Directors' liability insurance

Like free-spending consumers who saved scarcely a penny in the boom, companies can find their emergency provisions lacking in more testing times. Share prices on the up made for happy investors – and less need for insurance against stockholder lawsuits. Now, that protection is crucial. Securities litigation filings surged 26 per cent in the first quarter, according to insurance specialist Advisen. As a result, premiums for so-called D&O insurance, which covers directors and officers if they are sued and is key to attracting heavyweights to a US board, are soaring for the crisis-stricken financial sector.

While D&O protection rates generally fell 2-3 per cent in the first quarter, the cost for financial companies rose more than 30 per cent. Insurers, already reluctant to write higher-risk financial policies, are tightening up further. Premiums must compensate for some $6bn in expected losses on subprime or crisis-related suits. Include coverage for errors and omissions, says Advisen, and losses could reach $9.6bn. Meanwhile, even the largest policies, at perhaps $800m, can be quickly gobbled up by legal fees before possible damages – especially when companies face multiple suits.

Insurers are increasingly willing to challenge the validity of policies when claims hit. Which directors get first dibs – a source of dispute at AIG – is one headache. The structure of D&O insurance creates other problems. A large policy would typically involve a co-ordinating primary insurer, plus numerous excess insurers, splitting coverage between them. That means battles about who pays out and when. Worse, where costs clearly outstrip the primary insurer's commitment, some have walked away, leaving peers to manage the case. AIG, at least, has an advantage negotiating these pitfalls. The beleaguered insurer, which wrote about a fifth of financial sector D&O back in 2006 and 2007, was itself the market leader.

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