Directors and Officers (D&O) liability has come to the fore over the last few years following legislative changes. Most directors are not fully aware of the personal liability they can have under company law. This is a risk that could result in a significant financial impact for directors personally. The Companies Act 2014 changed everything and directors now need to be conversant with the personal risks that this brings.
Whilst this is called D&O Insurance, it actually extends to other employees with managerial responsibility who could also be at risk for an action taken under the Companies Act. It should also be noted that D&O Insurance is equally important for not-for-profit or charitable organisations.
An important point to note is that limited liability applies to the company but not to a director personally. This means that a director must assess their personal risk, based on the company or companies that they are engaged with, and ensure that there is adequate insurance protection to meet this need.
Some directors will rely on their company to provide an indemnity for claims brought against them personally. Some will assume that the company can provide such an indemnity from company resources. Others will be aware that the company purchases insurance for them but are generally unaware of the extent of the insurance cover in place and how this operates.
So what should a director do to protect their personal assets? Whilst their company can provide an indemnity, this is subject to restrictions. Indemnity can only be provided by the company if it does not involve negligence, default or breach of duty. Relying on indemnity from the company can be a risk; it assumes that the company will have the financial resources at the time that a claim is made. It also is necessary that any indemnity provided will be permitted by the Companies Act 2014 and the Company’s Articles of Association.
Claims Against Directors
Who can initiate claims against a director? There are multiple individuals or entities that can initiate a claim: shareholders, creditors, receivers and liquidators, the Office of the Director of Corporate Enforcement, customers, suppliers and competitors.
One question often asked is what type of claims can these entities/individuals make? There are various reasons why a director could be sued in their personal capacity. Shareholder actions for negligence or breach of duty would be the most common but claims can also arise from government or tax investigations, insolvency and misrepresentation, and Health and Safety matters. An important thing to recognise is that, whilst claims may be defended, the legal costs incurred can be substantial and this is one key benefit of a D&O policy.
One assumption that directors can make is that claims are only made against larger companies, usually with external shareholders. This is incorrect and claims are made against directors of smaller companies. In such situations, it can be easier for the claimant to be successful in their action as smaller companies may not have the same resources to apply to corporate governance.
A second assumption often made by directors relates to the potential protection they might have under other policies that the company carries, e.g. Employers and Public/Products Liability, Cyber Liability and Environmental Insurance. None of these insurances is designed to provide protection for the directors personally.
What should a Director Do?
So how can a director ensure that there are financial resources, independent of the company, available to meet any personal claims that are made against them?
The only option available is to ensure that the company takes out D&O Insurance and that this insurance is assessed to ensure it is adequate. The law allows companies to purchase D&O Insurance on behalf of their directors. In considering the adequacy of any insurance purchased, a director must consider the following:
- What is the policy limit of indemnity?
- How many directors are covered by the D&O insurance?
- Given that the policy limit is “aggregate” and applies to all the directors, is this adequate?
- D&O Insurance is “claims made” so the policy that responds is the one in place when the claim is made not when the alleged misconduct arose. A retired director must ensure, therefore, that there is “run-off” cover in place to ensure they have protection after they have retired or left the board.
- A director should take independent advice in relation to any D&O Insurance provided for them by their company.
In conclusion, most directors are not fully conversant with the potential personal liabilities they can have under Company Law. Nor have they fully considered the level of protection they should have to protect their personal assets and to have the financial resources available to fight a claim. The best protection available is a D&O Insurance policy provided by the director’s company and that is based on the risk profile of that company. No director should accept the cover offered without seeking independent advice. In certain circumstances it may be appropriate for the director to purchase their own policy. This ensures that the level of protection offered reflects the specific risks that the director has and that the limit of indemnity is “ring fenced” for them and is not shared.
Whilst the cost of D&O Insurance has increased in recent years relative to the protection provided, it should be considered a “must have” for directors.