Private companies are now adding the U.S. Securities and Exchange Commission (SEC) to their list of watchdogs, a position traditionally held exclusively by their investors.
While they may not be required to file with the regulatory agency, the SEC is now taking a special interest in pre-IPO companies and unicorns (start-ups valued at over $1 billion) due to recent fraud exposés, like the Theranos case.
Theranos, a unicorn company valued at $9 billion was accused by the SEC of misleading investors. Founder Elizabeth Holmes and president “Sunny” Balwani faced not only SEC fines, but something far worse and significantly more costly to defend – investor and shareholder lawsuits.
While Theranos is unique because of its clear trail of false claims, the case has set a new precedent for SEC interest in private companies that’s likely to continue. This increased exposure for private companies, specifically those that are considering an IPO or that have experienced significant growth, has led executives to re-examine their directors and officers, or D&O insurance limits.
Consider the following best practices for purchasing D&O insurance for your private company:
- Know what your D&O policy covers. D&O policies do not cover regulatory or punitive fines for criminal acts. Instead, D&O policies are there to indemnify and cover defense costs for directors or officers being sued for decisions made as a company executive. When accused of a crime or fraud, as in the Theranos case, a D&O policy will typically cover defense costs until final. If convicted, some policies will even retroactively collect defense costs.
- Reevaluate D&O insurance limits as you grow. A $50M company today and a $500M program tomorrow will require very different D&O policy limits. Make sure your limits match your potential exposure. In most cases, original D&O insurance limits are not enough to cover a fast-growing business even a few years later. In this case, executives could find themselves without proper coverage for their exposures, which means they’ll have to dip into their own pockets to defend themselves should a claim arise.
- Consider who might need the coverage. As your company grows, adding to your limits is not only important to adequately cover your executives, but also the masses working for you. If there is a lawsuit against the company or an individual employee related to their work – whether they’re an executive or not – it’s the corporation’s responsibility to indemnify them. Having a significant D&O tower with dedicated Side A coverage will afford each employee the ability to defend themselves.
Traditionally, private companies haven’t purchased large towers of D&O insurance, like their public company counterparts. They haven’t had to. Now may be the right time to rethink your private company’s D&O strategy. Contact your HUB D&O Specialist to determine if your private company has the right D&O limits for your size and exposure.