Published 06/23/2020
Author: Jonah Goldberg, Underwriting Counsel, Mergers & Acquisitions | Liberty Global Transaction Solutions, Canada
Representations and Warranties Insurance (RWI) can provide certainty to buyers and sellers during uncertain times. RWI is an adaptable product that can alleviate risk and provide strategic advantages for dealmakers as they navigate opportunities during the COVID-19 pandemic. Liberty Global Transaction Solutions (GTS) is taking a proactive, commercial approach by underwriting transactions during the COVID-19 pandemic on a case-by-case basis, rather than applying blanket COVID-19 exclusions in all RWI policies.
RWI protects a buyer from financial loss related to an unknown risk arising out of a breach of a representation or warranty set forth in the purchase agreement. The financial strength of the insurance carrier writing the RWI policy is paramount, as the financial loss of an unknown risk transfers from the parties to the transaction to the insurer’s balance sheet. RWI can bridge the gap between the respective parties on risk allocation, thereby bolstering buyer and seller confidence in the terms of the transaction.
“We do believe that most businesses are impacted by COVID-19 in some way,” stated Brittani Marszalek, underwriting counsel at Liberty GTS, at a recent webinar sponsored by the Association for Corporate Growth. During a period of extended economic uncertainty, deal dynamics and parties’ negotiating leverage are likely to change. Long settled clauses in purchase agreements (for example, the definition of Material Adverse Effect (MAE), absence of changes representations and material contract and customer/supplier representations) are now being carefully negotiated as parties consider the impact that the COVID-19 pandemic might have on these provisions, and how the associated risks should be allocated between buyers and sellers. We also expect that the mergers and acquisitions (M&A) market will generally start to become more buyer friendly as a result of the COVID-19 pandemic after a sustained period of a seller friendly market prior to the outbreak. Some buyers may see opportunities to acquire businesses at discounted prices and there is likely to be increased activity in distressed M&A. RWI will be a useful tool in the context of such transactions by providing buyers a source of recovery where one might not otherwise be available and potentially increasing the value of the distressed assets.
While we expect the M&A market may start to become more buyer friendly, RWI will continue to be a useful tool for sellers in M&A transactions as RWI can reduce or even eliminate the traditional need for the seller to establish an escrow account or purchase price holdback at the time of the sale to cover post-closing indemnification matters. Depending on the length of the escrow period, sale proceeds could be tied up for years. RWI, therefore, is attractive to sellers as it can facilitate a “clean exit,” allowing them to leverage their capital for other investment opportunities and/or to pay out investors. According to a study by SRS Aquion Inc., of signed private deals between 2016-2018, with an RWI policy in place, the median size of indemnification escrows “averaged just 2.4% of the deal’s purchase prices… as compared to deals without such insurance averaged 11.4% of the purchase price” as reported by The Wall Street Journal¹.
Liberty GTS’ ongoing commitment to the M&A market is robust and unwavering during these uncertain times. Our approach is providing assurance to clients that insurance solutions will be driven by sound research, disciplined underwriting decisions and flexibility to customize RWI coverage designed to address the distinct characteristics of each transaction.
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¹Wall Street Journal, “May 5, 2020: Rep and Warranty Insurers Confront Coronavirus Risk”; https://www.wsj.com/articles/rep-and-warranty-insurers-confront-coronavirus-risk-11588633766
