KEY D&O POLICY PROVISIONS/ISSUES How They Really Work! 2004 PLUS International Conference 2004 PLUS International Conference San Diego, California November 4, 2004

Carol A.N. Zacharias Counsel ACE Professional Risk The views expressed are those of the speakers and no other organization or person. A. Quentin Orza II Vice President RLI Insurance Group Ernest Martin, Jr. Partner Haynes and Boone, LLP Raul Carrillo Sr. Vice President /General Counsel El Paso Electric Corp. Philip L. Blais President Blais Excess & Surplus Agency of Texas Ltd. PANEL

POLICY PROVISIONS/ISSUES WILL BE REVIEWED IN THREE PHASES: INTRODUCTION – Gray Phase: The panel will provide a basic overview of the policy provision/issue. DISCUSSION – Blue Phase: The panel will discuss a number of the key points surrounding the policy provision/issue. TRENDS – Green Phase: The panel will provide information relating to the past, present and future trends relating to the specific policy provision/issue. AGENDA

POLICY PROVISIONS/ISSUES TO BE REVIEWED BY THE PANEL:  Insuring Agreements  Severability Provisions – Policy / Application  Notice Provisions  Prior & Pending Litigation  Continuity  Change of Control provisions  Allocation  Retention Waivers  Policy Definitions Claim Claim Loss Loss Subsidiaries Subsidiaries Insured Person Insured Person AGENDA

D&O INSURANCE POLICY PROVISIONS/ISSUES INSURING AGREEMENTS  Directors & Officers coverage – available only when the corporation either cannot or does not or is not allowed to indemnify, no retention applies.  Corporate Indemnification – insurer indemnifies the corporation for its obligation to indemnify the directors or officers, subject to a retention.  Entity – coverage for the entity, normally only applicable to “securities claims” and “employment claims”.  Outside Directorships – available to cover executives serving on other boards at the request of the corporation.

D&O INSURANCE POLICY PROVISIONS/ISSUES INSURING AGREEMENTS  Differences in Public / Private forms  What is full entity coverage and what are the pros and cons?  How broad or permissible can the corporate indemnity be?  What if the company is financially unable to indemnify?  What is significance of “pay on behalf” language?  What is difference in “continuity date” and “retroactive date”? Why are these important?

D&O INSURANCE POLICY PROVISIONS/ISSUES INSURING AGREEMENT “Side A” Only Coverage Board Direct Side A Concerns created by “entity coverage” What is Order or Priority of Payments and why is it important?

D&O INSURANCE POLICY PROVISIONS/ISSUES SEVERABILITY PROVISIONS  Severability of the Application provides that directors or officers who were unaware that an application for coverage was provided to underwriters that included false or misleading information cannot be denied coverage because of that.  Severability of the exclusions of the policy provides that the “conduct exclusions” (deliberately illegal acts, fraud or personal profit) of one officer or director cannot be imputed to any other director or officer.

D&O INSURANCE POLICY PROVISIONS/ISSUES SEVERABILITY PROVISIONS  Full severability - (Wedtech, SDNY, 1990; Atlantic Permanent, 4 th Cir. 1988)  Imputation to the entity  Application Materiality  Standards for determining “fraud in the application” differs by jurisdiction (e.g. Texas is favorable to the insured; New York is favorable to the Insurer)  Variations in policy applications concerning knowledge of potential claims

D&O INSURANCE POLICY PROVISIONS/ISSUES SEVERABILITY PROVISIONS  Entity  Specified Positions  Non – rescindable Side A  Limiting imputation wording to past executives to a 4 year period from last date of service

D&O INSURANCE POLICY PROVISIONS/ISSUES NOTICE PROVISIONS  Claims Made or Claims Made & Reported  “Notice of Circumstances”  Some have limited automatic extensions of time to report claims – usually 30 to 60 days.  Extended Reporting/Discovery/Tail Coverage

D&O INSURANCE POLICY PROVISIONS/ISSUES NOTICE PROVISION “Notice by the Insured” “As soon as practicable” Knowledge of claim by General Counsel or Risk Manager or equivalent Prior/Pending Litigation Exclusion or Endorsement

D&O INSURANCE POLICY PROVISIONS/ISSUES NOTICE PROVISION  Bilateral/unilateral discovery  Set premium or to be determined  Notice of claim provided to agent vs insurer

D&O INSURANCE POLICY PROVISIONS/ISSUES PRIOR & PENDING LITIGATION PROVISION  Prior & Pending Litigation Date  Litigation not limited to D&O litigation

D&O INSURANCE POLICY PROVISIONS/ISSUES PRIOR & PENDING LITIGATION PROVISION P/P date as of inception or backdated? New carrier on existing limits New limits “Laundry List” of claims – pros and cons

D&O INSURANCE POLICY PROVISIONS/ISSUES PRIOR & PENDING LITIGATION PROVISION Underwriter’s willingness to backdate varies depending on condition of market – hard or soft. Becoming a necessary element for competing underwriters to obtain “new” business Does the wording swallow up the coverage (“arising from similar facts, circumstances, situations” language)?

D&O INSURANCE POLICY PROVISIONS/ISSUES CONTINUITY PROVISION: Continuity is not defined in the policy. The continuity date is the date an application that included a warranty statement was signed regarding knowledge of claims or circumstances that could give rise to a claim.

D&O INSURANCE POLICY PROVISIONS/ISSUES CONTINUITY PROVISION: Importance of maintaining continuity Main Form Application vs Renewal Application

D&O INSURANCE POLICY PROVISIONS/ISSUES CONTINUITY PROVISION: Waiver of application Automatic inclusion of public information, i.e. Amend definition of application to..” Public documents filed by an organization with the securities and exchange commission during the last 36 months and prior to the inception date of the policy.

D&O INSURANCE POLICY PROVISIONS/ISSUES CHANGE OF CONTROL PROVISION:  Change of Control/Organizational Changes  What are the triggers? Variance of triggers in policy forms.  What happens to the policy?  How this provisions effects availability of premium financing

D&O INSURANCE POLICY PROVISIONS/ISSUES CHANGE OF CONTROL PROVISION: Proxy fights Bankruptcy Emergence from Bankruptcy Board changes Security for “Old Director” decisions Who pays the premium? Purchase and Sale Agreement may require 1-6 years of coverage be purchased by the “Old Directors” if available in the market at a predetermined % of the annual premium

D&O INSURANCE POLICY PROVISIONS/ISSUES CHANGE OF CONTROL PROVISION: Different language in various insurers’ policies Specific Waivers of Change of Control provisions

D&O INSURANCE POLICY PROVISIONS/ISSUES ALLOCATION PROVISION: Covered & Uncovered Parties Covered & Uncovered Claims or Allegations

D&O INSURANCE POLICY PROVISIONS/ISSUES ALLOCATION PROVISION: s"Best Efforts" / “Relative Benefits” sAlternative Dispute Resolution sPredetermined Allocation sCoinsurance sOther Solutions

D&O INSURANCE POLICY PROVISIONS/ISSUES ALLOCATION PROVISION:  Entity coverage or no entity coverage  Protection of individual directors assets  Intent of Directors and Officers coverage

D&O INSURANCE POLICY PROVISIONS/ISSUES HAMMER CLAUSE:  Defense and Settlement Conditions  To settle or not to settle  “Dropping the hammer”

D&O INSURANCE POLICY PROVISIONS/ISSUES HAMMER CLAUSE  Example of “Hammer” Negotiations  Hard v Soft “Hammer” Clause

D&O INSURANCE POLICY PROVISIONS/ISSUES HAMMER CLAUSE:  Competition in market place affects insurers’ willingness to negotiate amended hammer clause.

POLICY DEFINITION - CLAIM: Claim includes written demand for monetary or non monetary damages and injunctive relief. A claim can also include formal civil, regulatory and criminal investigations and formal regulatory proceedings. D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - CLAIM: oCivil and/or Criminal Investigations? oRegulatory Investigations? oWritten demand for injunctive relief? oInformal investigations? oInformal regulatory proceedings? oCommenced by service of a subpoena D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - CLAIM: s The definition of claim rarely includes “oral demands” as there is a significant lack of documentation or proof of such demand. s Also, recently carriers have been amending the s Also, recently carriers have been amending the definition of claim (as respects to Securities Claims) not to include administrative or regulatory proceedings against the company unless an Insured Person is also continuously involved in the claim. s The broader the definition of “claim”, the more diligent the insured must be in notifying the insurer of the “claim”. D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - LOSS: Loss includes damages, settlements, judgments and defense costs. D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - LOSS: Punitive Damages coverage – blanket or securities Punitive Damages coverage – blanket or securities Claims only? Most favorable jurisdiction language? Taxes, fines, penalties, multiple Taxes, fines, penalties, multipledamages? Disgorgement and restitution, under SOX or otherwise? Disgorgement and restitution, under SOX or otherwise? Uninsurable matters? Uninsurable matters? Dividends and other profit distributions excluded? Dividends and other profit distributions excluded? Derivative demand investigative costs covered? Derivative demand investigative costs covered? Treatment of “Bump up / Bump down” claims Treatment of “Bump up / Bump down” claims D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - LOSS:  Level 3 case  Conseco case  Does Level 3 and Conseco make Securities Coverage illusory? D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - SUBSIDIARY: Subsidiary is an entity in which the named Insured owns directly or through its subsidiaries, more than 50% of outstanding securities that represent the right to vote for such entity’s directors. The standard definition of Insured organization includes those subsidiaries owned or controlled on the inception date of the policy. D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - SUBSIDIARY: Newly acquired or created subsidiaries – automatic coverage, time limitations, etc.? Newly acquired or created subsidiaries – automatic coverage, time limitations, etc.? Joint ventures, limited partnerships Joint ventures, limited partnerships D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION - SUBSIDIARY:  Trend in reducing the auto sub threshold  Trend in reducing the auto sub reporting period D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION – INSURED PERSON(S): Insured Person (s) includes past, present and future members of the board of directors and duly elected officers of the company. Most policies also extend the coverage to all past, present and future employees of the company as respects securities claims. D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION – INSURED PERSON (S): Broader definition of Insured person may Broader definition of Insured person may dilute coverage available to D&Os Spousal coverage Spousal coverage Claims by former directors or officers (time Claims by former directors or officers (time limit for applicability of Insured v Insured exclusion) Blanket independent contractor coverage under definition of employee Blanket independent contractor coverage under definition of employee Impact of partnerships and joint ventures as insureds Impact of partnerships and joint ventures as insureds D&O INSURANCE POLICY PROVISIONS/ISSUES

POLICY DEFINITION – INSURED PERSON (S): What is an “officer” and “director”? What is an “officer” and “director”? Domestic Partner Extension Domestic Partner Extension D&O INSURANCE POLICY PROVISIONS/ISSUES