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The Rise of Directors & Officers Liability Insurance Premiums: What Does it Mean for the Future of Businesses?
Risk and how to rate it is a serious consideration for organisations, their Directors and ultimately – their insurers.
Organisations are under pressure with some reporting up to a 500% increase in Board Directors’ liability insurance premiums.
At the moment, the COVID-19 pandemic is the go-to reasoning for any ill-effects in business but the impact of increased premiums on Directors fees has been building over a number of years.
In February 2020, The Australian reported on the effects of increased class action lawsuits on Directors and Officers (D&O) Liability Insurance premiums in Australia.
“An unprecedented wave of class actions sparked by the Hayne royal commission has triggered a 400 percent increase in Board Directors’ liability insurance premiums that is now spilling from the banking and financial services sector into other industries facing regulatory scrutiny.
Over the year through to October 2019, Westpac’s director and officer liability insurance premiums jumped by 264 percent. For the coming year, Westpac has been slugged with a further 51 percent increase for its D&O premium, taking the cumulative increase over the two-year period to 400 percent.”
D&O Premiums on the rise globally
Double-digit premium increases are not limited to the banking and financial services industries.
The world’s largest insurance broker, Marsh, recently provided a submission to the Australian Parliamentary inquiry on litigation funding and the regulation of the class action industry to highlight the issues facing organisations when securing D&O insurance.
Their data found that the average increase for D&O insurance in Australia was 225% for the first quarter of 2020 with some even soaring by as much as 500% for the biggest firms listed on the Australian Securities Exchange.
Their report highlighted the case of Australia’s largest grain handler, GrainCorp Ltd. In February 2020, its brokers reportedly quoted it a 567% year-on-year increase which the company said it did not accept “because the price was crippling.” Instead, the report notes, it made a “material reduction” in the total extent of its cover and raised deductibles across it and United Malt Group Ltd, which was spun off from GrainCorp in March.
It was reported that the agribusiness paid AU$1.03 million for D&O insurance in 2019 compared to AU$685,000 in 2018. In 2020, brokers said the price would jump to more than AU$6.86 million for a policy covering both United Malt and GrainCorp.
The Wall Street Journal reported that this is not just an Australian issue, but one facing boards globally. Analysis by AM Best found that D&O prices increased by 44% in the United States in first-quarter 2020, according to published reports, and AM Best expects triple-digit rate increases in a post-COVID-19 world.
Increases are here to stay.
Along with the current complexity of navigating the pandemic and its effects on business, the AM Best report said that the spike in litigation had been caused by events such as cyberattacks, the #MeToo movement and bushfires. The report also said that companies are facing potential litigation over “emerging exposures” such as Environmental, Social and Governance (ESG) issues, as well as climate change.
While Marsh and others are now calling for urgent reform to class action lawsuits, premiums for D&O insurance have been on the rise for several years.
In 2018, the Australian Prudential Regulation Authority (APRA) highlighted the increase in D&O premiums. At that stage they noted:
“APRA is not alarmed by these recent developments in D&O insurance but continues to closely observe the market looking for potential flow-on risks to the economy and community. While D&O insurance is a relatively small part of the overall general insurance business, it has an important role to play in ensuring that company directors retain the confidence to make appropriate decisions without fearing they will be held personally liable for any adverse outcomes. Without this product, companies may find themselves unable to attract and retain board members with the skills and experience they require, potentially resulting in poorer governance and consumer outcomes.”
At the time of writing this article, no further public statement had been made from APRA on the staggering premium increases.
What does this mean for Businesses?
We hear time and again that small businesses are the engine room of the economy.
Small businesses provide volume and variety to the market but often do not have more than 1-2 Directors and no formal board. D&O premium increases are not likely to have a material effect on their operations.
Mid-sized and scaling organisations, which are often overlooked as the “missing middle”, are the organisations that deliver significant economic impact and are also the ones that are most like to bear the brunt of the negative impacts of double digit premium increases.
Faced with almost unattainable D&O insurance premiums, Mid-sized enterprises may struggle to attract Non-Executive Directors or even opt to significantly reduce the size of their Boards or reduce cover/increase deductibles in an attempt to make the insurance premiums financially viable.
In the face of staggering increases to their insurance premiums, these organisations must still navigate the very risk factors that are driving up the premiums.
As APRA noted, “in addition to their traditional day-to-day obligations and duties, company directors face increasingly complex responsibilities, including ultimate responsibility for their company’s governance around risks such as climate change, cyber risk and data privacy. Another risk they need to manage is the growing frequency of law suits against companies.”
The report from Marsh also highlighted that “some directors have already opted to resign on account of potentially insufficient protection for liabilities associated with their directorships.
New Forms of Support for Executives and Boards.
The increasing D&O insurance premiums are a result of the underlying complexity and volatility that exists in business. These factors are not going to go away but organisations, and their boards, can take practical steps to address them.
Lack of knowledge, skills, or currency of information is a key area that increases both complexity and risk for boards. Despite the media firestorms, most organisations, and the people within them, have the intent of “doing the right thing”. However, this is where execution risk is critical. Boards have the responsibility – and personal exposure.
The rate of change means that it is almost impossible for organisations to have the internal mastery to effectively navigate the change and confidently assess the associated risks.
Developing a strong, yet flexible, network of trusted Advisors with diverse and current skills provides boards with the practical support they need.
There is a marked increase in organisations implementing Advisory Board structures to provide support to executives and directors in their critical thinking to enable timely and informed decision making.
When built on a best practice foundation, the flexibility of Advisory Boards, enable organisations and boards to develop agile business models that can act with speed and accommodate risk both locally and abroad.
The Time to Act is Now.
The staggering and “unprecedented” increases in D&O premiums will have a ripple effect across all businesses. The increased costs may not be able to be absorbed and will ultimately be passed on through the supply chains. Organisations that are unable to attract and retain quality directors will be less capable to meet their obligations and ultimately successfully execute on their strategies.
The global Advisory community stands ready to support organisations and boards now and into the future.