Why Private Company Management Liability is Important

Management liability claims affect all companies, large and small, public and private. Many connect management liability claims with the front page headlines of MCI Worldcom, Enron, General Motors, Chrysler etc. While these public company management liability claims attract the most attention, there are thousands of private company claims made every year which translate to millions of dollars in settlements and jury awards. Many private company directors and officers feel that due to their non-public filing status the likelihood of a claim is not there. However, the fact is that the directors and officers of private companies are exposed to these claims. They are often involved in day-to-day operations and are the decision makers in most circumstances; therefore, private company directors and officers are more likely to be named in lawsuits brought by employees and others. In closely-held private companies, the owner’s personal net worth may be tied to the financial health of the company making costly D&O liability claims even more destructive.

Private companies may be sued by shareholders and customers, as well as creditors, competitors, government bodies and others. The following points demonstrate why the purchase of directors and officers insurance is very important:

1. Company assets can be closely tied to the personal wealth of directors and officers, making protection for claims brought solely against the company vital.

2. When the company cannot by law indemnify its directors and officers in D&O claims, D&O insurance can step in instead.

3. During the bankruptcy wave of the past 4 years there have been a record amount of creditor claims and bankruptcy trustee claims against bankrupt company boards. Lenders have sought restitution at the expense of the individual board members personal assets.

4. Complex claims brought by competitors, such as anti-trust and unfair competition claims against directors and officers, can generate sky-high defense and settlement costs.

5. Investigations by government and regulatory agencies can generate enormous defense costs, even if no wrongdoing is found. When wrongdoing is found, settlement values are often severe.

6. D&O insurance can protect the personal assets of a director’s or officer’s spouse, as well as the assets of a deceased director’s or officer’s estate.

7. Shareholders of private companies frequently sue for inadequate or inaccurate disclosure in financial reports and statements made in private placement materials.

8. With D&O insurance in place, management can focus on managing the company rather than managing protracted litigation

9. D&O insurance from a quality insurer can take private companies through their IPO and into public ownership well protected. Developing a proven track record with a quality insurer provides an insured with an easier transition into the public D&O insurance market. Private companies with a established relationship with a D&O carrier often receive reduced pricing and expansive terms.


The following scenarios, based on actual claims, illustrate the need for D&O and Private Company Liability Insurance.

SHAREHOLDER SEEKS RESTITUTION

A minority shareholder of a closely–held corporation alleges that the board of directors and certain officers conspired to assist the majority shareholder in maintaining majority control of the company when the minority shareholder attempted to purchase a greater controlling interest.

At trial, a jury awarded the minority shareholder $4.2 million in compensatory damages and $445,000 in plaintiff’s attorney fees.

CREDITOR SUES FOR BREACH OF FIDUCIARY DUTY

A creditor of a Mississippi-based private company sues the company, their board of directors, and the controlling private equity group alleging, among other things, breach of fiduciary duty by the board. The creditor further alleges that the private equity group over-leveraged the company in a desperate attempt to compete against more savvy, well-funded competitors. The result was the company filing for Chapter 11under a mountain of debt and laying off hundreds of employees.

The case settled for $18 million. Defense costs were $2.3 million.