Tillinghast Study Says D&O Liability Premiums Skyrocket as Shareholder Claims Increase

April 28, 2003

On the heels of similar increases from the previous year, purchasers of Directors & Officers (D&O) liability insurance paid nearly 30 percent more for their D&O coverage, according to Tillinghast Towers Perrin’s 2002 Directors & Officers Liability Survey.

The sustained increase in premiums reflects continued concern over high-profile bankruptcies, corporate scandals and D&O lawsuits – particularly securities and shareholder litigation. The survey, which included 2,275 participants, is the 25th in a series of studies on D&O liability claims and insurance purchasing patterns and the only study of its type produced for the marketplace.

Claim frequency and claim severity appeared to stabilize for most types of claims, although shareholder claims severity was up significantly. Among closed claims, U.S. participants paid an average of $5.72 million, up only slightly from $5.65 million last year. However, the average indemnity paid for shareholder claims increased significantly to $23.35 million, compared with $17.18 million last year and $9.62 million two years ago.

Premiums: The Upward Trend Continues
The hard market trends seen in 2001 have spilled over into 2002, as D&O insurance purchasers faced a big jump in premium rates, with increases in the double and triple digits. Additionally, insurers implemented tougher underwriting guidelines for D&O insurance in 2002.

“In light of recent events, a dramatic surge in premiums is not really that surprising. Declining stocks on Wall Street and the unprecedented, large corporate scandals that have plagued businesses over the past year were clearly the main drivers of the rate increases,” said Mark Larsen, survey leader and Tillinghast consultant. “Until we see some improvement in the stock market and shareholders believe that good corporate governance has taken hold, we can expect to see this trend continue into 2003, and possibly beyond.”

Other key findings from the survey revealed:

Shareholders drive disclosure scrutiny: Inadequate or inaccurate disclosure, including financial reporting and claims related to stock offerings, was most frequently at issue in U.S. shareholder claims, up from 38.8% last year to 46.4% this year.

First decrease in limits in almost a decade: Even though some respondents purchased higher limits, the survey found a decrease in average D&O policy limits for the first time in eight years. This change indicates that most organizations faced tough risk management decisions when evaluating D&O coverage as a result of dramatic premium increases during the past few years.

Discrimination ranked #1 issue: Discrimination in employment was the most frequently cited D&O issue among U.S. participants, accounting for 43 percent of employee claims, which is down slightly from last year (46.1 percent), and 27.1 percent of overall claims.

Insurance Coverage: Taking a Closer Look
Among both U.S. and Canadian participants in the survey, the purchase of D&O insurance was common, with 97% and 90% of businesses respectively, having secured coverage. The average amount of coverage carried by U.S. participants was $18.9 million in total limits, which was down slightly from last year ($20.1 million). Survey participants that opted not to carry coverage reported seeing a lack of need for coverage and the high cost, as the primary reasons for not purchasing.

“Current market conditions indicate that purchasers should take a longer-term view of D&O coverage,” said Jim Swanke, leader of Tillinghast’s Self-Insured Organizations practice. “Purchasers should be mindful of the financial strength and reputation of all D&O insurers in their programs and diligently evaluate the amount of coverage limits they purchase.”

Claims: A Leveling Off
The 2002 survey suggests a leveling off of claim frequency and stabilization in claim severity as indicated by the average payments and legal costs in 2002. The U.S. indemnity payment for closed claims averaged $5.72 million, up from $5.65 million last year and the average legal costs in the U.S. were down from $0.54 million in 2001 to $0.52 million in 2002.

Private firms with fewer than 500 shareholders were less than half as likely to experience a D&O claim as their publicly traded counterparts. Companies with a history of M&A or divestiture activity were more than twice as likely to experience a claim against their directors and officers.

“In response to rising D&O claims, Tillinghast expects the insurance industry will maintain tougher standards for underwriting, even for firms that are actually considered good risks. Insurers have and will continue to be increasingly selective as to which risks qualify for full coverage,” noted Eric Speer, Tillinghast Region Manager for the Americas.

The 2,275 companies surveyed were comprised of 2,187 from the U.S. and 88 in Canada, in 15 business classes across all major industry groups. The median asset size of U.S. respondents was $30 million and that of the Canadians was $1 billion (Canadian dollars). Fourteen percent of U.S. respondents and Canadian respondents were non-profits and governmental organizations; 51% of the U.S. companies were publicly traded corporations versus 83% of the Canadian participants. Thirty-nine percent of U.S. respondents experienced a merger, acquisition or divestiture during the past five years, while 78 percent of the Canadian companies experienced such restructuring.

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