Warranty and Indemnity (W&I) insurance helps bridge the gap between buyers and sellers in a share or business sale by providing coverage for losses arising from a breach of warranty, indemnity, or tax covenant in the purchase agreement.
W&I insurance is an increasingly cost effective and thus popular tool in M&A transactions. Birketts works with a number of brokers, such as Lockton, to assist clients to obtain the most appropriate policy for their needs, and to ensure that the terms of the policy are suitably reflected in the transaction documents. Historically, W&I insurance was an expensive product relevant only to larger transactions, in particular involving PE and VC sellers, and with limited appeal to individual sellers and transactions in the SME space. However, as one of the leading brokers in this field, Lockton, has highlighted in its end of 2022 market update, the underwriting insurance market continues to expand in response to increasing demand. With a total of 35 insurers now offering transactional risk insurance products, and with that greater capacity, and greater experience in the market, premiums and deal costs have reduced, and insurers are willing to insure a much wider range of transactions and risks.
Buy-side
Under a “buy-side” policy (taken out by the buyer), the W&I insurers effectively step into the shoes of the seller with the intention of providing, as far as possible, back-to-back cover with the liabilities of the seller agreed in the purchase agreement. The buyer can then make its claim for breaches of warranties etc. directly against the insurer, instead of bringing its claim against the seller. This gives the buyer comfort that it has recourse against the deep pockets of the insurer, rather than having to pursue a seller who may have no financial standing or have left the jurisdiction, and avoids often-difficult requests for the seller to leave funds behind either as deferred payments or in escrow, as security for potential claims. Where the seller has a continuing relationship with the business or the buyer post sale, the ability for the buyer to recover from the insurer, instead of from the seller, can be vital in maintaining that relationship. It is not uncommon for sellers (particularly institutional sellers such as PE, VC or trustee sellers) to require their buyer to purchase a “buy-side” policy (sometimes at the cost of the sellers), so that the insurer has liability for breaches of warranty etc. in the purchase agreement in place of the sellers, and the sellers know that they can use the sale proceeds without the risk of a claim being made against them.
Sell-side
“Sell-side” policies (taken out by the seller) are far less common, and they provide that the buyer brings its claim against the seller for any breach of warranty etc. in the purchase agreement, ensuring the seller then has the right to seek recovery from the insurer to recover the sums paid out. The advantage therefore of a “sell-side” policy, is that the seller knows that if it has to make a payment out to the buyer to settle a claim, it will be able to seek reimbursement after the event, from the insurer.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.