Mergers and acquisitions in the UK often involve complex negotiations around warranties and indemnities. These contractual assurances, given by the seller, cover the accuracy of information about the business, assets, liabilities, and operations. However, breaches of these warranties can lead to costly post-completion disputes.
Warranty and indemnity (W&I) insurance has emerged as a valuable tool to manage these risks, providing protection for both buyers and sellers. At Blackstone Solicitors, we advise clients across England and Wales on corporate transactions, helping them understand when W&I insurance is appropriate and how it can be effectively integrated into M&A deals.
This article explains the role of W&I insurance, its benefits, key considerations, and practical tips for buyers and sellers.
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What is warranty and indemnity insurance?
Warranty and indemnity insurance is a policy that covers losses arising from breaches of warranties or specified indemnities in a sale and purchase agreement (SPA). There are two main types:
- Buy-side W&I insurance: Purchased by the buyer to cover losses arising from breaches of the seller’s warranties.
- Sell-side W&I insurance: Purchased by the seller to provide protection against claims for breach of warranty, allowing for a clean exit.
The policy shifts some or all of the financial risk away from the parties involved, creating certainty in the transaction.
Why W&I insurance is used in UK M&A
W&I insurance is increasingly common in UK deals, particularly in cross-border transactions or when sellers are private equity funds. Key reasons include:
- Facilitating clean exits: Private equity sellers can sell a business without retaining long-term liability for warranties.
- Bridging valuation gaps: W&I insurance can help resolve disputes over warranty caps and indemnity limits.
- Enhancing buyer confidence: Buyers have a direct remedy through the insurer if a warranty breach occurs.
- Simplifying negotiations: By transferring risk to an insurer, parties can avoid protracted haggling over indemnity clauses.
In practice, W&I insurance often accelerates deal completion and reduces post-completion friction.
Key features of W&I insurance
- Scope of coverage
Policies typically cover:
- Breaches of warranties given by the seller
- Certain known or unknown pre-completion liabilities
- Tax warranties and, in some cases, specific indemnities
However, the policy will exclude certain matters, such as:
- Fraud by the insured party
- Known issues disclosed in the SPA or a disclosure letter
- Regulatory fines or criminal penalties (usually)
Understanding the scope of coverage is critical for both parties.
- Policy limits and retention
The insurance premium depends on the size of the policy limit and the retention (or deductible).
- Policy limit: Maximum amount the insurer will pay for covered claims
- Retention: Portion of any loss that the insured party must bear before insurance kicks in
Typically, policies cover between 10% and 25% of the deal value, with retention negotiated depending on deal size and risk profile.
- Duration
W&I insurance usually covers claims for a defined period after completion, often aligning with the survival period of warranties in the SPA, which is typically 12–24 months for general warranties and up to 7 years for tax warranties.
- Claims process
The policy will outline how claims are made, the supporting documentation required, and the insurer’s role in dispute resolution. Clear procedures are essential to avoid delays in recovery.
Benefits for buyers
Buyers gain several advantages from W&I insurance:
- Direct access to funds: If a warranty breach occurs, the insurer pays directly, reducing reliance on the seller.
- Financial protection: Buyers can pursue claims beyond the warranty cap in the SPA, subject to policy terms.
- Confidence in diligence: Insurers conduct due diligence before underwriting, providing an additional layer of verification.
- Facilitates complex deals: Particularly useful in cross-border transactions where enforcing remedies against foreign sellers may be challenging.
Benefits for sellers
Sellers also benefit from W&I insurance:
- Reduced liability: Sell-side insurance allows sellers to exit with limited post-completion exposure.
- Enhanced marketability: Buyers may prefer deals with insurance in place, facilitating faster sales.
- Cleaner negotiations: The insurance can reduce protracted haggling over caps, baskets, and escrow arrangements.
- Confidence for private equity exits: W&I insurance supports a timely and efficient exit strategy.
Practical considerations
When using W&I insurance, both buyers and sellers should consider:
- Early engagement
Insurers need time to underwrite the risk, often requiring detailed due diligence. Early engagement ensures coverage is in place at completion and avoids last-minute delays.
- Integration with the SPA
The SPA and disclosure letter must align with the insurance policy. Inconsistencies can result in exclusions or disputes. Legal advisers play a key role in ensuring consistency.
- Cost and affordability
Premiums vary depending on deal size, risk profile, and jurisdiction. While W&I insurance adds cost, it can be justified by reduced exposure and smoother negotiations.
- Exclusions and limitations
Careful review of exclusions, retention levels, and claim procedures is essential. Buyers should understand what is and isn’t covered, while sellers should be aware of residual obligations.
- Tax implications
Premiums for W&I insurance may have tax consequences depending on whether they are treated as deductible business expenses or capital costs. Professional tax advice is advisable.
Common pitfalls
- Assuming blanket coverage: Not all breaches are covered. Exclusions must be reviewed carefully.
- Poor coordination with SPA: Misalignment between warranties, disclosure letters, and the policy can undermine protection.
- Delays in claims: Unclear claims procedures can lead to slow recovery of losses.
- Underestimating retention: Retention amounts can significantly affect the net benefit of the policy.
Avoiding these pitfalls requires careful planning and professional guidance.
Conclusion
Warranty and indemnity insurance has become an essential feature of UK M&A, offering protection and certainty for both buyers and sellers. When used effectively, it can:
- Reduce post-completion disputes
- Facilitate clean exits for sellers
- Provide buyers with direct financial remedies
- Streamline negotiations and accelerate completion
However, W&I insurance is not a substitute for careful drafting, thorough due diligence, and clear commercial terms. Early engagement with legal, financial, and insurance advisers is essential to ensure coverage is appropriate and effective.
We have a proven track record of helping clients deal with the legal implications of corporate law. We will guide you diligently and ensure all checks are carried out swiftly and efficiently and we firmly believe that with the right solicitors by your side, the entire process will seem more manageable and far less daunting. You can read more about the range of corporate services we offer by clicking here: https://blackstonesolicitorsltd.co.uk/corporate-legal-services/
How to Contact Our Corporate Solicitors
It is important for you to be well informed about the issues and possible implications of corporate law. However, expert legal support is crucial in terms of ensuring a positive outcome to your case.
To speak to our Corporate solicitors today, simply call us on 0345 901 0445, or click here to make a free enquiry. We are well known across the country and can assist wherever you are based. We also have offices based in Cheshire and London.
Disclaimer: This article provides general information only and does not constitute legal advice on any individual circumstances.
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