Abandoned in a Time of Need: The Odd Behavior of Brokers, Agents and Insurers During Corporate Restructuring
by Michael Toner
Aon Risk Services; Boston
Why is it so hard to get straight answers or simple assistance from professionals in the commercial insurance industry during a period of corporate reorganization? A partial answer requires us to start with a broad understanding of how companies buy insurance.
Corporate “insurance” has two like-sized parts: property & casualty (P&C) and health & welfare. Three main product families dominate the P&C costs of the average company: primary and excess casualty, directors & officers (D&O) liability, and property and business interruption. Typically, the relationship between the company, the broker/agent and the insurers is managed by a single individual at the brokerage or agency (“account executive,” “producer,” “client manager,” etc.). Insurers are often both insurers and collateralized lenders to the company.
Turnaround professionals typically rely on company financial management to sort through P&C insurance issues. Seldom is a direct connection made by the turnaround professional to the responsible brokerage executive, and if so, seldom in a timely way. Unfortunately, very infrequently is a direct connection made to principals of key insurers. In fact, here is what typically happens.
When the turnaround professional is hired, it is common that the brokerage executive is among the last to know. They normally find out because company financial management starts asking the broker for copies of documents they have, but can’t find. Fearing competition or some other threat, the broker usually asks and learns that the requests are coming from the turnaround professional retained by the company. At best, the broker does not know what that means. At worst, he or she panics, fears a loss of the client company and stops cooperating. For them, the introduction of a third party into “their work” can only present downside. To them, turnaround suggests financial distress, bankruptcy, liquidation; in the broker’s mind, it’s time to shift efforts and get on to another client.
Remarkably, at the time of greatest company need, they are abandoned by a key and informed advocate. While an insurer’s interest can sometimes be adverse to that of a company in turnaround, the broker or agent’s interest is aligned; they are in a position to provide informed advocacy—but most often do not.
What do insurers do? As will be discussed in more detail within the product family discussion of this article, insurers, to their credit, get active—but not always active to help the company. Sometimes they are active to limit their exposure (reduce limits, increase deductibles, restrict terms, cancel or non-renew or call on collateral). It is, to borrow the expression, the perfect storm: The broker advocate has abandoned ship, the insurers may be drilling holes in the hull and the new skipper, the turnaround professional, is navigating hostile seas with no map and limited familiarity with the ways of the P&C industry.
This article focuses on the potentially helpful role of an informed insurance intermediary (broker or agent) from the perspective of the turnaround consultant and/or company in turnaround. Let’s start with the three product families referenced earlier and scratch the surface on the challenges and opportunities for those helping a company in turnaround.
Primary and excess casualty refers to a family of related insurance products most professionals have seen and understand: workers’ compensation, automobile, general/product liability and umbrella/excess liability. In the case of most middle-market and large companies, workers’ compensation, automobile and general/product liability coverages are “placed” with an insurer as a bundle. Additionally, the “placement” involves relatively little risk transfer or insurance, and so insurance policies turn out to be only one of three key contracts that define these insurer and company relationships—arguably, the least important of the three. The effect of a reorganization event on these coverages is made complex by the fact that some “claims” (such as workers’ compensation) may avoid the effect of the stay while others (products and automobile liability) may not.
D&O liability coverage gets the attention of turnaround professionals for all the right reasons (as does pension trust, employment practices and a few related liability coverages). D&O Liability coverage is complex, and even more so in turnaround situations for several important reasons. First, while turnaround professionals will look to existing company D&O coverage and company indemnification to protect them from claims of “wrongful acts” (which can create personal liability) during the engagement, those protections are often impaired by poor insurance contract language, existing claims and/or powerless promises of indemnification. Additionally, the interests of the turnaround professional, the estate and current or former D&Os may be nonaligned or, worse, may be in conflict. Poor D&O contract language can exasperate the conflict, limit or impair desired coverage, or permit an insurer to escape insurance contract obligations altogether. A series of well-ordered decisions must be made in turnaround engagements, and informed, professional communication with insurers is essential to protecting the turnaround consultant.
Property and business interruption coverage may be the most benign of the three product families, but it is not without its own complexity. In fact, it is not uncommon for an insured event (such as Hurricanes Katrina and Wilma) to be the predicate for financial distress and/or bankruptcy. There are significant issues around rights of recovery in the case of secured property damaged by loss. Mortgagees frequently require aggressive “loss payee” language in loan agreements and insurance policies. Those rights can be influenced by the filing of a petition after a loss, and the outcome can be significant to the estate. Business interruption insurance, or lost income after and as a result of an insured event, is typically worded to pay “actual loss sustained.” A pending business interruption recovery could be limited by an insurer if the restructuring plan calls for the sale, closure or rejection of leases at locations that hosted the loss. Maximum first-party recovery from responsible insurers can be critical to the post-petition plan and central to the case outcome. Managing the interests and actions of secured lenders in these cases requires property insurance contract knowledge and familiarity with rights of all parties in bankruptcy.
As was mentioned earlier in the short discussion on primary casualty, insurers are frequently “lenders” to the company, and critical agreements between the two can influence turnaround success. Here is how that works: Primary casualty programs frequently combine the three coverages described and operate on a “cost plus” basis. The “cost” is the insurer’s administrative expense, profit and insurance charges. The “plus” is the company’s losses and a loss-handling charge. When an insurer underwrites or accepts a combined casualty placement, it is structured so that the “cost” is paid in the first year, but the “plus” is paid over several trailing years as losses become manifest and liquidated. As mentioned, in addition to insurance policies, these arrangements are usually supported by two critical contracts between the company and the insurer.
The premium payment agreement spells out the expected timing of payment over the next several years and confirms the company’s obligations to pay “premiums” as stipulated. These agreements carry specific language and provisions related to downgrades and bankruptcies. These agreements also spell out the company’s obligations to provide collateral to secure future payments to the insurer. The collateral agreement spells out the initial amount of collateral required, the form (usually an irrevocable evergreen letter of credit) and the mechanism for making future adjustments, up or down, based on the development of losses. Taken together, these two contracts position the casualty insurer as a collateralized lender and require a debtor company and turnaround professional to deal with the insurer with the same knowledge and care as any other “lender,” including knowing where and how future “credit” decisions will be made within the insurer.
We have focused on three key products and a few of the complexities attached to reorganization and bankruptcy. There are many other issues, ranging from qualified self-insurance licenses, to surety and general indemnity agreements, to process changes that can make pre- and post-petition premium accounting easier. Time does not permit us to address these in detail here. What we hope is conveyed and obvious is that turnaround professionals benefit from informed guidance by insurance intermediaries and that guidance can represent meaningful leverage in the turnaround and restructuring of companies—in their time of greatest need.