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Middle-market executives who expect their company's traditional directors and officers liability insurance to completely absorb the financial impact of a foreign bribery or corruption investigation could be in for a sour surprise should a probe occur.
Whether publicly or privately owned, most middle-market companies' D&O policies will provide coverage for costs arising from formal proceedings and investigations brought against individual executives for violations of the U.S. Foreign Corrupt Practices Act, as well as derivative civil lawsuits filed by investors or other stakeholders, according to several attorneys and insurance professionals.
But even with a comprehensive D&O policy in place, experts noted, middle-market firms in particular may find their coverage doesn't address the bulk of costs typically associated with enforcement actions and investigations conducted by U.S. regulators, let alone foreign governments (see related story).
Most FCPA investigations are conducted on an informal basis prior to an insured's receipt of an official complaint or subpoena, events that typically trigger D&O coverage. Absent some form of supplemental coverage, those “preclaim costs”—which can run into the millions of dollars—ultimately fall on the company or its directors.
“D&O doesn't respond very well to FCPA investigations, as opposed to actual FCPA proceedings,” said Machua Millett, a Boston-based senior vp at Marsh USA Inc. “You're not incurring a great deal of costs in relation to the actual complaint, you're incurring them through the course of an investigation, much of which might not be covered by your D&O insurance.”
Additionally, some insurers may exclude expenses associated with internal investigations, or any other costs deemed “voluntary,” according to Robert Yellen, chief underwriting officer for executive liability at the New York-based Chartis Inc.
“Practically speaking, most folks are going to feel extremely compelled to comply with any request from a regulator, even if, legally speaking, they're not required to do anything,” Mr. Yellen said. “In that circumstance, it's possible that an underwriter is going to deny payment because the policyholder wasn't obligated to take on those expenses.”
Severability can be another sticking point for policyholders when D&O coverage responds to an FCPA enforcement action, as not all traditional policies provide separation of exclusions for insured parties.
The U.S. Securities and Exchange Commission and the Department of Justice have offered leniency in the past for cooperation or self-reporting a violation. But doing so without additional liability coverage could be risky, because many traditional D&O policies do not provide severability of exclusions for all insured parties.
Aside from constraints embedded in policy definitions and conditions, experts said many middle-market companies' D&O coverages might not be able to withstand an FCPA violation from a purely financial standpoint.
“Often times, companies don't seem to have purchased big enough limits on their D&O policies,” said Greg Husisian, a Washington-based attorney with Foley & Lardner L.L.P.
In 2008, the New York Law Journal estimated that internal investigations alone can cost between $2 million and $20 million.
Considering breadth of materials regulators tend to request in the course of even an informal inquiry, the potential length of an investigation, and ever-rising legal and forensic accounting fees, Mr. Husisian estimated that the average cost of an FCPA probe has more than doubled in the past five years.
Derivative lawsuits also can present a problem for middle-market companies.
“When these things come up, they're very serious matters,” said Kevin LaCroix, executive vp at OakBridge Insurance Services L.L.C. in Beachwood, Ohio. “It's red-alert stuff because the potential consequences for the company or its executives can be so severe.”
In the past few years, a handful of stand-alone insurance products and excess endorsements have emerged to narrow coverage gaps for some market segments, experts said.
In the past few years, a handful of underwriters have augmented their D&O programs or, in two cases, developed new stand-alone products to narrow coverage gaps for some market segments, experts said.
Zurich North America, Chubb Corp., Aegis Insurance Services Inc. and Travelers Cos. Inc. are among the U.S.-based insurers that have expanded coverage for pre-claim investigation costs on a limited basis, either by way of endorsement, excess Side A coverage or a rewritten base D&O form.
Chartis introduced its Executive Edge and Investigation Edge insurance products in 2010 and 2011, which respectively provide preclaim investigation coverage for individual executives and insured entities.
“We would not prevent a private company from taking up the Executive Edge product, but it's not typically what they buy,” Mr. Yellen said, adding that the product also addresses severability issues, voluntary payments and reputation crisis management.
Though Executive Edge was designed primarily for publicly traded companies, Mr. Yellen said some of its features are available on an endorsement basis for privately held firms.
Investigation Edge, which covers pre-claim inquiries for securities violations but can be endorsed to include the FCPA and other bribery laws, “is not really inviting for private companies,” Mr. Yellen said.
In July 2011, Marsh USA Inc. launched FCPA Corporate Response, which is underwritten by XL Group P.L.C., designed specifically to address costs associated with bribery and corruption-related litigation. The policy provides legal, accounting, auditing and consulting fees for entities and individuals, as well as pre-claim investigative expenses incurred from self-reporting a violation, or internal investigations that lead to a formal FCPA claim.