Fast Fast Forward

"Deep Pockets" picked to pay for pollution clean up

XL Group

By

, Managing Executive Underwriter
, President, North America Environmental

On October 28, 2013, twelve former directors and officers of bankrupt Northstar Aerospace agreed to pay a total of $CAN 4.75 million to the Ontario environmental regulator for costs to clean up the company’s manufacturing site.

Going after directors and officers for pollution and environmental remediation is not new. What is new is the aggressiveness and creativity of environmental regulators and environmental activists / shareholders in their efforts to find parties to pay pollution costs.


Background on the Canadian Northstar Aerospace Deal

In the case of Northstar Aerospace, regulators were not willing to stand in line behind creditors and hope that there would be enough funds left from the bankruptcy hearing to clean up the polluted site. The Canadian regulators were willing to go after “deeper pockets” such as the personal assets of individual directors and officers for these costs.

Between 1981 and 2009, Northstar Aerospace (Canada) manufactured airplane parts at a plant in Cambridge, Ontario. In 2010, it was determined that chemicals used in the company’s manufacturing operations had leached into nearby residential properties. When Northstar discovered the problem, they immediately commenced remediation efforts. Two years later, in 2012, Northstar filed for bankruptcy. During the bankruptcy process, it became clear that the proceeds realized from the bankruptcy would not be sufficient to fund further remediation efforts.

At that time, the Ontario Ministry of the Environment (MOE) stepped in and took charge of the remediation efforts. The first thing they did was to file a regulatory action against the twelve former directors and officers, seeking to hold them responsible for costs of approximately $CAN15 million. In June 2013, the Environmental Review Tribunal entered an order holding the individual directors and officers personally responsible for the ongoing costs of about $CAN 1.4 million per year.

Simultaneously, the directors and officers pursued an appeal of the regulator’s action against them. In the appeal, they argued that they had not been involved with the company at the time of the alleged contamination; therefore, they were not responsible for environmental issues at the company.

Because the officers and directors were obliged to provide interim funding while they pursued their appeal, they decided to reach a settlement agreement with MOE. The MOE said that the settlement represented “the first time that the Ministry has held corporate directors of a public company personally responsible for an environmental cleanup after a company has gone bankrupt.”

Beyond due diligence

This case has important implications for individual directors and officers serving companies with operations that could potentially produce environmental contamination. In the U.S., the SEC has shown a growing willingness to hold companies accountable for failure to adequately disclose material environmental risks. Investors have also shown a keen interest in compelling full disclosure of environmental liability risks. Board actions with respect to climate change and environmental risks are beginning to attract front-page attention. While due diligence is extremely important, it is only one step directors and officers should take to protect themselves and their company.

Several insurance products are available to protect a company and its directors and officers against pollution and environmental damage, such as commercial general liability, environmental liability and directors and officers liability (D&O). However, before looking for appropriate insurance, companies and directors and officers should examine their environmental risks, review the impact and disclosure of these risks, and carefully read the terms and conditions of their organization’s existing directors and officers (D&O) liability insurance.

While insurance can help manage these risks, it is important to understand how, when and where coverage actually applies. Pollution exclusions are extremely common in commercial general liability policies (CGL). Risk managers need to carefully read the CGL policy.

One solution is to consider purchasing stand-alone pollution and/or environmental liability coverage. Despite such catastrophes as Love Canal, environmental liability coverage is still not widely purchased. Yet, the variety of chemicals today is greater than in the past. That means that even smaller companies using hazardous materials, such as dry cleaners, can have potentially catastrophic losses. We can’t live without water, and if your company is responsible for chemicals leaching into the municipal water systems, you’ve got the potential for a severe problem.

Directors and officers insurance coverage is another avenue companies and their directors and officers can take. While many D&O insurers have eliminated the pollution exclusion from their base policy forms the policy’s definition of “loss” will often specifically exclude costs and expenses in connection with pollution testing, remediation, clean up, monitoring…etc. With these elements precluded from coverage, , a typical D&O policy, despite the removal of the a pollution exclusion would still not offer individual directors and officers remediation cost protection.

The standard D&O pollution exclusion sometimes includes a carve-back preserving defense cost coverage protection for claims under the policy’s Insuring Agreement A – i.e., when the company is insolvent or otherwise unable to indemnify them. While defense cost coverage could be important, it does not provide protection for remediation cost liabilities.

A good option is to purchase Excess Side A/DIC insurance as part of the D&O insurance program. Many of these policies have no pollution exclusion. They could “drop down” and provide insurance protection for insured directors and officers for environmental remediation liabilities which are not otherwise insured nor indemnified.

Many Side A/DIC policies do not affirmatively grant this coverage, but they don’t affirmatively preclude this coverage either. This suggests the possibility that Side A/.DIC policies could be called upon to provide protection for individuals’ environment remediation liability.

Conclusion

Today, pollution and environmental issues are main-stream and commonly discussed as part of corporate board level management topics. Boards have long-performed due diligence around how the business activities of the company could affect the environment. While the case cited here involved a provincial environmental regulator in Canada, the issues involved are hardly unique to that jurisdiction. Given the increasing willingness of regulators everywhere to try and impose personal responsibilities on individual directors and officers for corporate liabilities, these issues are likely to recur elsewhere.

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Matt O’Malley is President and Mary Ann Susavidge is Chief Underwriting Officer for XL Group’s North America Environmental business. As one of the pioneering environmental markets XL Group has been writing environmental insurance coverage for nearly three decades

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