Cover Me

As restatements go these days, it seemed a pittance. What's more, the change reported by Westaff, a temporary-staffing company, looked like a positive one. Partly because of tax-law changes in the federal economic stimulus bill enacted in March, the Walnut Creek, California-based company should have recorded a $3.1 million tax benefit in the second quarter. The company made the change at the start of September, restating a $1.7 million net income loss to a $1.4 million gain in the process. The move was apparently too arcane to even merit a press release. Still, it was a restatement, and anytime a company issues a restatement these days — positive or negative — there is understandable concern about possible shareholder suits. After all, many CEOs and finance chiefs, including Westaff CFO Dirk Sodestrom, have begun certifying corporate financial statements under the mandates of the Sarbanes-Oxley Act of 2002.

"The piece of paper that starts out 8¹/2 by 11 inches becomes three feet by five feet in a court of law," says Doug Hagerman, a corporate lawyer with Foley & Lardner in Chicago.

Little wonder that CEOs and CFOs — as well as board audit-committee members, who are also endowed with new individual responsibilities thanks to Sarbanes-Oxley — are keen on maintaining solid corporate directors' and officers' liability insurance coverage. In the current economic climate, however, that coverage is becoming increasingly costlier and skimpier.

In fact, Fortune 500 companies have seen their premiums soar 200 to 400 percent on their most recent policy renewals, according to Lou Ann Layton, a Marsh insurance broker. In a recent CFO.com online poll, 27 percent of respondents said their companies either doubled or tripled their D&O premium payouts when they last bought coverage. And while companies in high-risk industries like telecommunications or biotechnology have the most to worry about, Layton says "this is the worst D&O market in the 21 years I've been in the business."

Bumping Up Deductibles
The current D&O crunch follows more than a year of more gradual market hardening. In 2001, for example, premiums for the line rose about 29 percent, according to a survey of 2,130 organizations released by Tillinghast­Towers Perrin in June. The increases picked up steam late that year as a result of losses to other property/casualty insurance lines stemming from the terrorist attacks. ("I personally think that 9/11 enabled D&O underwriters to jump on the bandwagon" of rate increases, says Layton.) And early last summer, D&O insurers really began to turn up the heat — intensifying their scrutiny of insureds and stepping up price hikes.

But that was only the start. Corporations are now being asked to retain a lot more risk. For instance, a Fortune 500 company with a $1 million deductible is typically being asked to bump that up to $5 million to $10 million, says Layton. Bigger corporations that once retained $5 million have seen their deductibles soar to $15 million to $25 million.

Coverage packages have also become much trickier to assemble, according to the Marsh broker. Wary of assuming too much risk in these scandal-plagued times, an underwriter that previously would insure $25 million of the $100 million of the basic D&O coverage typically bought by a large corporation might pick up only $10 million or $15 million. To sweeten the deal, the carriers may offer to provide the balance of the $25 million in less-risky excess coverage. But excess insurance provides coverage only once the costs hit a certain (high) level.

That has sent brokers scrambling to still other insurance companies for bits of coverage to keep their clients' primary insurance programs intact, according to Layton. The process tends to add transactional costs into corporate insurance bills and anxiety to risk managers' psyches. A big worry is that uninsured gaps will turn up in a company's insurance program — one reason Jeff Pettegrew, Westaff's vice president of insurance and risk management, characterizes the current D&O coverage as "a basket with leaky holes."

Alarming Takeaways
Keeping coverage intact for extended periods is another struggle. Like most other companies, Westaff has a "claims-made" D&O policy. That means that coverage is triggered only when a claim against the insured is filed — rather than, say, when the accounting problem that spawned the claim occurred. If a claim is filed after the policy year, the company could end up with no coverage. For that reason, extending the life of the policy for at least a year is essential, says the risk manager.

But such "extended-tail" coverage comes with a price: for a one-year extension of its claims-reporting period, Westaff paid the same premium as it did for its basic coverage to its carrier. In past years, insurers commonly provided extended-tail coverage at a discount, typically 75 percent of the base premium, says Pettegrew.

Costly as D&O insurance is, most companies are able to buy some form of it. Still, CFOs need to be alert to a substantial narrowing in the scope of that coverage. "The D&O policy gives very broadly and takes away very specifically," observes David Mair, a vice president of the Risk and Insurance Management Society. After a sweeping statement that coverage is triggered by a "wrongful act," the standard policy excludes coverage if the act is intentional (although the intent must be adjudicated, which rarely happens in practice), and sets out a laundry list of other exclusions. For example, the policies generally exclude coverage for "unentitled personal profit," such as certain bonuses executives at Enron were alleged to have received.

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