Three trends increasing D&O insurance rates
D&O insurance carriers increased rates in 2019 and are continuing to advocate for future rate hikes. Here’s why.
Directors and Officers (D&O) insurance has experienced significantly increased risk exposure in recent years. In 2017, insurers experienced the largest loss ratio increase since 2011, but rates remained competitive due to a large number of insurers in the market. This year, however, most insurers say risk is increasing, and D&O insurance rates did in fact rise in the first quarter of 2019.
Due to the growing instability of D&O coverage, rate increases are expected to continue. This is primarily due to three rising risks: increased securities action lawsuits heightened awareness to social issues like #metoo, and growing cyber risks and data protection laws.
Let’s take a closer look at each of these trends.
Securities action lawsuits
When ride-share company Lyft went public on March 29, 2019, investors served a securities action lawsuit within the first two weeks of their initial public offering (IPO). In fact, securities class action suits reached a 20-year high in 2018, at 217 cases, with no expectation of slowing. Furthermore, settlements in the same year increased 71%, from $1.4 billion in 2017 to $2.4 billion in 2018, according to The Wall Street Journal.
The increase in the number of suits is partially driven by a unanimous United States Supreme Court decision, Cyan, Inc. v. Beaver County Employees Retirement Fund (Cyan). The case set a new precedent on the jurisdiction where securities action lawsuits can be tried and eliminated the ability to consolidate cases. For example, notable vintage goods provider Etsy was the subject of two class-action suits related to its IPO — one in California and the other in federal court. Unable to consolidate the cases, the company was required to fight both under different jurisdictions and court rules, despite arising from the same incident. Its D&O insurer was on the hook for the costs from both lawsuits.
Aside from the Cyan case, total D&O claim costs are growing in general. According to Chubb, the combination of attorneys’ fees and settlements for fully settled cases has increased 63% to $4.5 million from 2012 to 2016. For dismissed cases, total costs have increased a whopping 162% to $2.3 million in that same four-year period. Insurers’ D&O rate projections have become significantly more uncertain without sufficient historical data on the shifts in future lawsuits. These shifts have likely caused rates to be inadequate. Insurers must react to these swings and uncertainties, all of which will likely drive rate increases in future years.
Sexual misconduct claims
Public awareness of — and action around — sexual misconduct stemming from the #metoo movement has led to sky-high employment practices liability insurance (EPLI) claims against executives.
But insurers also should prepare for D&O insurance claims against those firms.
EPLI and D&O insurance coverage go hand-in-hand, as many sexual misconduct cases reveal company leadership’s effort to cover up the events to preserve their reputation. However, a cover-up is not necessary to trigger a D&O claim. A firm’s negligence to properly cultivate a harassment-free environment is enough to initiate a lawsuit.
D&O insurers are also expecting a rise in discrimination and equal pay claims due to recent public actions around social issues. For example, Nike was recently hit with a class-action lawsuit over allegations of a boys’ club environment. A D&O policy has likely been essential to help cover Nike’s lawsuit costs. Given the high-profile nature of many of these cases, D&O insurers expect an adverse shift in the number of future claims and ultimate settlement amounts, which in turn could fuel higher insurance rates.
Growing cyber risks
Cybersecurity risks remain one of the top concerns among corporations, and D&O insurance can be triggered by numerous types of cybersecurity events. A firm’s leadership can be deemed negligent without a cyber-insurance policy in place or can face serious consequences if they withhold data breach announcements from consumers. Yahoo! was required to pay an $80 million settlement for failing to disclose its cyber breach in 2018, the first of its kind. This large settlement set an important precedent for future cyber disclosure violators, and D&O insurers can expect a hefty award if their policyholder is at fault.
Beyond a firm-wide cyber breach, new data protection laws such as the EU General Data Protection Regulation (GDPR) and the California Consumer Privacy Act (CCPA) have created a substantial challenge — and increased exposure — for companies that rely on personal data for business. Non-compliance fines are exceptionally high under the GDPR.
Further, D&O insurers could be subject to lawsuits related to the cost to implement the GDPR and CCPA regulations, the latter of which is expected to take effect on January 1, 2020. Many tech firms are subject to sweeping changes in their operational structure and handling of consumer data. Facebook faced a lawsuit in July 2018 for misleading statements regarding the financial impact of complying with GDPR, thus causing large losses to investors. As the CCPA effective date approaches, we could see similar claims initiated as U.S. firms hurriedly develop technology and corporate guidance to be ready for compliance. Therefore, a proper D&O insurance policy is necessary to cover the additional complexity of adhering to these laws.
In general, insurers face challenges in predicting the impact of future exposure increases for all coverages. D&O insurers have been specifically affected by the ever-changing social environment, making historical data nearly unusable to predict future losses. Due to the heightened uncertainty stemming from higher frequency and severity of securities action lawsuits, increased social reform awareness, and cybersecurity risks, D&O insurers have increased rates in 2019 and are continuing to advocate for future rate hikes. Nearly all D&O insurers believe risks are increasing without any signs of slowing, indicating 2019 may be the first of many years insureds face climbing D&O costs.
Rachel Soich (Rachel.Soich@milliman.com) is a consulting actuary with Milliman in Chicago with expertise in property and casualty insurance, including loss reserving and rate-making. She works primarily for Fortune 500 corporations, health care institutions, privately-held companies, public entities and commercial property and casualty insurers.
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