1. How SEC Scrutiny of Unicorns Could Affect Private Company D&O Insurance

    How SEC Scrutiny of Unicorns Could Affect Private Company D&O Insurance

    Underwriters of directors and officers (D&O) liability insurance should keep an eye on the increased scrutiny of “unicorn” technology firms by the U.S. Securities and Exchange Commission (SEC) for potentially inflated valuations and misleading statements, both of which pose a risk to investors, according to a lawyer who specializes in professional liability insurance claims...

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    1. Any private company can be held liable under the federal securities laws for false or misleading statements in connection with the sale of their stock to venture capital firms or other private investment companies. It just has not been a historical focus of the SEC.
    2. The SEC has suggested that these startup companies may not have the internal compliance…the robust practices expected of a publicly held company, for example, perhaps not unexpectedly given that a start-up is largely focused on getting its business off the ground more so than…compliance issues around its fundraising.
    3. While the common refrain is that nine out of 10 start-ups fail, an equally interesting statistic from one post-mortem analysis is that 70 percent of failed start-ups die within 20 months after their last financing, having raised an average of $11 million.
    4. They, in fact, are making oral representation to these hedge funds or other private equity firms and will likely find themselves as defendants in the litigation for specifically making the representation.
    5. The more that is at stake, and potentially that was invested in the company based on potential misrepresentations actionable under the securities law, the more likely a lawsuit would be filed.
    6. The D&O insurers have always had a clear line between public company D&O insurance and private company D&O insurance. Historically, claims alleging violations of the federal securities laws have always been among the most significant D&O insurance exposures for public companies.
    7. The D&O insurance underwriters are going to have to look to see whether these larger valued private companies really need to be treated like publicly traded companies. The insurance being offered to them needs to be adjusted accordingly.
    8. One area that pressure was already being brought to bear on the private company form, that this will raise even more acutely, is coverage for informal investigations. The public company form has been broadening over a period of numerous years to extend coverage for investigation costs.
    9. Public company D&O policies are typically reimbursement policies, not duty to defend policies. An important feature of that is that the insured or the company gets to choose council, subject to the consent of the insurers. They control the defense with duties to cooperate and keep the insurers apprised.
    10. That's something the insurers are going to have to assess and determine if they're willing to change their policies in that regard.
    11. Some of the traditional benchmarking for how much insurance private companies should buy may change at least for these companies garnering the largest valuations.
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