When we begin our careers as employees, we aim to improve our jobs and keep working to grow. That’s why when we hear the word ‘promotion’, our eyes light up and know the hard work has paid off. The harder and smarter we work, the more promotions we reach until we get that manager or CEO title.
Thus, roles like CEOs, CFOs, HR and any manager come with great responsibility and authority. These roles fall under the category known as directors and officers (D&O). Directors are responsible for supervising, managing and leading the company’s direction (at the top of the company board). Corporate officers are high-level management executives hired by the business’s owner or board of directors, for example, CFO, Human resources manager, IT managers and more.
D&Os are in charge of a team and an extensive range of duties that affect the company and stakeholders. It is a title that comes with numerous amount of risks. Mistakes will happen; sometimes, the mistakes lead to lawsuits against the directors or officers. D&O insurance will cover any team member who falls under the D&O category and faces a claim.
Therefore, the article will explain in depth why every company with managers and CEOs needs directors and officers D&O insurance.
What is D&O Insurance?
As directors or managers, you are directly and personally liable for any decision you take for the company. Knowing that there is a large number of parties that may sue you for your work decision. These members include your shareholders, your employees, government, clients and more.
Directors & officers (D&O) insurance policies offer liability cover for company managers to protect them from claims that may result from the decisions and actions by performing their duties. Therefore D&O insurance has become a regular part of companies’ risk management.
Fortunately, D&O insurance will cover the cost defence against the claim; if the case is lost, the insurance will pay for the financial loss.
How will D&O Insurance Protect your Liability?
Breaches of Fiduciary Duty
When a client pays for a product/service, the company has to provide what is paid for on the arranged date and in the desired condition. This is known as a ‘Fiduciary Duty‘. In the same spirit, a manager must act in a way that benefits the company. The three fiduciary responsibilities are the duty of care, the duty of loyalty, and obedience.
Types Of Fiduciary Duty
Duty of Care: Duty of care means that directors and officers must give the same care and concern to their board responsibilities as an employee would. (attending meetings, committing to goals and contributing to company success)
Duty of Loyalty: D&O must always place the company’s interests ahead of their personal interests. Publicly disclosing any conflicts of interest and not using board service as a means for personal or commercial gain.
Duty of Obedience: the D&O must ensure that the company follows all related laws and regulations and doesn’t engage in illegal or unauthorised activities.
If a director or officer accidentally breaks one of these fiduciary duties, they will be liable for the consequences.
For example, A vice president (VP) of a manufacturer determined that diversification into a different product line presented sales potential for his company. However, instead of presenting that opportunity to his employer, the VP shared it with his brother. The brother formed a new company to produce that product. As a result, shareholders sued the VP, alleging that he wrongfully took advantage of an opportunity belonging to the corporation. Accordingly, the lawsuit settled for $2.5 million.”
In this case, if the VP were covered with D&O insurance – it would pay for the settlement cost. D&O insurance can save a director or officer by paying for all the defence of claims, any financial loss or possible compensation costs to the clients. It is vital to be protected against any breach of fiduciary duty as the director or officer may not intend to break any of the duties and may occur due to a mistake, miscommunication or delay.
Misuse of Company Funds
Clients trust the business enough to pay money in exchange for products or services. Therefore, companies should use the money to operate. However, managers or directors may mistake their money with the company’s funds. Misuse of company funds can harm the business and creates trust issues in the organisation.
An example, a director takes money out of the company every month to invest in his wife’s new business. The money belongs to the company, and the department managers have the full right to report to the board, who can sue the director for misuse of company funds.
Although, in some cases, it can be unintentional. For example, directors or officers may not have the time or expertise to keep good records, and personal expenses get mixed up with business expenses.
It can ruin a business and its reputation. Especially if the misuse of funds leads to the company declining or going bankrupt, this will be noticed and allow shareholders and clients to sue the company. D&O insurance can help the director or officer by providing legal costs to a director/officer to defend themself against civil and criminal proceedings. The cover will pay for defence proceedings and expenses related to the claim as long as the wrongful act was not illegal. Without D&O, they would have to pay for all the claims and defence, resulting in a significant financial and reputation loss.
Failure to Comply with Regulations
Every business has some laws and regulations they must follow to operate in that country and industry. The government and heads of organisations take these laws and regulations very seriously. Laws and regulations can range from labour laws, health safety regulations and common criminal laws. However, a director or officer can accidentally test the limits of laws due to the pressure on the business.
For example, an F&B business may be performing very well and not have enough staff for the night shift; they would have to request the day staff to do the night shift, too, resulting in the staff working for 14 hours in the day. Consequently, this would break labour laws, as an employee is meant to work only 8 hours a day. The employee could sue the company with help from the labour department. The HR manager will have to pay the consequences and be fined, even if the director added the pressure.
D&O insurance is a great cover to have in these situations. The insurance can protect the director or officer who is fined and accused of breaking the law or regulation. Therefore in the example, the HR manager will be safer with D&O insurance, which will cover the defence costs and also may cover the fines against her. Fortunately, the manager will get a chance to explain that the law was broken unintentionally for business reasons. This is why it is essential to have D&O insurance, as one never knows when one might face a claim regarding regulations.
Lack of Corporate Governance
In a firm, the directors and managers ensure employees are treated equally. It is a part of corporate governance and is one of the most critical factors in running a business. Corporate governance is the arrangement of rules, traditions and processes by which a company is directed and controlled. Ideal corporate governance involves managing the equal interests of employees, shareholders, customers and the government. Lack of governance is when a company does not balance these interests and focuses more on financial factors.
A lack of governance can allow an employee to sue the director. Lawsuits due to bad working conditions or discrimination in the company. A popular example of a lack of governance is managers or directors discriminating against employees due to gender, where female employees are paid less than males. Gender discrimination can lead to a strong case against the manager and damage the company.
D&O insurance will still assist the manager while facing these claims. The insurance will cover any related costs regarding the claims due to an accidental lack of cooperate governance. Managers are protected by D&O insurance; they do not have to worry about handling a large team, as management can’t control everyone and mistakes or miscommunication are highly common. Therefore, with D&O insurance, the lawsuit or claim will not financially affect the managers as much as it would without insurance coverage. However, the insurance will not cover if the lack of governance was intentional and breaks serious laws.
Do I need D&O Insurance?
Every business should consider investing in D&O insurance, including non-profit organisations. Your company doesn’t need an income of millions for your directors and officers to be personally sued.
D&O insurance will cover an extensive range of liabilities for any director and officer on duty. With D&O insurance, you and your officers can focus more on what matters to the business.
However, the insurance has its limits, depending on the case and the seriousness of the claim. D&O insurance will not always be able to protect you from imprisonment or any other intense lawsuits where the manager is evidently at fault. Although, it is the best insurance to invest in to deal with surprise lawsuits.
To conclude, with D&O insurance, directors and officers can avoid financial loss, company shutdowns and unwanted negative reputations.