claim has gone unpaid since this crisis reared." (See "P&C Survives the Storm" at the end of this article.)
That may provide scant consolation to financial-services firms, which have little choice but to bear the extra cost for D&O coverage. Directors and officers on the losing side of a securities class action are personally liable financially for both legal defense costs and the ultimate payout or settlement. D&O insurance, particularly Side A coverage, which protects the directors and officers in the event the overall policy's financial limits are exhausted, is vital in recruiting and retaining top-notch senior executives and board members. Despite the current economic climate, forgoing full coverage to save a few million dollars is unwise. "This is not the time to save money on premiums by taking on more D&O risk internally," Paterson says.
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