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A Time of Transition: The State of the Public D&O Market

It's safe to say 2019 was an interesting time in the directors & officers insurance space, and the coronavirus pandemic isn't making things any easier.
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The Chinese have a saying, “May you live in interesting times.” However, it’s more of a curse that signifies a period of disharmony and chaos. It’s safe to say that 2019 was an interesting time in the public directors & officers space. 

For the first time in a very long time, we saw real firming of conditions that impacted premiums and retentions, as well as all layers—primary, excess and Side A of difference in conditions (DIC) to varying degrees. The impact differed depending on a number of factors, but it was felt by everyone.

Given the new reality of the coronavirus pandemic, it is always helpful to look back and see how we got here to better understand and protect our clients’ interests.

Securities Litigation Activity Continues at Historically High Numbers

While we can quibble about whether the severity of the firming is justified, the simple reality is it has not been easy being a public D&O carrier. 2019 saw yet again a historically high number of securities class action filings, with 404 total cases, up slightly from 402 in 2018 and down slightly from the high in 2017 of 412.

Admittedly, a significant portion of the bump in the past 3 years are merger objection suits, perhaps the most frivolous type of securities litigation today, which are now being filed in federal court at higher numbers due to new barriers to settling such suits in state courts. Even so, there were about 250 “traditional” class actions filed in 2019, which is still meaningfully above a historical average of approximately 200 filings a year.

Even worse is the litigation rate, which is the probability of a public company being hit with a securities class action. Historically, the rate has been under 3%, but we have far fewer public companies today while filings are skyrocketing. The rate was 8.4% in 2017 and 2018, and 8.66% last year, all historically high numbers. 

Even by removing merger objection suits, the litigation rate is still over 5%. These are meaningful increases, and while the chance of dismissal remains high for many cases, the reality is it is still costing carriers and clients’ real money to get out of these cases.

The IPO Market Is Bonkers

If life can be tough for mature public companies, forget about initial public offerings (IPOs). 2019 saw a market correction the likes of which has never been seen in close to two decades in public D&O. In late 2018 into early 2019, you could find $10 million primary options for $250,000 to $350,000 with $1 million to $1.5 million securities claim retentions. 

By the end of 2019, primary $5 million—and sometimes $2.5 million for the more difficult risks—were pricing at $800,000 to $1,000,000 with $10 million to $20 million retentions. Yes, you read that right. $40 million limit programs that costs approximately $500,000 to $600,000 a few years ago could now easily exceed $2.5 million to $3 million. Results vary by industry, risk profile, and more, but the scary thing is that this change was not only warranted but two years overdue.

Are Boards at Greater Risk Today?

Why the IPO market has gotten so bad could fill an article of its own, but the quick story is that a few years ago some enterprising plaintiffs firms started filing these cases in state courts, with a focus on certain courts in Northern California. They are referred to as Section 11 cases, which is a reference to the provision in the Securities Act of 1933 that governs liability arising from the registration filing. 

The negative impact this had cannot be overstated. I had a number of clients sued in the local Northern California state court that was the epicenter. Cases that should have been dismissed ended up settling for up to $32 million, not including multi-million dollar defense bills. 

As riveting as discussions about insurance market conditions can be, the ultimate question is if boards are at greater risk today than before. The honest answer is yes and no.

Yes, there are historically high numbers of filings, a great likelihood of being sued and there is no indication that is going to slow down. We’ve seen plaintiffs’ firms more aggressively pushing the boundaries of Section 11 cases. The reality, however, is more nuanced, as “normal” class actions still have a high probability of being dismissed or settling within the historical median that is below $10 million. 

What to Expect in 2020?

Clients have a number of questions about the D&O impact of the coronavirus pandemic. I expect this will be yet another example of the event-driven securities litigation that we’ve seen the past few years, and while proper disclosures and controls are not a barrier to being sued, they are important facts to help get the suit dismissed.

Of more pressing concern is the sheer scope of the economic and market dislocation that is likely to get worse. Depressed share prices are one thing, but I worry just as much, if not more, about mutual private company clients who are more at risk of shutting down, either voluntarily or involuntarily. This has risk implications in many areas, such as D&O, employment practices liability and others.

A properly structured D&O policy should be there in the event a director or officer is sued in their capacity as such arising from COVID-19. The most obvious coverage issue is the bodily injury exclusion, but there is language that candidly should already be in place to ensure that the exclusion is sufficiently narrow to potentially cover a follow-up D&O suit. This is particularly true for public companies.

Conditions were tough before, and this will certainly not make it any better. In the end, all we can focus on is what we can control—and that is the services we provide to clients. We should never lose sight that D&O at its core is a very personal insurance protecting real assets of real people. These difficult times require reasoned counsel, creativity and guidance more than ever.

Rodney Choo is senior vice president, executive lines, RPS.