"Reps and Warranties" coverage – essentially, an insurer's financial guarantee wrapped around a reps and warranties clause – has drawn considerable press and hype recently. In reality, such coverage is compelling only in perhaps 10 per cent of cases. However, when the coverage is fitting, the upside can be significant and it can more than pay for itself. In fact, it is possible to actually profit from incorporating these financial guarantees into a transaction.
Have you ever had a good deal you walked away from because you could not agree on the transfer of the responsibilities in the reps and warranties? With Reps and Warranties coverage, risk can be transferred from the buyer and seller to the insurer thus facilitating a faster, better deal for the buyer and/or seller.
There are almost no limitations on what type of reps and warranties can be guaranteed. Principally, though the bulk of contracts include: 1) tax options, 2) pollution exposures, and 3) intellectual property risks. It should also be noted that the coverage works for either asset only or share purchase deals.
Why would a buyer or seller want this type of financial guarantee?
- Any of the selling parties (directors, officers, the organization, the shareholders, etc.) can be protected by the guarantee.
- Either seller or buyer can buy the coverage without the other party to the transaction having knowledge. The party with the coverage proceeds with less risk while appearing to assume more, thus, gaining an upper hand in the negotiation.
- The coverage can replace, or top up, the escrow or hold back. Given the seller's Internal Rate of Return, freeing up the hold back may more than pay the premium.
- Speed. Often these guarantees reduce, or even substitute for, lengthy due diligence.
- "Sleep insurance" for the estate of the seller. In many cases, sellers will trade dollars for reduced uncertainty.
- If the two parties cannot agree on the wording and/or duration of the reps or warranties, the insurer can bridge the gap.
- The insurers with their AAA or AA+ paper have ability to pay and are excellent at arbitrating disputes.
- If some shareholders are unwilling to sign on to the reps and warranties, the insurance coverage can ease their concerns and allow them to sign.
The underwriters of reps and warranties coverage do their review based
on the buyer's and seller's due diligence materials. They don't reinvent
the wheel. As a result, they can do a deal in a week or less if absolutely
necessary.
HKMB HUB International has completed several reps and warranties coverage transactions.
Because they are infrequent, they are not commonly understood by all
brokers. If you would like to discuss this type of transaction please
contact us. We can provide some meaningful references
from our M&A clients.
One Client's Perspective
Jay Heller, Managing Partner Vengrowth
"We
had an indemnification issue on an investment we were exiting. Chubb
Canada's Representations and Warranties Insurance policy effectively
solved the problem by transferring the risks of indemnification, allowing
us to exit the investment as planned."
"This was our first experience
working with Chubb and Hunter Keilty Muntz & Beatty (HKMB HUB) on this type of insurance,
and the people at Chubb and HKMB HUB demonstrated that they understood our
business. They accommodated our timeline, and their underwriting was
straightforward. Our experience with Chubb and HKMB HUB was very positive,
and I would not hesitate to go to them again on future deals."
