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Insureds consider captives as D&O pricing surges

Some large insurance clients are exploring the use of captives and alternative risk transfer vehicles for their directors’ and officers’ (D&O) cover as dramatic rate rises in the class push them to consider other more cost-effective options.

There is upwards pressure on rates in the management liability space following years of falling prices, coupled with an uptick in loss severity and an increased lag time for claims in the long-tail class.

Figures from Marsh JLT Specialty show that D&O rates across its FTSE 100 portfolio increased by 77.3 percent in the third quarter. Rates across all Marsh JLT Specialty’s financial lines business placed in London – which includes cyber and professional indemnity cover – grew by 23.3 percent in the third quarter.

The pricing pressure follows a significant deterioration in the claims environment, driven largely by securities class actions suits in the US and Australia.

Brokers are increasingly struggling to secure cover, as many insurers restrict their appetite to layers in excess of $100mn, and in some cases clients have been forced to significantly reduce the limits of policies.

Marsh JLT Specialty’s head of UK management liability Beth Thurston said the situation was challenging for clients who have grown accustomed to falling insurance costs.

She added that options she is exploring with clients include “the use of captives in the D&O space”.

“We are also looking at alternative risk transfer vehicles to ensure that from a client perspective they have an understanding of the options available, to ensure that they are still able to access funding in the event that they do face a claim or an investigation,” she added.

Underwriting sources agreed that elements of self-insurance were on the rise, and that there was some evidence that companies were self-insuring for Side B and Side C cover. Side B coverage reimburses companies for the indemnification costs of directors and officers, while Side C coverage protects the company itself when it is involved in D&O claims.  

However, Side A insurance, which provides direct coverage for individual directors when organisations are unable or unwilling to pay, is by its nature challenging to self-insure. 

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Corporate governance focus

Meanwhile, engagement between D&O insurers and C-suite executives is rapidly increasing as insureds try to differentiate their management practices in order to achieve better deals in a hardening market.

Insureds are under pressure to provide tangible evidence of strong corporate governance practices in order to obtain more favourable rates.

Insurers are also eager to emphasise to clients the importance of rate increases if the sector is to remain a viable long-term risk transfer option.

Marsh JLT Specialty’s Thurston explained that historically D&O insurance renewals “would focus on publicly available documentation”, such as company reports and accounts, “without any delving in to corporate governance around the organisation”.

“That has changed and we are now seeing a real focus by insurers in relation to internal governance procedures, and that does vary by industry sector, so it’s absolutely key from a client perspective that the right person engages with insurers to be able to differentiate their position,” she added.

This can range from discussions with deal brokers of particularly acquisitive companies, to conversations with the general counsels of businesses that have been stung by claims.

One underwriting source said insurers wanted to know “what is happening on the ground” and are looking for “something tangible you can hold up to the market” rather than mere company assurances. This can include hiring seasoned compliance experts when companies undergo major mergers or restructurings. 

There is an expectation in the market that rates need to continue hardening for the foreseeable future before adequacy is achieved. Underwriting sources suggested there is also likely to be a tightening in wordings next year.

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