Warranty and Indemnity (W&I) insurance, which seeks to bridge the gap between a buyer’s wish for deal protection and a seller’s desire for a clean exit, has become a common product in European M&A transactions. In our view, there is real value in having a thorough understanding of the process and key practical considerations for acquiring a policy. According to the Latham & Watkins 2016 European Private M&A Market Study, which examined over 170 deals signed between July 2014 and June 2016, the proportion of transactions where W&I insurance was used has increased, with around 13% of transactions now using the product. Claims data compiled by AIG (R&W Insurance Global Claims Study) indicates that claims are filed against around one in seven W&I policies globally, suggesting real protection for both buyers and benefit to sellers that would otherwise be exposed to such claims.
Planning, Timing and Readiness
In both bilateral and auction sale processes, strategic bidders can enhance the deliverability of their offers by addressing W&I insurance early in the process. Bidders can present themselves as “dealready” counterparties that pose a lower execution risk than rival bidders. Early engagement with brokers and lawyers will also reduce the risk of coverage gaps and ensure a smoother process. Brokers can also seek beneficial terms and leverage any competitive tension between underwriters earlier in the process.
Maximising Your Brokers’ Strategic Insight
A good W&I broker will provide insightful guidance on the scope and limitations of W&I coverage, which underwriters are best suited to a transaction, and where timing issues or other challenges may arise. Understanding the limitations of a W&I policy can allow strategic bidders to seek alternative solutions or, if necessary, price uninsurable risks into their bids. Appointing an experienced W&I broker to advise on W&I issues can aid this process significantly.
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Although the number of underwriters in the market has grown substantially in recent years, recent claims trends have made increasingly sophisticated underwriters more cautious. This has manifested itself in broader policy exclusions, particularly in certain high-risk areas, and increased resistance to insuring matters outside the scope of the buyer’s advisors’ due diligence reports. Underwriters may be willing to insure matters covered by a strategic buyer’s internal due diligence teams, rather than external advisers, if written reports are produced. Specialist coverage may be available for an additional premium and with specific due diligence. Knowledgeable brokers will advise on market developments and the nuances that buyers need to consider in different markets. In Germany, for example, underwriters have started reviewing transaction terms in more detail and demanding a bring-down of warranties at closing. Similarly, demand from American buyers of European assets has led to W&I policies that provide buyers with synthetic “indemnity basis” damages for breaches of warranties, despite underlying transaction documents providing buyers with only “contractual basis” damages.
We expect the W&I insurance market to continue evolving, and anticipate that private equity sellers will continue pushing W&I insurance in sale processes. Although strategic buyers can enhance their attractiveness to sellers by demonstrating an ability to navigate the W&I process quickly and efficiently, we also expect strategic buyers to carefully examine the value that insurance can provide and to be selective about how much and what sort of coverage is required. A keen understanding of the practical process and the market will therefore become increasingly important.