This is part two in a series on claims examples where directors and officers insurance can provide coverage. You can access Part 1 here.
It’s common for the media to cover high profile suits against corporate directors and officers. What isn’t as common, but happens much more often, is that directors and officers of smaller, privately held corporations are also sued.
The following are claims examples taken from behind the boardroom doors of companies that may not attract international headlines, but are still at risk. The good news is that all of these scenarios were mitigated by a directors and officers insurance policy.
1. Misrepresentation to Investor
A private investment firm invested in a property development company to purchase and renovate condominium units. The firm subsequently alleged that two of the directors of the development company made misrepresentations as to the financial viability of the project and that the investment would produce enough revenue to service the bank loans as well as pay dividends on the firm’s investment.
The project failed and the bank sued all the investors for non-payment of loans. The investment firm also sued the directors and officers for damages caused by the alleged negligent misrepresentations made regarding the financial viability of the project. Counsel was retained and entered into a settlement with the investment firm on behalf of the insured directors and officers.
Defence costs incurred by the insurer: $155,000.
2. Misrepresentation to Creditor
A corporation had entered into a long-term agreement with a supplier to purchase the raw materials it needed in its manufacturing operations. At one point, the supplier raised concerns with the CFO about the growth of unpaid invoices. The CFO and two directors of the company assured the supplier that the outstanding debt would be paid in full after the next shipment was received, as they were expecting payment on a large receivable.
Soon after, the corporation was declared bankrupt without paying the debt. The supplier brought a claim against the insured CFO and two directors, personally alleging that the misrepresentations as to the financial state of the corporations had led the supplier to extend credit to the corporation to the supplier’s detriment. The claim proceeded to arbitration and found the CFO and the directors liable for negligent misrepresentation.
Defence costs incurred by the insurer: $300,000, plus the substantial arbitration award.
3. Breach of Fiduciary Duty, Appropriation of Corporation Opportunity
The insured officer in a software programming company was sued by his former employer for appropriating confidential information about a new development project he had worked on in his previous job. A settlement was reached involving the relinquishing of the information.
Defence costs incurred by the insurer: $67,000.
4. Breach of Trust
Investors sued the insured directors and officers of a bankrupt company for $11.5 million alleging that, before the financial failure, the officers had applied funds earmarked for a commercial property development investment to pay off mortgages on a recreational resort property owned by a subsidiary of the company. It was further alleged that this was done under the authorization of the company’s directors. The claim was defended and eventually settled for a fraction of the demand.
Defence costs incurred by the insurer: $175,000.
A final note about Directors and Officers Insurance
The bylaws of most organizations allow for the indemnification of directors and officers for losses they incur while acting in their capacity as directors and officers.
When indemnification takes place it is the organization that is out of pocket rather than the individuals. If, however, the organization is bankrupt, indemnification cannot take place and the directors and officers must face defense and potential settlement costs on their own. Indemnification may take place if the directors or officers:
- Acted honestly and in good faith with a view to the best interests of the corporation.
- In the case of a criminal or administrative action or proceeding that is enforced by a monetary penalty, had reasonable grounds for believing that their conduct was lawful.
