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Errors and Omissions Insurance - Necessary Protection of Officers and Directors

Errors and Omissions Insurance - Necessary Protection of Officers and Directors

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One area of my work that has gotten a lot more attention since 2002 is the question of exposure of directors to liabilities arising from their board service. Most serving directors realize that managing this liability is only partially under their control.
One area of my work that has gotten a lot more attention since 2002 is the question of exposure of directors to liabilities arising from their board service. Most serving directors realize that managing this liability is only partially under their control.

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Published by: Dr. Earl R. Smith II on Nov 21, 2008
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Errors and Omissions Insurance - NecessaryProtection of Officers and Directors
By Dr. Earl R. Smith IIDrSmith@Dr-Smith.comwww.Dr-Smith.comOne area of my work that has gotten a lot moreattention since 2002 is the question of exposure of directors to liabilities arising from their board service.Most serving directors realize that managing thisliability is only partially under their control. Certainly,they can be sued for neglecting their responsibilitiesto the shareholders - and minority shareholders aremuch more aggressive these days. However, theyalso incur risks for the actions - or lack of actions - of the management they are supposed to be overseeing.Some of these risks - but not all - can be mitigated with the properinsurance.In today’s litigious society Errors and Omissions Insurance (E & O) is anecessity. Everyone will eventually make an error or omit an importantclause in a contract leaving open the possibility of a lawsuit. Sarbanes-Oxley (SOX) holds Directors personally liable in certain instances foractions or for the failure to act on the part of the board of directors.Errors and Omissions insurance is concerned with performance failuresand negligence on the part of a company’s products or services.Errors and Omissions Insurance covers acts, actual or alleged, errors oromissions, misstatements, misleading statements, or breach of fiduciary duty or other duty while holding authority and responsibilityfor professional governance of an organization. It will often coverissues when an officer or director knew or should have known an actwas happening and the officer or director failed to act to correct theissue. With breath and width of director responsibilities growing daily,corporate governance becomes more complex and directors must workthrough others and on the recommendation of others to executebusiness transactions. The CEO exercises powers to act on behalf of the board in many circumstances. A board member is liable for theCEO’s malfeasance if the governance model shows the director ordirectors should have exercised greater oversight of the CEO.Companies engaged as advisors offering advice on corporate financeare liable if there assessment is not thorough enough to catchcorporate finance irregularities. Errors and Omissions Insurancecoverage would cover the company if the advice proved to be
 
inaccurate or illegal and the advisor knew or should have known theadvice was an error. The same is true if the advisor failed or omittedkey information regarding corporate finance that created a problem fortheir client. Professional services usually extend to supervisoryservices, computer and internet services, administrative services, andeven publications prepared for the company especially if corporatefinancial documents are involved.External auditors generally carry Errors and Omissions Insurance.Auditors review and offer opinions of the accounting policies used by acompany to produce corporate finance statements. Auditors also offeropinions regarding the accuracy with which the financial statementsreflect the financial condition of the company. Auditors that failed toinvestigate thoroughly the accounting practices of a company engagedin non-G.A.A.P. accounting practices are accountable for not disclosingthis fact in their report.Banks and other lending institutions typically require Errors andOmissions Insurance when companies request a new line of credit, oran adjustment to an existing line of credit. Banks understand thedevastating impact a lawsuit can have on corporate operations andtherefore often insist on insurance as a rider in the loan contract. Errorsand Omissions Insurance will generally cover legal defense costs nomatter how baseless the allegation and will cover the company for anyresulting judgments, including court costs, up to the coverage limits onthe policy.Some companies make a serious mistake. General liability insurancedoes not cover errors, contract performance disputes or any otherprofessional liability issues. Errors and Omission insurance coversmistakes on the part of the company, the company’s officers,employees and even independent contractors working on behalf of thecompany.Boards of directors are responsible for enhancing the value of theshareholders of the company over time. Part of that responsibility isprotecting the company from events that could disrupt the company’sability to operate. A lawsuit arising from company malfeasance couldpotentially destroy corporate finances and put a company intobankruptcy.One final point - Errors and Omissions Insurance is useful only if thedirectors take a professional and responsible approach to their serviceon the board. Insurance companies review each claim with an eye tofinding reasons not to protect the individual directors or board from theresults of actions that are not professional, best practices - they look

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