Stephen Sills
The era of low-cost directors and officers liability insurance premiums may be coming to a decisive end for financial service companies.
Just as unusual storm damage drives up property-casualty rates, growing ire against financial firms has insurers bracing for a storm of litigation.
New England’s insurers are predicting trouble as fallout from the subprime mortgage market meltdown brings the weight of shareholder fury in the form of lawsuits against bankers, mortgage lenders, mutual funds and real estate companies.
Insuring those companies and their management against lawsuits may sap insurance companies’ funds, and end a run of bargain prices for insuring top-level executives, insurers and attorneys say.
For years, D&O liability has seen a fire sale in premiums, with one survey this month from insurance researcher Advisen pegging premiums down a whopping 19 percent in the first quarter of 2008. A spate of disaster-free years has left the insurance industry prosperous and made premiums competitive across the board.
The credit crisis, however, has opened the floodgates. Lawsuits have started pouring in. Citigroup, State Street Corp., UBS AG, Merrill Lynch, Countrywide Financial Corp. and Morgan Stanley ¬ all financial industry bigwigs ¬ already have been smacked with suits as profits have sagged, leaving shareholders and others feeling angry and litigious.
Many attorneys expect lawsuits to spill beyond the financial services industry, perhaps causing snags for real estate professionals or, indeed, any number of businesses affected by the economic downturn.
The upshot, said Kevin M. LaCroix, author of the D&O Diary blog and an attorney with Ohio-based OakBridge Insurance Services, is that “someone’s going to get hurt on this.”
LaCroix said many insurance companies are still confident that they won’t have to pay out large amounts, but the future will bring more credit-related lawsuits ¬ and with them, a day of reckoning.
“Everybody’s very comfortable with where they are,” LaCroix said. “But these losses are going to hit somewhere.”
As for the insured, D&O coverage is going to cost more for some industries, and the terms of the policies are going to get more exclusive. Premiums could go up by double or triple digits in financial services, according to Kirk Jensen, risk management practice leader for Boston-based insurer William Gallagher Assoc. In other industries, the change likely will be subtler: Instead of a decrease in premiums, their costs will just stop going down.
“The industry is looking for any systemic excuse they can find to stop the slide in premiums,” he said.
‘Wait-and-See’ Mode
For now, financial services is the only industry mired in lawsuits ¬ 61 securities class-action suits have been filed in relation to the subprime meltdown, LaCroix said, with 24 of them happening in 2008 alone.
But William H. Paine, a partner in Boston-based Wilmer Hale’s Securities Department, said it will be some time before the extent of the damage is visible.
New waves of lawsuits will come against financial services companies, but the broader economic downturn also could have its victims in unexpected places, such as large retailers or technology companies, he said ¬ whenever shareholder profits go down, they can find a number of reasons to sue.
Regardless, the current pressure on financial service providers is going to spread some burdens to other industries, Paine said.
“The concern is that people don?t know the full extent of the claims that are going to come out,” he said. Insurance companies are likely to keep prices higher to hedge their bets against other losses.
Gallagher’s Jensen asserts that insurers themselves may not be hurt badly from the financial services lawsuits, because many large financial services companies didn’t invest much in the type of insurance that covers this type of risk.
Large financial services companies with deep pockets instead mostly bought insurance that only covered directors and officers in the event that the financial institution can?t indemnify them. Bear Stearns, for example, only carried $75 million in D&O liability insurance, one-third of which was non-indemnifiable only, Jensen said.
That’s why insurers are looking nervously at potential lawsuits against other types of companies, he said. Other industries – such as real estate – do have their own policies that would kick in to protect them from such litigation, and insurance companies want to keep the cash flowing in the event that they have to make large payouts in the near future.
Stephen Sills, president and chief executive officer of Hartford, Conn.-based Darwin Professional Underwriters, said with more customers filing claims, plenty of companies are going to quietly stop taking on D&O customers. They’ll stay out of the market for at least for a couple years, he said, or just raise their rates prohibitively high to discourage new clients.
Darwin, which insures mid-sized banks, medical professionals, lawyers and insurance companies, doesn’t expect to be hard-hit by mortgage-related lawsuits, Sills added. David Bradford, editor in chief of Advisen, which released its D&O survey this week, said insurers smell lawsuits in the air. “It’s a wait-and-see attitude right now.”
