The insuring agreements of D&O policies set forth the insurer's grant of coverage. A D&O policy may contain one or more separate insuring clauses, each providing coverage to distinct interests. The most common include the following:

•Directors and Officers Liability or Side-A Individual Liability—coverage is intended to pay loss, as reimbursement or on behalf of the individual directors and officers, when the corporation is not permitted to or in some cases does not provide indemnification.

•Corporate or Side B Company Reimbursement—coverage is intended to pay loss, either on behalf of or as reimbursement to the corporation, associated with claims made against the individual directors and officers for whom the corporation has legally provided indemnification.

•Entity—coverage, previously only available as part of or by endorsement to some not-for-profit and association D&O policy forms, provides coverage for claims made against the organization as a result of wrongful acts committed or allegedly committed by the organization's directors, officers, or other insured individuals. Some insurers also cover for-profit corporations, but this is usually limited to specific types of claims, such as those related to alleged violations of securities laws. More recently, entity coverage has been expanded by some insurers to cover other types of claims, such as those related to employment practices, as well.

•Employment Practices Liability—provides coverage for claims made against the organization as a result of wrongful acts committed or allegedly committed by the organization's directors, officers, or other insured individuals.

•Stand Alone Side-A—some company directors and officers may be concerned that standard D&O policies do not afford enough protection for their individual liability. This can occur with potential erosion of policy limits in payment of losses to the company under entity coverage provisions or class action lawsuits. In addition, in some foreign jurisdictions, Side-B coverage may not be available. As a result, some companies consider the purchase of a Side-A only D&O policy that applies excess of the company's standard D&O insurance program.

Directors and Officers Individual Liability Coverage Part

Most corporate bylaws and state statutes provide that the corporation indemnify directors and officers under certain circumstances for certain losses. The individual liability coverage section of D&O policies is intended to provide protection for insured individuals when the corporation cannot or in some cases chooses not to defend and indemnify the director, officer, or other insured individual. Although the corporation may be legally allowed or be required to indemnify its directors and officers for many acts and omissions, there are important circumstances for which corporate indemnification may not be available.

•Corporate indemnification of officers and directors for settlements and judgments in derivative actions brought by shareholders on behalf of the corporation is prohibited by many state indemnification laws.

•Corporate indemnification may not be permitted for loss associated with claims based on certain securities law violations.

•In the event of bankruptcy, the corporation may be unable to provide indemnification or may be able to indemnify for only part of the loss.

•In some instances, indemnification may be discretionary and the board may choose not to provide indemnification for certain directors or officers even though the corporation is legally permitted to do so. This problem could arise when a major change in control of the board has occurred.

Because legal fees incurred in defending claims against directors and officers can cost hundreds of thousands or even millions of dollars, the financial resources of corporate executives might be exhausted if they were unable to rely on either the corporation or an insurer to assume or promptly reimburse these costs.

As with most aspects of D&O insurance policy language, insuring agreements are not standardized, as shown in the following examples:

To reimburse the Directors and Officers for Loss not exceeding the Limit of Liability in excess of the applicable Retention set forth in Item D. of the Declarations sustained by such Directors and Officers resulting from any Claim first made during the Policy Period or the Optional Extension Period, if applicable, against any of them for a Wrongful Act, except for such Loss which the Company actually pays to the Directors and Officers as indemnification, and except for such Loss which the Company is required or permitted by law to indemnify the Directors and Officers unless and to the extent that the Company is unable to make actual indemnification solely by reason of its financial insolvency.

London Market

I.Insuring Agreement

Subject to the limit of liability, the Insurer shall pay loss arising solely by reason of any wrongful act on or after the policy retroactive date alleged in a claim first made against the assureds and reported in writing to the Insurer during the policy period.

(B)Directors and Officers Liability:

on behalf of the assureds but only when the company is not legally permitted or required to pay such loss as indemnity to the assureds or when the company is legally required or permitted to pay such loss as indemnity to the assureds but cannot in fact pay such loss due solely to the financial insolvency of the company.

Domestic U.S. Market

Both of these examples make liberal use of words, terms, and phrases that are defined elsewhere in the policy. Most policy forms define claim, loss, wrongful acts, and many other terms. It is important to know the meaning of these special terms as they often restrict or modify the coverage grant.

The insuring agreements may provide for reimbursement or may agree to pay on behalf. The previous examples illustrate both approaches. A third approach, used by some insurers, is to pay the loss of the insured persons. The term pay the loss is ambiguous in that it is not clear if the loss is paid to the insureds as reimbursement or to the plaintiff on behalf of the insureds. As a practical matter, however, most insurers who promise to pay the loss do so and actually pay claimants and expenses on behalf of the insureds.

The insurer's agreement to pay claims and costs on behalf of the insureds is usually preferable to an insuring agreement that promises to indemnify or reimburse the insureds or to pay the loss of the insureds. Obviously, any insured would prefer that the insurer pay all settlements, judgments, and costs as they are incurred. The concept of pay-on-behalf coverage is illustrated in the following example.

Loss paid on behalf of directors and officers when corporation does not indemnify

Often, however, pay-on-behalf language in D&O policies can be deceptive, confusing, or ambiguous, particularly regarding defense costs. The term defense costs may be separately defined or there may be separate conditions applicable to the payment of such costs. These definitions and conditions often conflict with the insurer's promise in the insuring agreement to pay on behalf of the insureds. Careful analysis may reveal that the policy does not provide an affirmative duty to actually pay or advance defense costs prior to the final adjudication of a claim even though the insuring agreement promises to pay on behalf.

This underscores the need by insureds and agents and brokers to undertake a careful, deliberate, and complete reading of any D&O policy (including applications and endorsements) in order to avoid disappointment and possible coverage litigation.

Loss Paid directly to directors and officers as reimbursement when corporaton does not indemnify