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Insurers May Pay for Misuse of Stock Options
By By Ed Leefeldt
Reuters
NEW YORK (Reuters) - Insurers providing liability insurance to corporate directors and officers may have to pay for legal expenses — and perhaps even multimillion-dollar damage awards — for company officers that manipulated stock options to benefit their managers, industry executives said.
The U.S. Securities and Exchange Commission and federal prosecutors are investigating scores of companies - many of them high-technology firms - for possible options abuses.
Backdating means retroactively setting the grant date and exercise price of options to before a rally in the underlying shares, making the options worth more.
"It is definitely going to affect us as D&O (director and officer liability) carriers," said Jim Nestheide, vice president of financial and professional services at St. Paul Travelers Cos. Inc. . "At least 71 companies have been named, and 18 to 20 companies already sued."
In some cases, probably most, D&O carriers will have to pay the cost of suits against company officers and directors. If shareholders can prove they were damaged by executives who took corporate profits they weren't entitled to, things could get worse.
"If their accounting has been irresponsible, they could have to restate earnings," said John Rafferty, head of the D&O practice at Hartford Financial Services Group Inc. . "That could result in shareholder class action lawsuits."
Such lawsuits typically have settlements of $10 million, but a few of them get settled for much bigger sums, and costs could be much higher in some cases, insurance executives warn.
"It's a potential reopening of the same can of worms that we saw with Enron (Corp. ) and Worldcom (Inc. )," said Robert Hartwig, chief economist with the Insurance Information Institute. "The financial damage is smaller. But it sure smells to high heavens."
The issue has the potential to stunt the growing D&O market, where billions of dollars in premiums are written each year, said executives. D&O covers the officers and directors of virtually every company in case they are sued and found to be personally liable.
Or, inversely, it could help insurers in this specialized market. "Even without knowing the extent of the losses, it will be an incentive to raise rates," said Donald Light, an insurance analyst with Celent LLC.
American International Group Inc. and Chubb Corp. lead the D&O market, in which Ace Ltd. , Hartford and St. Paul are also major players.
The problem for insurers is that the federal probe is still in its early stages. "It's unclear to us," said John Doyle, who heads National Union, the AIG unit that provides D&O. "Many of these cases are still being investigated and shareholder lawsuits can go on for years."
Insurers said they will be watching SEC Chairman Christopher Cox for signals on how big the scandal will get.
The SEC is now investigating "spring-loading" of options, which are issued just before good news comes out, according to lawyers familiar with the situation.
D&O carriers said they would be more careful in issuing policies in the future.
"It's not necessarily a question of price, but whether any underwriter would be even willing to offer coverage to a company that didn't have strict policies and procedures regarding stock options," said Mark Schussel, a spokesman for Chubb.
On Monday, online job site Monster Worldwide Inc. and four other companies disclosed new inquiries into options granting, widening the federal probes.
Copyright 2006 Reuters News Service. All rights reserved. This material may not be published, broadcast, rewritten, or redistributed.
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