Jeffrey Wade
Representations and warranties insurance is a vital part of mergers and acquisitions (M&A) transactions. It is designed to cover unknown and unintended breaches of representations and warranties made in business M&A agreements. This type of insurance is also known as warranty and indemnity (W&I) insurance or Representations and Warranties Insurance (RWI). It is a specialized insurance product designed for parties engaging in M&A transactions and certain other transactions where representations and warranties are given. RWI provides insurance coverage for a seller’s breach of the representations and warranties it makes in the M&A transaction agreement.
| Characteristics | Values |
|---|---|
| Type of Insurance | Representations and Warranties Insurance (RWI) |
| Purpose | Protect against losses from breaches of representations and warranties in acquisition agreements |
| Applicability | Merger and acquisition (M&A) transactions, minority investments |
| Benefits | Win-win for buyers and sellers, improved terms, reduced costs, quicker underwriting |
| Policy Types | Buy-side RWI, Sell-side RWI |
| Premium | Typically 2-4% of coverage limits, decreasing due to competition |
| Underwriting Fee | Up to $50,000 for deals over $50 million |
| Indemnity Exposure | Covered by insurance, reducing need for holdback or escrow |
| Exclusions | Matters per underwriting policies, other specific exclusions |
| Process | Initial non-binding indication, due diligence, negotiation, binding |
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What You'll Learn
- Representations and warranties insurance (RWI) is a specialised insurance product designed for parties engaging in M&A transactions
- RWI provides insurance coverage for a seller's breach of representations and warranties in the M&A transaction agreement
- An RWI policy can be either buy-side or sell-side
- RWI policies are heavily negotiated and are designed to insure matters that happened pre-closing
- RWI is rising in popularity due to falling costs, quicker underwriting and improving policy terms
Representations and warranties insurance (RWI) is a specialised insurance product designed for parties engaging in M&A transactions
Representations and warranties insurance (RWI) is a specialised insurance product designed for parties engaging in merger and acquisition (M&A) transactions. It provides insurance coverage for a seller's breach of the representations and warranties it makes in the M&A transaction agreement. RWI is also known as warranty and indemnity (W&I) insurance.
RWI policies are obtained via specialty insurance brokers. The broker collects basic information about the transaction and prepares a submission summarising the transaction structure, the nature of the business, and the scope and material terms of the coverage sought. The overall process may take two to three weeks, including several business days for the underwriters to review submission materials and issue non-binding indication letters (also known as quote letters) and approximately one to two weeks for the formal underwriting process, underwriting call, and policy wording negotiation.
RWI policies can be either "buy-side" or "sell-side". When the buyer is the insured (a buy-side RWI policy), RWI can reduce or eliminate the need for a holdback or escrow because the buyer can pursue the insurance policy instead of pursuing the sellers. When the sellers are the insured (a sell-side RWI policy), they remain liable to the buyer pursuant to the underlying acquisition agreement, but the insurance policy serves to protect the sellers against covered losses when the buyer seeks indemnification from them with respect to breaches of their representations and warranties.
RWI policies typically do not cover purchase price adjustments, breaches of covenants or forward-looking statements, or underfunding of employee benefit plans. Every RWI policy includes a section that provides for exclusions from coverage, notwithstanding the event otherwise constituting a loss. There are generally two categories of exclusions: matters that the insurance carrier will not offer coverage under as a matter of its underwriting policies, and matters that the insured is required to notify the insurer of breaches or potential financial losses that may erode the deductible or cause a claim against the RWI policy.
RWI is billed as a win-win for buyers and sellers. Buyers get better representations and warranties coverage in terms of scope and survival period, while sellers eliminate the classic ~10% indemnity escrow and, in some cases, successfully negotiate for the elimination of all indemnity obligations in respect of representations and warranties.
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RWI provides insurance coverage for a seller's breach of representations and warranties in the M&A transaction agreement
Representations and Warranties Insurance (RWI) is a specialised insurance product designed for parties engaging in mergers and acquisitions (M&A) transactions. It provides insurance coverage for a seller's breach of representations and warranties in the M&A transaction agreement. RWI is a critical component of M&As, with many deals not pushing through without it.
RWI offers protection to both buyers and sellers in M&A transactions. For buyers, RWI provides coverage for financial losses resulting from a seller's breach of representations and warranties in the acquisition agreement. This allows buyers to recover losses directly from an insurer, rather than pursuing the seller, who may not have the assets to satisfy the claim. Additionally, RWI extends the duration for representations and warranties, enabling buyers to identify and report problems with the acquired business and seek reimbursement from the insurance company.
For sellers, RWI can protect against indemnification risk, including passive and minority sellers who may not be involved in the day-to-day operations or specific negotiations. It eliminates the need for a large escrow account, allowing sellers to receive more proceeds at closing and make larger distributions to investors. In some cases, RWI can also help negotiate the elimination of all indemnity obligations regarding representations and warranties.
The process of obtaining RWI coverage typically involves three stages: the proposed insured, an insurance agency, and insurance underwriters. The overall timeline can range from two to three weeks, including the review of submission materials, the underwriting process, and policy wording negotiation. Insurers respond with non-binding indications of coverage, known as Non-Binding Indication Letters (NBILs), before conducting their due diligence review of the transaction.
While RWI provides valuable protection, it is important to note that it does not cover all types of breaches. It specifically covers breaches of representations and warranties, but not covenant breaches, purchase price adjustments, or other payment obligations that may arise under the acquisition agreement. Additionally, RWI policies include exclusions, such as pension underfunding, certain environmental liabilities, and pre-closing taxes, where coverage may be limited.
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An RWI policy can be either buy-side or sell-side
Representations and Warranties Insurance (RWI) is a specialised insurance product designed for parties engaging in mergers and acquisitions (M&A) transactions. It provides insurance coverage for the seller's breach of representations and warranties in the M&A transaction agreement. An RWI policy can be either buy-side or sell-side.
When the buyer is the insured, it is a buy-side RWI policy. In this case, the buyer can seek indemnification from an insurer for losses covered by the policy. This type of policy is often used to enhance the buyer's bid for a desirable target entity. It also protects deal relationships and maximises the sellers' internal rate of return (IRR). Additionally, it can facilitate acquisition lending and bridge the gap in indemnification terms.
On the other hand, a sell-side RWI policy protects the sellers when they are the insured. It shields them against covered losses when the buyer seeks indemnification for breaches of representations and warranties. This type of policy adds certainty to the purchase price and maximises IRR. It also protects passive and minority sellers who may not have been actively involved in the target entity's operations or the specific negotiation of representations and warranties.
In the US market, buy-side RWI policies are more prevalent, comprising the majority of RWI policies issued. However, sell-side policies also have their advantages and can be beneficial in certain situations. The choice between a buy-side or sell-side RWI policy depends on the specific needs and circumstances of the parties involved in the M&A transaction.
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RWI policies are heavily negotiated and are designed to insure matters that happened pre-closing
Representations and Warranties Insurance (RWI) is a specialised insurance product designed for parties engaging in merger and acquisition (M&A) transactions. It provides insurance coverage for the seller's breach of representations and warranties in the M&A transaction agreement. RWI policies are designed to insure matters that occurred before the closing of the transaction, rather than during the policy term. This is because RWI policies operate on a "claims-made" basis, which is common to all claims-made policies.
RWI policies are heavily negotiated, which is unusual compared to most types of insurance. This is because the pool of buyers of RWI insurance is limited, and these buyers are highly sophisticated. While many terms are now standardised, there are still several gaps in coverage that private-target M&A parties should be aware of when relying on RWI as their main or only indemnification solution. For example, RWI policies do not provide financial, tax, legal, accounting, or other professional advice. Additionally, RWI policies may not provide full coverage for matters such as Fundamental Representations or fraud.
The process of purchasing RWI coverage typically involves three stages: the proposed insured, an insurance agency, and one or more insurance underwriters. The overall process can take two to three weeks, including several business days for the underwriters to review submission materials and issue non-binding indication letters. The formal underwriting process, underwriting call, and policy wording negotiation typically take one to two weeks. However, quicker turnarounds are sometimes possible, depending on factors such as seasonality, transaction complexity, and the level of detail discussed during the underwriting call.
RWI policies can be either "buy-side" or "sell-side." In a buy-side RWI policy, the buyer in an M&A transaction recovers directly from an insurer for losses arising from certain breaches of the seller's representations and warranties in the acquisition agreement. This shifts the risk of such losses from the seller to the insurer and can reduce or eliminate the need for a holdback or escrow. On the other hand, in a sell-side RWI policy, the sellers are the insured, and the insurance policy protects them against covered losses when the buyer seeks indemnification for breaches of representations and warranties. In the US market, buy-side RWI is more prevalent than sell-side RWI.
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$35.62
RWI is rising in popularity due to falling costs, quicker underwriting and improving policy terms
Representations and Warranties Insurance (RWI) is a specialised insurance product designed for parties engaging in mergers and acquisitions (M&A) transactions. It emerged in the late 1990s/early 2000s as a niche tool to shift indemnification risk from the buyer to an insurer. RWI has gained popularity in recent years due to falling costs, quicker underwriting and improving policy terms.
RWI policies are well-suited to strategic buyers as they offer longer protection than most escrow arrangements and can be tailored to the specific contours of a deal. They are also adaptable to various deal sizes and business sectors, including healthcare, financial services, technology, and manufacturing.
The process of purchasing RWI coverage typically involves three stages: submitting underwriting materials and soliciting quotes, the formal underwriting process, and policy wording negotiation. The overall process can be completed within two to three weeks, with quicker turnarounds possible depending on various factors such as seasonality and transaction complexity.
RWI provides valuable downside protection for minority investors and can facilitate the transition of family-owned businesses by alleviating the need for indemnification by multiple family members. It also benefits sellers by reducing or eliminating the need for traditional holdbacks or escrows, allowing them to receive a larger proportion of proceeds at closing.
The increased capacity in the RWI market has led to more innovative and competitive offerings from carriers. Insurers are expanding their risk appetite to include more complex and higher-risk transactions, as well as offering coverage for smaller transactions. As a result, insureds benefit from improved policy terms and conditions at lower premiums.
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Frequently asked questions
Representations and Warranties Insurance (RWI) is a specialised insurance product designed for parties engaging in merger and acquisition (M&A) transactions. It provides insurance coverage for a seller’s breach of the representations and warranties it makes in the M&A transaction agreement.
The process usually involves two parts: an initial non-binding indication of interest, followed by an underwriting/due diligence process that requires payment of an upfront underwriting or due diligence fee. After the insurer’s due diligence, the insured will then negotiate the specific terms of the policy.
RWI is billed as beneficial for both buyers and sellers. Buyers get better representations and warranties coverage, while sellers eliminate the classic indemnity escrow. RWI can also be used to supplement the sellers’ indemnification obligations and facilitate acquisition lending.
