Tag Archives: cyber-attack

Cybersecurity: Five Tips on Disclosure Requirements

With annual reporting season underway, C-suite executives wake to another day and another data breach. Target, Michael’s, Snapchat, Facebook, Twitter, Adobe — the list goes on and on. By now, all companies should appreciate that, notwithstanding the most robust and sophisticated network security, any company is a vulnerable next “Target” for a serious cybersecurity incident. Consequences typically include negative publicity, reputational damage that hurts customer and investor confidence, lost market capitalization, claims and legal disputes, regulatory investigations — and falling stock prices. In the wake of its high-profile data breach, Target’s directors and officers were hit on Jan. 29, 2014, with a shareholder derivative action alleging that “Target shares were trading above $63.50 on Dec. 18, 2013, before the news of the data breach and have fallen over 10.5% to $57.60” and that “Target … has suffered considerable damage from breach.”1

In view of the recent high-profile data breaches, and the pervasiveness of cybersecurity incidents in general, companies are well-advised to consider whether their current cybersecurity risk factor disclosures are adequate. Proper attention to cybersecurity risk factor disclosures may assist a company in avoiding a Securities and Exchange Commission (SEC) comment letter. Even more importantly, proper attention to cybersecurity risk factor disclosures may decrease the likelihood that a company will face securities class action litigation and shareholder derivative litigation in the wake of a cybersecurity incident that hurts the company’s stock price — or, at a minimum, may mitigate a company’s potential exposure in the event of such litigation.

The Form 10-Ks that public companies are preparing to file in the coming weeks present a significant opportunity for companies to review and strengthen their cybersecurity risk factor disclosures. Below are five tips that companies may wish to consider in reviewing the adequacy of their existing cybersecurity disclosures:

SEC Disclosure Guidance

By way of background, companies must keep in mind that, although existing disclosure requirements do not (yet) expressly reference “cybersecurity,” the SEC’s Division of Corporation Finance (SEC staff) has emphasized the importance of appropriate cybersecurity disclosures. In the wake of what it termed “more frequent and severe cyber incidents,” the SEC issued cybersecurity disclosure guidance,2 which advises companies to review, on a continuing basis, the adequacy of their disclosure relating to cybersecurity risks and cyber incidents.3

While acknowledging that no existing disclosure requirement explicitly refers to cybersecurity risks and cyber incidents, the SEC’s guidance stresses that existing requirements oblige companies to make appropriate cybersecurity disclosures. 

SEC Chairwoman Mary Jo White reaffirmed a company’s current cybersecurity disclosure obligations in response to an April 9, 2013, letter received from Senate Commerce Chairman Jay Rockefeller.4 In his letter, Chairman Rockefeller urged the SEC to “elevate [its] guidance,” noting that “investors deserve to know whether companies are effectively addressing their cybersecurity risks.” In response, Chairwoman White emphasized that “[e]xisting disclosure requirements … impose an obligation on public companies to disclose risks and events that a reasonable investor would consider material” and that “cybersecurity risks are among the factors a public company would consider in evaluating its disclosure obligations.”5 Chairwoman White also highlighted that cybersecurity risk “is a very important issue that is of increasing concern” and stated that the SEC “continues both to prioritize this important matter in its review of public company disclosures and to issue comments concerning cybersecurity.”

In its guidance, the SEC staff advises companies to disclose cybersecurity risks consistent with the Regulation S-K Item 503(c) requirements for risk factor disclosures generally, such that the disclosure provided must adequately describe the nature of the material risks and specify how each risk affects the company. The guidance proceeds to advise that appropriate disclosures may include the following:

  • Discussion of aspects of the registrant’s business or operations that give rise to material cybersecurity risks and the potential costs and consequences;
  • To the extent the registrant outsources functions that have material cybersecurity risks, description of those functions and how the registrant addresses those risks;
  • Description of cyber incidents experienced by the registrant that are individually, or in the aggregate, material, including a description of the costs and other consequences;
  • Risks related to cyber incidents that may remain undetected for an extended period; and
  • Description of relevant insurance coverage.6

Although the guidance does not add cybersecurity disclosure obligations, it is abundantly clear that failure to make adequate cybersecurity disclosures may subject a company to increased risk of enforcement actions and shareholder suits in the wake of a cybersecurity incident that hurts a company’s stock price.

The Five Tips

The following five tips may assist companies in reviewing the adequacy of their existing cybersecurity disclosures based on the SEC’s disclosure guidance as well as comments issued to approximately 55 companies over the last two years.

1. Perform a cybersecurity risk asssessment. The SEC staff states in its guidance that it expects companies to evaluate their cybersecurity risks and take into account all available relevant information, including prior cyber incidents and the severity and frequency of those incidents as well as the adequacy of preventive actions taken to reduce cybersecurity risks in the context of the industry in which they operate and risks to that security, including threatened attacks of which they are aware. To facilitate adequate disclosures, companies should consider engaging in a thorough assessment concerning their current cybersecurity risk profile and the impact that a cybersecurity breach may have on the company’s business. In addition to positioning the company to provide adequate cybersecurity risk factor disclosures, the undertaking of a risk assessment is consistent with the National Institute of Standards and Technology’s recently released Preliminary Cybersecurity Framework.7 At a high level, it provides a framework for critical infrastructure organizations to achieve a grasp on their current cybersecurity risk profile and risk management practices and to identify gaps that should be addressed to progress toward a desired “target” state of cybersecurity risk management.8 Although the Cybersecurity Framework is voluntary, organizations are advised to keep in mind that creative class action plaintiffs (and even some regulators) may nevertheless assert that the Cybersecurity Framework provides a de facto standard for cybersecurity and risk management.

2. Consider disclosing prior — and potential — breaches. To the extent a company or one of its subsidiaries has suffered a reported or known cybersecurity event, the company should anticipate that the SEC may issue a comment letter if the event is not disclosed. The following comments are typical of what a company might expect to see: 

  • We note that [your subsidiary] announced on its website that a cyber attack occurred during which millions of user accounts were compromised. Please tell us what consideration you gave to including expanded disclosure consistent with the guidance provided by the Division of Corporation Finance's Disclosure Guidance Topic No. 2.
  • We have read several reports of various cyber attacks directed at the company. If, in fact, you have experienced cyber attacks, security breaches or other similar events in the past, please state that fact to provide the proper context for your risk-factor disclosure. 

​Notably, the guidance states that appropriate disclosures may include a description of cybersecurity incidents that are material individually or in the aggregate. And the comments issued to date indicate that where a company states that it has not been the victim of a material cybersecurity event, the SEC nonetheless has requested that the company’s risk-factor disclosure be expanded to state generally that the company has been the victim of hacking — regardless of the fact that prior events were immaterial. A few of the SEC comments to date include (in summary form):

  • We note your response that the incident did not have a material impact on the company’s business. To place the risks described in this risk factor in appropriate context, in future filings please expand this risk factor to disclose that you have experienced cyber attacks and breaches.
  • You state that you have not experienced a material breach of cybersecurity. Your response does not appear to address whether you are experiencing any potential current business risks concerning cybersecurity. For example, despite the fact you believe you have not experienced a material breach of your cybersecurity, are you currently experiencing attacks or threats to your systems? If you have experienced attacks in the past, please expand your risk factor in the future to state that.
  • We note that your response suggests that you have, in fact, experienced third-party breaches of your computer systems that did not have a material adverse effect on the company’s operations. To place the risks described in your current risk factor in appropriate context, in future filings please expand your disclosure to state that you have experienced cyber attacks and breaches.

​In addition, the SEC’s guidance advises that companies may need to disclose known or threatened cyber incidents together with known and potential costs and other consequences. Companies in targeted industries that have not yet suffered a cybersecurity incident (or are not yet aware that they have suffered an incident) should consider disclosing how the company might be affected by a cybersecurity incident — even if no specific threat has been made against the company. Below are sample summary comments received by companies based on their particular industry or peer disclosures:

  • We note press reports that hotels and resorts are increasingly becoming a target of cyber attacks. Please provide risk -actor disclosure describing the cybersecurity risks that you face. If you have experienced any cyber attacks in the past, please state that fact in the new risk factor to provide the proper context.
  • Given that other companies in your industry have actually encountered such risks from cyber attacks, such as attempts by third parties to gain access to your systems for purposes of acquiring your confidential information or intellectual property, including personally identifiable information that may be in your possession, or to interrupt your systems or otherwise try to cause harm to your business and operations and have disclosed that such risks may be material to their business and operations, please tell us what consideration you gave to including disclosure related to cybersecurity risks or cyber incidents.
  • We note that the incidences of cyber attacks, including upon financial institution or their service providers, have increased over the past year. In future filings, please provide risk-factor disclosure describing the cybersecurity risks that you face. In addition, please tell us whether you have experienced cyber attacks in the past. If so, please also disclose that you have experienced such cyber attacks to provide the proper context for your risk-factor disclosure.

3. Be specific. The SEC staff has advised that companies should avoid boilerplate language and vague statements of general applicability. In particular, the guidance states that companies should not present risks that could apply to any issuer or any offering and should avoid generic risk-factor disclosure. In addition, the guidance states that companies should provide disclosure tailored to their particular circumstances and avoid generic boilerplate disclosure. Companies that offer generally applicable statements may expect to receive comments such as the following:

  • You state that, “Like other companies, our information technology systems may be vulnerable to a variety of interruptions, as a result of updating our SAP platform or due to events beyond our control, including, but not limited to, natural disasters, terrorist attacks, telecommunications failures, computer viruses, hackers and other security issues.” Please tell us whether any such events relating to your cybersecurity have occurred in the past and, if so, whether disclosure of that fact would provide the proper context for your risk-factor disclosure.
  • We note that you disclose that you may be vulnerable to breaches, hacker attacks, unauthorized access and misuse, computer viruses and other cybersecurity risks and events. Please tell us whether you have experienced any breaches, hacker attacks, unauthorized access and misuse, computer viruses and other cybersecurity risks and events in the past and, if so, whether disclosure of that fact would provide the proper context for your risk-factor disclosures. 

4. Remember that a vulnerability “road map” is not required. Although the SEC seeks disclosures that are sufficient to allow investors to appreciate the nature of the risks faced by a company, it has made clear that the SEC does not seek information that would create a road map or otherwise compromise a company’s cybersecurity. At the outset of its guidance, the SEC staff states that it is mindful of potential concerns that detailed disclosures could compromise cybersecurity efforts — for example, by providing a “road map” for those who seek to infiltrate a company’s network security — and that disclosures of that nature are not required under the federal securities laws. The SEC guidance later reiterates that the federal securities laws do not require disclosure that itself would compromise a company’s cybersecurity.

5. Consider insurance. Network security alone cannot entirely address the issue of cybersecurity risk; no firewall is unbreachable, and no security system is impenetrable. Insurance can play a vital role in a company’s overall strategy to address, mitigate and maximize protection against cybersecurity risk. Reflecting this reality, the SEC guidance advises that appropriate disclosures may include a description of relevant insurance coverage that a company has in place to cover cybersecurity risks. The SEC’s guidance provides another compelling reason for companies to carefully evaluate their current insurance program and consider purchasing cyber and data privacy-related insurance products, which can be extremely valuable.9 In the wake of a data breach such as at Target, for example, a solid cyber insurance policy may cover not only liability arising out of potential litigation, such as defense costs, settlements and judgments, but also breach-notification costs and other “crisis management” expenses, including forensic investigation, credit monitoring, call centers and public relations efforts, as well as potential regulatory investigations, fines and penalties. Recent SEC comments have requested information regarding both whether the company has obtained relevant insurance coverage as well as the amount of the company’s cyber liability insurance.

Considering these five tips may assist companies in minimalizing the likelihood of receiving an SEC comment letter (and possibly multiple rounds of comments) and, even more importantly, the likelihood of lawsuits alleging inadequate disclosure in the event of a cybersecurity incident.

1 Collier v. Steinhafel et al., No. 0:14-cv-00266 (D. Minn.) (filed Jan. 29, 2014), at ¶ 76.

2The guidance defines “cybersecurity” as “body of technologies, processes and practices designed to protect networks, systems, computers, programs and data from attack, damage or unauthorized access.”

3SEC Division of Corporation Finance, Cybersecurity, CF Disclosure Guidance: Topic No. 2 (Oct. 13, 2011), available at http://www.sec.gov/divisions/corpfin/guidance/cfguidance-topic2.htm

4The April 9, 2013 letter is available at http://www.commerce.senate.gov/public/?a=Files.Serve&File_id=49ac989b-bd16-4bbd-8d64-8c15ba0e4e51

5Chairman White’s May 1, 2013 letter is available at http://articles.law360.s3.amazonaws.com/0441000/441415/512013%20Letter%20from%20SEC%20Chair%20White. pdf

6While the majority of the guidance is focused on risk factors, the SEC also advises that cybersecurity disclosures may be appropriate in other areas of a company’s filings, including management’s discussion and analysis “if the costs or other consequences associated with one or more known incidents or the risk of potential incidents represent a material event, trend, or uncertainty that is reasonably likely to have a material effect on the registrant’s results of operations, liquidity, or financial condition or would cause reported financial information not to be necessarily indicative of future operating results or financial condition.”

7The Cybersecurity Framework, available at http://www.nist.gov/itl/upload/preliminary-cybersecurity-framework.pdf.

8Roberta D. Anderson, NIST Unveils Preliminary Cybersecurity Framework, Cybersecurity Alert (Nov. 25, 2013), available at http://www.klgates.com/nist-unveils-preliminary-cybersecurity-framework-11-22-2013/

9 Roberta D. Anderson, Before Becoming The Next Target: Recent Case Highlights The Need To Consider Insurance For Data Breaches, Insurance Coverage Alert (Jan. 16, 2014), available at http://www.klgates.com/before-becoming-the-next-target–recent-case-highlights-the-need-to-consider-insurance-for-data-breaches-01-16-2014/

A Case For Cyber Insurance

The Need Is There

There were more than 26 million new strains of malware released into circulation in 2011, the last year with solid data on malware. Such a rate would produce nearly 3,000 new strains of malware an hour! Almost two-thirds of U.S. firms report that they have been the victim of cyber-security incidents or information breaches. The Privacy Rights Clearinghouse reported that since 2005, more than 534 million personal records have been compromised. In 2011, 273 breaches were reported, involving 22 million sensitive personal records.  The Ponemon Group whose Cost of Data Breach Study is widely followed every year indicated a total cost per record of $194 in 2011, an increase of over 40% ($138) compared to the cost in 2005 when the study began.

Other surveys are consistent.  NetDiligence, a company that provides network security services on behalf of insurers, reported in their “2012 Cyber Risk and Privacy Liability” forum the results of their analysis of 153 data or privacy breach claims paid by insurance between 2006 and 2011.  On average, the study said, payouts on claims made in the first five years total $3.7 million per breach.

And, attacks simply don’t target large companies. According to Symantec’s 2010  SMB Protection report (again the last report with good data on SME), small busineses:

  • Sustained an average loss of $188,000 per breach
  • Comprised 73% of total cyber-crime targets/victims
  • Lost confidential data in 42% of all breaches
  • Suffered direct financial losses in 40% of all breaches

Indeed, according to the 2011 Verizon Data Breach Report, in 2010, 57% of all data breaches were at companies with 11 to 100 employees. Interestingly, it was the Report’s opinion that 96% of such breaches could have been prevented with appropriate controls.

Seemingly, not a week goes by without a reference to cyber risk hitting the mainstream press. Recently, a cyber attack was successfully launched against ATMs in 27 countries withdrawing over $40 million in over 30,000 transactions in less than 10 hours.  The New York Times recently reported that universities are facing a rising barrage of cyberattacks, mostly from China.1   And last year saw a number of denial of service attacks against financial institutions brought by sophisticated cyber “criminals” whose attacks were eventually sourced to the nation of Iran in what would truly be considered a Cyber War attack against the U.S. infrastructure.

All This Has Prompted Insurers To Enter The Market (And Make A Nice Profit To Boot)

Cyber-insurance began in earnest in 2000 when American International Group’s AIG eBusiness Risk Solutions unit launched AIG netAdvantage. Starting from scratch, premium jumped to over $100 million by the time the unit was merged into larger subsidiaries of AIG, just four years after its creation. AIG eBusiness was extremely profitable with estimates of loss ratio in the extremely low double digits.

Fast forwarding to today, the cyber-insurance market, according to the 2012 Betterley Report is “in the $1 billion range” in terms of premium (up from $800 million in the 2011 report) with close to 40 insurance carriers providing a standalone insurance policy.  Premium continues to increase with most carriers, accordingly to Betterley, reporting increases from 25% to 100% year over year.  Hard profit figures are difficult to come by; however, strong anecdotal evidence suggests that this line of insurance continues to be highly profitable.  Third party litigation continues to be slow to develop outside the privacy arena and first party claim losses, outside of breach funds, is non-existent.

From an underwriting point of view, some attention should be paid to theft of personal identifiable information (PII), especially with respect to first party costs associated with forensics and customer notification costs.  However, there are established methods to manage this risk successfully for the underwriter.  Indeed, in a widely followed report, Verizon reports that 90% of all breaches can be prevented with proper risk management guidelines.   Of course, like any other portfolio of business, care must be taken with respect to avoidance of catastrophic exposure, adverse selection and moral hazard.  There are underwriting guidelines and processes that can be developed to manage these exposures.

Yet The Market Still Has Plenty Of Room To Grow

Despite the increased attention to cyber incidents, most reports indicate only a minority of companies currently purchase cyber-insurance.  According to the “Chubb 2012 Public Company Risk Survey: Cyber,” 65% of public companies surveyed do not purchase cyber insurance, yet 63% of decision-makers are concerned about cyber risk. In a recent Zurich survey of 152 organizations, only 19% of those surveyed have bought cyber insurance despite the fact that 76% of companies surveyed expressed concern about their information security and privacy. A risk area with a high level of concern but little purchase of insurance? That’s an insurance carrier’s dream

It is unclear why there aren’t more buyers, but most of the industry believes it’s a lack of education. For example, previous surveys indicated that over 33% of companies incorrectly believe that cyber is covered under their general corporate liability.

Regardless of the reason, with respect to foreign corporations whose securities are traded on U.S. exchanges, a recent “Guidance” report2 published by the U.S. Securities and Exchange Commission on October 13, 2011 is likely to increase sales.  The report begins simply enough:

For a number of years, registrants (companies who register their securities with the SEC) have migrated toward increasing dependence on digital technologies to conduct their operations. As this dependence has increased, the risks to registrants associated with cybersecurity has also increased … As a result, we determined that it would be beneficial to provide guidance that assists registrants in assessing what, if any, disclosures should be provided about cybersecurity matters in light of each registrant’s specific facts and circumstances.

The “guidance” report goes on to specify five “suggested” disclosures that may be “appropriate” to companies trading with securities registered with the SEC.  The fifth suggestion is the one that caught the eye of the insurance industry.  It reads simply:

Description of relevant insurance coverage.

This is the first time that I am aware that the SEC included insurance in one of their guidance reports.  The SEC tends to start investigations 18-24 months after issuing a guidance report. It is difficult to imagine how a general counsel would be able to meet this disclosure without an investigation, at least, of specific cyber insurance.  This is especially true given that over the course of the last few years, general liability underwriters have continued to tighten up any language in a general liability policy to a point where an insured would be foolish to even think the policy applies to cyber risks.3

Thus, it is then perhaps not surprising that the Betterley 2012 market report stated “we think this (cyber) market has nowhere to go but up.”  Although, they quickly qualified,  “as long as carriers can still write at a profit.”

And With A Private-Public Partnership There Is Even More Potential

Unlike many other countries, 80% or more of the critical infrastructure of the United States is in private hands.  As we have seen in the last year, cyber attacks are increasingly being brought by companies associated with hostile nation states.  Cyber-terrorism – even cyber-war – is close at hand and, in some minds, is already here.  The insurance industry can and should play a vital role in providing private sector incentives to foster increased network security in the critical infrastructure.  However, the insurance industry cannot do this alone.  The answer lies in a private-public partnership between the insurance industry and the federal government.  Productive discussions are already underway between the Department of Homeland Security and the insurance industry with specific proposals to safeguard and enhance our country’s security being reviewed.

For more details on the need for this public-private partnerships, and what is going on to bring it about, stayed turned for our next article.

1 Universities Face a Rising Barrage of Cyberattacks

2 Cybersecurity

3 While from time to time, this is tested by insureds (see Sony vs. Zurich), almost all commentators have admitted that the “die is cast.”

A Look At Cyber Risk Of Financial Institutions

Overview Of The Risk
There were more than 26 million new strains of malware released into circulation in 2011. Such a rate would produce nearly 3,000 new strains of malware an hour! Almost two-thirds of U.S. firms report that they have been the victim of cyber-security incidents or information breaches. The Privacy Rights Clearinghouse reported that since 2005, more than 534 million personal records have been compromised. In 2011, 273 breaches were reported, involving 22 million sensitive personal records. The Ponemon Group, whose Cost of Data Breach Study is widely followed every year, indicated a total cost per record of $214 in 2011, an increase of over 55% ($138) compared to the cost in 2005 when the study began.

Other surveys are consistent. NetDiligence, a company that provides network security services on behalf of insurers, reported in their “2012 Cyber Risk and Privacy Liability Forum” the results of their analysis of 153 data or privacy breach claims paid by insurance companies between 2006 and 2011. On average, the study said, payouts on claims made in the first five years total $3.7 million per breach, compared with an average of $2.4 million for claims made from 2005 through 2010.

And attacks simply don't target large companies. According to Symantec's 2010 SMB Protection report, small busineses:

  • Sustained an average loss of $188,000 per breach
  • Comprised 73% of total cyber-crime targets/victims
  • Lost confidential data in 42% of all breaches
  • Suffered direct financial losses in 40% of all breaches

Indeed, according to the 2011 Verizon Data Breach Report, in 2010, 57% of all data breaches were at companies with 11 to 100 employees. Interestingly, it was the Report's opinion that 96% of such breaches could have been prevented with appropriate controls. Bottom line: cyber attacks are here to stay — and in many ways, they are getting worse.

A Look At The Financial Institution Sector
Willy Sutton once infamously remarked that he robs bank because “that's where the money is.” According to Professor Udo Helmbrecht, the Executive Director of the European Networking and Information Security Agency, if Willy Sutton was alive today, he would rob banks online.

Criminals today can operate miles, or even oceans, away from the target. “The number and sophistication of malicious incidents have increased dramatically over the past five years and is expected to continue to grow,” according to Gordon Snow, Assistant Director of the Cyber Division of the Federal Bureau of Investigation (testifying before the House Financial Services Committee, Subcommittee on Financials Institutions and Consumer Credit). “As businesses and financial institutions continue to adopt Internet-based commerce systems, the opportunity for cybercrime increases at the retail and consumer level.” Indeed, according to Snow, the FBI is investigating 400 reported account takeover cases from bank accounts of US businesses. These cases total $255 million in fraudulent transfers and has resulted in $85 million in actual losses.

According to the FBI, there are eight cyber threats that expose both the finances and reputation of financial institutions: account takeovers, third-party payment process breaches, securities and market trading company breaches, ATM skimming breaches, mobile banking breaches, insider access, supply chain infiltration, and telecommunications network disruption.

It was telecommunications network disruption that dominated the news in 2012.

Otherwise known as a distributed denial of service attack, US banks were attacked repeatedly throughout the year by sophisticated cyber “criminals” whose attacks were eventually sourced to the nation of Iran in what would truly be considered a Cyber War attack against this country's infrastructure.

Among the institutions hit were PNC Bank, Wells Fargo, HSBC, and Citibank, among many others. Big or small, it made no difference. At the end of the day, as many as 30 US banking firms are expected to be targeted in this wave of cyber attacks, according to the security firm RSA. And it is likely that we are not at the end of the day. On January 9, 2013, the computer hacking group that has claimed responsibility for cyber attacks on PNC Bank vowed to continue trying to shut down American banking websites for at least the next six months.

That is not to say that financial situations only had to worry about distributed denial of service attacks launched by hostile nation states in 2012.

On December 13, 2012 the Financial Services Information Sharing and Analysis Center, which shares information throughout the financial sector about terrorist threats, warned the US financial services industry that a Russian cyber-gangster is preparing to rob American banks and their customers of millions of dollars. According to the computer security firm, McAfee, the cyber criminal, who calls himself the “Thief-in-Law,” already has infected hundreds of computers of unwitting American customers in preparation to steal that bank account data.

Of course not all threats look like they come from the latest 007 flick. On October 12, 2012, the Associated Press reported TD Bank had begun notifying approximately 260,000 customers from Maine to Florida that the company may been affected by a data breach. Company spokeswoman Rebecca Acevedo confirmed to the Associated Press that unencrypted data backup tapes were “misplaced in transport” in March 2012. She said the tapes contained personal information, including account information and security numbers. It is unclear why the bank waited until October to notify customers. Over 46 states now have mandatory notification laws that dictate prompt notification to bank customers of missing or stolen “Personally Identifiable Information.” Failure to make timely notification can, and often does, prompt customer lawsuits and regulatory investigations.

The bottom line: you cannot be a financial institution operating in the 21st Century and not have a cyber risk management plan which includes the purchase of cyber insurance.

The Cyber Insurance Market
With these facts, it is not surprising that the cyber insurance market has grown tremendously from its initial beginning in 2000. Starting with what was the brainchild of AIG and Lloyds of London, the market has grown to over 40 insurance providers. A widely accepted statistic is that the market now produces over $1 billion in premium to insurance carriers on a worldwide basis.

Despite the increasing claim activity, informal discussions with the market continue to indicate that cyber risk is a profitable business. Perhaps, it is for this reason, cyber premium rates are flat to down 5% according to industry reports in the market where rates in property-casualty are generally increasing.

Carriers also see this as an area where there are many non-buyers, and statistics seem to back them up. According to the “Chubb 2012 Public Company Risk Survey: Cyber,” 65% of public companies surveyed do not purchase cyber insurance, yet 63% of decision-makers are concerned about this cyber risk. A risk area with a high level of concern but little purchase of insurance is an insurance broker's dream. In a recent Zurich survey of 152 organizations, only 19% of those surveyed have bought cyber insurance despite the fact that 76% of companies surveyed expressed concern about their information security and privacy.

It is unclear why there aren't more buyers but most of the industry believes it's a lack of education. For example, previous surveys indicated that over 33% of companies incorrectly believe that cyber risk is covered under their general corporate liability policy.

It is then perhaps not surprising that the Betterley 2012 market report stated “we think this market has nowhere to go but up” Although, they quickly qualified, “as long as carriers can still write at a profit.”

The Metrics Of The Matrix: Making Sure Your Cyber-Risks Are Covered

We live in a world that is almost entirely dependent upon digital technology. Internet sales and marketing, and even the simple efficiency of how information flows, can be a critical indicator of a company's success. Along with it comes an increased risk of hackers, disruption of service, theft of intellectual property, loss or theft of financial data, or worse, the theft of a customer's confidential information. Throw in a global economy that increases international exposure, and you have a recipe for disaster. While most large corporations have sophisticated network security measures in place, small to mid-size businesses cannot afford them, or are not even aware of the potential security risks. But if you consider information to be an asset, and the means with which it is gathered and used as a measure of your company's performance, the need to protect it becomes abundantly clear.

As early as the year 2000, underwriters at Lloyds of London predicted that e-commerce1 would “emerge as the single biggest insurance risk of the 21st century.”2 They were dead on. Between 2009 and 2011, the cost of data breaches rose from $6.8 million to $7.7 million — a blistering 9%.3 As one commentator noted, the cost and number of data breaches was so high that 2011 was christened “the year of the cyber-attack.”4 Indeed, the risk was seen as so severe that the SEC released disclosure guidelines for publicly traded companies recommending the disclosure of “the risk of cyber incidents if these issues are among the most significant factors that make an investment in the company speculative or risky.”5 According to the SEC, “disclosure” includes a “[d]escription of the relevant insurance coverage.”6 Although the number of cyber-attacks decreased slightly in 2012, this should not be taken as a sign that the threat of an attack is any less likely; it just means that some companies are responding to attacks more quickly, or implementing stronger security measures on the front end.

While the threat of a cyber-attack may conjure up the image of an overzealous computer geek with the mad-cap idea of ruling the world from his mother's basement, or a network of head-to-toe-in-black cyber-villains, a competitor seeking market dominance may be an equally likely culprit. A cyber-attack can take many forms. Most commonly, a company suffers a data breach, where “hackers, [ ] current or former employees, or others steal or otherwise gain access to personally identifiable information.”7 However, there are also “phishing” and “pfarming” schemes where the culprit poses as a legitimate user to steal or redirect internet traffic, or transmit a virus. Another form of attack is known as a “denial of service” incident, designed to temporarily or indefinitely block public access to a particular website or server. This involves “saturating the target machine with external communications requests, such that it cannot respond to legitimate traffic, or responds so slowly as to be rendered effectively unavailable.”8 These attacks “usually lead to a server overload.”9 The most serious attacks “are comparable to 'tak[ing] an ax to a piece of hardware,” which requires a complete “replacement or reinstallation of hardware.”10 A company targeted by a cyber-attack can suffer a loss of informational assets and a significant interruption in operations, not to mention a damaged reputation.

The theft of intellectual property may or may not come as a result of a direct cyber-attack. Rather, a rogue company may steal your ideas, your website design, your domain names and meta-tags, or they may simply advertise and sell knock-off products. Chances are, if they are not using the internet for this purpose, they got your information from the business you transact online. As if this were not enough, there is the potential liability you face if confidential information is exposed, or you inadvertently infringe upon the intellectual property of a competing business. Customers and even shareholders affected by a data breach “commonly initiate expensive and very public litigation.”11 Likewise, the pursuit of patent and trademark infringement claims has skyrocketed in recent years, and the cost of defending these claims has symbiotically followed suit. Interestingly, the protection of the intellectual property itself seems to be a concern that is almost secondary to the economic warfare that is often waged by the aggressor.

In a world where technology barely keeps up with technology, how can you effectively protect your business against the threat of a cyber-attack, and potential cyber-liability? If you own a website, engage in direct or indirect internet sales, use clouding, linking, framing, solicit business via electronic communication, conduct financial transactions on the internet, exchange information via the internet, or store information through an internet server, your company is at risk. Managing these hazards can be tricky. As seen by the recent attacks on eBay, Amazon, Yahoo, and Google, even companies that have defined internet usage are not immune. No matter how big or small you are it is absolutely imperative that you implement internal security controls to prevent and/or respond quickly to an attack. Simple measures such as encrypting data, regularly changing passcodes, conducting routine virus scans, and limiting the number of employees who have access to confidential information can go a long way. However, insuring against these risks should be your primary objective because a cyber-attack can literally destroy your business overnight.

So, how does your company measure up? Let's take a little test. Assuming you are a “brick and mortar” business is your company:

  • Insured under a Property policy?
  • Insured under a Comprehensive General Liability policy?
  • Insured under a Director's & Officer's liability policy?
  • Insured under a specialty lines policy the expressly insures first and third party Cyber-hazards?

If you answered “no” to the last question, your company is at risk. The traditional products that insure small to medium sized businesses are unfortunately inadequate to cover even the known cyber-hazards, much less the ones that are surely on the horizon as e-commerce continues to grow and change, and new markets emerge. For instance, as it pertains to the loss you may suffer as a result of a data breach, while a standard property policy covers “physical loss or damage to covered property,” the term “covered property” does not include intangible assets like data. More recent property forms either exclude coverage for data breaches outright, or subject the loss of electronic data to a minimal sub-limit of liability.

Likewise, the coverage typically afforded under a CGL policy for liability claims resulting from an unauthorized intrusion is insufficient. CGL policies provide relatively broad liability coverage, but only for certain defined risks. The policies are “menu” driven, and are endorsed to include or exclude particular coverages or risks, such as employee liability, inland marine or commercial crime. Cyber-liability may or may not inadvertently come within the coverage terms of a particular endorsement, but the standardized forms are definitely not geared towards insuring these risks.

Rather, CGL policies are split into two parts — Coverage Part A for Bodily Injury and Property Damage Liability, and Coverage Part B for Personal and Advertising Injury. The terms “bodily injury,” “property damage,” and “personal and advertising injury” are separately defined, and each coverage part is subject to its own specific set of exclusions. Under Coverage Part A, the term “property damage” is defined to mean “physical injury to tangible property” or “loss of use of tangible property” — and therein lies the rub. “Tangible property” is property that is capable of being handled, held or touched. See State Auto Property and Cas. Ins. Co. v. Midwest Computers & More,America Online, Inc. v. St. Paul Mercury Ins. Co., 347 F.3d 89 (4th Cir. 2003); Recall Total Information Management,12

Further, while lawsuits filed against a company whose client's financial information has been exposed typically includes claims for mental anguish. Mental anguish that is not consequential to physical harm or injury, or that does not manifest itself as physical injury is not “bodily injury” under a CGL policy. See e.g. Nance v. Phoenix Ins. Co., 118 Fed. Appx. 640, 642 (3d Cir. 2004) (Pennsylvania law) Jacobsen v. Farmers Union Mut. Ins. Co., 87 P.3d 995, 999 (2004); Tackett v. American Motorists Ins. Co., 213 W. Va. 524 (2003); Armstrong v. Federated Mut. Ins. Co., 785 N.E.2d 284, 292-93 (Ind. Ct. App. 2003); Farm Bureau Ins. Co. of Nebraska v. Martinsen, 659 N.W.2d 823, 827 (Neb. 2003); Galgano v. Metropolitan Property and Cas. Ins. Co., 838 A.2d 993, 999 (Conn. 2004); Smith v. Animal Urgent Care, Inc., 542 S.E.2d 827, 830-31 (W. Va. 2000); Costello v. Nationwide Mut. Ins. Co., 795 A.2d 151, 155 (Md. App. 2002); SCR Medical Transp. Services, Inc. v. Browne, 781 N.E.2d 564, 571 (Ill. App. 1st Dist. 2002); Allstate Ins. Co. v. Diamant, 518 N.E.2d 1154 (Mass. 1988).13 On your best day, it depends upon what jurisdiction you are in as to whether or not that coverage would apply to a cyber-liability claim.

Coverage for “personal and advertising injury” nowadays is almost a joke. Generally speaking, coverage for “personal and advertising injury” is intended to address liability claims for the infringement of intellectual property rights, or other types of personal injury torts (i.e. defamation and invasion of privacy claims). Under older versions of the CGL, the terms “personal injury” and “advertising injury” were separately defined. The term “Advertising injury” included the “[m]isappropriation of advertising ideas or style of doing business” and the infringement of a “copyright, title or slogan.” Now, the terms “personal and advertising injury” have been conflated, and are defined to mean:

  1. False, arrest, detention or imprisonment;
  2. Malicious prosecution;
  3. The wrongful eviction from, wrongful entry into, or invasion of the right of private occupancy of a room, dwelling or premises that a person occupies, committed by or on behalf of its owner, landlord, or lessor;
  4. Oral or written publication of material that slanders or libels a person or organization or disparages a person's or organization's goods, products or services;
  5. Oral or written publication of material that violates a person's right of privacy;
  6. Copying, in your “advertisement,” a person's or organization's “advertising idea” or style of “advertisement”;
  7. Infringement of copyright, slogan or title of any literary or artistic work, in your “advertisement.”

As it pertains to a data breach, at least one Court has held that under the newer version of the CGL, theft of customer data is a “publication of material that violates a person's right of privacy.” See Norfold & Dedham Mut. Fire Ins. Co. v. Clearly Consultants, Inc., 81 Mass.App.Ct. 40 (Dec. 16, 2011). Other Courts, however, have disagreed, leaving an uncertain gap as to whether or not your policy would cover such an event. See Creative Host. Ventures, Inc. v. E.T. Ltd., Inc., 2011 U.S. App. 19990 (Sept. 30, 2011).

There is even more uncertainty with regard to intellectual property liability claims. Both older and newer versions of the CGL require that the offense occur in the course of the advertisement of your own goods, products or services. This would include internet-based sales and marketing, but not all forms of electronic commerce. The most current CGL forms in use, however, essentially gut coverage for intellectual property claims with the following exclusion:

This insurance does not apply to:

“Personal and advertising injury”:

(7) Arising out of any violation of any intellectual property rights such as copyright, patent, trademark, trade name, trade secret, service mark or other designation of origin or authenticity.

However, this exclusion does not apply to infringement, in your “advertisement,” of

(a) Copyright;

(b) Slogan, unless the slogan is also a trademark, trade name, service mark or other designation of origin or authenticity; or,

(c) Title of any literary or artistic work.

Under this widely used form, there is no coverage for trademark or copyright infringement (or any other one of the enumerated torts), unless the infringement occurs during the course of your advertisement of a slogan, unless the slogan is “also a trademark, trade name, service mark or other designation of origin or authenticity.” The problem with this language is that whether a slogan is “also a trademark, trade name, service mark or other designation of origin or authenticity” is not dependent upon whether the mark is federally protected under the Lantham Act. Rather, the standards for determining whether a trade or service mark is eligible for protection are the same under the common law and the federal law. 15 U.S.C. § 1051 et. seq. Two Pesos, Inc. v. Taco Cabana, Inc., 505 U.S. 763 (1992); Amazing Spaces, Inc. v. Metro Mini Storage, 608 F.3d 225 (5th Cir. 2010); Board of Supervisors for the Louisiana State University Agriculture and Mech. College v. Smack Apparel Co., 550 F.3d 465 (5th Cir. 2008); Genesee Brewing Co., Inc. v. Stroh Brewing Co., 124 F.3d 137 (2nd Cir. 1997); Laredo v. Union Nat'l Bank, Austin, 909 F.2d 839, 842 (5th Cir. 1990). It is difficult to imagine a set of circumstances where a slogan would not also be “a trademark, trade name, service mark or other designation of origin or authenticity” under the common law. Coverage is essentially illusory, or at best, ambiguous. On a good day, your insurer is going to contest whether it owes a duty to defend an intellectual property liability claim. Where does this leave you?

There may be limited coverage under your Director's & Officer's Liability policy, but the forms vary in the scope of coverage and there may not be coverage for the acts and omissions of regular employees. Further, the policy will likely only cover your liabilities to your shareholders, and those to whom you owe a fiduciary duty. Fortunately, there are newer products on the market that are specifically designed to cover cyber-related risks. In a 2005 press release, Insurance Services Organization (ISO) unveiled its E-Commerce Program to address cyber liability exposure. According to ISO, “[t]he menu-based policy comprises five separate agreements:

  • Website publishing liability provides coverage against Internet-related publishing perils, including libel against a person or organization, and copyright, trademark, and service mark infringement allegations arising out of content published by the policyholder on its website.
  • Network security liability covers the policyholder against claims for failing to maintain the security of a computer system resulting in unauthorized access and publication of personal information, such as credit card numbers or personal medical information.
  • Replacement or restoration of electronic data provides coverage for the cost of replacing or restoring electronic data lost or rendered inaccessible because of an e-commerce incident, such as a virus, malicious instruction or denial-of-service attack.
  • Cyber extortion provides coverage for extortion expenses incurred and ransom payments made because of an extortion threat. Extortion is defined as a threat to commit an e-commerce incident, disseminate the policyholder's proprietary information, reveal a weakness in its source code or publish personal information belonging to policyholders' clients.
  • Business income and extra expense provides coverage for loss of business income or extra expenses incurred as a result of an extortion threat or e-commerce incident.14

ACE, Hartford, Chubb, Chartis (AIG), Ironshore, Travelers, SafeOnline, CNA, and Zurich are among the insurers offering products specifically covering cyber-hazards.15 However, these companies may or may not have adopted the ISO forms, but may be using products that were internally developed. Still, most of the companies who have targeted this market are going to be competitive, offering coverage for a combination of network security liability, media liability, expense and damage from a violation of privacy tort, coverage for fines and regulatory expenses, loss electronic information (including the cost to recovery lost, corrupted or stolen data), cyber-extortion, and business interruption arising out of a majority of these events. Specific products also exist for liability claims arising out of patent, trademark and trade dress infringement claims, both to pay for the costs of defending those suits, or the cost to pursue a third party who infringes upon your company's intellectual assets.

By and large the cyber-liability policies currently on the market are offered on a claims-made, or claims-made and reported basis. Policies that contain first-party coverage for data breaches may contain fairly short notice requirements, as early response is critical to minimizing the loss and containing any resultant liability exposure. The only way to make sure that you are procuring the right coverage and the right amount of coverage is to (1) establish internal procedures to assess and routinely reassess your risks; (2) establish internal protocols for preventing and responding to cyber-related risks; (3) set goals and benchmarks to determine if your company is meeting expectations; (4) read the policies you currently have in effect to determine where your company stands; (5) if you determine additional coverage is necessary, read the policies carefully before you invest in premiums; and (6) evaluate your coverage on an annual basis. New insurance products are coming out about every 12-18 months. Many brokers keep specimen forms, and most are knowledgeable enough to ensure that the specific risks that you face are covered. And in today's technology-driven world, you cannot afford to leave these exposures uninsured, or underinsured. In today's world, addressing the potential risk exposures your company faces is not just a measure of your success, it may be determinative of your survival.

1“E-commerce” or e-comm is defined as “the buying and selling of products or services over electronic systems such as the Internet and other computer networks.” Wikipedia, The Free Encyclopedia, Wikimedia Foundation, Inc., Dec. 12, 2004, Web. September 15, 2012, < http://en.wikipedia.org/wiki/Ecommerce>. E-commerce “draws on such technologies as electronic funds transfer, supply chain management, Internet marketing, online transaction processing, electronic data interchange (EDI), inventory management systems, and automated data collection systems.” Id. E-commerce can be divided into: E-tailing or 'virtual store-fronts' on Web sites with online catalogs, sometimes gathered into a 'virtual mall'; the gathering and use of demographic data through Web contacts; Electronic Data Interchange (EDI), the business-to-business exchange of data; e-mail and fax and their use as media for reaching prospects and established customers; Business-to-business buying and selling; and, the security of business transactions. Id.

2 David R. Cohen & Roberta D. Anderson, Insurance Coverage for “Cyber-Losses”, 35 Tort & Ins. L.J. 891 (2000), citing Reuters Eng. News. Serv., May 9, 2000.

3 2010 Annual Study: U.S. Cost of a Data Breach 13 (March 2011); available at <http://www/symantec.com/content/en/us/abuot/media/pdfs/symantec_ponemon_data_breach_costs_report.pdf>.

4 Scott Gods & Jennifer Smith, Insurance Coverage for Cyber Risks: Coverage Under CGL and “Cyber” Policies, ABA Section of Litigation 2012 Insurance Coverage Litigation Committee CLE Seminar (March 1-3, 2012), citing Garry Byers, Rapid Cyber Attack Response: Three Days Make All the Difference, Digital Forensic Investigator News (Sept. 28, 2011), available at <http://dfinenews.com/article/rapid-cyber-attack-response-three-days-make-all-difference>.

5 U.S. Securities and Exchange Commission Division of Corporate Finance, CF Disclosure Guidance: Topic No. 2 — Cybersecurity, (Oct. 13, 2011). Topic No. 2 states that: “In determining whether risk factor disclosure is required, we expect registrants to evaluate their cybersecurity risks and take into account all available relevant information, including prior cyber incidents and the severity and frequency of those incidents. As part of this evaluation, registrants should consider the probability of cyber incidents occurring and the quantitative and qualitative magnitude of those risks, including the potential costs and other consequences resulting from misappropriation of assets or sensitive information, corruption of data or operational disruption. In evaluating whether risk factor disclosure should be provided, registrants should also consider the adequacy of preventative actions taken to reduce cybersecurity risks in the context of the industry in which they operate and risks to that security, including threatened attacks of which they are aware.”

6 Id.

7 Scott Gods & Jennifer Smith, Insurance Coverage for Cyber Risks: Coverage Under CGL and “Cyber” Policies, ABA Section of Litigation 2012 Insurance Coverage Litigation Committee CLE Seminar (March 1-3, 2012).

8 Wikipedia, The Free Encyclopedia, Wikimedia Foundation, Inc., Dec. 12, 2004, Web. September 14, 2012, <http://en.wikipedia.org/wiki/Denial_of_service_attacks>.

9 Id. “In general terms, DoS attacks are implemented by either forcing the targeted computer(s) to reset, or consuming its resources so that it can no longer provide its intended service or obstructing the communication media between the intended users and the victim so that they can no longer communicate adequately.”

10 Scott Gods & Jennifer Smith, Insurance Coverage for Cyber Risks: Coverage Under CGL and “Cyber” Policies, ABA Section of Litigation 2012 Insurance Coverage Litigation Committee CLE Seminar (March 1-3, 2012)(citing Kelly Jackson Higgins, Permanent Denial-of-Service Attack Sabotages Hardware, Security Dark Reading, http://www.darkreading.com/security/management/showArticle.jhtml?articleID= 211201088 (May 19, 2008).

11 Scott Gods & Jennifer Smith, Insurance Coverage for Cyber Risks: Coverage Under CGL and “Cyber” Policies, ABA Section of Litigation 2012 Insurance Coverage Litigation Committee CLE Seminar (March 1-3, 2012).

12 In State Auto Property & Casualty Co. v. Midwest Computers, the Court addressed whether data lost by Mid-West after it serviced computer equipment purchased by one of its customers was “tangible property” within the meaning of a CGL policy issued by State Auto to Midwest. Id. at 1115. Holding that it was not, the Court reasoned that the term intangible referred to property that was “[c]apable of being perceived esp. by the sense of touch: PALPABLE[;] … capable of being precisely identified or realized by the mind [;] … capable of being appraised at an actual or approximate value (assets).

13 But see Voicestream Wireless Corp. v. Federal Ins. Co., 112 Fed. Appx. 553, 555-56 (9th Cir. 2004) (Washington law). Williamson v. Historic Hurstville Ass'n, 556 So. 2d 103, 107 (La. Ct. App. 4th Cir. 1990); Loewenthal v. Security Ins. Co. of Hartford, 436 A.2d 493, 499 (Md. App. 1981).

14 http://www.iso.com/Press-Releases/2005/ISO-INTRODUCES-CYBER-RISK-PROGRAM-TO-HELP-COVER-$7-TRILLION-E-COMMERCE-MARKET.html.

15 David T. Chase & Todd L. Nunn, Insurance Coverage for Cyber risks and Losses, Stay Informed, April 27, 2011, available at http://www.klgates.com/insurance-coverage-for-cyber-risks-and-losses-04-27-2011.