A generation ago, directors and officers of U.S. multinational corporations could rest assured that their companies’ global master insurance policies would absorb the risk of shareholder and regulatory actions filed against them in foreign locales. Now, there are nuances to consider that make this posture much less certain.
In the past, many foreign countries lacked U.S.-style rules, regulatory enforcement and especially class actions against companies and their directors and officers. This is not the case today, as several foreign jurisdictions are inching closer to U.S. litigation and regulatory standards.
“The U.S. plaintiff bar for years has been exporting their expertise into other countries, trying to get them to duplicate U.S. laws,” said Dan Bailey, a D&O attorney and partner at Columbus, Ohio-based law firm Bailey & Cavalieri. “Clearly, we do not have the same level of exposure for directors and officers overseas as we have here in the United States. But, in a number of countries, this is certainly an increasing exposure.”
This slow evolution is already resulting in more litigation against U.S. directors and officers in several other countries. Nilam Sharma, partner and global head of insurance liability at international law firm Ince & Co., cited three reasons directors and officers are being named in more lawsuits abroad. “First of all, there are more jurisdictions outside of the United States adopting class action and collective action status,” she explained. “Second, there has been an increase in shareholder activity. Finally, we have ‘litigation funding’ here in the United Kingdom. In order to fund the litigation, companies that are not a party to the litigation agree to fund it in return for a proportion of the damages.”
The financial crisis is a factor spurring greater scrutiny and intervention by regulators in Europe and Asia, as is stepped-up regulatory enforcement action. Numerous investigations have been launched into alleged improper sale of mortgages, credit cards and payment protection insurance by financial institutions in the wake of the financial crisis, Sharma said.
A 2012 report by market research firm Advisen noted that the reasons for added regulatory enforcement include a European culture growing more litigious, and the fragile economic condition of the European Union making it more likely that directors and officers will be targeted in investigations and lawsuits. “Several high-profile corporate failures in which perceived or actual negligence by corporate leaders have guided the European Union and its member states to pass corporate governance reforms that have resulted in greater transparency and, in some cases, heightened accountability for directors and officers,” Advisen reported.
Another evolving risk and insurance challenge for U.S. multinational companies is the propensity of foreign insurance regulators to require that organizations purchase insurance from admitted, local carriers. A “master” D&O insurance policy underwritten by a U.S. insurer and predicated on covering the insured’s exposures worldwide will no longer suffice, unless the insurer has a regulated subsidiary in these countries or so-called “tie-in” arrangements with indigenous insurers.
These various issues are piling up to create anxiety among U.S. directors and officers. According to a March 2013 survey by Towers Watson, 71% of directors and officers of public companies and 50% at private companies expressed significant concern over the scope of their D&O insurance coverage. The study also found that 80% of directors and officers had inquired about the financial limits of their company’s D&O insurance.
Certainly, the rising tide of high profile D&O cases outside the United States is a factor in directors’ unease. “There’s no question we are seeing more D&O litigation abroad and the specter of even more down the line,” said Geoff Fallon, a retired D&O attorney who now provides expert witness services.
One case in point is the 2012 filing of criminal charges by Brazilian authorities against 17 key executives at Chevron and drilling rig operator Transocean for environmental damage caused by an oil spill in November 2012. “Although pollution doesn’t traditionally slide into D&O, because management was involved, the judge brought them into the lawsuit, ordered their passports surrendered and had them incarcerated,” said Tom Sheffield, FINPro International Leader at insurance broker Marsh. “Obviously, that got our clients’ attention. They asked, ‘Does insurance cover these risks?”
The answer is not conclusive. Although many brokers and carriers do their best to ensure client risks are clearly identified and addressed, the problem is the shifting regulatory and legal landscapes of many countries like Russia, India, South Africa, China, Brazil and even Britain. “If the United Kingdom implements U.S.-style class actions—which has been in the air for many years—that will dramatically alter liability for directors and officers,” Fallon said.
Lee Lindsay, managing director of international D&O in insurance broker Aon’s financial services group, pointed out that, when she was based in the United Kingdom a few years ago, there were repeated attempts by U.S. plaintiff attorneys to export U.S.-style class action litigation tactics against companies and their directors and officers. “They explained that, if a company’s stock fell, a class action provided a measure of recourse,” Lindsay said. “While their attempts failed, they have not gone away.”
Corrupt Practices Under Scrutiny
Some countries like Canada and Australia have quickly caught up to the United States in terms of D&O litigiousness, Fallon said. Meanwhile, the extraterritorial reach of U.S. laws like the Foreign Corrupt Practices Act (FCPA) and agencies like the Office of Foreign Assets Control (OFAC), are subjecting directors and officers of U.S. companies based outside the country to scrutiny “twice over,” Sharma said.
“They’re scrutinized first by U.S. authorities and then, secondly, by local regulatory authorities,” she explained. “Regulators are also collaborating more. The disclosure of evidence in one jurisdiction gives another regulatory authority reason to identify if their own laws have been breached.”
Bailey agreed, adding that, with regard to FCPA, “The United States and a number of other countries are cooperating at an unprecedented level to chase after executives allegedly involved in corrupt activities.”
In 2010 alone, there were a reported 74 FCPA actions brought by the Department of Justice or the Securities and Exchange Commission (SEC), compared to an average of 23 during each of the previous six years. One FCPA case highlights the potential impact: In December 2011, U.S. authorities brought charges for FCPA violations against several former executives of German engineering firm Siemens AG and its Argentine subsidiary. The charges came three years after the company had resolved its case with the U.S. Justice Department and the SEC for $800 million, the largest FCPA penalty ever imposed against a company, according to the Advisen report.
“While none of the European legal systems are as favorable to plaintiffs as the U.S. system, a number of countries now provide mechanisms through which disgruntled shareholders can collectively bring suits against companies and their directors and officers,” the report said.
Exporting the Risk
In the past, the United States was perceived as the only viable jurisdiction to file litigation against the directors and officers of U.S. companies. This changed in 2010, when the U.S. Supreme Court ruled in Morrison et al. v. National Australia Bank that U.S. law regarding securities fraud does not apply to investment transactions that occur outside the country. “The result of the decision is that the laws in several foreign countries like Canada and the Netherlands were subsequently changed to permit D&O lawsuits to be filed in their courts,” Lindsay said. “Basically they’re saying, ‘Come here and we’ll help you settle these cases.’”
The Advisen report affirmed, “Plaintiffs now are more likely to file lawsuits in their local jurisdictions as opposed to bringing the cases to the U.S. court system as they did in the past.”
There are also repercussions from the global financial crisis. While the impact in Europe has largely been on financial institutions—confined to litigation against these firms and not their directors and officers—signs of change are afoot.
“Mary Jo White, the new head of the Securities and Exchange Commission, recently made a comment that, going forward, the SEC will start its investigations with the individual and then work out to the entity,” said Ann Longmore, executive vice president of broker Willis’ FINEX practice. “I’ve heard similar statements being made in the United Kingdom. They’re raiding corporate pockets right now and not the individual. But there are signs this is changing.”
Mastering the Master Policy
While insurance is the remedy for risks that keep people awake at night, the efficacy of global master D&O insurance coverage is under review, as the Towers Watson survey underscored.
“The fundamental premise of the standard D&O policy issued in the United States is that it affords global coverage,” Bailey said. “In other words, there are no territorial limitations—the policy would cover a claim against the directors and officers of a Brazilian subsidiary, for instance.”
The problem, however, is that a number of foreign countries have implemented laws requiring that the D&O policy be purchased from a locally admitted insurer or an insurer that is owned by local interests. “Other countries have laws that limit the terms of coverage. For example, the coverage cannot be claims-made,” Bailey said.
The solution, of course, would be to purchase a D&O policy issued by a local insurer, in addition to the master D&O policy. But, is this the right solution? “You can certainly buy a separate D&O policy in every country where you have directors and officers, but this is very expensive and administratively cumbersome,” Fallon said. “I can count the number of companies that do this on one hand. In one case—an international oil company—it had 14 separate policies. Obviously, this is not a realistic solution for many businesses.”
A more cost-effective method is to acquire a master D&O insurance policy from a carrier that has an array of locally admitted insurance subsidiaries conforming to the buyer’s geographical footprint. “Some insurers have strong global footprints and can apply their local resources on the ground to provide D&O protection, thereby complying with local regulations,” Sheffield said. “An alternative is to buy insurance from a carrier that has a relationship with a local insurer to ‘front’ the D&O policy for it. In this example, part or all of the risk would be ceded by the local insurer to the master carrier.”
Not all countries allow such fronting arrangements, however. “The laws in Argentina, Brazil, Poland, Qatar and Russia forbid tie-ins from a local insurer into a U.S. worldwide policy,” Fallon said.
Another way to comply with the requirement for insurance bought locally is through Lloyd’s of London. “Lloyd’s is licensed in some 70 countries around the world, so the thinking goes that one policy issued by Lloyd’s can be used anywhere Lloyd’s has a syndicate,” Lindsay said. “My question is, has this been approved by the regulator in each of these 70 countries? Lloyd’s says they’ve been doing this for years and it’s not a problem. But others I’ve talked to are not sold.”
Fallon counsels purchasing a local insurance policy simply to hedge the uncertainty of local laws. “I attended a conference recently in which a corporate attorney from India was asked whether or not a particular type of loss was insurable,” he recalled. “The attorney didn’t know—not because he hadn’t done his homework, but because the law was undeveloped there. This uncertainty is not exclusive to India—it permeates the international D&O landscape. That’s why a separate, local policy makes most sense, in my view.”
But will the limits of a local policy suffice to address the risk? Longmore noted that recent fallout from the onslaught of post-financial crisis claims is putting duress on the policies’ financial limits of coverage. “We’re seeing the local policies and the global programs pay out,” she explained. “This is making us reassess the size of the local limits being carried.”
“[Regulators] are going after the ‘mother ship’—the corporation,” she said. “But, if they start to go after the individual directors and officers, there is a risk of being woefully underinsured. If the global towers of insurance can’t pay locally, we’ll need more local limits.”
Getting the Right Help
This fast-changing and rather opaque landscape undoubtedly is unsettling for directors and officers of multinational corporations and, by extension, their risk managers. Bailey advised that risk managers only transact with “truly knowledgeable insurance brokers and carriers. And there aren’t as many of those out there as you would like to believe.”
Sharma counseled that risk managers need to be more involved in understanding exactly what their D&O policy will cover, noting that too many leave it to the broker or a single board member. She added that risk managers should also exert more effort to understand what their companies do and where they do it in order to make sure the D&O policy covers the exposures in those jurisdictions and scenarios that are not well known. “Who are the decision makers in the companies outside of the home office and are they being consulted before the D&O policy is placed? It is important to identify the local culture and legislation and ensure the D&O policy will operate in that jurisdiction,” she said.
Bailey shared this view. “The most important message for companies that have a lot of subsidiaries is to navigate the local laws of foreign countries and be prepared to be frustrated with this process,” he said. “The laws are just not well-defined in terms of their D&O issues because these issues are new. Statutes aren’t well drafted and there are virtually no legal precedents on these issues.”
While Bailey recommended hiring local counsel to sift through the laws, even this is not a panacea. “The sad truth is that, at the end of the day, you still won’t have a lot of confidence you’re getting it right.”