Should Directors and officers of major companies be concerned about the limits of their D&O liability insurance? Only if they are unlucky enough to get named in a class action suit brought by an institutional investor. While the chances of getting hit with a lawsuit are relatively slim–according to March Inc., less than a 1% chance in any given year–when a company does get fingered, it can be devastating. In 2006 alone, there were four billion-dollar-plus D&O settlements and seven cases settling in excess of $500 million. Last year, the average settlement value in D&O lawsuits hit a record $45 million–more than twice the average of all settlements since the passage of the Private Securities Litigation Reform Act of 1995–and so far this year, the trend is continuing with average settlement values hovering around $41 million. What's a company to do?

Well, the answer is not to go out and buy all the insurance you can–especially since there isn't enough insurance capacity to cover potential losses anyway. "D&O claims severity is punishing at unprecedented levels," admits Lance Ewing, vice president of risk management at Harrah's Entertainment Inc., "but that doesn't mean we run to insurance as the answer. You make sure you do the right things internally to be prepared before you turn to insurance as the savior."

Unfortunately, the report card on preparedness among companies, when it comes to risk management, is mixed. It is fair to say that most companies have a better handle on risk than they did five years ago–if only because regulations, such as Sarbanes-Oxley, have forced them to consider it. But only in May, Big Four audit firm PricewaterhouseCoopers LLC noted mounting concerns among internal audit executives about their companies' risk assessments. While more than 80% of respondents to the firm's annual internal audit study reported that they conduct yearly enterprise-wide assessments, only a handful continually updated these assessments. Approximately 64% do little or nothing between the annual assessments, and only 20% consider the annual assessments well integrated enough with each other to make sure no risks are falling through the cracks. In a 2006 survey of corporate directors, the Conference Board found that only 43% reported that their companies had formal practices in place to manage reputational risk–a key factor in falling stock values which, in turn, is a key factor driving most D&O lawsuits.

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