New Zealand High Court says D&O policy may not be used to fund director's defence costs

In Brief

On 2 July 2007 New Zealand prop­er­ty devel­op­ment com­pa­ny Bridgecorp Group (Bridgecorp) was placed into receiver­ship, owing investors near­ly NZ$500 million. 

In the after­math of the col­lapse, the NZ Secu­ri­ties Com­mis­sion brought numer­ous crim­i­nal and civ­il claims against the direc­tors of Bridgecorp in rela­tion to their con­duct. Some of the Bridgecorp Com­pa­nies also indi­cat­ed that they would bring pro­ceed­ings against the directors. 

In addi­tion to a pol­i­cy cov­er­ing breach of statu­to­ry oblig­a­tions, com­pa­nies in the Bridgecorp Group held a NZ$20 mil­lion D&O insur­ance pol­i­cy which indem­ni­fied the direc­tors in respect of both lia­bil­i­ty incurred as a result of acts or omis­sions as direc­tors, as well as the costs incurred in defend­ing legal pro­ceed­ings. When the cov­er­age pro­vid­ed by Bridgecor­p’s statu­to­ry lia­bil­i­ty pol­i­cy was exhaust­ed, the direc­tors sought to access the pro­ceeds of the D&O insur­ance pol­i­cy in order to fund their legal costs of the crim­i­nal trial. 

The receivers of a num­ber of the Bridgecorp com­pa­nies (Receivers) object­ed to this, assert­ing that they had a charge over the pro­ceeds of the D&O insur­ance pol­i­cy, pur­suant to s 9 of the Law Reform Act 1936 (NZ) – an equiv­a­lent pro­vi­sion to which exists in NSW in s 6 of the Law Reform (Mis­cel­la­neous Pro­vi­sions) Act 1946 (NSW).

Court finding

In short, the court found that the Receivers’ charge over the insur­ance pro­ceeds meant that the direc­tors could not fund their defence costs using the D&O pol­i­cy. The court held that the pay­ment of defence costs ​“should not reduce the pool of funds that would oth­er­wise have been avail­able to meet claims in respect of which a charge has arisen”, since to do so would deny to the Receivers the fruits of enforc­ing the charge. 

A big fac­tor in the court’s find­ing was the fact that Bridgecorp elect­ed to bun­dle both its cov­er for defence costs and its cov­er for claims for dam­ages and com­pen­sa­tion, which left the direc­tors vul­ner­a­ble once they began to face large civ­il claims. It was also not­ed that Bridgecorp could have obtained a statu­to­ry lia­bil­i­ty pol­i­cy which pro­vid­ed a high­er lev­el of cov­er for defence costs, which would have removed (or at least delayed) the direc­tors’ need to rely on the D&O insur­ance pol­i­cy to fund their defences. 

The court was heav­i­ly influ­enced by the fact that the Receivers’ claim was sig­nif­i­cant­ly greater than the lev­el of cov­er pro­vid­ed under the D&O pol­i­cy. The Court observed that its find­ing would like­ly have been dif­fer­ent if the claim was for an amount sig­nif­i­cant­ly less than the cov­er avail­able under the D&O pol­i­cy, hold­ing that in such cir­cum­stances the charge would like­ly only extend to the expect­ed amount of the claim and its asso­ci­at­ed costs, mean­ing some funds from the pol­i­cy may have remained avail­able to the directors.

Lessons for direc­tors and officers 

Direc­tors and offi­cers should con­sid­er pur­chas­ing a sep­a­rate insur­ance pol­i­cy designed specif­i­cal­ly to pro­vide cov­er for costs incurred in defend­ing claims. This case shows that, while cost effec­tive, there may be risks involved in poli­cies that bun­dle cov­er for defence costs with cov­er for dam­ages and com­pen­sa­tion. While the deci­sion in this case is cur­rent­ly only bind­ing in New Zealand, in mak­ing its find­ing the court drew on a deci­sion from the High Court of Aus­tralia and, with sim­i­lar leg­is­la­tion exist­ing in NSW, the prin­ci­ple may lat­er be adopt­ed by Aus­tralian courts. 

Ongo­ing issues 

We note that the mat­ter is not final­ly set­tled, as a notice of appeal against the NZ High Court’s deci­sion has been filed. 

Fur­ther devel­op­ments regard­ing the appeal will be fea­tured in future edi­tions of e‑News.

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