Even with the recent expansion of coverage under ABC policies, directors and officers can still obtain broader coverage under many Side A D&O policy forms available in the market. Examples of some of these extraordinary Side A coverage features, which are generally not available in ABC policies, include:

• Broad excess “difference-in-conditions” or “DIC” drop-down feature.

  In other words, the Side A policy will drop down and respond if an underlying insurer fails or refuses to pay loss for any reason, including the underlying insurer not covering a loss, wrongfully refusing to pay a loss or becoming insolvent.

•     Narrow “conduct” exclusions.

For example, under many Side A policies, the conduct exclusions are not applicable to defense costs even when the exclusions are triggered, unlike ABC policies. In addition, some Side A policies state that the conduct exclusions do not apply to claims against independent directors or if the majority of disinterested directors waives the exclusion with respect to a claim. ABC policies typically do not contain these carve-outs to the conduct exclusions.

• Narrow or no “bodily injury/property damage” exclusion.

Some Side A policies completely delete this exclusion. Those Side A policies that retain the exclusion frequently state the exclusion does not apply to pollution claims or if the majority of disinterested directors waives the exclusion. ABC policies typically do not contain these enhancements.

• Narrow or no “Entity v. Insured” exclusion.

Some Side A policies completely delete this exclusion, unlike ABC policies. Even if the exclusion is retained, many Side A policies contain several broad carve-outs not found in ABC policies. For example, the Entity v. Insured exclusion applies only if at least two current senior executive officers of the company approve or assist in prosecuting the claim by or on behalf of the company, and the exclusion does not apply either if the majority of disinterested directors waives the exclusion or if independent legal counsel opines that the fiduciary duties of the company's directors and officers require them to bring the claim.

• No ERISA exclusion.

Unlike ABC policies, Side A policies do not contain an express ERISA exclusion.

These coverage enhancements can be critically important for directors and officers if they incur a loss described above and if that loss is neither indemnified by their company nor paid by the ABC insurers for any reason. In that situation, a broad Side A policy is the only protection available. Absent a high quality Side A insurance program, that non-indemnified loss must necessarily be paid out of the personal assets of the directors and officers.

NO LIMIT OF LIABILITY DILUTION

The limit of liability under a Side A policy is available to fund only non-indemnified loss incurred by directors and officers. In contrast, the limit of liability under a traditional ABC policy is also available to fund D&O losses indemnified by the company and corporate losses due to securities claim.

In other words, directors and officers can lose their personal asset protection under a traditional ABC policy if the company usurps the policy proceeds for its own covered losses. That risk does not exist under a Side A policy, which preserves its limit of liability for only director and officer losses that are not paid by another source (i.e., for only losses which must otherwise be paid by the director and officer personally).

This risk of the company consuming the ABC policy limits to the detriment of directors and officers can be mitigated by a “priority of payment” provision in the ABC policy. The provision generally says non-indemnified director and officer losses are paid before company losses.

However, such a provision does not eliminate the limit of liability dilution concerns. For example, if a Side B and Side C company loss (e.g., a securities class action settlement) is incurred prior to a non-indemnified Side A loss (e.g., a derivative lawsuit settlement) is incurred, the company loss may exhaust the ABC limit notwithstanding the priority of payment provision.

In that case, the individual defendants in the derivative lawsuit would have no insurance or indemnification for the derivative lawsuit settlement absent a Side A policy.

The value of the Side A policy's dedicated limit of liability can be further enhanced by the purchase of separate Side A policies, called “independent directors liability” or “IDL” policies, which cover only independent directors or only officers. Under these types of policies, the insured persons' insurance protection is insulated from losses incurred not only by the company but also by other types of executives.

BANKRUPTCY ISSUES

Under the federal Bankruptcy Code, neither the bankrupt company nor any third party can take any action which reduces the value of assets in the bankruptcy estate unless the bankruptcy court approves that action.

Courts generally find that ABC policies maintained by a bankrupt company are assets of that company's bankruptcy estate because those policies directly insure the company, among others. As a result, the proceeds of that ABC policy are automatically “frozen” when the company files bankruptcy, and those proceeds cannot be accessed by any insured (including any director or officer) unless and until the bankruptcy court approves the payment by the insurer.

In contrast, a Side A policy is generally not an asset of the company's bankruptcy estate because that policy does not insure the company or protect assets of the company. As a result, the Bankruptcy Code generally does not prevent payments under the Side A policy even though payments under the ABC policy are prohibited.

Having Side A coverage immediately available for D&O litigation while a company is in bankruptcy is critically important. Often, such litigation is very expensive to defend and cannot be stayed by reason of the company's bankruptcy. Without a Side A policy, which would fund those defense costs while the underlying ABC policy is “frozen,” the individual defendants might be forced to pay personally those large defense costs or to jeopardize the quality of their defense efforts.

In many cases, the bankruptcy court will eventually lift the automatic stay and allow payments of D&O losses under the ABC policy, but that result is far from certain and in any event usually takes many months to obtain. In the interim, a Side A policy may be the only financial protection available for the defendant director and officer.

In summary, Side A policies continue to provide invaluable protection to directors and officers despite the recent expansion of coverage terms in ABC policy forms. A company unnecessarily exposes the personal assets of its directors and officers if it fails to maintain a high-quality Side A D&O insurance program from one or more reputable, highly rated and experienced Side A insurers.

The opinions and comments expressed in this article are strictly the views of the writer and do not necessarily reflect the views and opinions of Everest Re Group, Ltd. or any of its affiliates or subsidiaries (“Everest”).  Nor should any of the statements herein be construed as any affirmative position or admission on the part of Everest with respect to any terms, conditions or language contained in any policy of insurance issued by Everest.