It is common around the world for representations and warranties in private M&A transactions to survive for an agreed upon period of time after closing. During this survival period, the seller is faced with the risk that the purchaser may bring an action against it for breach of a representation or warranty. There are a number of ways sellers can mitigate this risk, including negotiating a cap on their maximum liability under the purchase and sale agreement. What is considered "market standard" in terms of the use and quantum of these liability caps differs in jurisdictions around the world.
In order to survey the market trends in this regard, we conducted a review of M&A deal studies prepared by Norton Rose Fulbright and studies by the American Bar Association which collectively covered private M&A transactions that closed in 2016 in the Asia-Pacific region (the APAC market)1, private M&A deals completed in 2016 and the first half of 2017 in the United States2, private M&A deals signed in 2015 and 2016 in Canada3, and M&A deals signed or closed in 2012 and 2013 in certain European Union countries (the European market)4 (collectively, the Deal Point Studies).
The Deal Point Studies indicate that 57% of Chinese sellers and 50% of Japanese sellers accepted no cap on their liability, and overall in the APAC market 34% of transactions had no liability cap at all. In contrast, sellers in Canada, the European market and the US rarely agreed to unlimited liability. Specifically, of the deals reviewed in the Deal Point Studies, only 8% of sellers in Canada, 4% of sellers in Europe and none of the sellers in the US agreed to uncapped liability. These statistics seem to suggest that many sellers in the APAC market either have less bargaining power than their counterparts in the other regions studied, or they do not view liability caps as a key issue in their negotiations (perhaps because of the greater proclivity for sellers in those regions to obtain representation and warranty insurance policies).
With respect to transactions that included a cap on the seller's liability, the Deal Point Studies revealed the following statistics:
- In the APAC region, the average cap on the seller's liability for breach of representations and warranties ranged from a low of 15% of the purchase price in Japan to a high of 65% of the purchase price in Indonesia;
- In Canada, the average cap on the seller's liability equalled 44% of the purchase price;
- In the EU, the average cap on the seller's liability equalled 42% of the purchase price; and
- In the US, the average cap on the seller's liability equalled 12% of the purchase price.
Of particular interest are the low average caps in the US. This may be due to the litigious climate in that country, where sellers view a low cap on their liability as being of paramount importance. It may also suggest that the US is a "seller's market" – where sellers tend to have greater bargaining power.
Regardless of the reason for the differences between the various jurisdictions, however, it is imperative to understand what is considered the "market standard" in terms of liability caps and other deal points when entering into M&A negotiations in an unfamiliar jurisdiction.
Footnotes
1 Private M&A Deal Points Asia-Pacific Study 2016, Norton Rose Fulbright.
2 Private Target Mergers & Acquisitions Deal Points Study (Including Transactions Completed in 2016 and the first half of 2017), American Bar Association, A Project of the M&A Market Trends Subcommittee of the Mergers and Acquisitions Committee.
3 Current Practice Trends in Canadian Private M&A Agreements, Practical Law Canada
4 European M&A Deal Points Study 2015 (deals signed or closed in 2012 or 2013), American Bar Association, Business law Section, a Project of the Market Trends Subcommittee of the Mergers and Acquisitions Committee.
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