Directors and officers play a crucial role in any organization, making critical decisions that can impact its success or failure. However, these individuals often face significant risks and liabilities while serving on boards. To mitigate these risks, organizations typically provide indemnification to protect their directors and officers from legal claims. But what happens when such indemnification is not possible? This is where Side A coverage in Directors and officers (D&O) insurance policies becomes essential.
What is Side A Coverage?
Side A coverage refers to insurance protection extended to directors and officers who have not been indemnified by their organization due to various reasons. Here, the policy offers liability coverage for company managers, officials, and officials to protect them from claims that may arise from the decisions and actions taken within the scope of their regular managerial duties. In other words, the Side A policy provides direct indemnification to the directors and officers.
While it is common practice for organizations to indemnify their board members, there are situations where this may not be feasible or legally permissible.
Reasons for Lack of Indemnification:
There could be several factors contributing to the inability of an organization to provide indemnity:
1. Insolvency: If a company is facing financial difficulties or insolvency, it may lack the necessary resources to fulfill its obligation of indemnifying individual directors.
2. Legal Restrictions: In some cases, certain regulations prohibit companies from providing full indemnification.
3. Bankruptcy Protection: When a company files for creditor protection under bankruptcy laws, it may lose the ability to fulfill its obligation towards director indemnification.
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An Illustrative Example:
To better understand how Side A coverage comes into play, let's consider Sally's situation as she serves on the board of a privately held energy company:
Sally agrees to sit on the board during a challenging period when the company is struggling financially. In order to generate quick cash flow, Sally and her fellow directors decided to sell some of the company's assets at less than the market value. Months later, they find themselves facing a lawsuit alleging improper disposal of assets below the market value, without being able to pay creditors properly. Normally, Sally would be protected by her organization's indemnity agreement (Side B coverage). Unfortunately, the company's financial situation prevents them from providing indemnification. As a result, Sally could potentially face significant costs related to defense and damages if she loses the lawsuit.
Side A Coverage as Protection:
If Sally's organization had a D&O insurance policy in place that included Side A coverage, she would not have to bear these costs. This type of coverage provides protection for directors when their organizations cannot provide indemnification due to insolvency or other reasons.
Limitations of General Policy Limit:
While having Side A coverage under the general D&O policy is helpful, there can still be limitations. For instance:
1. Exhausted Limits: The general policy might already have reached its limit due to other bankruptcy-related claims or employment liability issues.
2. Additional Claims: If multiple lawsuits arise simultaneously involving directors and officers within an organization, it may quickly deplete the available limit under the general policy.
The Need for Additional Side A Coverage:
To address such situations effectively, some policies offer an additional limit for Side A coverage over and above the general policy limit. However, if this provision is not available in the existing policy form, organizations can explore obtaining additional side A coverage through separate policies.
Benefits of Side A Coverage:
Investing in Side A coverage offers several advantages:
1. Protects Personal Assets: Directors often risk personal assets while serving on boards; however with proper Side A coverage in place they are shielded from potential financial ruin.
2. Peace of Mind: Even when organizational resources are scarce or unavailable for indemnification purposes due to insolvency or legal restrictions, the directors know that they are not exposed financially. This gives them the much-needed peace of mind.
3. Enhanced Risk Management: It enables directors and officers to make critical decisions without undue fear of personal liability repercussions.
4. Attracts Top Talent: Organizations that offer robust D&O insurance policies, including Side A coverage, are more likely to attract highly qualified board members.