A NEW CONCERN FOR CORPORATE DIRECTORS
A recent ruling by a judge of the US District Court for the Northern District of California has raised new concerns for directors of not only public companies, but also or private and closely held entities as well as managing members or directors of limited liability entities as to potential exposure which may be excluded from coverage by traditional directors’ and officers’ insurance policies.
The ruling by US District Judge Joseph Spero held that whistleblowers are allowed to seek compensation from directors of a company in addition to seeking recovery from the company itself for retaliation for being a whistleblower. Thus, if a whistleblower brings an action against the company for improper termination, retaliation or other wrongs associated with the whistleblower’s activities, the individual directors can be named as defendants in the litigation. According to Judge Spero, few courts have taken up the issue, but he held that the financial regulations laws of both the Sarbanes-Oxley legislation and the Dodd-Frank legislation did not intend to shield directors of a company, where they serve on the board, retaliated or took other improper action against the whistleblower employees. Although the ruling only applied to the corporation involved in the case before the court, it appears that the same ruling would apply to a managing member or director of a limited liability entity.
This ruling reinforces the need for members of boards of directors and others in control of corporate/limited liability entities to make sure that procedures are not only in place but also implemented to protect whistleblowers from retaliation, and also, similar to situations with harassment in the workplace, senior executives or designated board members are charged with the responsibility of overseeing the implementation of the policies and procedures.
Of even greater concern is the fact that retaliation against a whistleblower may be deemed to be an intentional act, even though it may be an act of omission by a director or other insured, in most situations, such intentional acts are excluded from insurance coverage in traditional directors’ and officers’ insurance policies. Corporate directors need to explore the exact nature of the coverage which they received from existing insurance policies, and make sure, if possible, that they are protected if a whistleblower were to name the directors as defendants.
While this ruling may only have persuasive effect in California, the reasoning set forth by the judge could most certainly lead to similar rulings throughout the country. Too often, directors of a closely held corporate entities pay little attention to the nature and extent of coverage under directors’ and officers’ insurance afforded to them, only to find to their chagrin when an action is filed that they are not covered.
This ruling is a wake-up call to all directors and managing members to not only ensure that policies and procedures are in place to effectively deal with whistleblower claims so that there can be no retaliation, but also to insist on updated and expanded insurance coverage.