Reps and Warranties Insurance Explained

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Reps and Warranties Insurance Explained

Q: What is Reps and Warranties Insurance?

A: Inaccuracies in representations and warranties made by the seller or the target company in connection with a merger or acquisition can result in costly liabilities. Without reps and warranties, insurance buyers can be left without the ability to recover losses and sellers can be forced to hand back a portion of the purchase price.

Ultimately, reps and warranties insurance helps protect both buyers and sellers involved in transactions from financial loss if inaccuracies in reps and warranties are made. By purchasing reps and warranties insurance, buyers can distinguish a bid, sellers can reduce indemnity obligations and both parties can close deals with ease, speed and confidence.

Q: Is Reps and Warranties Insurance New?

A: Reps and warranties insurance is not a new insurance product. It has been in Canada since the early 1990’s and has been used globally for longer.

Q: How Often Is Reps And Warranties Insurance Used?

A: In a recent article by Curtis A. Cusinato and Timothy Chubb of Stikeman LLP they stated “The representation and warranties insurance marketplace has continued its rapid development, maturing to the point that representation and warranties insurance is becoming a fundamental component of M&A transactions in Canada.” It is also projected that the number of times reps and warranties insurance was used in an M&A deal globally doubled in 2013.

Q: What’s The Benefit of Reps and Warranties Insurance?

A: M&A deals can fail for many reasons, including the inability of the parties to agree on price and the failure to accurately assess the value of the assets and liabilities of the acquisition target. By transferring risks like indemnity obligations, tax exposure, unknown litigation representations and warranties Insurance products can solve problems that might not otherwise be addressed in the terms and conditions of a deal.

In summary, the main benefits of Reps and Warranties Insurance are:

  • Can ensure a transaction is closed within a required time frame.
  • Can accelerate the speed with which a transaction can be completed.
  • Can result in greater post-transaction flexibility
  • Avoid post-transaction indemnity obligations
  • Additional post-transaction financing can be expedited

Q. What Insurance Companies Provide Reps and Warranties Insurance In Canada?

A. The number of insurers offering this product is slowly growing, but 3 of the most active are:

AIG – A.M. Best Financial Strength of A

Chubb- A.M. Best Financial Strength of A++

Q: What Are Some Reps And Warranties Insurance Claims Examples?

A: Below are 2 Reps and Warranties Insurance Claims Examples:

1. A Canadian manufacturing company (seller) has been reorganized, under the Companies Creditors Arrangement Act (CCAA), and is selling a subsidiary. The seller and the buyer agree to all the terms, including the amount of indemnity supporting certain representations and warranties in the Sales & Purchase Agreement (SPA). They agree that the amount of the indemnity should be limited to $10,000,000; however, they do not agree on the security supporting the indemnity. The buyer wants the full amount of $10,000,000 secured with funds held in escrow while the seller is willing to agree to only $2,000,000. A representations and warranties insurance policy featuring an $8,000,000 limit was placed in excess of the $2,000,000 indemnity that the seller agrees to secure can bridge the gap which facilitated the closing of the sale. The policy later responded to an alleged breach of representations and warranties made by the seller.

2. Two Canadian companies involved in a transaction agree to all of the terms of an acquisition, except for the duration of the indemnity supporting certain representations and warranties. The seller offers a 12-month indemnity while the buyer insists on 24 months. A representations and warranties policy was placed to bridge the gap and helped facilitate the closing of the deal. The policy later responded to breaches of the representations and warranties discovered after 12 months and prior to 24 months from the date of the sale.

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