When Government Agencies Come Calling

D&O insurance coverage and civil investigative demands

April 13, 2022 Photo

Government agencies, such as the Department of Justice (DOJ), Federal Trade Commission (FTC), and the Consumer Financial Protection Bureau (CFPB), are tasked with investigating and prosecuting violations of civil and criminal laws. In order to carry out their mandates, these agencies may issue requests for information seeking documents or testimony regarding an individual’s conduct or a company’s business practices.

It is not always mandatory for individuals and companies to respond to such requests for information. Nonetheless, government agencies are empowered to issue subpoenas, called Civil Investigative Demands (CIDs), in order to compel the production of documents and/or testimony.

What Is a CID?

CIDs are a form of an administrative subpoena utilized by government agencies to obtain information about potential violations of civil laws. Federal and state prosecutors are increasingly relying on CIDs to gather evidence and have described CIDs as one of the most important tools in the government’s arsenal to investigate civil violations of law. Moreover, government agencies do not need to seek judicial approval from a court before issuing a CID and can seek judicial enforcement of a CID for non-compliance, often with severe consequences.

Companies and individuals should take the receipt of a CID very seriously. While, by definition, CIDs are limited to civil investigations, the information gathered during these investigations is often used to support subsequent criminal charges. Moreover, responding to a CID or other government subpoena is not only onerous but considerably expensive, often costing millions of dollars.

Unsurprisingly, then, companies with directors and officers (D&O) liability insurance turn to their insurance carriers to reimburse the costs of responding to a CID or similar government subpoena. This type of insurance policy generally provides coverage to a company for liability arising from the company’s management decisions, and also provides coverage to individuals for acts committed in their capacity as a director or officer of a corporation.

D&O policies grant coverage on a claims-made basis, which means that claims are only covered if they are made while the policy is in effect or during an agreed extended reporting period. As such, a CID that states that a government authority is investigating a company or its directors and officers for civil violations of law raises the question of whether the costs in responding to the CID are reimbursable under the company’s D&O insurance policy.

What Courts Say

The insuring agreement of the majority of D&O policies provides coverage for a claim that is first made during the policy period that alleges a wrongful act against an insured. D&O policies generally define the term “wrongful act” broadly to mean “any actual or alleged act, error, misstatement, misleading statement, breach of duty or omission” by an insured corporation or by an insured individual in the insured individual’s capacity as a director or officer of the corporation. While D&O policies define the term claim differently, the term often includes a written demand for non-monetary relief.

In determining whether a CID or government subpoena constitutes a claim as a written demand for non-monetary relief, courts have focused on the terms “demand” and “relief.” In so doing, certain courts have concluded that a demand for relief means a “demand for something due.” Some courts have held that CIDs and other subpoenas constitute a demand for non-monetary relief if the government agency would have the ability to initiate judicial enforcement proceedings for non-compliance with a CID. These courts reason that, because the agency may compel the parties to give testimony or produce documents through judicial enforcement, a CID demands—as opposed to requests—information.

In contrast, other courts have found that a written request for information relating to a government investigation does not constitute a demand in the absence of a subpoena. These courts reason that a request accompanied by a threat of a subpoena is not sufficient to establish “a demand for something due,” since, without the subpoena, nothing is actually due. Accordingly, in determining whether a CID or subpoena constitutes a claim as a demand for non-monetary relief, courts have focused on whether the government entity would have the authority to seek judicial enforcement for non-compliance with the CID.

In addition to establishing that a CID or subpoena constitutes a claim under a D&O policy, an insured must also show that the subpoena alleges a wrongful act. Some courts have found that this condition is not satisfied in the absence of an allegation of wrongdoing against an insured. For example, in MusclePharm Corporation v. Liberty Insurance Underwriters, Inc., an insured corporation received a letter from the Securities and Exchange Commission (SEC) stating that the SEC was conducting an inquiry into the corporation’s practices and requesting that the corporation produce documents as part of the SEC’s investigation. Importantly, the notice stated that the SEC had not yet determined whether the corporation had committed any of the acts described in the subpoena or whether the corporation had violated the law. Pointing to this language, the U.S. Court of Appeals for the 10th Circuit held that the insurer was not required to provide coverage in the absence of an allegation of wrongdoing against the insured.

In contrast, the United States District Court for the Northern District of Illinois, in Minuteman Int’l, Inc. v. Great Am. Ins. Co., found that the wrongful act condition was met where the insured was served with a subpoena which alleged that the insured had committed federal health care offenses. The court concluded that a wrongful act had been alleged because the SEC alleged that the insured made false or misleading statements and failed to implement proper internal accounting controls in violation of federal law. As a result, the court held that the insurer was required to provide coverage for the SEC investigation.

When an Insured Tenders a CID for Coverage

Given the substantial costs usually associated with responding to CIDs, insurers and claims handlers should be very careful in evaluating coverage for an insured’s tender of a CID. A claims handler who receives a tender of a CID should carefully evaluate the following issues:

•     Who was the CID issued to? A CID is often issued solely to a corporate entity and not any individual directors or officers. Nonetheless, individual directors and officers may retain counsel and seek coverage from their D&O carrier for the costs associated with assisting the corporation in responding to the subpoena. In determining whether to reimburse those costs, insurers should evaluate whether the CID alleges any wrongdoing by the individual director or officer and whether the individual director or officer is under any legal obligation to respond to the subpoena.

•     What authority was the CID issued pursuant to? Upon receipt of a CID or a similar government subpoena, insurers should evaluate the statute(s) referenced in the CID to determine the judicial authority pursuant to which the subpoena was issued.

•     What does the CID allege the insured did? A key issue in determining D&O coverage for CIDs is whether the CID alleges a wrongful act. Courts have reached divergent results on whether this condition is satisfied based on whether the CID alleges that an insured committed an act, error, or omission sufficient to constitute a wrongful act under the policy, or whether the CID merely states that the government is investigating potential wrongdoing.

Ultimately, whether a D&O policy will provide coverage for a CID depends on the language of the policy and the allegations of the CID. As set forth above, courts have reached divergent results regarding D&O coverage for CIDs based on the facts of the underlying claim. There is no one-size-fits-all answer to whether a D&O policy provides coverage for a CID or a similar government subpoena. Therefore, upon receipt of a CID, insurers and claims handlers should carefully evaluate coverage on a case-by-case basis. 

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About The Authors
Multiple Contributors
Tony Hatzilabrou

Tony Hatzilabrou is an attorney in the Chicago office of Traub Lieberman. thatzilabrou@tlsslaw.com

Eugene Roymisher

Eugene Roymisher is a senior claims specialist with AXIS Capital.  eugene.roymisher@axiscapital.com

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