08 August 2006
Two (not so) simple questions:
Before answering, consider last week's Whitlam v NRMA decision in the NSW Supreme Court.
Mr Whitlam was a director of NRMA. He appeared on a television program in his capacity as director. He believed that the program defamed him. He began defamation proceedings against the television station. He asked NRMA to indemnify him for his legal costs, under the deed of indemnity that the company had given him.
Like most companies, NRMA believed that its indemnity protected directors against the cost of defending a legal action. It did not believe that the indemnity required it to pay the costs of a legal action initiated by a director.
Last Thursday the Court told NRMA that it was required to meet the costs of a successful defamation action by Mr Whitlam.
Although we're not privy to the NRMA's D&O insurance policies, we're fairly confident that few (if any) D&O policies require the insurer to pay the costs of legal actions initiated by directors. This raises the possibility that companies may be indemnifying directors for liabilities that aren't covered by their D&O insurance. That gap then has to be funded by the company out of its own funds.
It is therefore important that all companies check that their D&O policy is aligned with their directors' indemnities or be prepared to meet indemnity obligations that go beyond D&O insurance coverage.
Could this happen to us?
There are three major ways in which a gap can appear between a directors' indemnity and the company's D&O policy.
The most obvious one, of course, is that the two were never aligned. This could happen if the person drafting the indemnity had not properly consulted the D&O policy. It could also be the result of a deliberate decision by the company: offering an uninsurable indemnity might be the price that has to be paid to secure the services of a particular director or executive.
Then there's the effect of time. A directors' indemnity may start life aligned with the D&O policy but doesn't keep track with subsequent changes to the policy.
Finally, there's the "left field" factor. Indemnities can be worded very differently and a Court, after examining a particular indemnity, concludes that it means something quite different from what was previously understood. In the Whitlam case, for example, the Supreme Court effectively held that a director who begins defamation proceedings is "defending" himself just as much as if he were a defendant in a legal action for breach of directors' duties.
Check that deed
NRMA is reportedly considering whether to appeal this decision. If successful, an appeal could restore the previous understanding that a directors' indemnity covers defence rather than offence. But, until the matter is reviewed by an appeal Court, indemnities in similar terms to the NRMA's could give rise to similar claims.
Regardless of the ultimate outcomeof this case, however, it is a timely reminder of the importance of keeping the terms of deeds of indemnity under review, and ensuring that there is no gap between those deeds and your D&O insurance.
What should you do if you find that there is a mismatch between your indemnities and your D&O policy? There are three basic possibilities:
None of these is a simple solution. There may be some indemnities that no insurer will agree to cover (and funding directors' defamation actions is probably one of those). For their part, directors and officers may be unhappy about losing protections (although they may be less upset about losing protections that they never knew they had in the first place). However, unless the costs of "living with it" can be quantified at a manageable level, negotiations with insurers, directors and officers would appear to be unavoidable.
