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Personal Liability Protection Rises Amid Soft Market

Of the public and private companies polled by Towers Perrin, 66% have received a record number of inquiries from potential board members who are concerned about their current directors and officers (D&O) liability insurance, an increase of 16% from 2005, according to the firm’s D&O Liability 2006 Survey on Insurance Purchasing and Claims Trends. Nonprofit respondents received similar D&O inquiries from approximately 32% of their boards, up slightly from 2005.

At the same time, the survey shows that companies are responding to these inquiries by providing broader personal liability protection for directors and officers. In fact, 14% of those surveyed purchased Side A-only coverage in the past year. Side-A coverage provides board members D&O coverage for personal liability when they are not indemnified by the organization. The Towers Perrin survey, which included 2,875 participants, is the 29th in a series of studies on D&O liability insurance purchasing and claims trends.

“For the first time, a study is confirming a significant change in how companies are protecting directors and officers from personal liability,” said Michael Turk, senior consultant for Towers Perrin. “While Side A-only coverage has been growing in popularity over the last few years, we now have data to show just how prevalent the coverage has become.”

The popularity of Side A-only coverage reflects directors and officers’ desires for improved personal coverage. This is particularly true for public companies, where 38% reported purchasing a Side A-only D&O policy this past year. Notably, the majority of stock option backdating claims seen so far have resulted in shareholder derivative claims, a common source of Side A D&O claims.

Among repeat survey participants, there was a 53% increase in organizations that purchased a Side A-only D&O policy. Twelve percent of repeat participants purchased such a policy, up from 8% in 2005. Although public companies are the most likely to purchase a Side A-only policy, the largest percentage increases occurred with private and nonprofit organizations.

Looking ahead, Towers Perrin expects to see an ongoing demand for Side A-only coverage, but also anticipates even greater changes in the types of coverage required by independent board members. Said Turk, “In the coming years, we expect that independent board members will demand specialized policies protecting only their interests. The limits of such a policy-usually called an independent director liability policy-would not be available to officers or internal directors, who typically have a larger exposure to D&O claims. The popularity of Side A-only policies reflects a movement in this direction.”

The Market Continues to Soften

Towers Perrin’s D&O liability insurance average premium index dropped 18% in 2006 after dropping 9% in 2005 and 10% in 2004. For repeat participants, the average premium reduction was 6.5%. But while the downward change in premiums points toward a softening market, nearly the same percentage of companies experienced a premium increase (36%) as those that had a decrease (38%). Furthermore, changes in premiums varied substantially across organizations. Repeat public company participants with assets less than $6 million reported a 21% reduction, compared to a 4% reduction for public companies with assets greater than $10 billion. In contrast, repeat private organizations reported a 5% increase in premiums.

“Securities claim filings were down in 2006. Many reasons have been cited for this, such as improved corporate governance and reduced stock market volatility. We do not believe, however, that the current improved risk profile will support prolonged soft market premium decreases if underwriters want to write this line profitably,” noted Turk.

Consistent with the 2005 survey, 15% of participants reported increasing their D&O limit. The average limit purchased across all participants was $11.55 million, a reduction from 2005 that is based largely on increased participation by smaller organizations. If new participant data is excluded, repeat participants reported an 8% average increase in limits across all asset sizes, from $9.31 million to $10.23 million. The largest increases reported by repeat participants were for organizations with assets between $1 billion and $10 billion.

For 2006, claim susceptibility across all business classes decreased 2% from 2005, to 14%. Public companies showed significantly higher claim susceptibility (31%) than private companies (9%) and nonprofit organizations (4%). The claimant distribution continues to be heavily dependent on the ownership structure of survey participants. For example, 49% of the claims against public participants were brought by shareholders. In contrast, 92% of the claims brought against nonprofit participants were brought by employees. The health service and utilities industries are most susceptible to D&O claims, based on survey responses, with the health services industry experiencing the highest claim frequency.

Nearly half (46%) of claims against 2006 participants have been closed, which remains consistent with last year’s survey. The large majority of the closed claims were closed by settlement (61%), while the percentage of claims closed by litigation increased slightly from 10% in 2005 to 12% this year.

“While many companies focus on the possible negative impacts of D&O liability, managing D&O risks as part of a global enterprise risk management (ERM) program can deliver positive benefits for the enterprise,” said Prakash Shimpi, ERM Practice Leader. “Well-managed D&O liability risk can improve decision making through corporate governance and also contributes to the retention and attraction of strong directors and officers.”

Towers Perrin is offering the 2006 Directors and Officers Liability Survey free of charge to all interested parties. The survey can be downloaded from the website at www.towersperrin.com.

Branch Expansion is Alive and Well

Branch expansion in the banking world will accelerate over the next three years, according to Crowe Chizek and Company LLC’s recently released Crowe Report on Branch Performance. The study shows that financial institutions plan to open an average of 21% more branches over the next three years. During the previous three years, banks opened an average of 18% new branches.

The study examined operating practices and performance of 1,994 branches in 91 financial institutions across 32 states.

According to the study, more than half of all institutions give their branch mangers outside sales calling goals. The analysis indicates that such branches generate 200% more business money market accounts and nearly 8% more business checking accounts per branch than those that have no outside sales calling goals.

Using incentive compensation for financial institution staff results in an increased number of checking accounts. The analysis found that branches with incentive compensation for desk staff sell 23% more personal checking accounts per employee than those without incentives. Nearly 67% of institutions indicated they have formal incentive compensation programs for employees.

Branch performance standards vary widely in the industry. According to the study, the most common measure of branch performance used today is deposit growth. However, branch profitability has long been seen as a much more accurate way of measuring branch performance. Deposit growth can be skewed by large balance accounts, which may also be low profit accounts. Even with these concerns, fewer than half (43%) of the institutions surveyed use branch profitability as a measure of performance.

“We performed this study because retail banking executives across the country have told us they are concerned with how to improve branch productivity, how local demographics affect performance, and how to set reasonable performance goals for their branches,” said Timothy Reimink, senior consultant at Crowe. “This study sheds light on many areas that are affecting financial institutions today and establishes benchmarks for branch performance.”

Crowe’s branchperformance study examined branch-level performance data such as deposit product sales, loan product sales, investment sales, households, total number of accounts and balances by product. It also looked at fee income and noninterest income, overdraft charges collected and waived, staffing, operating expenses, and transaction activity counts. The study examined operating practices, which covered sales practices, compensation and human resources programs, management practices, and branching strategy.