Frequently Asked Questions

 

FIG ad hoc Decision Audit

 

 

1)   Why should directors allow an outside group into their boardroom to participate and monitor its decision making activities?

 

Directors are accustomed to allowing outside groups into the boardroom. Often they have their attorneys, accountants and financial experts. We often forget that attorneys have done a fine job of convincing us that that are really inside players – but that is false. They are outside consultants with whom directors have become habituated.

 

But it is true that we do not readily consent to invasive overtures by outsiders. We like       to maintain the privacy of our inner sanctums. Regardless, we are willing to make exceptions when we understand that there is a good reason for the “invasion.” Very private people consent to root canals, open heart surgery, airport screening exams that reveal one’s genitals to strangers – just to mention a few. Directors who say they will not allow outsiders in the boardroom are just expressing a well-known preference for privacy. Depending on the circumstances – it is a rebuttable preference.

 

The more salient observation is this: when a board is sued and directors sit for deposition – the plaintiff’s attorney will ask extremely invasive questions – many of which will not be admissible as evidence in any subsequent courtroom proceedings. But the director must answer the questions anyway – in deposition.

 

When the FIG Decision Audit team joins the directors in the board room – we’re on their side. We are their allies. We are there to help them perform dramatically better for their stakeholders AND to facilitate their performing confidently and brilliantly in front of that bantam rooster plaintiff’s attorney who will be hostile to the directors’ interests.

 

All of these considerations notwithstanding – we will not get 100% compliance with our request for boardroom access. From time to time we will find some dinosaurs who will prefer to do it the old fashioned way. And that’s just fine. We do not expect to sell everyone.

 

2)   Everybody knows that the sale of an insurance (or risk-transfer) product  is always based on an appeal to fear – a portrayal that great, impending harm is about to be inflicted on the Insured – with the implication that the insurance product is an important way to attenuate the prospective damage contemplated.  Isn’t it true that the base rate probability of a director losing his (her) personal assets because of litigation against his company’s directors … is extremely low? And isn’t it true that relatively few directors lose a major portion of their assets because of director litigation against them?

 

It is always amusing when insurance people raise the issue of the industry practice of stoking the fears of the prospect to justify the purchase of insurance. This is not a new issue and it does not singularly apply to D & O liability insurance (or fiduciary risk management services). (Some of us take blood pressure and/or cholesterol medication because pharmaceutical companies have persuaded our doctors that their patients need to take these medicines to avoid a premature death.) There is nothing sinister about offering products that minimize the likelihood of, or mitigate the damage of, low-probability events that will cause us great harm if, in fact, they occur.

 

Insurance, or risk-transfer products, of any kind, have always registered a negative expected value – to use the expectation model terminology. This means that insurance is a “sure loss” to the purchaser unless there is a claim. And, of course, all parties are unanimous in hoping that the bad events that trigger claims will never happen.

 

In our opinion, the history of D & O liability, litigation and subsequent claims – regardless of the “level of danger” it conjures in an observer – may not be repeated. Nevertheless, there is ample evidence that the frequency, sophistication and alleged magnitudes of damage have increased in fiduciary litigation filings since the Enron debacle. Many observers believe they are likely to continue to increase.

 

Stakeholders of pension funds who have seen their retirement plans eviscerated by the poor investment results that have characterized the institutional investment community over the last few years – will place the blame on someone. And as the pension funds get sued, they will sue the boards of their portfolio companies. You can hear the plaintiff battle cries now, “Someone has got to pay for compromising the retirement funds of American workers!”

 

The last link in the daisy chain of financial underperformance is the boardroom of Corporate America. It is not fear-mongering to suggest that today’s corporate fiduciaries need all the help they can aggregate to the task of improving their boardroom performance, being able to prove that they have done so in a court of law and having the deluxe D & O liability cover just in case it is needed to protect their personal assets.

 

3)   Current D & O product suites include Side A, B & C cover and, often, other collateral coverages that derive from employment practices, accounting deficiencies related to securities offerings and/or Sarbanes-Oxley. Hasn’t the D & O industry covered the modern director/officer from virtually every possible angle of attack? Why is the FIG ad hoc Decision Audit with its product performance indemnification feature a necessary inclusion in the fiduciary risk management repertoire? Why should a board be interested given the largesse of coverages currently available?

 

The D & O industry has been prolific in birthing new D & O product features. They deserve credit for fine-tuning and distinguishing the various geneses of fiduciary risk.  There is one type of risk that has not been directly addressed. We are comfortable asserting that this type of risk is prospectively the most dangerous and the most difficult to defend.

 

Of course, we are referring to the fact that no D & O underwriter has attempted to directly measure the quality of fiduciary decisions in the boardroom. Even if there were a decision making standard – which there is not – there would be no way to compare the actual decision making process conducted by this board to that standard.

 

Remember that we have worked from the premise that the predicate act of fiduciary performance is always a decision. The currency of fiduciary performance is decision making – especially, complex decision making under conditions of risk and uncertainty. If you cannot or will not directly measure the quality of decision making in the boardroom – then you cannot, by definition, estimate the quality of fiduciary performance or its twin sister – the quality of corporate governance.

 

As an aside, we have developed a fiduciary litigation strategy for the plaintiffs’ bar that addresses the egregious underperformance of directors in managing the board’s decision making process. One of the first questions that will be asked of each director in the pre-trial Discovery-stage Deposition is, “Tell me how your board measures the quality of its decisions.”

 

Based on what we see in the contemporary marketplace – the FIG ad hoc Decision Audit creates the only effective response to that question.

 

In summary, though the proliferation of D & O products is a positive development – it does not reduce the need for the FIG fiduciary risk management program as instantiated by the FIG ad hoc Decision Audit with its product performance indemnification feature.

        

 

4)   At the end of the day, directors want to have comprehensive, reliable coverage in place. But isn’t the FIG ad hoc Decision Audit program  redundant and, by virtue of its redundancy, nothing more than an additional layer insulation for the reinsurer and an additional cost burden for the Insured’s’ company?

 

Those of us who live in extreme climates – heat or cold – believe that extra layers of insulation are a good, even necessary idea. Directors who make big, complex, expensive  decisions which are inherently litigious – “live in an extreme climate” – to extend the metaphor.

 

But, as noted above in FAQ #3 – there is no incumbent D & O cover that makes the FIG fiduciary risk management program redundant. None of the incumbent insurance covers address and remediate the quality of director decision making.

 

 

5)   Since the mid-80s – the D & O industry has witnessed various checklist approaches to demonstrating or “proving” that the directors were thorough and fastidious in discharging their duty of care to the Corporation and its stakeholders. How is it possible that the FIG “presence” in the boardroom to “elevate the quality of the decision making process” is anything more than another, albeit – more sophisticated – checklist? Haven’t the jurisprudential panels already learned the frailty of “papering the trail” with checklists?

 

Imagine that you have a six year old daughter waiting at the kitchen table to celebrate her sixth birthday with you. You bring over to the table a sack of flour, a cup of sugar, a bowl with three eggs, a bottle of vanilla extract and a stick of butter. You say, “Happy Birthday, Sweetheart – here’s your birthday cake.”

 

“No, Daddy – that’s not a cake – that’s a bowl of eggs and a bag of flour, a cup of sugar … yada, yada. Where’s my cake?”

 

“No, Sweetheart, here’s the recipe for the cake – and see … I made a checklist of all the ingredients that go into the cake. See … they’re all here. I checked them off.”

 

Like a cake – a complex decision is about a construction process – not just a checklist of ingredients. Most of the judgemental processes that are instrumental to the construction of a decision are not even visible to the naked eye. Consider the following judgemental activities: compare, contrast, choose, eliminate, estimate, combine, maximize, compress, generalize … to mention a few. 

 

The FIG ad hoc Decision Audit intervenes in the decision making process in real time and impacts, changes, transforms the way directors evaluate a project. The intervention impact on the directors causes them to interact with management and elicit changes in management’s thoughts and actions regarding the project under review. The contemplated project is improved as it moves through several iterations of transformative change. The concatenation of all of these interactive, judgemental activities get aggregated into an eventual decision to adopt an nth generation version of the original project.

 

The individuals who comprise the Board of Directors of a company are very often experienced and gifted business players with some value creation or risk attenuation expertise in a given business discipline, e.g., management, finance, law, marketing, information technology, manufacturing, auditing, security instruments, supply chains, human resources – to name a few. None of these exceptional business players are trained in, or competent in, the science of complex decision making. The expert opinions of each of these gifted directors will lie dormant and useless on the board room table like a sack of sugar and a bowl of eggs - until and unless a portfolio of judgemental activity blends together all of these expert opinions into an optimizing decision. Rendering complex decisions is not unlike baking a cake. The ingredients alone – are not enough. A checklist is not enough.

 

The FIG Decision Audit is a powerful intervention that elevates the quality of the decision making process to an optimizing level. One result is the production of an optimized decision-product, i.e., the best decision possible under the present constraints of limited information and limited resources. This decision science-based methodology, implemented in real-time inside the boardroom by third-party, independent decision auditors – bears no kinship to the checklist approach. Neither is it a “papering the trail” method; it measures, manages, induces positive change and the interactive process iterates many times until optimization is achieved. 

 

       

6)     How can a risk manager view the FIG ad hoc Decision Audit and indemnification as “cost-effective” given the largesse of incumbent covers already in place?

 

The risk manager has two major generic responsibilities – as we understand their mission. First, they must manage all of the company’s pockets of risk.  They manage these pockets of risk by application of the various different tools and resources resident in their risk management toolkit – one of which is the universe of insurance products.

 

But the first task is to take care of the risk. Do not allow any free-ranging risk (unaddressed or unmitigated risk) to be floating around in a way that can damage the interests of the company.

 

“Cost-effective” is not a real issue if it’s unhitched from the first risk management requirement - achieving effectiveness in risk-mitigation or attenuation.

 

The FIG ad hoc Decision Audit is designed to address those particular fiduciary decisions that may be highly litigious and that may implicate the transfer of major wealth from the defendants to the plaintiffs. This class of decisions can elicit extremely large settlements – now in the hundreds of millions or billions of dollars. Some jurisprudential panels are now requiring directors to pay part of the settlement amount out of their own pockets – despite the D & O policy in place. This means that it is more important than ever for the defendants to win the fiduciary lawsuit and not be vulnerable to the judges’ discretion to require the individuals to pay personally.

 

Legacy D & O policies – within our experience – do not impact the quality of fiduciary performance or the subsequent litigation defense and, accordingly, are impotent in increasing the odds that the director-defendants will prevail in the litigation. In other words, in today’s jurisprudential environment – for certain types of fiduciary tasks and the follow-on fiduciary litigation – a good D & O policy is not good enough. To have a clearly winning hand in the courtroom – which IS the locus of the risk management concern – requires an astute and comprehensive behavioral remediation in the boardroom at the decision making level.

 

Therefore, “cost-effective” must be assessed by comparing the cost of the FIG ad hoc Decision Audit with any other cover that requires a comparable behavioral intervention in the boardroom. By this measure – FIG’s product offering will be the best bargain in town!

 

 

7)   One of the most impressive but frightening claims made on behalf of the FIG ad hoc Decision Audit  is that for single decision events … the exhaustiveness of the “scrub” allows offering extremely high-dollar indemnification. Does the perceived efficacy of the “refereed decision environment” enable FIG to, essentially, “bet the farm” on every client with a $50 - $100 million D & O deductible? And, does high-dollar indemnification elicit a systemic risk for the client who follows behind a client forced into a major claim.

 

The impact of the refereed decision environment is only one element that attenuates risk for the client-Insured and the primary and reinsurance carriers. Consider the other FIG ad hoc Decision Audit product features. 

           

                                     

PRODUCT FEATURES:

 

  Underwriting is based on an interlocking system of loss control mechanisms

 

  The decision making standard invoked by the Decision Audit engagement makes it virtually impossible for a plaintiff to challenge the care, loyalty or independence of the fiduciaries’ judgemental process or its resulting decision-product.Not only did this corpus of decision makers hire an outside team of experts in complex decision making to referee and grade their important decisions – they also complied with the exacting process that required their time, energy and focused attention. In the course of exhibiting these vigilant behaviors – they held management accountable to higher standards relative to their sourcing of information, their analyses and interpretations of that information and the inferences and conclusions based on that information. A written record of how assiduously the board dogged management to ‘get it right’ before endorsing the targeted plan of action … was recorded and maintained by the team of outside, independent experts.” The point is – the client-fiduciaries are driven to the highest standard of fiduciary performance and are not likely to be found deficient in the discharge of their fiduciary duty.

 

  Indemnification only extends to decisions that have been formally refereed and certified by the ad hoc Decision Audit. The first important implication is that loose cannon actions by a careless or maverick officer or director will never inflict damage (on the Insured or on the Carrier) because no coverage will apply. Take the example of the CEO who, in a conference call for analysts under Reg FD – gets a little giddy and makes forward looking statements about earnings performance that are expressed as though they can be relied upon. “Manna-from-heaven” for the plaintiff’s bar. This loose cannon action does not even register under the FIG ad hoc Decision AuditTM-based product performance indemnification program – because there is no indemnification in place – hence, no exposure.  So, the allocation of indemnification solely to refereed and certified events … sidesteps many, if not most, of the noisy and careless actions that most frequently elicit litigation.

 

  The FIG product performance indemnification is contingent upon – among other factors – a court-adjudicated decision. It is understandable why all parties to the litigation often posture for and subsequently adopt a negotiated out-of-court settlement. None of them – neither the defendants, nor the plaintiffs nor the carriers - understand what comprises the elements of risk or what might be effective in attenuating or negating that risk. None of them have ever bothered to directly identify or measure the underlying risk components. Loose and primitive correlational relationships are the most that any of these players have offered.  So, all parties routinely agree to sidestep the ultimate punishment – viz., losing a court-adjudicated outcome – with its potentially disastrous consequences vis a vis a middlin’ settlement price. As we all know – the plaintiffs’ bar has made a not-so-small cottage industry out of this unfortunate reality. By tying the insurance cover to a jurisprudential outcome – the client-defendant is forced to call the plaintiff’s bluff. And the plaintiff is forced to reexamine its hand to see if it warrants the likely legal expenses of going to trial.

 

  A further control mechanism for limiting indemnification claim-loss experience is specific to our directly managing the attorneys rather than permitting the defendant-Indemnifieds to hire and manage them – which means that we have to hire and pay for the lawyers and the legal costs. We choose to do that for two reasons, first: we have a specific litigation strategy and we do not want attorneys freewheeling and doing it their way.    That litigation strategy is informed by a number of factors, e.g.,                                                         

 

         Prior to the conduct of the Decision Audit in the Boardroom we investigate the contemplated type of decision event and examine the history of its litigation and adjudication in the specific jurisdiction of the client. If the Bench in that jurisdiction has included some atypical factor in writing its opinion – we want to know that before we intervene with the board. We want to be able to account for any obtuse judicial considerations by having some hints ahead of time.

 

         We look at the composition of ownership – how it’s distributed – how many large institutional investors with historically quick trigger fingers? What is likely to be their appetite for court-adjudicated litigation against this type of decision? Will they frame it as a care regime case or invoke the newer and more frightening loyalty regime violation?

 

         We especially want to direct the specific activity of the attorneys in the pre-trial Discovery phase – the Depositions and the Interrogatories. This is where the fiduciary liability litigation is won or lost – and if the lawyering is done properly at this stage – the case never goes to trial. Following completion of the Discovery stage, during the Pre-Trial Conference with the Judge - the judge or judiciary panel will ask Defense Counsel to submit a Motion to Dismiss or a Motion for Summary Judgement… so that the case can be dismissed. 

 

         Also, much of the questioning of each director during Deposition is determined by the nature of the decision audit exercise and – almost literally – has been written-up before the lawsuit was ever filed.  Our preparation minimizes the billing hours of the lawyers – and thereby lowers the legal costs – which is our second reason for managing them directly.

 

  All of these product features – working together – facilitate the prospective achievement of rare and modest claims against the FIG indemnification program.

 

         In refereeing  a decision making process and approving a resulting decision product -  we further authenticate our facilitative work with the FIG imprimatur - an attest statement or opinion letter – just like a CPA firm issues after it completes an outside financial audit of a firm’s financial statements and internal control practices. As experts in the human judgement that informs complex decision making we attest to and certify that this corpus of fiduciaries has complied with the highest standards of decision making practice in rendering this decision. Like accountants – our opinion may be unqualified, qualified or adverse.

 

8)   Can you prove that this FIG loss-control mechanism actually works?

 

We must be careful when we refer to the “loss-control mechanism” as though it were a singular control instrument. The so-called “mechanism” is actually a filigree of interlocking mechanisms – all of which, working together, deliver the unassailable protection to the Client-Insured and, collaterally, to the primary and reinsurance carriers. (See the response to FAQ #7 above.)

 

Regardless, the answer is “yes” we can present a proof that the FIG loss-control mechanism functions with the reliability we have described. Equally important, however, is the observation that our insurance providers that “back-stop” our indemnification program – believe that it works!

 

Immediately prior to the execution of a strategic partnering contract, FIG will accommodate the due diligence needs of the other party by presenting a formal proof of the FIG loss control system. Specifically, the proof will demonstrate to “any reasonable business mind”** that a fiduciary lawsuit against FIG client-directors specific to a FIG refereed and certified decision will never be lost in court.

 

**The any reasonable business mind standard does not necessarily include attorneys and accountants or other professional specialists – unless they possess an executive-level, general business background and understand the “usual and customary” value creation and risk attenuation protocols characteristic of modern business and risk management practices.