Rhodes Risk Advisors, an Atlanta based commercial property and casualty insurance brokerage, recently provided the Representations and Warranties (R&W) coverage on the acquisition of a building supplies company. The company was estimated to be over $75M in annual revenue, however specifics of the deal were not publicly disclosed.
R&W insurance is a transactional risk insurance product that is used to facilitate mergers and acquisitions (M&A) and other sale transactions by protecting deal participants from risks that arise in due diligence or during negotiations that could inhibit a transaction from closing. It is designed to fill the gaps between the buyer and seller during their negotiations related to escrow amounts, indemnification caps, and/or survival periods of the representations and warranties.
“Reps and Warranties coverage proved to be the optimal solution for both the buy-side and sell-side of this transaction, with each side agreeing to share in the cost of the policy,” noted Kenny Goepp, Rhodes Transactional Risk Practice Leader. With the increase in market capacity and volume of M&A transactions, both domestically and internationally, Rhodes’ Transactional Risk Practice has seen extensive growth in the placement of R&W policies for deal sizes ranging from transaction of $30M to over $400M.
REPS AND WARRANTIES HIGHLIGHTS
DEDUCTIBLE, PRICING AND LIMITS
A deductible will typically be applied to the policy before the policy will respond. The deductible can range from 1% to 2% of the transaction size (total purchase price) and is an aggregate deductible for the policy period.
While the pricing depends on numerous factors, R&W insurance typically range in cost from 2% to 4% of the insured amount, representing a one-time upfront cost for the policy period—typically up to two years for general representations and warranties and up to six years for fundamental representations and warranties (including tax).
There are a limited number of specialist underwriters who will insure this niche class of business in the insurance market, offering available policy limits ranging from $30M to more than $500M per transaction.
INCENTIVES FOR BUY-SIDE:
- Provides additional protection beyond the negotiated indemnity cap and survival limitations in a purchase agreement
- Protects against collectability/solvency risk of an unsecured indemnity (e.g. financially distressed, non-U.S., or multiple sellers)
- Allows buyer to distinguish a bid in an auction (e.g. requiring only minimal or no survival of representations and warranties in a bidder’s draft purchase agreement)
- Preserves key relationships (e.g. avoids buyer having to pursue claims against management sellers working for buyer)
- Affords alternative recourse to shareholders in public to private transactions
INCENTIVES FOR SELL-SIDE:
- Backstops negotiated indemnity obligation (key for private equity or venture capital funds at the end of their life cycle)
- Protects minority/passive sellers concerned with joint and several liability
- Provides additional comfort for individual or family sellers
- Furnishes a solution for situations where there is a lack of ownership history (e.g. restructurings, “loan to own”)