COVID-19 poses management liability market challenges

2020 was an unprecedented, challenging year for the professional lines market, and we continue to see the same as we enter 2021. Hardening market conditions escalate, management under scrutiny for proper adherence to public health guidelines, mega bankruptcies shake up struggling industry sectors and employee layoffs and furloughs trigger pandemic-induced litigation – all occurring amidst a backdrop of economic volatility. The global coronavirus pandemic has thrown fuel on the fire placing the management liability market under stress, demanding disciplined, cautious underwriting.

Hardening of the management liability market has accelerated at a rapid pace, along with other commercial lines with excess rates moving higher than primary rates. Complexity of losses in the professional lines market has driven up directors and officer (D&O) liability claims frequency and severity contributing to upward movement of rates not seen for more than ten years. A recent pricing survey released by the Council of Insurance Agents & Brokers (CIAB) reported that commercial insurance rates increased 11.7% in 3Q across all lines, compared with 10.8% in 2Q and 9.3% in 1Q 2020.  

According to the CIAB survey, umbrella pricing saw the largest rate increase at 22.9% in 3Q, compared with a 10% rise in 2Q, while D&O experienced the second highest increase at 16.1%, a slight decline from 16.8% in the comparable 3Q and 2Q periods of 2020. Hardening of the market has created obstacles for D&O insurance buyers facing increasing rates, reduction in available limits, rising retentions and additional exclusions, which can include COVID and insolvency issues.

Businesses of all sizes are struggling, while the prospect of a second wave of shutdowns looms in certain cities and states nationwide.  As of October 2020, nearly 300 American businesses, employing more than 23,000 people, closed despite receiving hundreds of millions of dollars in loans under the federal Paycheck Protection Program (PPP). Of those, 285 companies filed for Chapter 11 bankruptcy since March, as reported by The Wall Street Journal in an article published on November 17, 2020.

PPP loans, intended to be spent on payroll and other qualifying operational expenses, approved by the Small Business Administration (SBA) under the CARES Act stimulus bill enacted in March, totaled approximately $525 billion. 

Of note, the federal government only releases the names of companies that receive PPP loans larger than $150,000. Questions now being raised in the professional lines market are related to issues of potential fraud in the allocation of PPP loan dollars. Governmental audits and investigation of companies receiving PPP loans will place management receiving such monies under public scrutiny, likely activating D&O policy coverage for the expense of complying with financial due diligence.

Due to the uncertainties surrounding COVID, management is confronting new realities in responding and developing business strategies within an environment of crippled economies worldwide. During the first wave of the coronavirus, companies loaded up balance sheets and tapped available revolving loans to build up a war chest to sustain operations through a time of financial stress. As of October 2020, markets experienced 52 “mega” bankruptcy filings, defined as companies with at least $1 billion in reported assets, of which 6 were filed in 1Q, 31 in 2Q and 15 in 3Q, according to Cornerstone Research. 

Large company Chapter 11 bankruptcies jumped 244% in July and August 2020, as compared to the same period in 2019, in a report released by investment bank Jefferies. On an annualized basis, severely hit sectors were aviation filings up 110%, oil & gas up 45%, and the broadly defined entertainment industry up 22%, according to Jefferies. 

Industries under stress, including those in the hospitality, restaurant, hotel, travel and tourism sectors, as well as colleges and universities, may require additional stimulus measures to remain viable. Bankruptcies and insolvencies compound the risk of lawsuits by creditors, shareholders, employees and key stakeholders alleging claims of misrepresentation, breach of contract, or inaccurate financial disclosures against directors and officers.

Management and employer liability lawsuits will undoubtedly emerge in the months and year ahead; but given the long tail nature of the business, it will take years to assess the full impact of protracted COVID-event litigation and resolution.  

Looking toward 2021, market observers are anticipating that a continually rising rate environment will attract more capacity as specialty lines insurers enter the D&O space. The result will be heightened competition for professional liability coverage to be deployed where prudent. Underwriting will require deeper levels of due diligence and a more cautious, disciplined approach for offering D&O protection to those companies with the strongest financial balance sheets and long-term viability.