Risk managers warned to prepare for wave of virus-linked D&O claims

Risk managers in the US and Canada are advised to prepare carefully for an expected rise in directors and officers (D&O) claims as a direct result of the Covid-19 pandemic, according to Dentons Canada, part of the world’s biggest law firm. The firm believes the pandemic will trigger D&O claims in three critical areas: financial losses to shareholders; duty of care for cyber breaches and losses sparked by poorly organised mass homeworking; and, in Canada in particular, environmental liability suits brought as senior management take their eye off the ball to focus on the immediate pandemic, leading to potential incidents for which they are liable. Dentons has advised risk managers to act fast and decisively to try prevent D&O action. Among other measures, it suggests the rapid creation of response and preparedness committees to assess all material disruptions to the business, material disclosure of the impact of the pandemic on the business and measures taken to cope with it in public filings, and close examination of existing insurance coverage to determine what is – and what is not – covered. “As the Covid-19 crisis evolves in Canada and across the globe, every economy and business is facing change, disruption and, in some cases, a complete shutdown. Under the circumstances, directors and officers, who are the stewards of an organisation, face tough decisions as they continue to conduct their operational, financial and contingency planning,” noted Dentons Canada. In Canada, directors and officers have a common law and statutory duty to exercise reasonable care and diligence. Before the Covid-19 outbreak, the number of D&O investigations and claims was on the rise. Such D&O litigation had also become increasingly 'event-driven', typically involving product recalls, loss of material contracts, major acquisitions gone wrong, cyber leaks and breaches, material environmental events and sexual misconduct allegations, noted the law firm. The first wave of legal action against directors and officers of US and Canadian firms is likely to come in the form of litigation related to securities and shareholders. “As supply chains are impacted, accounts receivables dry up, new business avenues change and stock prices plummet, the short-term and long-term financial disclosures by a company become significantly more important. Both the US Securities and Exchange Commission and the Ontario Securities Commission have released guidance on disclosure timelines and risks for businesses,” pointed out the law firm. Typical claims brought against directors and officers during such a crisis are negligence and breach of fiduciary duty claims, and secondary market liability claims. “Directors and officers have the duty to supervise the management of the corporation, act in the best interest of the corporation, and exercise care and skill. In addition, Canadian securities legislation creates secondary market exposure and personal liability to directors and officers for material misrepresentation in public disclosure documents,” pointed out Dentons. “For businesses that have experienced a significant decrease in their share prices, there may be increased exposure to a securities class action or derivative shareholder claims. The actions, or inactions, of D&Os in this climate will come under increased scrutiny, as potential claimants may look to attribute blame for losses in the stock market,” it added. As the law firm pointed out, one of the first proposed D&O class actions arising out of the Covid-19 situation has already been filed in US District Court, in the Eastern District of Pennsylvania. This claim alleges, among other things, that misrepresentations were made by the CEO indicating that the company had developed a vaccine for the coronavirus. “The public filings of the company stated that they had had been 'able to fully construct [their] vaccine within three hours once [they] had DNA sequence from the virus'. This was later changed to advise that they had merely 'designed a vaccine construct'. Once clarifications were issued, the stock price dropped more than 71% in a two-day period. The investors who lost money now seek to recover their damages as against the directors and officers,” explained Dentons. To help prepare for such claims, risk managers are advised to take the following practical steps: Create response and preparedness committees to assess all material disruptions to the business If material, disclose both the impact of the pandemic on the business and the preparedness in public filings Seek and rely upon expert advice from auditors, brokers, financial planners, regulators and lawyers – this is not the time to be, 'penny wise and pound foolish' Ensure that directors and officers have 'Side A' insurance coverage and difference in conditions to protect not only the entity, but also the directors and officers personally Refrain from trading prior to dissemination of material non-public information. Cybersecurity attacks and data breaches are another likely avenue of D&O attacks, believes Dentons. “We are currently seeing a massive workforce transition as more and more people are working from home, and relying upon networks and the internet, both professionally and personally (including banking, grocery shopping, sharing private information and general social communications). This may cause an increased risk of cybersecurity attacks and data breaches, as a result,” it stated. The increased vulnerability of businesses could well provide a spark for litigation. “Businesses should be careful to protect their networks while transitioning their employees into remote working environments. A failure to vet their security measures properly may lead to inadvertent data breaches. For instance, there has been a reported uptick in ransomware attacks and phishing scams,” noted the law firm. And directors and officers are increasingly personally liable for such attacks. “D&Os face accountability and personal exposure for cyberattacks or data breaches if they fail to meet their requisite duty of care, and ensure proper security and protection for their networks. Additionally, as more businesses rely on electronic communications to generate revenue and communicate with customers, they should not lose sight of their obligations under Canada’s Anti-Spam Legislation (CASL). Directors and officers can be held personally liable if a corporation fails to comply with CASL,” explained the firm. The practical tips given to try and head off such claims are: Maintain proper document management systems Educate employees on the dangers of using personal accounts for sharing sensitive information and phishing Conduct mock exercises Ensure all software is up to date Consult security advisers to ensure that your data is being properly stored Obtain cyber insurance to help you reduce potential damage to your information systems through theft, alteration or destruction. The third main area of potential D&O assault sparked by the pandemic could well be linked to environmental risks, particularly in Canada, argued Dentons. “Canadian courts have expanded the liability of directors and officers, holding them personally responsible for acts affecting the environment, as well as environmental offences committed by a corporation, during their time in office or on the board,” stated the firm. The Canada Business Corporations Act states that statutory liability may arise in situations of environmental negligence. The Canadian Environmental Protection Act states that a director can also be held liable for corporate offences that the director may have “directed, authorised, assented to, acquiesced in or participated in”. Directors and officers are required to take all reasonable steps to prevent environmental contraventions. Therefore, the key question will be what is considered “reasonable” while operating a business remotely, and adhering to physical/social distancing laws, stated Dentons. In this area, the law firm offers risk managers and their colleagues in legal the following practical tips: Do not cut corners – continue to follow good governance practices Review corporate indemnification policy concerning environmental issues Review insurance policies and ensure there is sufficient protection, because one of the biggest problems that businesses face when dealing with an environmental concern is the lack of limits available to them Report an environmental concern immediately to the insurer – unlike other liability policies, environmental policies have built-in triggers that engage the insurer prior to the issuance of a formal claim Engage a good environmental consultant and engineer. “As businesses and their leaders continue to operate in these uncertain times, the aforementioned areas represent emerging risks. D&Os should ensure they have adequate coverage for potential claims. Additional risk management is also recommended to reduce personal liability arising directly or indirectly from disruptions caused by Covid-19,” concluded the firm.

Risk managers warned to prepare for wave of virus-linked D&O claims

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