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1.Introduction

Directors and Officers Liability Insurance (hereinafter referred to as “D&O Insurance”) is a type of professional liability insurance that insures directors, supervisors, and senior executive officers against civil liability to the company and third parties. With the amendment of the Company Law and the increasing requirements for corporate governance, significant changes have occurred in the coverage of D&O Insurance. This article explores these revisions under the new Company Law and further analyzes the differences in insurance liabilities between foreign-invested companies and domestic companies.

2. Revisions in Directors, Supervisors, and Senior Executive Officers’ Liability Insurance

(a) Revisions in Insured Parties

Since the 2001 “Guiding Opinions on the Establishment of an Independent Director System of Listed Companies” proposed that “l(fā)isted companies may establish necessary independent director liability insurance systems,” D&O Insurance has gradually become an important part of corporate governance in listed companies. Article 24 of the Announcement No. 29 [2018] of the China Securities Regulatory Commission—Code of Corporate Governance of Listed Companies stipulates that “with approval of the general meeting of shareholders, a listed company may purchase liability insurance for directors. The liability insurance coverage shall be agreed in a contract, excluding the liability arising from a director's violation of the laws and regulations, and the bylaws.” This further clarified that listed companies could purchase liability insurance for directors.

The new Company Law also addresses directors’ liability insurance issue. According to Article 193 of the new Company Law¹, a company may purchase liability insurance for directors and the board of directors shall report to the shareholders’ meeting on the insured amount, coverage, and premium rate. This is the first time that the Company Law has legislatively encouraged companies to purchase directors’ liability insurance. This amendment further promotes the adoption of D&O Insurance to all types of companies, including unlisted companies and foreign-invested companies. In corporate governance practice, shadow directors and non-executive directors may also be included in the D&O Insurance coverage.

* Shadow Directors

In corporate governance practice, if the D&O Insurance policy includes actual controllers or controlling shareholders as “shadow directors,” following the implementation of the new Company Law, these individuals may be covered by the insurance for losses resulting from their failure to perform the duty of loyalty and duty of diligence. This undoubtedly increases the probability of triggering the insurance policy’s liability, which may lead to an increase in the company’s insurance costs.

* Non-Executive Directors

For non-executive directors, including employee directors, outside directors, and independent directors, while their roles and responsibilities in the corporate governance may differ, the new Company Law also strengthens their duties and responsibilities. For example, the new Company Law stipulates that limited liability companies with 300 or more employees shall have a board of supervisors, include a representative of employees of the company, and ensure the percentage of representatives of employees shall not be less than one-third, or appoint employee directors. This means that such companies must include at least one employee representative to participate deeply in company management as either a director or supervisor. Employee directors, as members of the board, are required to fulfill all the duties and responsibilities of directors. The new amendments increase or strengthen the directors’ responsibilities, such as demanding shareholders to fulfill capital contribution duties, liquidation obligation, duty of diligence, duty of loyalty, as well as compensatory liabilities for intentional misconduct or gross negligence, and joint liabilities for directors who assist in escaping capital contribution, etc. Employee directors must strictly comply with the new Company Law, and the company should provide necessary training and support to ensure they fulfill their duties lawfully and effectively control risks. From a risk management perspective, companies should include employee directors in the D&O Insurance policy to safeguard against potential compensation risks.

(b) Revisions in Liability Coverage and Scope

According to Article 11 of the new Company Law² and Articles 62³ and 1191⁴ of the Civil Code, when the legal representative and employees of a company cause any harm to others while performing their work duties, the company assumes external liability to the third party. However, the company may claim reimbursement from the legal representative at fault or the employee with intent or grossly negligent internally. Under the new Company Law, there are new provisions regarding compensatory liability for directors and senior executives in cases of professional misconduct. According to Article 191⁵ of the new Company Law, directors or senior executives who act with intent or gross negligence should also bear the compensation responsibility with the company to third parties, rather than following the model where the company first assumes external liability and then seeks internal compensation. The insurance covers “the compensatory liability of directors arising from their execution of functions in the company,” meaning that personal liability arising from the director’s individual actions or company liability due to the director’s professional conduct are not covered. It is important to note that this regulation applies to directors and senior executives, not to supervisors. The subjective requirement for liability is intent or gross negligence; ordinary negligence is not liable. The compensation is directed to the company’s creditors, not shareholders. This change requires D&O Insurance to precisely distinguish between the degree of fault and responsibility of directors and senior executives during claims.

Additionally, the expansion of directors’, supervisors’, and senior executives’ duties and the establishment of double derivative suit under the new Company Law have increased the insurer’s risk, which may lead to an increase in the premium rates.

* Expansion of Directors’, Supervisors’, and Senior Executives’ Duties and Liability

The revision of the new Company Law further refines and expands the duties and responsibilities of directors, supervisors, and senior executives. If the insured directors or senior executives fail to fulfill their duties under the law, causing company losses, or if gross negligence by directors and senior executives leads to damage to third parties, it may trigger compensation under the D&O Insurance policy. As a result, the scope of claims for compensation under the insurance contract has expanded, and the insurer’s coverage risk has also increased.

* Introduction of the Double Derivative Suit

Article 189, Section 4 of the new Company Law introduces the double derivative suit, further expanding the scope of shareholder representative lawsuits by including directors, supervisors, and senior executives of wholly-owned subsidiaries as potential defendants. This revision means that parent company shareholders can sue the directors, supervisors, and senior executives of both the parent company and its wholly-owned subsidiaries. According to D&O Insurance policy practices, insurers usually cover subsidiaries and their directors, supervisors, and senior executives. Under the double derivative suit, the directors, supervisors, and senior executives of wholly-owned subsidiaries face a higher risk of being sued, increasing the likelihood of triggering the insurance coverage. This, in turn, increases the insurer’s risk covered and claims pressure. Insurers will adopt a more cautious approach, thoroughly evaluating the governance structure of the insured company, as well as the management structure and performance of its wholly-owned subsidiaries, to accurately assess risk coverage. At the same time, insured companies need to reassess risk control measures for their subsidiaries’ directors and senior executives and ensure that insurance arrangements effectively cover newly added potential liabilities to align risk management with insurance protection.

Furthermore, it should be noted that D&O Insurance does not cover all compensatory liabilities arising from the execution of company duties. Intentional acts (such as fraud, forgery, etc.) and criminal acts are explicitly excluded from coverage, but gross negligence is generally not exempted from liability. As such, a director’s or executive’s gross negligence typically triggers the insurance policy’s compensation obligation. Both the company and its directors should fully understand the exclusions to avoid invalidating the insurance due to improper behavior or being unable to receive compensation.

3. Differences Between Foreign-Invested Companies and Domestic Companies in Insurance Liabilities

Foreign-invested companies and domestic companies may differ in terms of insured parties, insurance liability scope, and compensation mechanisms due to differences in their governance structures, decision-making processes, and shareholder backgrounds.

(a) Corporate Governance Structure and Decision-Making Mechanism

Foreign-invested companies often have a more complex decision-making mechanism involving coordination between the overseas parent company’s board, shareholders, and local management. The decision to purchase insurance may not be made solely by the local company’s board but may require joint decisions from both the parent company and local management. This complexity may directly impact D&O Insurance, especially concerning the insured parties and coverage. For example, foreign-invested companies may need to include shadow directors or other senior executives with decision-making authority abroad in the insurance coverage. In contrast, domestic companies typically have less complexity, with their board members generally coming from domestic sources, making the insured parties and liability scope more straightforward and clear.

(b) Legal Application and Compensation Liability

Foreign-invested companies are usually subject to multiple legal systems, needing to comply with both the laws of the parent company’s country and Chinese law. The legal risks and liability scope for foreign-invested companies’ directors and senior executives are more complex than those for domestic companies, which could increase compliance risks and the insurance company’s compensation obligations. The improper performance of duties by a foreign-invested company’s directors may trigger legal liabilities in both the parent company’s country and China, leading to potentially higher compensation amounts and more serious legal consequences than for domestic companies, whose directors are subject to only one legal system.

(c) Insurance Premiums and Exclusions

Due to the more complex legal and compliance risks faced by foreign-invested companies, insurance company typically conduct more rigorous risk assessments to ensure the policy covers potential conflicts of law and compliance issues. As a result, the premiums for foreign-invested companies’ D&O Insurance policies are usually higher than those for domestic companies, and the exclusions are also more stringent. For example, in the case of cross-border legal disputes, insurers may exclude compensation arising from violations of laws in the parent company’s country or international regulations, or from lawsuits in specific countries or regions.

Moreover, because of the compliance requirements in both jurisdictions, foreign-invested companies are more likely to have stricter internal governance measures and higher insurance premiums. The companies should communicate with insurance brokers to review whether the existing policies are sufficient to cover specific risks, ensuring compliance with both Chinese and foreign regulations.

4. Conclusion

The new amendments to the Company Law provide greater clarity and promote the development of D&O Insurance, ensuring directors, supervisors, and senior executives can be better protected. However, companies, particularly foreign-invested ones, must take into account the differences in governance structures, risk management, and legal liabilities when purchasing D&O Insurance.

* Legal assistant Jiaoyang Chen contributed to this article.

Notes：

1.Article 193 A company may take out liability insurance for the compensatory liability of directors arising from their execution of functions in the company during their terms of office. After the company takes out or renews the liability insurance for directors, the board of directors shall report to the shareholders’ meeting on the insured amount, coverage, and premium rate, among others, of the liability insurance.

2.Article 11 The legal consequences of civil activities performed by the legal representative of a company in the name of the company shall be assumed by the company. Any restriction on the power of the legal representative imposed by the company bylaws or the shareholders' meeting may not be set up against a bona fide opposite party. Where the legal representative causes any harm to any other person for execution of his or her functions, the company shall assume civil liability for such harm. The company may, after assuming civil liability, recover loss from the legal representative at fault in accordance with laws or its bylaws.

3.Article 62 Where the legal representative of a legal person causes damage to any other person in the performance of duties, the legal person shall assume civil liability for such damage. The legal person may, after assuming such civil liability, claim reimbursement from the legal representative at fault in accordance with the laws or its bylaws.

4.Article 1191 Where an employee of an employer which is an entity causes any harm to another person in the execution of his work duty, the employer shall assume the tort liability. After the employer assumes the tort liability, it may claim reimbursement from the employee with intent or grossly negligent.

5.Article 191 Where a director or senior executive of a company causes any harm to any other person for execution of his or her functions, the company is liable in damages, and if the director or senior executive causes the harm intentionally or with gross negligence, the director or senior executive is also liable in damages.

6.Article 189 For a director or senior executive under the circumstance set out in the preceding article, a shareholder of a limited liability company or a shareholder holding alone or shareholders holding in aggregate 1% or more of the shares of a corporation for 180 or more consecutive days may request in writing the board of supervisors to institute an action in a people's court; or for a supervisor under the circumstance set out in the preceding article, the aforesaid shareholder or shareholders may request in writing the board of directors to institute an action in a people's court.

Where the board of supervisors or the board of directors declines to institute an action after receipt of a written request in the preceding paragraph or fails to institute an action within 30 days of receipt of the request or in case of emergency, a failure to immediately institute an action will cause any hardly reparable harm to the interests of the company, the shareholder or shareholders in the preceding paragraph may directly institute an action in a people's court in the name of the shareholder or shareholders.

Where any other person infringes upon the lawful rights and interests of a company, causing any loss to the company, the shareholder or shareholders in paragraph 1 of this article may institute an action in a people's court under the preceding two paragraphs.

For a director, supervisor, or senior executive of a wholly-owned subsidiary of a company under the circumstance set out in the preceding article, or any loss caused by any other person's infringement upon the lawful rights and interests of a wholly-owned subsidiary of a company, a shareholder of the company in the case of a limited liability company or a shareholder holding alone or shareholders holding in aggregate 1% or more of the shares of the company in the case of a corporation for 180 or more consecutive days may, under the preceding three paragraphs, request in writing the board of supervisors and the board of directors of the wholly-owned subsidiary to institute an action in a people's court, or directly institute an action in a people's court in the name of the shareholder or shareholders.