Shareholder litigation following allegations of sexual misconduct have become more frequent in the #metoo era signaling an emerging risk to the c-suite. These claims can arrive in the form of securities lawsuits (alleging the company/directors blatantly misled investors), or derivative claims (alleging the directors/officers breached their fiduciary duty to the corporation by ignoring/concealing known misconduct). CBS, Guess, Wynn Resorts, National Beverage, Papa Johns and Signet Jewelers are just a few companies that saw their shares fall (in some cases) as much as 20%, following sexual harassment allegations. It’s also raising the question of when public companies should be making disclosures related to sexual misconduct. For those interested in the legal theories behind these claims, D&O Diary has a published a nice piece here.

In order for both public and private companies to ensure their D&O policies will most effectively respond to resulting shareholder claims (as well as potential bankruptcy claims) following allegations of sexual misconduct, policyholders should pay careful attention to 2 main exclusions. The most problematic exclusion is the “employment acts” exclusion which precludes coverage for claims related to “employment wrongful acts” such as harassment and discrimination. The second exclusion is the “bodily injury” exclusion which precludes coverage for claims alleging injuries including emotional distress, invasion of privacy, libel, slander and mental anguish (among others). When addressing both of these exclusions there are a few steps insureds can take:

  • Narrow The Definitions: When it comes to defining any “employment related acts”, insureds should seek language that specifies intent. An exclusion that precludes coverage for any claims arising from “any employment wrongful act” has a broader reach than one that precludes coverage for any “employment wrongful act committed by an insured with the intent to cause harm”.
  • Narrow The Preamble: When applying exclusions many insurers contain very broad lead-in language, precluding coverage “for, based upon, arising from, or in any way directly or indirectly related to” the specified exclusion at hand. Any shareholder lawsuits following allegations of sexual misconduct will obviously be determined to have arisen from (or related to) the initial allegation of sexual harassment, which is why these broad preambles should be avoided when possible. Insureds should negotiate a more narrow lead-in to these exclusions – one that simply precludes coverage “For” employment related or bodily injury claims as opposed to language that precludes coverage “based upon, arising from, or related to” such claims.
  • Limit Their Applicability: In order to preserve coverage for any claims asserted against individual directors, it’s important to ensure both of these exclusion are limited only to the entity liability insuring agreement (Side-C). In situations where insurers are unwilling to restrict these exclusions solely to claims against the entity, policyholders should, at the absolute minimum, ensure coverage has been carved back for non-indemnifiable claims (Side-A). This will ensure coverage is available to the directors and officers in the event of any follow on derivative claims. When insurers are unwilling to carve back Side-A coverage, insureds should explore the option of purchasing a separate Side-A DIC policy which contains less exclusions and provides drop down coverage in order to fill the gaps of the underlying policy.
  • Negotiate Carvebacks: Limiting these exclusions to apply solely to claims against the entity may be deemed a coverage enhancement, however it still leaves shareholder claims excluded. For this reason, in light of this emerging risk, policyholders should take it one step further and negotiate a carve back for any resulting “shareholder/securities claims”. For public companies, this would essentially mean carving back entity coverage (Side-C). Similarly, insureds can also attempt to carve back “defense costs” subject to a final adjudication in the underlying action. This would limit the exclusion to apply only to damages/settlements within definition of “loss”, and ensure the carrier will advance defense costs until the courts make a final determination of guilt.

While it may not be possible to obtain all of the above policy language recommendations, policyholders should of course work with their brokers to broaden the policy’s language as much as possible. In order to assist companies (and their counsels) with their D&O and EPLI policy assessments, we recently published an EPLI checklist which can be located (here), and a D&O Checklist available (here).