This article is addressed to persons involved with risk management in the course of M&A transactions. The term risk comprises (i) a situation which might have a damaging effect (danger) and (ii) the likelihood a person or an object is exposed to such danger (exposure). There are different types of transactional risks. In standard SPAs we may distinguish between risks arising out of the behaviour and actions of the parties during transaction (subjective risks) and risks connected to the substance of the purchase object (objective risks). Both risks require a different approach in the SPA.
Subjective risks are related to actions and omissions of the parties which require standard contractual covenants before closing (pre-closing covenant) and after closing (post-closing covenant). Such obligations are normally subject to fault-based liability. Covenants related to subjective risks are important – however such covenants are not complex and are in most cases standardized stipulations.
The objective transactional risks are distinguished between specific and abstract risks. Both require a different treatment in the SPA. The abstract objective transactional risks are in principle risks that are not known to the parties (cloud risk). The events giving rise to liability are hence stipulated as should-be statements and are governed in the contract systematically (catalogue of representations). The catalogue of representations stipulates a uniform regime of liability (representations and legal consequences). Abstract objective transactional risks are hence governed in the SPA as agreed representations and are allocated to the risk sphere of the seller. The specific objective risks are risks that are known to the parties: either identified by the buyer prior to closing in the course of the due diligence procedure or disclosed by the seller prior to closing (disclosure letter). In all transactions the parties try to eliminate such known risk prior to the closing. To the extent such elimination is not possible, the parties agree upon specific warranties and specific legal consequences in the SPA allocating the risk to the seller.
Hence, SPAs normally provide for two different kind of liability systems for objective risks. Transactional lawyers are challenged to draft a complete and comprehensive contractual system of liability including a consequent risk allocation combined with risk and liability limitations.