Right up to this point, you would already have the idea that a director’s and officer’s liability insurance is quite a beneficial investment. After all, it was designed to specifically help people in the upper echelons of a business handle all sorts of complaints that they were made personally liable for.
There’s no denying that D&O insurance policies are necessary. However, that does beg the question: when does it become necessary?
What Causes a Claim in the First Place?
Before identifying the different claims that you and your directors can get slapped with, it’s best to figure out why claims can be forced into existence in the first place. Now, it’s important to know that the legal system does not allow for groundless claims because they are frivolous.
For a claim to exist, it must be justiciable. And Justiciability requires two things:
- There are rights that have been stepped over with – For a claim to be justifiable, it must be born out of an incident where a person’s rights have been directly violated with. Rights are the ones that are specifically stated in a Constitution, Charter, and Special Law that directly expresses that persons that meet certain conditions are afforded certain entitlements.
This includes constitutional rights like privacy, liberty, and security as well as special rights such as free trade, humane treatment at the workplace, and protection against unfair business practices.
- The Claim has to be Actionable – A valid cause is not enough, it must be capable of indemnity. Basically, it must give rise to an action where the respondent (that is the person the complaint is being directed to) can be compelled to perform an act that will compensate for the damages that their actions have inflicted to the complainant. As to what these actions are, the laws have set up specific penalties and liabilities for respondents who were found guilty of committing a crime.
However, the action must be fair to all. Remember the rule of “An eye for an eye”? Although that proverb is negatively invoked these days, it’s true purpose was to ensure that the penalty/punishment is equivalent to the crime/act. Any complainant, then, can’t expect the laws to give the respondent a harsher penalty because they think that you deserve something much worse.
Now that is out of the way, what are the common causes for claims being directed against directors? These will include:
- Failure to Follow the Company By-Laws
- Failure to Update or Memorialise Amendments
- Failure to Hire Professionals or Assign the Right People to the Right Positions.
- Inability to Follow New Laws or Even Ignorance of the Fact that Amendments have Been Made to Existing Ones.
- Improper Records Keeping and Documents Management.
- Failure to Set Up Distinctions Between Personal and Business Matters.
- Failure to Uphold the Interest of Everyone in the Company such as Employees, Stockholders, and Other Directors.
- Inability to Implement Recommendations Made by Investigating Authorities.
What Are Examples of Claims Aimed towards Directors and Officers?
Remember that claims can arise from a lot of causes provided that they are legitimate and actionable. That being said, however, most directors and officers can expect claims arising from their work to come from several channels.
- From Employees
By being at the forefront of the business and located in the lower tiers of the organisational chart, employees often bear the full brunt of the consequences of whatever actions you may take. Employee claims often come in several distinct forms.
- Unlawful Termination – Perhaps you and the rest of upper management decided that it was time to lay off several people in order to streamline the work flow or minimise on your monthly expenses. The labour code states that a person may only be justifiably terminated if they were performing poorly or committed several gross violations.
Aside from the cause of the termination, the manner in which you lay off employees can be grounds for controversy. The proper termination process involves an investigation wherein a board determines if there are reasonable grounds to terminate an employee and informing that employee of the board’s decision a month beforehand so that they could start looking for a job while still earning money from the company. If this process is not followed, then the employee can use it as a ground to sue the company.
- Workplace Issues – Labour laws dictate that a workplace should be conducive to the development and relative safety of every employee. Perhaps you as the director fostered a workplace that is quite toxic for workers such as allowing senior managers to abuse their employees.
You may have even directly participated in such by making off-hand sexist or racist remarks on your own or actually performed acts that constitute sexual harassment. Discrimination doesn’t even have to be based on the employee’s gender or race. You can be liable for such even if you show any instance of partiality when dealing with anyone in the company.
Also, you and the labour union may have set up several agreements which entitles employees to some benefits but, for some reason, you decided to renege on all agreements. In either case, you can expect for the employees to file a criminal and civil complaint.
- From Shareholders
Imagine this scenario: you invested a lot of money from the company’s own coffers in a partnership with another business. It was your hope that the deal would allow the company to experience a massive boost of income from the products and services that partnership was going to offer.
Now, for whatever reason, that deal went as badly as one could imagine leading to massive losses for your company. Creditors would naturally object to the losses and would point the blame to upper management i.e. you.
A loss of faith in the director’s ability to handle the company is a common reason why investors sue managers and executives. For them, you should have been more careful in taking risks especially where money is involved. If not defended properly, a claim made by shareholders is sufficient enough to get you booted from the company.
- Liquidation
Supposed that worst comes to worst and it became insolvent. However, a lot of directors make the mistake of continuing to trade the business as if it is still financially solvent as well as diverting finances for personal reasons when they should have been used to pay off creditors.
Claims arising from this situation can be rather serious as misrepresenting your company or diverting resources constitute the crimes of fraud and misappropriation of funds. This means that you can be held criminally and civilly liable for the principal amounts plus damages if ever you were found guilty.
Of course, such claims are not without a proper defense. One effective counter to such claims is if you can sufficiently prove that you were operating on the belief that the company was still financially solvent when the transactions were made. Either way, dealing with both the civil and criminal aspects arising from your actions is going to be expensive.
- Inheritances and Successions of Non-Executive Directors
Supposed that the principal shareholder and director of a company dies and much of the shareholding was bequeathed to any of his family members I.e. wife and children. If the person expressly states so in their will and testament, that family member directly inherits the position of shareholder/director.
But what if the company became insolvent? Would that new director be held liable for any amount owed by the former director in his lifetime? The answer, sadly, is yes. Some courts may take into consideration that the new director may have not been aware of the affairs of the company prior to taking the position. However, that never works as a defense in most cases.
- Prosecution from Government Authorities
Government agencies are empowered by laws to conduct investigations on businesses to ensure that they are following the most recent standards and regulations. For instance, the Revenue and Customs office might take a look into your company’s finances and find out that the company is not paying the exact amount that they obligated to pay in taxes based on the actual income.
It can even not be related to money. Some agencies might look into your labour relations, fire safety protocols, food storage and processing, workplace safety, and even the structural integrity of the building you operate in. Any lapse they will find can be a cause for prosecution. Depending on the offense, directors may be held personally liable on the criminal complaint as filed.
There are other complaints that can hold directors and executives personally liable for any monetary claims. However, these are the most common issues that you as the director might face in the course of running a business.
The point is that getting slapped with a claim can be physically and financially draining. This is why you will need to be insured for such and that’s where director’s liability insurance policies can come into play.
What other instances do you think that director’s liability insurance policies would come handy at? Do you think that directors should really be held personally liable for damages arising from the actions taken by the company as a whole? Let us know your thoughts in the comments below.
