Scandals wreak havoc with directors’ insurance costs

In another sign of the cost of the corporate governance crisis engulfing SA, it is becoming more expensive to insure the country’s directors after scandals from Steinhoff International’s collapse to state capture allegations eroded trust.

Teri Solomon, head of financial and professional practice at Marsh, the world’s largest insurance broker, said the cost of directors’ and officers’ liability insurance was doubling or tripling annually in some cases.

“Some clients are seeing increases of 100% to 200%, while others have had increases of just 10%,” Solomon said.

LEGAL DEFENCE

“Generally, D&O [directors’ and officers’] insurance covers losses caused by negligence or unintentional wrongdoing by directors or officers, but does not extend to directors that have been proven to have acted unlawfully or with gross negligence,” Solomon said.

The insurance typically extends to covering the cost of the directors’ legal defence in the event they are sued personally.

While some of the increases can be explained by the current economic environment, which has led to more insolvencies, and to broader global trends, much of the country-specific increase can be attributed to perceived poorer levels of corporate governance.

“The underlying risk has changed following a number of public and very high-profile corporate failures,” said Philip Hobson, head of financial lines for the Middle East and Africa at insurer AIG.

Prof Mervyn King, SA’s foremost expert on corporate governance, said the insurance firms were overreacting and increasing premiums in response to the recent failures.

According to the Companies Act, anyone can sue “any person who has breached the act for losses incurred by him or her. Directors owe a duty of care to the company, not to shareholders or any other stakeholder. So, it is the company that must recover money from the directors.”

That was upheld in a case brought about by the African Bank scandal, so “shareholders have no course of action against directors for an alleged breach of the duty of care”.

According to Hobson, not only has the cost of insurance reacted to the increasing risk, but significant changes are being made to the extent of cover being offered. “Insurance companies won’t cover directors that break the law. In cases where directors are accused of fraud or sexual harassment, insurance companies are introducing ‘exclusion’ clauses that allow them to cease covering directors at an earlier stage in the process.”

Revelations at the Nugent commission into governance failures at the SA Revenue Service and the Zondo commission into state capture have laid bare ethical failures in the public sector during Jacob Zuma’s presidency, much of which was allegedly facilitated by private companies and auditors.

PRIVATE SECTOR

But King said he still did not believe that directors in the private sector faced a reputational challenge more broadly because the ones that were found wanting represented a small percentage of directors of leading JSE-listed companies.

“Directors in the private sector are still seen around the world as some of the best in terms of governance.

“Investors believe we must be extraordinary to maintain these high levels of governance despite being an island in a sea of corruption,” King said.