Representations and Warranties Insurance – The Seller’s Advantage

The number of Representations and Warranties insurance policies sold has increased sevenfold in the past five years. More and more companies involved in M&A deals are being educated on the benefits of R&W coverage for both the buyer and seller. Part 3 is focusing on the Seller’s Advantage.

Sellers Begin to See R&W Insurance Benefits

While only about 5% of R&W insurance policies currently sold are Seller’s Side, the number of policies purchased each year is increasing dramatically. The Seller’s Side coverage protects the seller if the buyer sues the seller for a breach of warranty. Advantages to the seller include:

• Clean exit from a business allows sellers to quickly distribute sale proceeds
• Reduces the risk of contingent liabilities and is a “sleep at night” type of coverage
• Can reduce the amount of cash tied up in escrow
• Makes the seller’s business more attractive to buyers by reducing their indemnity risks
• Price of the policy is often included as part of the business’s sale price
• In some case, the escrow amount can be used to pay the policy’s deductible or retention

Another advantage of the Seller’s Side policy is that it mounts a vigorous defense on behalf of the seller if a subsequent claim triggers the policy.

R&W Insurance Claims Response

According to AIG, the Seller’s Side policy has a higher likelihood of a claim compared to a Buyer’s Side. This could be due to the fact that most buyers bring in specialists to investigate the seller’s financials and operations prior to the purchase whereas most sellers do not. Because the buyer has already performed their due diligence, the chance of a claim is reduced. It also stands to reason that the more complex the M&A transaction or the faster it was cobbled together, the better the chance that something was missed in the due diligence process and that leads to a higher likelihood of a claim.

A Final Thought

Whether you’re buying or selling a business, it’s critical to enlist not only a good lawyer but also an insurance broker who understands the complexity of R&W insurance. By bringing in a knowledgeable broker early in the process, you’ll have a much better chance of not only crafting a solid sales and purchase agreement but you’ll also drastically reduce your risk. I’d also suggest beginning the insurance discussion early. Bring together both the buyer and seller and hammer out issues like escrow amounts, retention and premium payment and the insurance policy structure. All of this can all be determined well in advance and it can place the entire purchase agreement in a whole new light. A deal which didn’t seem worth doing might be perfectly workable with the proper R&W insurance policy in place. Happy selling…and buying!

See Part 1 “Representations and Warranties Insurance”
See Part 2 “The Buyer’s Benefit to Representations and Warranties Insurance”