Why? In early January 2016, a Delaware state court issued the Trulia decision [Trulia, Inc. Stockholder Litigation, C.A. No. 10020-CB (Del. Ch. Jan. 22, 2016)], which put a boot on Delaware state court friendliness to 'disclosure only' settlements. Trulia has been described as representing the “court's intent to . . . reject settlements of stockholder class actions when the settlement consideration does not include any monetary recovery for the class.”

The wave

Following Trulia, the migration of securities class actions to the possibly friendlier halls of federal courts was significant, but did not wholly explain the storm of filings. Nor did it exactly assure that federal courts would wave open the slamming door of Delaware state courts.

The epidemic of securities filings led to industry-wide examination of additional causes. Other contributing causes have been debated, discussed and notionally agreed, providing insights regarding some prominent shifts underway. First, the plaintiffs' bar goes where the oxygen is. There is considerable agreement that as financial crisis claims were resolving, pursuit of D&O claims represented a new artery of income for firms. Douglas Greene, of D&O Discourse, thinks smaller firms want a piece of the action, and are whetted to pounce on companies making classic red-flag announcements — such as auditor resignations.

Other theories include the continuation of IPO-related litigation, increased regulatory enthusiasm for SEC whistleblower tips and enforcement actions, and emerging headline and tech losses where they can be tethered to D&O responsibilities.

Cyber breaches are one of the key drivers behind the developing risks for D&O insurers. (Photo: Shutterstock)

Watching the current

Water follows the path of environmental opportunity and so did the D&O claims of 2017. However, what happened in 2017 won't stay in 2017. Brand new technology and headline events demonstrate that these are the fluxes that will drive new D&O claims. Key examples include cyber breaches, new technology and sexual harassment issues.

Cyber breach may be the most prominent developing risk for D&O carriers and their insureds. It is a risk in a state of rapid change, making it profoundly more difficult for directors and officers to identify, clarify and comply. Corporate cyber responsibility is even more challenging because it will be an evolving standard for years to come.

Cyber and data breach issues have not yet been the D&O albatross that we expected, but 2018 may change that. Two key types of claims could prove bothersome in cyber parlance: First-party and third-party claims. A securities class action filed because of a cyber breach constitutes a third-party case. Third-party cases have not set strong hooks in the D&O world – yet. This is because existing cyber breaches have not resulted in stock drops sufficiently significant to support a classic securities claim.

No one thinks that third-party cyber breach cases will go away; it seems only a matter of time before a stock drop rings the bell for a successful case. Juggling moving targets of state-imposed, SEC-based and court-developed standards for cyber responsibility will potentially lay the groundwork for more successful claims against directors and officers.

More distracting for D&O carriers and their insureds, are first-party claims for breach damages to the corporation itself. As cyber breaches have become daily news, some states, such as New York, have already attempted to define D&O standards of care for cyber security. These standards, however, are somewhat less standard than they are brand new, and will likely change over time. The mutability of early standards will make it difficult for directors and officers to ensure their own compliance – thus buffering themselves from D&O claims. The New York standards pointedly require senior officers to approve cyber policies and certify compliance with the regulations. The SEC is also chiming in by warning public companies that it intends to investigate cyber practices with more interest.

In like fashion, headline news events, such as “The Weinstein Effect,” are eddying into the D&O landscape. The Weinstein case and related matters span across a constellation of industries and present a universalizing doublet of a problem at once old and new. The concept of sexual harassment exposure is a familiar liability issue, but it has detonated with a mass of public announcements. Early disclosures began a domino effect across many businesses. A headline issue can cause a chain reaction that percolates into discrete allegations of D&O misconduct.

The 20th Century Fox harassment settlement of 2017, was a shareholders derivative case asserting that actions of management caused financial harm to the company. The sexual harassment issue presents a unique supplemental exposure for D&O carriers offering employment liability coverage as part of a D&O package. Broad management liability policies are acutely exposed because of the prolific media attention that has made the sexual harassment issue a focus for companies of all sizes. The Weinstein Effect demonstrates a particularly difficult dilemma for D&O carriers: How to price for unpredictable volatile headline events that inevitably culminate in D&O claims with serial follow-ons.

There is a growing tendency to view D&O policies as a tool to pay litigation to go away. (Photo: Shutterstock)

What lurks below for insurance carriers?

Beyond news and statistics, there are other surprises hidden in the deep. Even matters that do not hit headlines can pervade the D&O market when attacked with high concentration in a specific area. An example of this is the popularity of specialized scrutiny of ERISA funding, investment and management.

Attorney Jerome Lechter has made a name for himself in this area and many carriers have seen a proliferation of doppelganger cases. The D&O industry is expected to see more of these claims that have not fully washed through the market.

At a policy level, the view of D&O coverage as a commodity is becoming more problematic. D&O insureds are typically sophisticated buyers, particularly public D&O buyers, and these insureds are more frequently viewing their D&O coverage as a cash vault. There is a growing tendency to view the policy as a tool to pay litigation to go away; this is a departure from past years where insurance was perceived as a vehicle to advance and support vigorous liability and damages defenses. D&O insureds are increasingly prioritizing early settlements to avoid publicity and reputational damage.

A recent Deloitte report has concluded that reputational damage may be a key threat for large companies, and one that directors and officers will feel increasing pressure to guard against.

Another less obvious trend is the increasing complexity of 'hat wearing.' D&O insureds (often within broader management liability policies), may hold officerships for multiple entities. Piecing apart titles, entities and coverage allocation is an area of more frequent scrutiny and increased cost.

On the topic of costs, many carriers agree that the defense burn rate seems to be increasing with, for example, a $10M primary limit no longer representing a strong buffer from defense expense for carriers participating above the primary.

Shareholder activism is also a newly popular discussion amongst D&O carriers. The World Economic Forum recently addressed this topic, stating, “an impressively influential shareholder underdog has appeared: the shareholder activist.” Shareholder activism is expected to gain momentum and may result in claims against directors and officers based on clashes between attention to short-term and long-term duties and responsibilities.

A possible break from “no relief”

While these forces are in play, other developments may act as a ballast to a difficult market. In its first year, the Trump administration has invested headlong energy into judicial appointments and confirmations. These confirmations are expected to have a long-term effect of stacking a judicially conservative deck – possibly advantageous to D&O insurers.

While this reshaping will be felt over a much longer period, there is vigorous discussion concerning whether the new Chairman of the SEC, Jay Clayton, will push for and support reduced regulation.

Perhaps regulatory reductions are already underway. A Georgetown University study confirms that the SEC filed 612 enforcement cases in 2017, which is the fewest cases in the last four years. According to the study, the reduction may confirm the expectation that President Trump intends to allow the SEC to steer more favorably toward corporate, commercial and/or insurer interests. The concomitant drop in fines and penalties collected by the SEC may also signal lighter treatment. Consistent with this change of tide, Clayton has been widely quoted as stating that enforcement actions on large corporations hurt shareholders.

With an increasingly competitive D&O marketplace, carriers are smart to keep a close eye on the evolution of cyber D&O standards, exposures presented by new technology and headline stories, as well as regulatory and judicial trends.

And, as the plaintiffs' bar has capacity and motivation to pursue D&O cases against smaller companies, this will contribute to intense pressure on the D&O market to appropriately predict and competitively price risks, especially as D&O cases continue to command premium defense rates.

The irons are hot for the plaintiffs' bar to accelerate the frequency of D&O litigation. It remains to be seen if administrative actions will act as a counter wind. D&O carriers must stay vigilant from the watchtower.

Jane Mandigo ([email protected]) is a senior vice president and senior claims expert with Swiss Reinsurance, specializing in professional lines matters.