Professional Indemnity and Directors’ & Officers’ Liability – ESG Trends in the USA “When America sneezes, the rest of the world catches the cold”
May 2024Ross Baker and Nathan Penny-Larter – Beale & Co Partners and FOIL SFT members
We attended the extremely informative Directors & Officers Symposium in New York in March 2024 organised by the Professional Liability Underwriting Society with nearly one thousand underwriters and claims personnel (including around 60 from London) in attendance.
We wanted to provide a note for FOIL highlighting the state of the US insurance market and some of the current ESG trends which will inevitably have an impact on the UK market for D&O and PI claims.
US D&O Insurance Market
It was the general view amongst underwriters that the D&O market in the States was significantly oversubscribed (by up to two times, given Bermuda investment and the proliferation of MGAs), with only some niche areas such as crypto and healthcare not being able to obtain enough capacity (highlighting a need for clearer regulation in those areas).
There had been less M&A activity in 2023/24, resulting in fewer public D&O claims, but the number of securities claims has increased. There is, however, a growing trend of an increase in the severity and frequency of claims, fuelled by a sharp rise in insolvencies; the impact of global litigation funding; increasing defence costs hourly rates (USD$1500-2000 for complex litigation and up to USD$2500 for bankruptcy lawyers) and social inflation (including a broadening expectation, particularly in bad faith jury trials, of what an insurance policy is meant to cover).
Certain US jurisdictions, including Florida, North Dakota, California and Georgia (amongst others) were identified as particularly policyholder/consumer friendly jurisdictions, with some high-profile nuclear verdicts (of USD$10M or more) raising serious concerns amongst insurers.
Those insurers carrying a long tail of claims are typically finding that the 2016-2019 years are getting progressively worse in terms of erosion of reserves, particularly for securities class actions, but in contrast, the 2020-2022 years were providing some of the best claims’ ratios since 1997. The severity and frequency of claims (and number of notifications) were now increasing significantly in 2023 and 2024, but with levelling off or dipping premiums. Consequently, there is a significantly reduced appetite amongst insurers for large limits of indemnity for excess layers, and the USD$20M – $25M limits being offered in 2016/17 are now typically closer to USD$10M.
ESG
It was widely recognised that event driven litigation is a major driver of ESG claims where adverse events (such as a cyber-attack, product recall or director misconduct) very often trigger significant securities class actions. Claims against professional advisors are also a risk following these events.
In the US there has been a backlash against ESG in some states, with at least 61 anti-ESG bills being introduced or carried over across the US in 2024, according to Ropes & Gray, with one of the most high-profile campaigns being against Blackrock, the world’s largest asset manager, which has been targeted in Republican states such as Arkansas, Utah, Texas, Florida, Louisiana, Missouri, Arizona, North Carolina and West Virginia. In other, often Democratic, states there is a heightened sensitivity towards green-washing.
Notwithstanding the political issues, ESG responsibilities are now increasingly being framed using a corporate sustainability / risk management 2.0 model focussing on People, Product, Planet and Process (with some variations in the model including Profit). We examine some recent US case examples which fall into these categories below.
People
There is a real focus on human rights and supply chain ethics. The expansion of the #MeToo movement now meant that poor employment practices, including in relation to pay equity and pensions, could easily end up as D&O class actions. Jeffrey Epstein’s accountant and personal lawyer have been accused of enabling his actions by his victims and two large investment banks recently agreed to pay hundreds of millions of dollars to his victims.
The recent phenomenon of undue influence by enigmatic leaders in unicorn companies was noted, including the case study of 39-year-old Elizabeth Holmes from Theranos, the blood-testing company, where the absence of audited financial statements and lack of investors on the board meant that over USD$700M was raised from private investors resulting in a USD$10B valuation but ultimately no working product, and an 11-year prison sentence for its founder for fraud. The case of 32-year-old Sam Bankman-Fried of FTX (now serving a 25-year sentence for cryptocurrency fraud) was also mentioned. These cases do give rise to subsequent actions against financial institutions, senior management, professional auditors and sponsors (potentially covered under PI, D&O and Crime policies).
Whistleblower claims resulted in a record payout of awards by the SEC (over USD$600M), including one award of USD$279M to a single whistleblower.
Product
There was a lot of discussion around AI and its already widespread application in the USA (including the risk of privacy breaches by social media and technology companies). There was considerable concern that the USA had missed the boat and was losing pace with Europe on the regulation of data use, especially given the new EU AI Act which would have a profound impact on large US companies, given the global nature of information exchange.
We had an excellent session from a pre-eminent university professor focussing on AI and the already concerning ability of our devices to track conversations (including voice recognition), photos, website use and locations in numerous different ways (even if enhanced privacy settings were enabled). There are over 100 data misuse lawsuits in progress in the USA (including claims relating to misinformation). The risks of AI hallucinations for PI insurers were discussed, including the case where two New York lawyers were found to have acted in bad faith and made “acts of conscious avoidance and false and misleading statements to the court“, having relied on six fictitious case citations dreamt up by ChatGPT.
The first US “AI-washing” securities litigation case was filed in February 2024 following a short-seller report that claimed the company’s AI Initiative was “smoke and mirrors” and instead was being run by thousands of low paid offshore workers.
The potential impact of poorly drafted insurance policies or poor claims handling was also discussed, with the ever-increasing risk of bad faith claims against insurers (and even direct claims against insurance claims-handlers) for payments far in excess of the policy limits.
Planet
Again, the US panel felt that the UK, Europe and Ireland were far ahead on corporate sustainability, such as on mandatory greenhouse gas science based, time-bound targets. This is especially the case now that the Corporate Sustainability Due Diligence Directive (CSDDD) was approved in April 2024. It applies to European Union (EU) and non-EU companies with activities in the EU and introduces comprehensive human rights and environmental obligations for climate transition plans with significant financial penalties for failures to comply. US companies not in scope, but within the supply chain, will find significantly amplified information requests and contractual requirements when doing business with European companies.
The ongoing activities of environmental activists, such as ClientEarth, were discussed. Although unsuccessful against Shell in the UK, it was noted that other strategies were being deployed, and ClientEarth recently saw success in April 2024 by supporting the claimants in the European Court of Human Rights ruling against Switzerland, deciding that climate inaction did violate human rights.
Process
The importance of adopting excellent corporate governance processes and ethical business practices, with a clear understanding of the division of responsibilities between senior directors was discussed. This is critical given the increasing tendency of regulators to seek to pin personal responsibility on individuals (a trend which is very much in evidence in the UK). These included EDI initiatives and policies, including in relation to remuneration and audit committees. The SEC had further amplified the risks for directors by implementing a compensation recovery (“clawback”) scheme where a listed company is required to correct errors in previously filed statements with the director being required to repay a proportion of their bonus (with insurance for this loss not being permitted) even when without fault. Given the increasing reliance on AI in business, it is now even more important for directors (and their bonuses) to ensure careful human oversight of the financial disclosures being made.
The US Federal Trade Commission’s regulatory oversight of unfair conduct had also broadened considerably (with similar parallels to the implementation of the Consumer Duty in the UK).
The proposed USD$8.3B Purdue Pharma OxyContin painkiller settlement was also discussed. Purdue Pharma had admitted that incentives had been paid to healthcare companies and doctors to encourage over-subscription of opioids sometimes supplied “without legitimate medical purpose”. The settlement is being examined by the US Supreme Court as it controversially includes a “nonconsensual third-party release”, granting immunity to the Sackler family from further civil lawsuits.
We hope that the above gives a useful overview of key issues that US Insurance lawyers are grappling with in this area.
This article was first published in the May 2024 edition of the Forum of Insurance Lawyers’ publication, The Voice
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