Private equity fund sponsors are facing increased litigation risk from regulators and private parties, including limited partners and stakeholders in portfolio companies.  As a result, private equity firms should re-examine their professional liability insurance policies to ensure that their coverage is properly aligned with this increasing risk. 

Simply put, private equity sponsors must treat their professional liability insurance as a critical risk-management component of their business.  Most, if not all, private equity fund sponsors have some form of a professional liability program in place, typically in the form of a general partner liability—or “GPL”—policy.  In many cases, these policies are “off-the-shelf” and are not sufficiently tailored to meet a particular fund sponsor’s specific business needs or risks, particularly as litigation and regulatory risk continues to increase.

In reviewing GPL coverage, these are some of the key questions:

Are activities by regulators covered “claims,” and if so, what specific types of activities are covered by the policy?  Given the intensifying scrutiny of private equity by the SEC and other regulators, fund sponsors should consider obtaining insurance coverage for regulatory investigations, enforcement actions, and other activities.  If such coverage is in place, sponsors also should conduct a cost-benefit analysis based on whether the coverage is triggered only by certain “formalities” of the enforcement process (e.g., receipt of a Wells Notice or subpoena from the SEC).  Often, responding to a regulator’s “informal” or “voluntary” requests for broad categories of a general partner’s or management company’s emails—which is not uncommon—can cost well into the six-figures.

Are the “insured versus insured” exclusions from coverage too broad?  Professional liability policies typically exclude from coverage claims brought by one insured against another insured.  In the private equity context, however, it is essential that these exclusions not negate coverage for claims by limited partners against the general partner or the management company.  In assessing this risk, it also is important to consider whether “derivative” claims brought by limited partners on behalf of the fund are “insured versus insured” claims that are excluded from coverage.  Furthermore, sponsors should consider adopting a policy with express language stating that whistleblower actions are not excluded “insured vs. insured” claims.

Is there a clear order of priority between and among insurance policies and indemnification rights?  Sponsors should also evaluate the “priority” of the GPL coverage relative to other insurance coverage, whether at the portfolio company level or the management company level, as well as the priority of the insurance coverage relative to indemnification obligations of the fund (i.e., the limited partnership that the sponsor advises), the management company, and the portfolio companies.

A comprehensive review of a professional liability insurance program may uncover numerous other issues including, for example, vague “conduct” exclusions from coverage for things like “dishonest acts” or violations of “public policy” by insureds, or a definition of “defense costs” that does not include work performed before a lawsuit is filed.

As a more general matter, sponsors also should consider whether insurance coverage is appropriate for the limited partnership that the sponsor advises (in addition to coverage for the general partner, the management company, and their affiliates).

There are many other potential pitfalls to consider.  For the sake of brevity here, suffice it to say that what may appear to be very minor drafting decisions can have real and significant effects on the scope of the coverage, and we recommend that private equity sponsors work with insurance brokers and outside counsel who are familiar with the private funds industry and insurance issues in assessing their existing coverage.

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Photo of Michael R. Hackett Michael R. Hackett

Mike Hackett is a partner in the Litigation Department and Co-Head of the Asset Management Litigation practice. An experienced litigator and trial lawyer, Mike’s practice focuses on complex commercial litigation, with a particular emphasis on asset management, financial services, M&A, shareholder, and life…

Mike Hackett is a partner in the Litigation Department and Co-Head of the Asset Management Litigation practice. An experienced litigator and trial lawyer, Mike’s practice focuses on complex commercial litigation, with a particular emphasis on asset management, financial services, M&A, shareholder, and life sciences disputes.

A significant portion of Mike’s practice concerns disputes and regulation involving private funds, including private equity, venture capital, hedge, real estate and private credit funds, as well as their sponsors, partners, investors, portfolio companies, and officers and directors. Mike’s experience representing private fund clients runs the gamut, from control contests within advisers, to disputes between limited partners and general partners, to representation of investment advisers in connection with regulatory examinations, investigations and enforcement matters. Mike routinely represents funds, fund sponsors, portfolio companies, and their officers and directors, including in significant post-closing M&A disputes.

Mike also litigates high-stakes commercial disputes in the life sciences and financial services areas, including for established pharmaceutical and biotechnology companies, emerging and innovative start-ups, asset managers, and other private capital investors, in areas such as M&A, breach of contract, indemnification, fraud, contested earnouts and royalties, securities and capital markets, and corporate governance.

Mike has been recognized by Chambers USA and was named a “Rising Star” by Massachusetts Super Lawyers.

Photo of Timothy W. Mungovan Timothy W. Mungovan

Tim Mungovan is the Chair of Proskauer.  He is also the immediate past chair of the Firm’s Litigation Department and head of the Securities Litigation practice.

His practice is focused on securities, commercial litigation, governance, and bankruptcy-related matters. He has a national reputation…

Tim Mungovan is the Chair of Proskauer.  He is also the immediate past chair of the Firm’s Litigation Department and head of the Securities Litigation practice.

His practice is focused on securities, commercial litigation, governance, and bankruptcy-related matters. He has a national reputation for advising sponsors of private investment funds (hedge, private equity, private credit and venture capital) in a wide variety of matters, including litigation, governance, securities, fiduciary obligations, and regulatory enforcement.

Chambers USA describes Tim as “an extraordinary lawyer who is a fierce and very talented litigator. He is extremely knowledgeable, responsive and client-oriented.” Best Lawyers in America lauds Tim’s experience, integrity, work ethic, communications and courtroom skills. Tim has been listed in the “Top 100 Lawyers” in Massachusetts, and Benchmark Litigation has continually recognized Tim as a Litigation Star in Massachusetts.

Over the last six years, Tim has been the lead litigator representing the Financial Oversight and Management Board for Puerto Rico in the historic restructuring of Puerto Rico’s debts. The scale and complexity of this restructuring has resulted in one of the most active litigation dockets in the U.S. Almost every aspect of the litigation involved matters of first impression in part because the restructuring is governed by the Puerto Rico Oversight, Management, and Economic Stability Act, which was enacted for Puerto Rico in 2016.  The track record of success speaks for itself:  in the more than 150 lawsuits filed, Tim and the Proskauer team have prevailed in almost 95% of the cases.

Tim is recognized nationally for his experience in private fund litigation and disputes, having focused on the industry for more than 25 years.  As part of that focus, Tim created and is the lead editor of Proskauer’s blog on Private Equity litigation, The Capital Commitment.