Cyber Risk Coverage
Slaying the Dragon
The cyber dragon is devouring billions of dollars in uninsured losses and risk managers are feeling the heat.
A daily drumbeat of data breaches is scorching even the most technologically savvy organizations. Boards of directors and the C-suites, rightly fearful for their bottom lines, are in turn putting pressure on risk managers.
Many risk managers are seeking to transfer this overbearing and frightening risk by purchasing cyber insurance, but that’s easier said than done. Even as risk managers seek solutions, they face a slew of applications with intricate, hard-to-answer questions on their IT security and exposures, as well as a dizzying array of coverages, terms and conditions.
“The spate of data breaches is obviously creating fear in those who feel the need to buy it,” said Eamonn Cunningham, chief risk officer, Scentre Group, which has about 2,500 employees. “Whether you should actually buy it or not is another question, but the fear is driving behavior.
“The unfortunate confluence of facts is we are dealing with something that is relatively new, is constantly evolving and is coupled with a series of well-publicized incidents that, in my mind, could drive an element of extreme, irrational behavior [to purchase a policy without sufficient analysis],” he said.
Analyzing the Threat
Target, Sony, Anthem, Home Depot, the IRS and the U.S. Office of Personnel Management suffered some of the more recent attention-grabbing data breaches. But with nearly 300 million records leaked and more than $1 billion stolen just in 2015, according to Tech Insider, every organization is at risk.
The greatest external risks are from cyber criminals, according to the “2016 Vormetric Data Threat Report,” followed by hacktivists (hackers with political goals), nation-states, cyber terrorists and competitors.
For most organizations, though, it is employees who pose the greatest danger.
“Employees and negligence will continue to be the leading cause of security incidents in the next year,” according to the “2015 Data Breach Industry Forecast” by Experian.
“Between human error and malicious insiders, time has shown us the majority of data breaches originate inside company walls,” it said.
Analyzing specific exposures is one of the challenges facing risk managers.
Scott Clark, risk and benefits officer at Miami-Dade County School District, with 45,000 employees and 355,000 students, said it took about a year of working with the CFO, chief IT officer, internal risk management employees, and an external risk management consultancy to determine the district’s cyber exposures; that was before deciding to go to market.
“We all felt there were a number of moving parts that in the event of a major hack could be exposed,” he said.
One major exposure specific to school districts is student Social Security numbers, which are “practically dormant” until students seek out jobs or credit. It often isn’t until then they find out the information was stolen, Clark said.
“It’s a huge exposure that hasn’t gotten a lot of press outside of public school systems,” Clark said.
“We all felt there were a number of moving parts that in the event of a major hack could be exposed.” — Scott Clark, risk and benefits officer, Miami-Dade County School District
In early February, the University of Central Florida revealed that hackers stole the Social Security numbers of 63,000 current and former students and employees.
To forestall problems, the Miami-Dade County School District reviewed which employees had access to Social Security numbers, said Mike Fox, district director for risk management. “If it was not vital to their job function, we took the access away,” he said.
Working with carriers can help risk managers see these and other risks in a new light.
Clark said that going through the underwriting process “is a great exercise” for risk managers.
“It really forces you to examine from a cyber standpoint your organization at a deeper dive level than you ordinarily would,” he said.
“It really makes you focus on your operations and maybe some aspects of your operations that you didn’t consider,” Clark said.
“But you can’t do it in a vacuum. You have to reach out to those in the trenches from a data standpoint so you get a full understanding of what exposures are out there.”
One exposure Miami-Dade is working on is third-party access to its systems. The district now requires all vendors to have a policy to address cyber liability and is considering a requirement that all vendors in the future provide proof of actual cyber liability insurance coverage.
But, Fox noted, even with strong firewalls, “the simplest thing will trip you up, a lost thumb drive, a stolen laptop.”
Applying Is Complicated
James Banfield, director of risk management at Texas-based Baylor College of Medicine, with 10,000 employees, said applying for cyber coverage is “a little bit daunting.” The college purchased its first cyber policy in the summer of 2015. Previously it was self-insured.
“We hadn’t been with a carrier for this risk before, therefore, we weren’t easily able to translate what we do into what [underwriters] wanted, proof of how we monitor things, what tests we do to our systems to determine whether they are vulnerable,” Banfield said.
“One of them wanted our first-born-child-type of information [on the application],” Banfield said.
His broker was able to get the carriers to accept a common application, with the medical college adding specific information upon request.
“It requires diligence and a little bit of tenacity internally to try to get this information that is being requested that may not exist or may not exist in the form the application is requesting,” he said.
In addition to the complexity of applications, carriers deal with the notification expenses in the event of a data breach differently, Banfield said.
One wanted to limit coverage to 2 million individuals. Another wanted a dollar sublimit, while yet another offered full policy limits.
Some offered network extortion coverage, some didn’t, he said. Most did not offer reputational harm coverage. Most sublimited fines and penalties.
Overall, Banfield said the terms and conditions were broad and favorable. He said it was worth buying the coverage and he felt that if there is a loss, his chances of having a claim covered were good.
Reading the Fine Print
There is a huge learning curve in selecting an insurance solution, said Lynda Bennett, chair, insurance recovery practice, Lowenstein Sandler.
“One of the greatest challenges I face is when a client comes to me who has three different proposals from three different carriers and asks, ‘Which is better?’
“One isn’t necessarily better because they are all offering different terms and conditions,” she said. “There is not one that is the gold standard that gives you the best in each and every category that you intend to cover.
“These policies are so complicated. You have to get into the definitions and all of the definitions are embedded in other definitions. It’s mind-numbing and very, very complicated to review,” Bennett said.
Robert Chesler and Janine Stanisz of the Anderson Kill law firm noted that a single cyber policy may contain 60 definitions and 30 exclusions.
David Katz, a partner at law firm Nelson Mullins Riley & Scarborough, said he “spends a lot of time with in-house lawyers on whether they have the right type of coverage.”
One key area is coverage of first-party or third-party claims. For example, does the policy cover only damage to the insured or does it also cover damage a breach causes to third parties, or damage to the insured caused by an incident at another entity, such as a vendor?
Prior agreement on settlement of claims is also important, he said. What settlement formula is applied with respect to payment of damages if there is disagreement between the insured and carrier over a potential settlement?
A delay in notice to either the broker or the carrier of a potential claim also creates certain risks for the insured, Katz said. Sometimes, in the immediate aftermath of a suspected data breach, some companies are so focused on stopping the bleeding that they may not provide the necessary notifications. Others may report information that is later found to be incorrect.
Failure to follow the policy’s set notification procedures and communicate correct information could harm a company’s ability to successfully pursue a claim or defend its reputation, Katz said.
Many risk managers said they appreciate post-breach services in the form of policy additions, such as notification call centers, credit monitoring, public relations, forensic and legal services.
“You can get all of those services on your own but it helps when you have an insurance company that has assembled a team,” said Baylor College’s Banfield.
As for forensic services provided by cyber coverage, Katz said, it’s important to know whether the scope of services applies only to an investigation to meet notification mandates or whether it will also include an investigation into causes of the breach and ways to remediate the problem.
Including the “earliest possible retroactive date” in a policy is also important because a breach may go undetected for a period of time, according to King & Spalding LLP.
Making the risk manager’s job even tougher is that in a generally soft market, cyber insurance is getting pricier.
Taking the Risk to Market
“There’s truly one hard market out there and it’s cyber,” said Carolyn Snow, director of risk management at Humana, a Kentucky-based health insurance company with 52,000 employees.
“We just went through a renewal and it was really, really brutal.
“We have a very aggressive security staff and security systems. You can never say you won’t have a loss — you would be foolish to say that — but we do everything we can that’s reasonable to mitigate losses.”
But in health care, there is so much protected information at risk that it gives underwriters pause, she said.
“The one thing underwriters are looking at really hard this year is the number of records [of protected information] you have. That’s a big, big problem for health care companies.
“The [application] information required this year was much more extensive than in prior years,” she said.
“Even after talking with our security people, we got a lot more questions, much more than we had in the past.”
In the end, some carriers declined to quote, including some from the prior program. Humana also took a higher attachment point for its coverage.
What Snow found “very, very unusual” is that the pricing on the higher layers of the tower is nearly as expensive as the primary layer.
“What underwriters think of as the working layer is much higher than it used to be,” she said. “It’s a really hard market.”
Brokers and underwriters, however, said that — except for health care and retail organizations — capacity is ample and they consider the price to be reasonable.
Standard & Poor’s said there are about 50 carriers offering cyber risk coverage, with increasing demand for the solution, newer entrants to the market, and a risk that is evolving.
Lloyd’s of London estimates that there is about $400 billion in annual global losses from hacking, with “only a moderate proportion” being insured.
S&P said the “typical line size for policies for small companies is around $25,000, to a maximum $5 million to $25 million for larger companies. For large companies, policies can be stacked in the form of a tower to provide the theoretical maximum capacity of around $400 million.”
“One of the greatest challenges I face is when a client comes to me who has three different proposals from three different carriers and asks, ‘Which is better?’ — Lynda Bennett, chair, insurance recovery practice, Lowenstein Sandler
Banfield said he found ample capacity. The medical college got six good quotes for its first cyber policy this past summer, he said, noting that pricing hadn’t gone up markedly since the college first looked at cyber coverage about 10 years ago.
Clark at Miami-Dade, said the district’s recent renewal was flat for the second year of its policy offering a $10 million limit per claim and aggregate annual limit, with a $250,000 self-insured retention per claim.
Scentre Group’s Cunningham said his company is “actively considering” a cyber policy purchase, but he stressed the need to take a measured approach.
Work with carriers that have a mature approach to cyber, he advised, as opposed to newcomers to the field who may only be in the market until they have losses.
He said a lot of capacity is coming on stream. Given that, he said, risk managers have to pick those markets that they believe have a considered understanding of the risks in their organizations.
The underwriters also need to have the capacity to properly underwrite the risk and ultimately provide a product that very closely correlates with what should be the underlying intent between insured and insurer.
Litigation Defines Coverage
Litigation of cyber claims ultimately creates standard definitions for policy wording, but there hasn’t been all that much litigation thus far.
“Most of the losses to date we have seen have fallen within the pre-claim aspects of coverage, the loss prevention or forensics to figure out what happened,” said Bob Parisi, managing director, Marsh FINPRO.
“This is fairly young coverage and there is still a fair amount of uncertainty in the marketplace,” he said.
“As you get a more critical mass of people buying the coverage, you will have more instances of claims that will fall outside of coverage,” he said. At that point litigation will increase, he said.
To date, most of the litigation involving cyber claims were filed pursuant to commercial policies such as general liability, crime, D&O or E&O, as opposed to a standalone cyber policy.
In one case, Travelers Indemnity Co. is seeking a court ruling that it does not need to defend or indemnify P.F. Chang’s China Bistro Inc. under a general liability policy.
The restaurant chain’s data breach did not trigger the policy, Travelers argued, because there was no bodily injury, property damage, advertising injury or personal injury connected to the incident, as the policies defined them.
That case is still pending.
In another case, employees of Apache Corp., an oil and gas company, were fooled by emails and phone calls purportedly from a vendor notifying them of new bank account information for payment of invoices.
Company employees released $2.4 million to the thieves before the fraud was discovered. Great American Insurance Co., which issued Apache a crime policy, disputed the claim but Apache won its case in court.
“When you think about most policies like fire or property,” said Humana’s Snow, “those policies have been litigated word by word. Cyber hasn’t been litigated that much. The more litigation you have, the more certainty you will have [about coverage].
“What underwriters think of as the working layer is much higher than it used to be. It’s a really hard market.” — Carolyn Snow, director of risk management, Humana
“I think the problem for the buyer and for the carrier is maybe you intended to cover one thing and not something else. The way it is written may cover more than intended. I think vagueness around some of the wording is an issue. Happily it’s not something we have experienced,” Snow said.
Cunningham said it’s too early to tell if carriers are fundamentally making good on the implicit promises they provide when the insurance contract is written.
“I think there is a lack of history of publicized settlements,” he said.
“If both carriers and insureds don’t approach this in a very diligent manner so as to ensure the underwriter contract correlates with the commercial intent of the insured in going into the marketplace … that mismatch could very well end up in litigation,” he said.