Not taking a board seat reduces one important exposure, but it does not eliminate management-liability exposure.

A private equity, venture, credit or other investment fund can still face claims based on its role as an investor, adviser, controlling shareholder, investment manager or alleged participant in management.

The key distinction

A conventional operating-company D&O policy is generally structured around:

• Side A: protects directors and officers when the company cannot indemnify them.

• Side B: reimburses the company when it indemnifies directors and officers.

• Side C: provides certain entity coverage, depending on whether the insured is public or private and on the specific policy wording.

For an investment manager, however, I am usually more interested in a broader private equity/venture capital management-liability or investment-management-liability program.

That program may include:

• D&O / management liability

• Investment-management or professional liability / E&O

• Fund liability

• GP and management-company liability

• Employment practices liability

• Outside Directorship Liability

• Crime or fidelity coverage in some programs

“But we don’t control the company.”

That helps, but plaintiffs do not necessarily have to agree with your characterization.

Imagine a portfolio company fails and creditors or shareholders allege that:

The investment fund effectively controlled the company, influenced financing decisions, pushed management toward a particular strategy and benefited at the expense of other stakeholders.

Whether the allegation ultimately succeeds is a separate issue. Defense costs begin long before liability is determined.

Exposure can arise from allegations involving:

• investment decisions

• conflicts of interest

• allocation of investment opportunities

• valuation

• financing decisions

• disclosure to investors

• fundraising

• fiduciary obligations

• alleged control-person liability

• involvement with portfolio companies

• exit transactions

• recapitalizations

• preferential treatment of one class of investors

• management fees

• representations made to LPs

So when someone says:

We don’t sit on boards, so we don’t need D&O.

My response is:

That tells me something about your Outside Directorship exposure. It does not tell me whether you have management-liability exposure.

I would still want to understand whether the fund has:

• board-observer rights

• investment-committee involvement

• consent or veto rights

• information rights

• control provisions

• significant minority ownership

• majority ownership

• involvement in hiring or firing management

• approval rights over budgets, M&A or financing

• portfolio-company consulting arrangements

Even a board observer can create potential liability depending on the facts and the role being performed.