When acquiring another entity, many companies purchase representations and warranties (R&W) insurance to cover losses due to breaches of representations and warranties in purchase agreements. These R&W policies may apply in excess of a seller indemnity or, if the acquired entity has been resold, there may be separate lines of coverage for multiple acquisition agreements that apply to one breach. So, what happens after the deal closes and the purchaser discovers a breach?
- R&W policies cover both first-party and third-party claims
First-party claims involve issues that are discovered by the buyer after the closing that result in losses. Examples of such breaches include:
• An audit of a company’s records revealing financial or reporting issues.
• The company’s manufacturing equipment not performing to the standards warranted.
• Relations with customers not being as warranted or the buyer discovering breaches of contracts.
Third-party claims arise when a third party makes a demand or files suit against the company. For example, after closing, the company is served with a customer complaint alleging breach of contract and inference with business relations. A review of the company’s files indicates that prior to the sale, the sellers had been notified by the customer of its potential claim but did not disclose it to the buyer. This may be a breach of representations regarding contracts and litigation or claims. Another example of a third-party claim is a government civil or criminal investigation into the company.
Best practices: After a deal closes, calendar any dates for releases of escrows or limitations periods. Have periodic check-ins, three to six months prior to the calendared date, to determine whether there are any breaches that may result in a covered loss.Continue Reading Representations and warranties insurance: I have a breach; what’s next?