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2010 PLUS International Conference2010 PLUS International Conference
The Fraud Monster:The Effects of Fraud on
Professional Lines Coverage
2010 PLUS International Conference
The Round Up…
MODERATOR:• Peter J. Biging, Esq., Partner, Lewis Brisbois Bisgaard
& Smith LLP (New York, NY)
PANELISTS:• Serge Adam, Esq., Managing Claims Attorney, Monitor
Liability Managers, Inc.
• Sally Combs, Technical Director - Professional Liability Claims, Fireman’s Fund Insurance Company
• Timothy J. Covello, JD, President, AXIS PRO, AXIS Insurance
2010 PLUS International Conference
Introduction
“No drug . . . causes the fundamental ills of society. If we’re looking for the source of our troubles, we
shouldn’t test people for drugs, we should test them for stupidity, ignorance, greed and love of power.”
- P.J. O’Rourke
“His lack of education is more than compensated for by his keenly developed moral bankruptcy.”
- Woody Allen
2010 PLUS International Conference
What’s Up…
• What is the impact of fraud on various business sectors?
• What is the impact of SOX on the detection of corporate financial fraud?
• What are key trends from SEC enforcement proceedings?
2010 PLUS International Conference
Impact of Fraud on the Economy
• Jobs
• Corporate Investment
• Distortion of Resource AllocationAmongst Firms
2010 PLUS International Conference
Does Fraud Go Up or Down Relative to the Economy?
• Prevailing Opinion
• Impact of Fraud on Various Business Sectors
2010 PLUS International Conference
Fraud Across Multiple Business Sectors
• Top 3 Business Sectors for 2008 were:
Natural Resources
Construction and Engineering
Financial Services
2010 PLUS International Conference
Fraud Across Multiple Business Sectors for 2009
• Top 3 Business Sectors for 2009 were:
Financial Services
Retail and Wholesale Distribution
Healthcare, Pharmaceuticals and Biotechnology
2010 PLUS International Conference
Prevailing Views on Who has Primary Responsibility to Detect Fraud
• Legal View
• Finance View
2010 PLUS International Conference
Fraud Detectors
• SEC
• Lawyers
• Journalists
• Auditors
• Analysts
• Employees
2010 PLUS International Conference
Compare Pre-SOX and Post-SOX
• SEC
• Lawyers
• Journalists
• Auditors
• Analysts
• Employees
2010 PLUS International Conference
Incentives for Whistle blowing
• Altruism
• Reputation
• Career
• Money
• Revenge
2010 PLUS International Conference
SEC Fraud Investigation Trends
• During 10 year period 1998-2007, the SEC alleged fraud involving 347 companies as described in 1,335 individual AAERs
• By comparison, the previous ten year study involved 300 companies described in 700AAERs
2010 PLUS International Conference
Key Characteristics of Fraudulent Companies
• Size• Exchange Listing• Primary Industry• Duration of Fraud• Location• Management• Fraud Techniques
2010 PLUS International Conference
Board Comparison of Fraudulent versus No Fraud Firms
• Size of Board
• Tenure
• Stock Ownership
• Audit Committee
• Experience
2010 PLUS International Conference
Underwriting Fraud
2010 PLUS International Conference
Underwriting Fraud
Question 12: Are you a lying, cheating grifter?
2010 PLUS International Conference
Underwriting Fraud
• If only there were evil people somewhere insidiously committing evil deeds, and it were necessary only to separate them from the rest of us and destroy them. But the line dividing between good and evil cuts through the heart of every human being. And who is willing to destroy a piece of his own heart?
Aleksandr Solzhenitsyn, The Gulag Archipelago, 1973 Mandy de Waal, The Psychology of Fraud, 2009
2010 PLUS International Conference
Underwriting Fraud
• Fraud Triangle Environmental Individual
• “Hot” Environments Securities and Commodities Fraud Mortgage Fraud Insurance Fraud
• Profile of a Fraudster
2010 PLUS International Conference
Underwriting Fraud
• Financial Fraud Predicting Material Accounting Misstatements
Stanford Law School-Securities Class Action Clearinghouse
PLUS
D&O Diary
2010 PLUS International Conference
Underwriting Fraud
• Liability Associated with Fraud Committed by Clients
Accountants Lawyers Central Bank of Denver and Stoneridge Investment
Partners Client Intake Insurance Agents
2010 PLUS International Conference
Policy Features and Claims Issues
2010 PLUS International Conference
“Fraud” Exclusion
“Based upon or arising out of any dishonest, fraudulent, criminal, malicious, intentional or willful act or omission by the Insured or any Loss expected or intended by the Insured;”
2010 PLUS International Conference
Guiding Maxim
“ The duty to defend is broader than the duty to indemnify…”
2010 PLUS International Conference
Excluded conduct “in fact”
Pendergast-Holt v. Certain Underwriters atLloyd’s of London (S.D. TX August 2010)
• Only a judge could decide if coverage was voided by CFO’s guilty plea to three felony counts and admission that the insured business was a fraudulent enterprise
• Carrier must defend until a lower court can formally decide the matter
2010 PLUS International Conference
“Final Adjudication”
“…this exclusion shall not apply unless there is a judgment, final adjudication or admission adverse to such Insured establishing that such Insured committed such conduct.”
2010 PLUS International Conference
Separation of Insureds/Innocent Insured
“…and applies only to the Insured who participated in, acted with knowledge of, or acquiesced to such conduct.”
2010 PLUS International Conference
Other Policy Provisionsand Concepts
• Definition of Wrongful Act
• Unjust Enrichment Exclusion
• Definition of Claim
• Fortuity Doctrine
2010 PLUS International Conference
Warranties
• Known Circumstances
• Severability
• Impact on Claims
2010 PLUS International Conference
Carrier Remedies
• Disclaimer of Coverage• Rescission based on Misrepresentation • Declaratory Relief Action• Reservation of Rights and Compromise
Settlement/Allocation• (Side Issue-Implications of “Shaving” for Excess
Layers)• Post-Adjudication Recovery
2010 PLUS International Conference
Fraud Issues for Defense Counsel
• What are defense counsel’s ethical duties/concerns in reporting to the insurer?
• What are defense counsel’s duties/responsibilities in regards to corporate client in addressing evidence of fraud by employee?
• What are defense counsel’s duties/responsibilities with regard to reporting of fraud by client to regulatory authorities?
• Can evidence of actual fraud be used as leverage in settlement negotiations?
2010 PLUS International Conference
Ethical and Moral Issues for Defense Counsel
• What can you report to insurance carrier?• Can you/must you report fraud to corporate client?• What, if any, obligations do you have to the victims
of the apparent fraud?• What, if any, obligations do you have to report the
fraud generally?• What do you do to navigate this sinking ship to shore
in the context of the litigation?
2010 PLUS International Conference
Questions&
Answers
2010 PLUS International Conference
Many Thanks To…
• Peter Biging
• Serge Adam
• Sally Combs
• Tim Covello