On January 27, 2022, the Delaware General Assembly passed Senate Bill No. 203 amending Section 145(g), Title 8 of the Delaware Code relating to the General Corporation Law (DGCL). Generally, Section 145 of the DGCL authorizes a corporation to indemnify any current or past director, officer, employee or agent of a corporation who is or is threatened to be made a party to a lawsuit, proceeding or investigation for any and all expenses (including attorney fees), costs, judgments, fines or amounts paid in settlement of any claims. Indemnification is conditioned on the person having acted in good faith and in a manner reasonably believed to be in the best interests of the corporation. In the instance of criminal proceedings, there must also be no reasonable cause to believe that the person’s conduct was illegal or unlawful. It has been determined however, that such indemnification of individuals under Section 145(b) does not extend to derivative matters or matters brought by or in the right of the corporation. See, Arnold v. Society for Sav. Bancorp., 678 A.2d 533, 540 n.18 (Del. 1996) (citation omitted).
Under the provisions of Section 145(g), corporations were authorized to procure insurance for directors, officers, employees or agents. While the use of captive insurance companies has been available historically, many corporations have not utilized this avenue for several reasons: 1) it was not cost effective given the number of commercial markets available and competitive pricing; 2) the need for independent claims handling and decision-making vis-à-vis settlement authority; 3) the capital required to fund a captive combined with a lack of reliable risk data; and 4) the uncertainty of being able to provide Side A coverage through a captive. However, under the amended Section 145(g) a corporation is authorized to directly or indirectly purchase and maintain D&O insurance (now specifically including Side-A coverage) through a captive organized and licensed in any jurisdiction and to make payment of expenses (including attorney fees), costs, judgments and settlements including those brought by or in the right of the corporation.
Just as with a commercial policy, there are statutory limitations to a captive’s ability to make any payment on behalf of an officer, director, employee or agent of the corporation. The limitations are set forth in Amended Section 145(g)(1) which requires that a captive insurance policy must exclude from coverage and provide that the insurer may not make payment in respect, of any loss that arises out of, is based upon or is attributable to any (i) personal profit or financial advantage to which the covered person was not legally entitled or (ii) any deliberate criminal or deliberate fraudulent act, or any knowing violation of law if established by a final, non-appealable adjudication.
Amended Section 145(g) (2) provides that any determination to make a payment under a captive insurance policy must be made by a third-party administrator or in accordance with the procedures set forth in paragraphs (d) (1) through (4) of Section 145. Amended Section 145(g) (3) provides that if any payment is to be made under the captive insurance policy in connection with the dismissal or compromise of any action, suit or proceeding by or in the right of the corporation as to which notice is required to be given to stockholders, the corporation shall include in the notice that a payment is proposed to be made under the captive insurance policy in connection with the dismissal or compromise. Finally, the Amended Section 145 makes clear that a corporation’s establishment and maintenance of a captive shall not be subject to the insurance provisions of Title 18 of The Delaware Code.
It will take some time to understand the practical implications of this proposed change to the Delaware Code. The most obvious beneficiaries of this change are companies with very large balance sheets who were most likely already self-insuring the B/C portion of their D&O risk while still purchasing a separate Side-A insurance tower to alleviate any concerns their directors and officers may have had regarding self-insuring the Side-A portion of the risk within a captive. Even with this change to the code, we believe the vast majority of public companies will likely find the commercial D&O market to be the most viable option for covering their D&O risk.
We think there will be several other factors clients will have to evaluate when it comes to considering using a captive to self-insure their D&O risk:
- Breadth of coverage available in commercial D&O insurance market versus in a captive – the amended code includes a built-in conduct exclusion which can often be removed in best in class commercial market Side-A policies.
- Competition is now returning to commercial D&O market and rate increases for companies with strong risk profiles are unlikely.
- Does your company have the balance sheet and the risk tolerance to retain low frequency/high severity D&O risk for the long-term? This is not a short-term strategy and the “soft” commercial market has historically lasted much longer than the 2-3 year “hard” market that we are exiting in 2022.
- Do you have an established and well capitalized captive? Are you willing to deal with funding the policy premium and potential capital requirements when placing high severity risk into your captive? Is there a better corporate use for this capital?
- Are you 100% confident that your captive is bankruptcy remote? Will all of your directors and officers be comfortable having their non-indemnifiable exposure covered in a captive when Side-A D&O insurance is still relatively inexpensive for the vast majority of companies?
- Are there options to include your captive within your commercial market D&O tower?
- Funding B/C retention has been an option that many companies have implemented in the past.
- Self-insuring a hard to place layer in the A/B/C tower – this proved difficult as insuring only the B/C portion of a layer in a blended A/B/C tower creates significant coverage issues. The ability to now include the Side-A portion of the coverage makes this a more viable option.
- Implement limit reducing co-participation in the lower layers where premium is most significant. D&O insurers generally do not provide significant savings for simply taking higher retentions as they are still primary for all Side-A risk and the market implements certain minimum premiums for the primary layer. Sharing in the risk on a co-participation basis spreads the risk to the captive while also reducing the exposure for the commercial insurers. This should allow for much more significant savings for the commercial market layers as the “savings” will still go towards the captive premium).
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© 2021 McGriff Insurance Services, Inc. All rights reserved. McGriff Insurance Services, Inc. is a subsidiary of Truist Insurance Holdings, Inc. The information, analyses, opinions and/or recommendations contained herein relating to the impact or the potential impact of coronavirus/COVID-19 on insurance coverage or any insurance policy is not a legal opinion, warranty or guarantee, and should not be relied upon as such. This communication is intended for informational use only. Given the on-going and constantly changing situation with respect to the coronavirus/COVID-19 pandemic, this communication does not necessarily reflect the latest information regarding recently-enacted, pending or proposed legislation or guidance that could override, alter or otherwise affect existing insurance coverage.
This communication is intended for informational use only. As insurance agents or brokers, we do not have the authority to render legal advice or to make coverage decisions, and you should submit all claims to your insurance carrier for evaluation. At your discretion, please consult with an attorney at your own expense for specific advice in this regard.
This bulletin is provided for informational purposes only. McGriff is not providing legal advice and recommends you consult with your own counsel for legal guidance/opinion. The information, analyses, opinions and/or recommendations contained herein relating to the impact or the potential impact of coronavirus/COVID-19 on insurance coverage or any insurance policy is not a legal opinion, warranty or guarantee, and should not be relied upon as such. This communication is intended for informational use only. As insurance agents or brokers, we do not have the authority to render legal advice or to make coverage decisions, and you should submit all claims to your insurance carrier for evaluation. Given the on-going and constantly changing situation with respect to the coronavirus/COVID-19 pandemic, this communication does not necessarily reflect the latest information regarding recently-enacted, pending or proposed legislation or guidance that could override, alter or otherwise affect existing insurance coverage. At your discretion, please consult with an attorney at your own expense for specific advice in this regard.
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