These real-life scandals might not be riddled with all the intrigue and dead bodies that populate “The Takeover,” but the core themes are the same money and power are worth anything.

What does all of this have to do with risk management and insurance? A lot, if you risk managers have been put on the hot seat by CEOs and board members pressing for guarantees that the company-purchased D&O policy will protect them. Or a D&O underwriter who has to review ever increasing amounts of information when underwriting new accounts and re-underwriting even those that have been on the books for years.

The scandals also are haunting insurers that, in the depth of the soft market, expanded D&O coverage well past its initial purpose protecting the personal assets of directors and officers for claims alleging errors or poor judgment when their decisions didn't produce the intended results.

The broad-based addition of entity coverage to many D&O forms has resulted in questions about whether the policy might become the property of a corporation's bankruptcy estate, potentially leaving the directors and officers with substantially less coverage than originally contemplated.

At times like this, Im sure many directors and officers are pressuring their risk managers for information on the status of their policies. So it's a good time to review the types of exclusions that might be particularly important in light of recent developments.

D&O policies typically were crafted with two insuring agreements. Side A provides coverage for directors and officers when corporate indemnification of them is not available. Side B funds claims that are subject to corporate indemnification.

Under corporate indemnification provisions, the corporation indemnifies directors and officers for financial liability from their business decisions.

Most states have enacted laws that allow companies to indemnify their directors and officers at least partially because, without corporate indemnification, many individuals would not serve on corporate boards. When there's only Side A and Side B on a D&O policy, however, there is no coverage for claims against the corporation itself.

A problem often arose when some parts of a claim were covered by the D&O policy and other portions were not. When that happened, the insurer and insured had to allocate coverage between the claim's covered and non-covered parts.

There typically are two types of covered/non-covered situations in D&O actions:

Claims that involve covered and uncovered parties

o Claims that involve covered and uncovered allegations

Some carriers responded to the allocation issue by including “best efforts” language, which meant that the insurer and insured would use their best efforts to arrive at a reasonable allocation between covered and non-covered events. Others offered a preset allocation percentage so the allocation issue was decided before it became a problem.

Other carriers responded by crafting a third type of coverage Side C or entity coverage. Entity coverage, which long had been included in policies for not-for-profit organizations, provided coverage to the corporate body for certain types of claims.

Its this entity coverage that has given rise to questions about whether the D&O policy may be included among corporate assets, as other insurance policies are, in a bankruptcy. If the D&O policy is determined to be part of the bankruptcy estate, the directors and officers theoretically could be left bare.

Along with this is the move by some insurers to rescind policies on the basis of material misrepresentation in D&O insurance applications.

One of the peculiarities of D&O insurance, as well as other types of professional liability coverage, is that the application becomes a part of the policy. There also typically are warranty statements, which indicate that the directors and officers do not know of issues or practices that could result in claims and lawsuits against the board.

The unraveling of complex accounting and financial pyramids, and even financial restatements, has given a number of insurers the ammunition to try to have the applicable policies rescinded. This would result in all coverage being nullified, even for directors and officers who may not have been aware of or involved in the problematic behavior.

Although this may seem harsh to those directors unwittingly left out in the cold, the case is made that these directors should have known what was going on with the companies they manage.

And theres always the point that the D&O “application” is not just the formal, written application that is attached to the policy. It includes the financial statements and history, and all discussions and meetings that were held to negotiate coverage.

Directors and officers, at the least, should understand what is being represented in this application process, even if they're not intimately involved since, after all, its their personal assets that are at stake.

The other issue that unfortunately is taking center stage in the midst of all these corporate scandals is that of fraud. All D&O policies contain exclusions for illegal financial gain or advantage and deliberate criminal or fraudulent acts.

Policies may differ as to what standard must be used to successfully trigger fraud exclusions. Must an insured be judged in a court of law to have committed fraud? Do all appeals have to be exhausted? What constitutes “deliberate” acts of fraud?

But, at the least, the unveiling of so much corporate fraud has given insurers the impetus to try to invoke such exclusions when the question of fraud arises. This is rightfully so, because no insurance policy was ever designed to protect insureds from bearing the financial responsibility for their own fraudulent acts.

If the general public is disturbed by the proliferation of corporate scandals, think of what insurers and their stakeholders are experiencing, knowing that they may be asked to help pay for such white collar crime.

Unlike the ending of “The Takeover,” in which protagonist Falcon finally stands up with the good guys and the corporate crooks are taken down, the jury's still out on many of these real-life situations. And it will be years until the true effect on existing D&O policies as well as how they will be crafted into the future is determined.

Diana Reitz is editor of the National Underwriter Company publication, “The Tools & Techniques of Risk Management & Insurance” as well as the “Risk Funding” and “Self-Insurance” Bulletins, both available at www.nationalunderwriter.com/nucatalog.

Reproduced from National Underwriter Edition, May 21, 2004. Copyright 2004 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.