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Private Equity Firms Benefit With Reps & Warranties Cover

Navine Aggarwal - Head of Americas, Mergers & Acquisitions - Ironshore International

Global mega-deals captured public market attention in 2015, and mergers and acquisitions activity within the private equity sector has continued to progress at a healthy pace throughout 2016. The attributes of today’s transaction environment are the same that drive private capital investment: low interest rates, strong cash reserves, motivated sellers and distressed targets.

Representations and Warranties insurance (R&W Insurance) for U.S. transactions has gained widespread popularity in this active deal climate. R&W Insurance offers coverage to both buyers and sellers for unknown and unintentional breaches of the representations and warranties in a purchase agreement. In lieu of a traditional indemnification holdback of some portion of the purchase price (typically around 10%), R&W Insurance shifts the risk of breaches of the representations and warranties to the insurer, who assumes that risk for a fee, allowing for more limited holdback (usually between 1% and 2%) of the purchase agreement.

Among private equity firms engaged in middle-market transactions, R&W Insurance has become particularly useful facilitating what might otherwise be challenging negotiations around post-closing indemnification provisions. As a result, the number of R&W Insurance policies underwritten in 2015 was close to double the volume from the prior year and covered deals across all business sectors, including those that are currently dominating investment interest such as healthcare, technology, media, consumer products and manufacturing. The coverage allows sellers to make a clean transaction exit with few contingent liabilities. Buyers also benefit from a sustainable business relationship with management and greater “collection certainty” when the transaction involves multiple sellers or, possibly, insolvent sellers. R&W Insurance can also be a crucial distinguishing factor in a buyer’s bid in a competitive auction process.

Reported market activity reveals that one in seven deals involves a dispute that results in an insurance claim. Disputes arise out of a range of transactional considerations including regulatory and compliance issues, financial matters and tax liabilities. Though coverage terms differ from deal to deal, R&W Insurance generally covers representations and warranties related to all of these areas. In a dispute-prone jurisdiction such as the U.S., R&W insurance is a credible solution for bridging gaps in deal negotiations and in managing post-closing claims.

While roughly ten percent of the U.S. market currently leverages such insurance for transactional advantage, R&W cover has long been a valued strategic tool within Europe and Asia and for burgeoning global cross-border activity. Notably, KPMG recently reported that nearly 80 percent of executives surveyed indicated that the U.S. was the most attractive region for M&A investment in the coming years. Transactional trending and heightened interest in U.S. assets signal opportunity for steady R&W Insurance demand for the foreseeable future.

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