The SVB Bankruptcy Decision and Its Lessons for D&O Insurance Programs | JD Supra

The main purpose of Directors and Officers (D&O) policies is to provide protection for a company's directors and officers against substantial claims that could be made against them in their roles as directors and officers. This safeguarding promotes and enables skilled individuals to join the company and contribute their abilities for the betterment of the company and its stakeholders.

Directors and officers (D&O) insurance policies are also designed to shield a company from different types of legal actions related to securities and comparable claims made against the company. These claims have the potential to be a substantial event for a company and can greatly affect its financial statement. Implementing a strong D&O program can alleviate the consequences of such claims.

A company must prioritize safeguarding the safety and advantages provided by directors and officers (D&O) policies, both for the individuals in those roles and for the company as a whole. To achieve this, it is crucial to create a carefully crafted D&O program that takes into account the potential occurrence of a major disaster. This way, the program can provide the utmost protection for the company, its directors, and officers if such an event arises.

A recent ruling in the bankruptcy suit involving Silicon Valley Bank's parent company, SVB Financial Group (SVB), which is currently being considered by the United States Bankruptcy Court for the Southern District of New York (referred to as the "Court"), offers a warning for all businesses and highlights the importance of having effective and well-funded directors and officers (D&O) programs. The case is titled In re: SVB Fin. Group, No. 23–10367 (Bankr. S.D. N.Y. May 22, 2023).

SVB had an insurance plan worth $150 million to cover the personal liability of its directors and officers if they were not protected by the company. This plan included coverage for expenses incurred by the company when providing indemnification to directors or officers, as well as protection against securities claims made against SVB. Additionally, SVB had an extra $50 million coverage specifically for its individual officers and directors, on top of the main D&O insurance plan.

The insurance policies in the $150 million building had a clause called "Priority of Payments," giving the directors and officers exclusive rights to the insurance money before SVB.

Silicon Valley Bank (SVB) and its directors and officers faced legal consequences due to their failure, resulting in seven class action lawsuits and various regulatory proceedings.

The directors and officers themselves requested reimbursement for their legal expenses using SVB's insurance program for directors and officers. They each had their own legal representation from 14 different law firms. The costs for their legal services are projected to be substantial, reaching millions of dollars. If these expenses are covered, it would have a significant impact on SVB's directors and officers program.

The chapter 11 estate of SVB refused to grant the directors and officers their plea to cover their defense costs. The estate argued that due to the bankruptcy filing, reimbursement could only be given with permission from the court. Consequently, the directors and officers decided to directly approach their D&O insurers for reimbursement, but even they demanded the court's approval before making any payments.

As a result, the individual officers and directors asked the court for permission to use their D&O insurance money to cover their legal expenses. The committee representing the unpaid creditors disagreed, stating that the insurance money belonged to the bankruptcy estate and using it for legal expenses would hinder the bankruptcy proceedings. They argued that paying for legal defense without control could greatly reduce the insurance money that could otherwise be used to pay the claims against the company, benefiting the unpaid creditors.

Court Decision The court determined that the individual officers and directors had the right to use the D&O policy to cover their legal costs.

The Court acknowledged that if a party (such as the individuals in charge) wants to access the funds from a debtor's insurance program, they must show a valid reason to modify the automatic halt if the insurance program is considered part of the debtor's bankruptcy assets. Furthermore, the Court noted that in general, a company's insurance policies that also cover directors and officers are seen as part of the bankruptcy assets if depleting the funds would harm the estate and its other assets. However, the Court concluded that it didn't need to decide whether the policy proceeds are part of the estate because there was already a valid reason to lift the automatic halt even if they were.

The Court determined that the individual directors and officers had valid grounds to claim "cause" based primarily on the provision in the D&O policies that clearly stated they had first rights to the policy proceeds. The Court acknowledged that the legal expenses incurred by the individual officers and directors could deplete most or all of the D&O policy funds, leaving little or nothing for the estate to use against claims made against SVB. Nevertheless, the Court upheld the priority of payments provision, stating that even if it meant depleting the policy, the directors and officers were entitled to use the proceeds first. The Debtor would be the last to receive the insurance funds. Therefore, as long as the directors and officers' use of the funds did not interfere with the bankruptcy case and the need for defense costs posed a significant harm, there were valid reasons to lift the stay.

Key points It is not clear if SVB will have enough money from its directors and officers (D&O) insurance to pay for the claims made against it. Although a $150 million insurance policy and a $50 million additional policy may seem substantial, the legal costs alone, which involve seven class-action lawsuits and various regulatory actions handled by 14 different law firms, are likely to be very expensive, potentially reaching tens of millions of dollars or more.

The SVB ruling imparts valuable insights for every organization and their insurance experts.

It is crucial for businesses to have a strong D&O insurance plan in place. This plan should have adequate coverage to handle situations similar to the SVB case, where various claims are made against multiple directors and officers, as well as additional claims against the company. Having suitable coverage limits will reduce the likelihood of multiple policyholders vying for insurance payouts, both with the company and amongst themselves. As a result, this will enable both the individuals and the company to concentrate their resources on effectively defending against the claims being made.

Additionally, it is crucial for a corporation to establish a transparent and unequivocal payment priority clause to ensure that both the company and its individual leaders comprehend how the insurance plan will handle substantial claims. This comprehension will enable the company and its officers and directors to devise a comprehensive risk management strategy that caters to their specific requirements and prevent the occurrence of complex conflicts involving multiple parties, such as the one seen in the SVB case.

Additionally, it is crucial for bankruptcy lawyers to be aware of the debtor's D&O program and the essential clauses that govern the distribution of policy proceeds among insured parties. It is advisable for these lawyers to collaborate with insurance coverage experts to navigate the insurance-related aspects of bankruptcy cases. Even before filing for bankruptcy, companies facing financial difficulties should seek the counsel of experienced insurance and bankruptcy lawyers to assess their insurance programs.