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2002 Casualty Actuaries in Reinsurance: D&O Liability Session - 9/19/02 Paul N. Brodeur, Vice President D&O Product Manager, Travelers Bond Douglas S. Colosky, Esq., Vice President, Executive Liability Claims, Travelers Bond Michael F. Mc Manus, FCAS, MAAA, Senior Vice President and Actuary, Chubb Group of Insurance Companies
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Session Outline Evolution of D&O Insurance Coverage Private Securities Litigation Reform Act of 1995 Soft Market Stock Market Corporate Governance Crisis Current Market Reaction What does the Future Hold
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Evolution of D&O Insurance Coverage Original Intent – provides coverage to D&O’s for non-indemnified claims. Addition of coverage for corporate indemnification in the early 1980’s. Throughout Late 80’s and early 90’s evolution of allocation language. Best Efforts Nordstrom Case – end of Best Efforts Pre-set allocation with Relative Legal and Financial Exposures Language. Entity Securities Coverage (1995)
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The Private Securities Litigation Reform Act of 1995 (PSLRA-95): Intent Institute procedural changes in securities litigation. Provide safe-harbor for forward looking statements by public companies. Restrict joint and several liability, heighten loss/causation requirements, modify damage calculations.
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PSLRA-95: Procedural Changes Allegations of fraud must be plead “with particularity” and demonstrate facts that give a “strong inference” of fraudulent conduct. Appointment of lead plaintiff. Appointment of lead plaintiff class counsel. Prohibition of referral fees. Settlement disclosure.
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PSLRA-95: Procedural Changes (cont’d) Sanctions for frivolous pleadings. Discovery reform. Safe harbor for forward looking statements. Proportionate liability. Loss causation. Damages.
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The Post-Reform Era (In 2001 312 IPO allocation/laddering lawsuits were filed) Source: Stanford Law School Securities Class Action Clearinghouse
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The Post-Reform Era Stock drop – automatic causation. Policy final adjudication language. Inadequate retentions relative to alleged loss. Importance of motion to dismiss. Pressure on issuer to settle within limits of the policy.
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Evolution of D&O Insurance Coverage – Soft Market Reduction in Retentions Waiver of retention for a finding of no liability Elimination of co-insurance Reinstatement of limits Bilateral Discovery Severability of application and some exclusions Final adjudication language in fraud exclusion
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Evolution of D&O Insurance Coverage – Soft Market (Con’t) Deletion or reduction in scope of exclusions, including management carve-backs on key exclusions Non-entity Employment Practices Liability coverage Multi-year policies with no cancellation Blended programs Back-dated Prior and Pending Litigation dates Waiver of warranties
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D&O Insurance Premium Trends Tillinghast-Towers Perrin D&O Premium Index Trends 2001
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D&O Insurance Capacity Tillinghast-Towers Perrin Full Limits Capacity (in millions) 2001
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D&O Insurance Coverage – Soft Market New Entrants Increased Capacity Reinsurance readily available Increased Competition Scope of coverage dramatically expanded Decreasing pricing
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Impact of Bull Stock Market Unprecedented stock market runup in late 1990’s kept shareholders generally happy Fueled by technology and telecom stocks Internet stock IPO’s created massive market caps that were largely speculative and ripe for disappointment and failure
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LADDERING Claims involve 300+ companies that went public in 1998-2000 during height of bull market Allege that underwriters colluded with their customers to artificially drive up stock prices by allocating shares at cheap, premarket prices in exchange for promise to buy more shares in aftermarket at higher prices (“laddering”) Also allege that underwriters solicited excessive and undisclosed commissions in exchange for allocations of “hot” IPO shares Liability exposure appears greater for underwriters than issuing companies
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Class Action Frequency Trend
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Class Action Severity Trend
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Securities Fraud Mega-Settlements: (> $100 million dollars) Cendant Bank of America Waste Management II 3 Com Waste Management I Rite Aid Microstrategy Informix Sunbeam Conseco Ikon Prison Realty $ 3.527 Billion $ 490 million $ 457 million $ 259 million $ 220 million $ 193 million $ 192.5 million $ 136.5 million $ 125 million $ 120 million $ 111 million $ 104.1 million Source: Stanford Law School Securities Class Action Clearinghouse
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Corporate Governance Crisis Enron Worldcom Tyco Adelphia Imclone Lucent etc.
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D&O Insurance Market Reaction Prices on primary increasing by a minimum of 25% with many accounts seeing 100% increases Accounts with claims or in tough industries are seeing 100% + increases and in some cases can not fill out their program Increases in Retentions Contract Restrictions and use of co-insurance Return to underwriting as opposed to writing “deals”
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D&O Insurance Market Reaction (Con’t) Cut back in limits extended on one risk. More selective use of capacity. Reinsurance- price increasing, coverage restrictions, restrictions in capacity. January 1 renewals will set the tone for 2003. Return of A-side only towers. Potential elimination of Securities Entity Coverage
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Sarbanes-Oxley Act - July 2002 Requires CEO and CFO certification of financial information for the 947 largest companies Increased penalties for violation of securities law Increase Statute of Limitations – claim can be brought within 2 years of discovery or 5 year of the event. Requires further study of enhanced financial disclosure of off-balance sheet transactions and use of SPE’s, analysts conflicts of interest, and lawyers responsibility to report violations.
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What Does the Future Hold?
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