D&O coverage, E&O liability, cyber insurance, and risk management
Insurance coverage for private equity funds addresses risks at multiple levels: the management company, the funds themselves, and portfolio companies. While insurance cannot eliminate investment risk, appropriate coverage protects against operational liabilities, fiduciary claims, and catastrophic losses that could impair firm viability. Many institutional LPs require evidence of adequate insurance as part of their operational due diligence, making coverage decisions both risk management and business development considerations.
D&O insurance protects individuals serving as directors or officers of the management company, fund general partner entities, and portfolio companies against claims arising from their management activities. PE managers typically maintain D&O coverage at the management company level that extends to fund-related activities. Portfolio company D&O coverage is typically purchased separately at each portfolio company.
Management company D&O policies generally cover defense costs and settlements arising from claims by investors, regulators, or third parties alleging breaches of fiduciary duty, misrepresentation, or other management failures. Coverage terms, limits, and exclusions vary significantly among policies. Key considerations include coverage for regulatory investigations, employment practices claims, and claims arising from portfolio company activities.
Side A coverage, which protects individual directors and officers when the company cannot indemnify them, deserves particular attention. This coverage becomes critical if the management company lacks resources to indemnify individuals or if indemnification is legally prohibited. Some managers purchase dedicated Side A policies to ensure personal protection regardless of company circumstances.
E&O insurance, sometimes called professional liability insurance, covers claims arising from professional services or advice provided by the manager. For PE firms, E&O coverage typically addresses claims alleging investment management errors, inadequate due diligence, misrepresentation to investors, or valuation mistakes. E&O coverage may overlap with D&O coverage in some areas, but typically provides broader protection for professional services claims.
Coverage limits should reflect potential exposure from investor claims and regulatory actions. Factors affecting appropriate limits include assets under management, investor concentration, strategy risk profile, and regulatory history. Many institutional LPs specify minimum E&O coverage requirements in their DDQ templates.
Cyber insurance has become essential as PE managers handle sensitive investor data, portfolio company information, and significant financial transactions. Cyber policies typically cover costs associated with data breaches, ransomware attacks, business interruption, and regulatory investigations arising from cyber incidents. Coverage may include forensic investigation, notification costs, credit monitoring, public relations, and legal defense.
PE managers should evaluate cyber coverage both at the management company level and across portfolio companies. Aggregating cyber risk across multiple portfolio companies can create significant exposure that may not be fully addressed by individual company policies. Some managers coordinate cyber coverage across their portfolio to ensure consistent protection and potentially achieve premium efficiencies.
PE managers typically review portfolio company insurance as part of acquisition due diligence and ongoing oversight. Key areas include property and casualty coverage, product liability, professional liability, and D&O coverage for portfolio company boards. Gaps in coverage can create unexpected losses that impair investment returns.
Some PE firms establish insurance buying programs that coordinate coverage across portfolio companies, potentially achieving better terms through aggregated purchasing power. These programs require careful structuring to address different risk profiles across portfolio companies while maintaining appropriate coverage levels.
Insurance policies contain numerous exclusions, conditions, and definitions that affect coverage in practice. Common PE-relevant exclusions may include prior acts, known circumstances, intentional misconduct, and certain regulatory matters. Reviewing policy language carefully, rather than relying solely on summaries or broker representations, helps identify potential gaps.
Claims history affects both renewability and premium pricing. Implementing strong risk management practices can reduce claim frequency and support favorable renewal terms. Documenting risk management efforts also supports insurance applications and may influence underwriting decisions.
Tail coverage, which extends protection after policy cancellation for claims arising from prior acts, deserves attention during policy transitions. When switching carriers or program structures, ensuring continuous coverage for prior activities prevents gaps that could leave the firm exposed for historical matters.