Canadian Directors’ and Officers’ Liability Insurance (D&O) and the Recent IMAX Decision

February 22, 2011

Canada is seeing a material change in home-grown D&O loss experience. On Valentines day we saw a new decision in the first case to be brought under Ontario’s new, at the time, “Bill 198”, aka, part XXIII.1 of the Ontario Securities Act (the “Act”), section 138.3, which provides a statutory cause of action for secondary market misrepresentation. In the IMAX case, the underlying securities litigation commenced September 20, 2006, when Siskinds LLP, here, and Stutts, Strosberg LLP, here, brought their case alleging misrepresentation and breach of duty of care. Justice K. van Rensburg, in her decision, here, certify class proceedings. The defendants appealed this decision,  here, and on Feb. 14, 2010, Justice D.L. Corbett denied the defendants motion for leave to appeal.

We all know what happens to settlement amounts when a court decision goes in favour of the plaintiff class, but here we can consider what could be material to directors and officers in Canada. The IMAX 2005 information circular listed a D&O policy with a $70 million limit of liability. Though the circular does not provide a lot of detail, it does say they had a split deductible of $100,000 “for each claim under the policy other than claims made under U.S. securities law as to which a deductible of $500,000 applies”, and paid an annual premium of $962,240. This split deductible suggests at least some portion of that tower of D&O coverage was extended to cover the corporate entity for some of its individual loss and expenses.

There is a lot of litigation left in this case, but a full limit loss should not come as a surprise to anyone. Outside of the magnitude of an insured loss on this size of D&O coverage in Canada, the materiality of the case will depend on potential for loss above the limit. More importantly, loss above the limit if any part of it is borne by the individual directors and officers.

In 2005-2006, and even today, Excess Side A DIC (Side A = loss not indemnified by the corporate entity, DIC = difference in conditions, or an excess policy written to be broader than the underlying policy) was not a guaranteed purchase for public corporations of this size in Canada. Therefore, if the (assumed)  A, B, C primary policy extended through the entire limits of the tower, then the comfort level of the individual directors would be largely based on the size of the limit of liability. (In case it needs explaining, A is the insuring agreement in the D&O policy that responds to loss not indemnified by the corporation; B is the insuring agreement that protects the corporate entity for loss it incurs on behalf of the individual directors and officers; C is the insurance agreement that protects the corporate entity for its own loss and expenses in certain claims, like securities claims. But, this is just a glancing overview because an appropriate explanation requires discussion on “presumptive indemnification”, “hidden entity coverage” and many other D&O coverage issues.)

 Now we can start to see the very reasonable misconception in the D&O policy. It is marketed as a D&O policy, when, much to the surprise of individual directors, it is in fact a corporate entity policy.

The problem (for individual directors): $70 million may seem like a large limit, and may have looked good on a benchmarking chart, but there  was, and is, no legal precedent of insurability of a Bill 198 claim in Canada. From the little I know of Strosberg, here, and Lascaris, here, I will be shocked if they settle this case at policy limits. As far as I know there is no institutional plaintiff, but, the entire class pool has yet to be identified, and I imagine Silver and Cohen would be willing to bough-out in favour of a large pension plan, if that is what is necessary to fund a “scienter” position and a removal of the liability cap. Though there are only a few cases of personal (unindemnified, uninsured) director contribution settlements in Canada, institutional plaintiffs in the US are known to agree to a settlement only after they have won some level of personal contribution.

The directors might also seek comfort in the “priority of payment” provisions in the policy, but, these were not as common in 2005-2006, and there is limited precedent. My concern for their use is they may motivate a follow-on shareholders claim, or a (current) shareholder attempt to block proceeds of the policy from being eroded by individual director’s defence. Thanks to the Insured vs. Insured exclusions, or other policy limitations, this follow-on claim may be excluded, or further erode the available policy limits.

There may be some critics who will suggest that IMAX will not have a material effect on Canadian directors and officers. For those people I will include a link to some light reading of the recent NERA report, here, on Canadian securities class actions.

I think IMAX will have a material effect on directors, officers, and D&O premiums in Canada, but it might take years for it to play out. If you are not willing to wait that long to fully understand your D&O policy coverage, and the key issues of “continuity”, “sharing of limits”, “limit erosion and exhaustion”, “severability” and the 96 other important terms, please don’t hesitate to contact me directly; Greg Shields, Partner, Mitchell Sandham Insurance Brokers, 416 862-5626, gshields@mitchellsandham.com.

CAUTION: The information contained in the Mitchell Sandham website or blog does not constitute a legal opinion or insurance advice and must not be construed as such. It is important to always consult an experienced and truly independent registered insurance broker and a lawyer who is a member of the Bar or Law Society of the relevant jurisdiction with regard to this material before making any insurance or legal decisions. All material is copyrighted by Mitchell Sandham Inc. and may not be reproduced in any form for commercial purposes without the express written consent of Mitchell Sandham Inc. Anyone seeking to link this site from any external website must receive the consent of Mitchell Sandham Inc. by sending an e-mail to gshields@mitchellsandham.com

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D&O Liability and Governance Discussion Points:

February 18, 2011

XBRL:

Many directors and officers know nothing about the SEC deadline, of June 15, 2011, for foreign private issuers (XBRL.ca, here, says there are 350 in Canada) to meet interactive data reporting requirements (explanation of XBRL, here). I have not been able to develop an opinion on the potential ramifications of XBRL on Canadian governance and compliance risk, or on directors and officers liability, but, change never comes without some costs.

IFRS:

IFRS is for many people a thing of the past. But the repercussions on governance, risk management and D&O insurance have not even started and may not be known for years. The concern of D&O underwriters is the significant increase in reliance on management assumptions and estimates in corporate financial statements. Some accountants are suggesting that the number of notes to the financial statements will jump from 30 to 300. Others have even said that had Nortel been reporting under IFRS the corporate problems would have gone on much longer, and loss to stakeholders would have been much larger. This over disclosure will do far more harm than good, especially to directors. Disclosure and transparency is a good thing. But when it becomes overwhelming for investors, and even for professional analysts, the result will be a more confusing and unreliable financial statements than before our current level of disclosure was mandated. The difference is that the over disclosure will allow more protection for “allegedly” negligent executives, and their outside auditors, accountants, analysts, investment advisors and lawyers, because when a professional liability lawsuit is launched they will be able to point the four words  (out of 10,000) in two obscure notes as their get out of jail free card. That escape from liability has a good chance of driving an increase in “risky” behaviour, and it leaves the shareholders, creditors, employees, suppliers, and the directors, holding the bag.

If you would like to receive more information please contact me, Greg Shields, Partner, Mitchell Sandham Insurance Service, gshields@mitchellsandham.com, or at 416 862-5626.

CAUTION: The information contained in the Mitchell Sandham website or blog does not constitute a legal opinion or insurance advice and must not be construed as such. It is important to always consult a registered insurance broker and a lawyer who is a member of the Bar or Law Society of the relevant jurisdiction with regard to this material before making any insurance or legal decisions. All material is copyrighted by Mitchell Sandham Inc. and may not be reproduced in any form for commercial purposes without the express written consent of Mitchell Sandham Inc. Anyone seeking to link this site from any external website must receive the consent of Mitchell Sandham Inc. by sending an e-mail to gshields@mitchellsandham.com.


Directors’ and Officers’ Indemnification

October 26, 2010

 

Many D’s & O’s, (trustee, advisory board members, committee members, etc.) make the assumption they will be indemnified in the event of a lawsuit, and some rely entirely on the protection under statute, or their corporate bylaws.

Indemnification language can be found in the OBCA, CBCA, other legislation or specific Acts (eg. Insurance Companies Act, etc. which may trump other statute), corporate bylaws, and the D&O insurance contract. The problem is there is no consistent wording and in many lawsuits the assumed ‘standard’ wording has failed directors and officers, leaving them personally liable for significant costs.

Therefore, I urge directors and officers to consider arranging individual contractual indemnities, using the advice of a lawyer, and negotiate the appropriate insurance coverage.

Here are some examples of indemnification wording failure:

  1. Bylaws can be changed by the corporation without the knowledge/decision of the individual (as long as litigation involving the trigger of the indemnity has not started), either while holding their position (because they missed the meeting and didn’t review their minutes or because they were overruled by a majority of the board) or after they have retired (with no obligation to inform a former director or officer.)
  2. Some Bylaws and/or Acts use ‘may’ indemnify wording rather than the stronger ‘shall’ indemnify wording,
  3. Bylaws and/or Acts are more vague than an individual contractual indemnity,
  4. Certain Acts block corporate indemnification for certain types of claims (ie. claims brought by a regulator or trustee, derivative actions, pollution or bankruptcy),
  5. Bylaws and Acts don’t always stipulate the trigger of defence cost obligations and may result in reimbursement or advancement, but not Pay-On-Behalf, leaving the director or officer with a very big debt,
  6. D&O Contracts almost always use a ‘presumptive indemnification’ wording (not always easy to find in the policies), where the insurer presumes the corporation will provide indemnification and if the indemnification is not forthcoming the corporate deductible will be applied (which can be from the thousands of dollars to the millions of dollars, and remember the deductible only applies to the ‘covered’ portion of the lawsuit)  which could leave the director or officer with unfunded defence cost or even settlement obligations, while at the same time having to fund lawsuits against his/her corporation and insurance company (don’t forget, looser pays in Canada, and Insurers and Corporations can quickly incur very large defence costs),
  7. With Informal Investigations, Inquiries or Request for Interviews, increasing in popularity many D&O policies, bylaws and statues have not been written to consider these (arguably) voluntary costs, and there may be a gap in the funding for theses expenses. However, I don’t recommend that any person agree to such a proceeding without legal representation.

This whole issue can be further complicated by the growing trend of ‘contracting out’ for officer or director/advisor positions because none of the traditional avenues of indemnification have contemplated this trend.

But ‘supportive presumptive indemnification’ and/or improved ‘advancement of defence costs’ language can be negotiated into the D&O insurance policy and individual contractual indemnities are becoming much more common.

Greg Shields, Partner, Mitchell Sandham Insurance Brokers, 416 862-5626, gshields@mitchellsandham.com

CAUTION: The information contained in the Mitchell Sandham website or blog does not constitute a legal opinion or insurance advice and must not be construed as such. It is important to always consult a registered insurance broker and a lawyer who is a member of the Bar or Law Society of the relevant jurisdiction with regard to this material before making any insurance or legal decisions. All material is copyrighted by Mitchell Sandham Inc. and may not be reproduced in any form for commercial purposes without the express written consent of Mitchell Sandham Inc. Anyone seeking to link this site from any external website must receive the consent of Mitchell Sandham Inc. by sending an e-mail to gshields@mitchellsandham.com.