United States: Encryption Flaw "Heartbleed" Creates Data Risk: How Insurance Can Stanch the Bleeding

Last Updated: July 17 2014
Article by Richard Gallena

In early April, news broke of an encryption flaw named "Heartbleed" that exposed companies to data breaches for over two-and-one-half years. Heartbleed is a vulnerability in OpenSSL, an open-source set of libraries for encrypting online services that nearly two-thirds of all websites use. The vulnerability allows hackers to steal personal information, such as bank account information, social security numbers and passwords, from companies, with little risk of detection. Given the length of exposure and the ease of exploitation, Heartbleed has been described by cybersecurity professionals as one of the biggest flaws in Internet history. And the technology community has not been able to stop the bleeding. In June, researchers found additional vulnerabilities in OpenSSL that implicate many of the same data breach concerns triggered by Heartbleed.

While the ability to escape detection makes the extent to which hackers have exploited these vulnerabilities unclear, for many companies, costs and future liabilities related to Heartbleed may be very substantial. Insurance policies may be available to help stem the hemorrhaging of financial losses and liabilities. This article discusses the rise in cybersecurity attacks and examines first- and third-party coverage potentially available under different types of insurance policies. It then describes state security breach notification laws that may be triggered by events like Heartbleed, and recent SEC guidance on disclosing cyber risks in public filings.


Over the past year, the business and legal communities have witnessed a marked rise in cyber-attacks. The Federal Trade Commission continues to list identity theft as the number one complaint among consumers in the United States.1 And consumers have good reason to be concerned. A recent study revealed that over the past 12 months, hackers have exposed the personal information of roughly one half of American adults. The Ponemon Institute also conducted an annual cyber-crime study based on a representative sample of 60 organizations among various industry sectors. According to the 2013 study, the number of successful attacks rose 18 percent between 2012 and 2013, while the costs associated with cyber-crime rose 26 percent. Yet despite this surge, as of 2013, only 31 percent of companies had purchased some form of cyber-risk insurance. While virtually all companies that collect personal information or otherwise sensitive data are at risk for cyber-attacks, the financial services industry, defense industry, retail industry and health care industry are especially prone to this threat. Given the rapidly evolving nature of cyber threats, it is vital for companies to understand what types of costs may be covered under their insurance policies, their risk of exposure, and the legal implications of events like Heartbleed.


Cyber-risk insurance policies may provide coverage for costs incurred in response to Heartbleed, as well as for the defense and indemnification costs stemming from government investigations and consumer lawsuits. Like traditional forms of insurance, cyber-risk policies can generally be divided into first-party coverage and third-party coverage.2 First-party policies cover costs that the policyholder incurs in response to an event like a cyber-attack. Under third-party policies, insurers indemnify the policyholder and provide defense costs in the event the policyholder is sued or subject to a government investigation stemming from a covered event or occurrence.

A. First-Party Coverage for Business Expenses Stemming from Heartbleed

Coverage under a first-party cyber policy will depend on the circumstances of the loss and the language of the policy at issue. But it seems likely that Heartbleed constitutes a covered event under many first-party cyber policies. For example, AIG's CyberEdge® Event Management Insurance provides coverage for "all loss that an Insured incurs solely as a result of an alleged Security Failure or Privacy Event that has actually occurred or is reasonably believed by such Insured to have occurred." CyberEdge® Event Management Insurance, AIG, 115420 (6/13) (emphasis added). This "reasonable belief" language extends coverage even if a company does not know conclusively whether information was actually exposed or wrongfully acquired, such as in the case of Heartbleed.

Under the policy, "Privacy Event" is defined as "any failure to protect Confidential Information . . . including, without limitation, that which results in an identity theft or other wrongful emulation of the identity of an individual or corporation." By this definition, Heartbleed likely should constitute a Privacy Event because it is an encryption flaw that results in a failure to protect confidential information.

"Security Failure" is defined as "a failure or violation of the security of a Computer System, including, without limitation, that which results in or fails to mitigate any unauthorized access[.]" Heartbleed also likely constitutes a Security Failure because it is a computer system flaw that causes a failure to mitigate unauthorized access by third parties. Thus, by either definition, the policy should provide coverage for losses incurred in response to Heartbleed.

Once a covered event like Heartbleed occurs, a company must determine what types of costs are covered. Cyber-risk insurance policies often provide first-party coverage for a wide range of expenses that companies incur in response to cyber threats like Heartbleed, including costs to improve a company's image and notify consumers of a potential breach. For example, the Zurich Security and Privacy Protection Policy covers a company's costs incurred in retaining a third party to:

  1. conduct a computer forensic analysis to investigate the Company's Computer System to determine the cause and extent of such Privacy Event;
  2. determine indemnification obligations under any written contract with respect to a Wrongful Act by a Service Provider in connection with such Privacy Event;
  3. determine whether the Company is obligated to notify affected individuals or applicable regulatory agencies of such Privacy Event;
  4. effect compliance with any Privacy Regulation under the applicable Policy Regulation most favorable to the Company's affected individuals;
  5. notify the Company's affected individuals or applicable regulatory agencies of such Privacy Event and establish new account numbers for the Company's affected individuals;
  6. plan, implement, execute and manage a public relations campaign to counter or minimize any actual or anticipated adverse effects of negative publicity from such Privacy Event or to protect or restore the Company's business reputation in response to negative publicity following such Privacy Event; or
  7. procure credit monitoring services for the Company's affected individuals in responding to such Privacy Event.

Zurich Security and Privacy Protection Policy, Zurich, U-SPR-1000-B CW (7/09).

Under the provisions above, hiring security experts, consultants, public relations companies and law firms to perform any of these activities should be covered. The period during which such response costs are covered varies by policy. In the case of the Zurich policy, coverage is provided for 12 months following the event. The policy also allows companies to take additional action to protect and restore their reputations, notify customers of their potential exposure, and provide credit monitoring services that many states require following a breach. Breach notification can cost millions of dollars—but it may be required under state data breach laws and also serves to mitigate the risk of additional lawsuits. See Part III, infra. While cyber policies are becoming more restrictive, notice costs should be covered under most forms now in use.

Some cyber-risk policies also provide coverage for lost income as the result of the suspension or interruption of computer systems. Under these policies, for example, an online retailer that has to suspend commerce in response to a security breach could seek coverage for its lost revenue. The terms and limits vary widely, but this can be valuable coverage—particularly if business interruption coverage is not available under traditional commercial property policies.

B. Third-Party Coverage for Liabilities Stemming from Heartbleed

Many insurance companies offer specialized cyber-risk policies that provide third-party coverage to policyholders burdened by defense costs and liabilities stemming from threats like Heartbleed. These potential costs include, but are not limited to, defense and indemnity expenses incurred as a result of claims made by consumers or users whose private information was compromised, and costs incurred to respond to regulatory investigations and proceedings.

There is very little standardization of policy terms and conditions in cyber risk policies thus far, which means that cyber-security policies can differ widely from one another in the coverage they provide. For example, the Zurich Security and Privacy Protection Policy discussed above provides coverage for "all Loss which the Insured becomes legally obligated to pay on account of any Claim first made against the Insured . . . for a Wrongful Act . . . ." A "Claim" includes written demands for monetary or injunctive relief, civil proceedings against the insured, and arbitration or other alternative dispute resolution proceedings against the insured. The Zurich policy defines a "Wrongful Act" as "any actual or alleged act, error, omission, neglect or breach of duty by an Insured" as well as "any actual or alleged act, error, omission, neglect or breach of duty . . . which causes a breach of the Company's Network Security that results in . . . the Unauthorized Access to or Unauthorized Use of the Company's Computer System . . . ." This language should be broad enough to encompass claims for privacy injuries that consumers may bring against companies if they discover that their private information was "hacked."3

The Zurich policy also provides that the insurer will reimburse the policyholder for all "Defense Expenses the Insured incurs in responding to any Regulatory Proceeding . . . concerning a Privacy Event or Security Wrongful Act." The policy defines "Regulatory Proceeding" as "a formal investigation of an Insured by an administrative or regulatory agency or similar governmental body concerning a Privacy Event" or "an administrative adjudicative proceeding against an Insured by an administrative or regulatory agency or similar governmental body . . . ." One example of a covered "Regulatory Proceeding" would be an investigation by a state attorney general—and in the past few years, several multi-state AG task forces have been formed to investigate major data breaches. Cyber policies should provide coverage for defense costs incurred to respond to such inquiries.


Heartbleed may trigger security breach notification laws in many states, and companies should consider whether this threat gives rise to notification requirements in the states in which they do business. Nearly all states now require companies to notify consumers of a data breach. While each law is different, most states require companies to notify consumers following the unauthorized acquisition of personal information. But the specific requirements vary from state to state, and this patchwork of laws creates enormous headaches for financial institutions, online retailers, and other companies that conduct online business across the country. The same data breach may trigger notice requirements in some states, but not in others. To compound matters, the statutory rules in many states are less than clear. Best practices dictate that a company should determine the states in which customers have been affected and then carefully assess whether notification is required under the laws of those states.

Rather than wrestle with these uncertainties—and risk penalties for non-compliance—some companies have opted to give notice to all customers, even in jurisdictions where notice is not arguably required. This may be a prudent course, but it is important for the company to review its insurance policies and consult with its insurers. Some cyber policies will pay for the cost of notification only in jurisdictions where it is legally required, while other policies require advance consent from the insurer.


The SEC has also taken notice of the risks associated with data breaches. In March 2014, the SEC hosted a roundtable during which Mary Jo White, the agency's chairwoman, described cyber threats as "of extraordinary and long-term seriousness . . . even surpassing terrorism." In 2011, the SEC issued enhanced disclosure guidance to assist companies in determining whether to disclose cybersecurity risks and attacks to shareholders in public filings. The SEC noted that companies that fall victim to successful cyber-attacks may incur a variety of costs that affect the financial condition of a company, including:

  • Remediation costs that may include liability for stolen assets or information and repairing system damage that may have been caused. Remediation costs may also include incentives offered to customers or other business partners in an effort to maintain the business relationships after an attack;
  • Increased cybersecurity protection costs that may include organizational changes, deploying additional personnel and protection technologies, training employees, and engaging third-party experts and consultants;
  • Lost revenues resulting from unauthorized use of proprietary information or the failure to retain or attract customers following an attack;
  • Litigation; and
  • Reputational damage adversely affecting customer or investor confidence.

The SEC therefore recommended that companies consider disclosing such factors as the nature of material cyber-security risks that the company faces, the potential costs of a cyber-security breach, and a description of relevant insurance coverage. When determining whether Heartbleed and related cyber-security issues implicate SEC disclosure requirements, companies should evaluate the risk that a data breach poses to their business, and balance the probability that a data breach has or will occur with the magnitude of harm that such a breach could cause.

The Target data breach illustrates the devastating effects a data breach can have on a company. Following the breach during the 2013 holiday buying season, Target's fourth-quarter profits fell 46 percent.4 By February 2014, the company incurred $61 million in costs associated with the breach, including the cost of providing credit monitoring services to the nearly 110 million customers affected. These costs do not include Target's potential liability to consumers and potential regulatory fines and penalties. As evidenced by the increased attention from the SEC and the fallout following the Target breach, publicly traded companies can no longer afford to ignore the risks posed by cybersecurity threats.


This article does not purport to discuss every issue that a data breach may raise. In addition to the aforementioned issues, a data breach may implicate a company's contractual obligations to financial institutions and consumers, as well as compliance requirements under industry-specific regulations. Under contractual agreements related to credit card processing, a company may be required to hire a forensic investigator to perform an audit and pay financial penalties for failing to comply with Payment Card Industry Data Security Standards ("PCI DDS"). These "card-brand" agreements may also require companies to indemnify consumers for fraudulent charges. Some cyber policies cover the cost of defending card brand claims as well as any penalties or assessments imposed. But these coverage provisions are complicated and are not included in every cyber policy. In addition to the aforementioned issues, a data breach may implicate a company's contractual obligations to financial institutions and consumers, as well as compliance requirements under industry-specific regulations.5


The extent to which Heartbleed was exploited to access confidential information is still unclear. What is clear, however, is that data breaches and cyber-attacks are becoming increasingly common across all industries. Companies can mitigate their risk of a cyber-attack by taking proactive measures to protect against breaches and by enhancing the coverage available under their cyber policies.


1. FTC Announces Top National Consumer Complaints for 2013, FEDERAL TRADE COMMISSION (February 27, 2014) available at http://www.ftc.gov/news-events/press-releases/2014/02/ftc-announces-top-national-consumer-complaints-2013.

2. This article does not address coverage for data breaches under traditional insurance policies. However, many types of traditional policies—including CGL, D&O, Property and Business Interruption, and Crime—may provide coverage for data breaches that result in the disclosure of personal information. A security breach due to Heartbleed may go undetected for some time, so companies affected should assess coverage under policies in place when the breach occurred, as well as under current policies.

3. One example of such a case is Anderson v. Hannaford Brothers Co., 659 F.3d 151 (1st Cir. 2011) in which customers of Hannaford grocery stores filed a class action suit after hackers breached the electronic payment processing system of the grocery chain, stealing up to 4.2 million credit- and debit-card numbers, expiration dates and security codes.

4. See Amrita Jayakumar, Data breach hits Target's profits, but that's only the tip of the iceberg, THE WASHINGTON POST (Feb. 26, 2014) available at http://www.washingtonpost.com/business/economy/data-breach-hits-targets-profits-but-thats-only-the-tip-of-the-iceberg/2014/02/26/159f6846-9d60-11e3-9ba6-800d1192d08b_story.html.

5. For example, the Health Insurance Portability and Accountability Act of 1996 ("HIPAA") requires "covered entities" to notify affected individuals if their protected health information has been, or is reasonably believed to have been, accessed, acquired, used, or disclosed as a result of a data breach. 42 C.F.R. § 164.404(a) (2009). Guidelines issued under the Gramm-Leach-Bliley Act impose similar requirements on financial institutions.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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Richard Gallena
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