An Update on the “Capacity” Coverage Defense in D&O Policies

By design, Directors and Officers (D&O) liability insurance is constrained to cover directors and officers of the insured corporate entity in their “capacity” as directors and officers of the corporate entity. Given that reality, there are two primary ways in which a director or officer acts in an uninsured capacity: (1) where the director or officer acts in a non-official capacity and (2) where the direct or officer acts outside the scope of his or her official duties.

• As to the former, examples of non-official insured capacities might include directors or officers acting as shareholders, investors, or guarantors of the insured entity. Additional common examples are where the officers or directors are simply acting for themselves or as a director or officer of another company.
• As to the latter, examples of actions outside of the scope of official duties include committing personal or criminal misconduct, such as sexual assault or insider trading. It also could include conduct that is detrimental to the insured corporate employer, such as usurping a corporate opportunity.

The capacity issue is not particularly well-developed in the law, but a recent case in which the authors were involved, Hanover Ins. Co. v. Larson¹– where the D&O insurer’s motion for judgment on the pleadings was heard and granted by Judge Bough in the United States District Court in the Western District of Missouri – underscores the complications in this capacity issue.

Complications in the Capacity Issue

In Larson, three executives of Bela Flor Nurseries, Inc., provided personal guarantees to a supplier of Bela Flor and to a lender of Bela Flor, guaranteeing up to $14 million of Bela Flor debt. Bela Flor defaulted on its obligations and filed for bankruptcy. As a result, demands were made for repayment of these guarantees upon the executive guarantors of Bela Flor’s debt, and a lawsuit was even filed against them. The executives submitted a claim to Bela Flor’s D&O insurer, demanding a defense and coverage for these claims, including the lawsuit. The insurer refused to provide a defense or coverage, citing the capacity requirement in the insuring clause of the policy.

In the relevant D&O policy, the capacity requirement was stated twice in the insuring clause, which provided coverage to insured individuals for loss caused by a claim. First, the definition of “insured individual” required that in order to be an insured individual, the executive must have acted solely in his or her capacity as an executive on behalf of the insured entity. Second, the definition of “claims” required that the claim be for a “wrongful act” and the definition of “wrongful act” also required that the insured individual be sued for misconduct in his or her capacity as an insured individual.

Larson and the other executives argued that they were acting in their capacity as executives when they made these guarantees because the lenders required the guarantees from them in order to extend the credit to Bela Flor. As a result, it was only their positions as executives of the insured entity that led to these guarantees and the subsequent liability. In other words, it was only because they were executives of Bela Flor that they were asked to guarantee the loans and agreed to do so. Therefore, their capacities as executives with the company was the sole reason that they were now being sued by Bela Flor’s creditors.

The Court’s Reasoning

The court rejected this argument for two main reasons, following authority from the state appellate court of Washington and the United States Court of Appeals for the Ninth Circuit.²

First, for these executives to be “insured individuals,” the policy language required that the actions at issue had to be solely (or exclusively) in their capacity as executives. However, personal guarantees are personal in nature. And certainly, the decision not to pay the obligation – a decision that led to the claim against these executives – was a personal decision, not a corporate decision of Bela Flor. As a result, these executives certainly were not acting solely in their capacities as executives when they failed to pay the guarantees, triggering their liability.

Second, in no sense were these personal guarantees corporate acts performed in these executives’ capacity as executives on behalf of Bela Flor. The guarantees were not made “on behalf of” Bela Flor, which is part of the definition of “insured individual” in the policy. Indeed, if these personal guarantees were corporate actions, made “on behalf of” the insured entity, then the guarantees would be the act of Bela Flor, not the executive. And, of course, it does not make any sense for the corporation to be guaranteeing its own debt.

It is a basic insurance law precept that we rely on the language in D&O policies to explain the coverages that are offered, and not offered. Larson reaffirms this fundamental principle and presents helpful precedent for future D&O coverage claims where “capacity” is at issue.

^{1 2025 U.S. Dist. LEXIS 127534 (W.D. Mo. July 2, 2025).}

^{2 McRory v. Catlin Specialty Ins. Co., 511 Fed. Appx 632 (9th Cir. 2013); Sauter ex rel. Sauter v. Houston Cas. Co., 276 P.3d 358 (Wash. App. 2012).}