Representations and warranties (R&W) insurance coverage for a minority investment in an M&A or private equity (PE) deal is typically prorated to the amount of the minority investor’s post-closing equity stake.
For example, if the M&A or PE buyer is acquiring 38% of the target’s equity (on a post-close basis), then for a covered R&W loss incurred at the target level, the payment of policy proceeds will be equal to 38% of the face value of the loss. In other words, the buyer will recover $0.38 for every $1.00 of loss to the target.[1]
This approach calibrates the insurance coverage to the M&A or PE buyer’s loss exposure; the retention under the policy is similarly prorated, and buyers in these scenarios tend to purchase R&W coverage amounts that reflect a percentage of their investment amount, rather than the overall enterprise value of the target.
However, through conversations with our M&A and PE clients, we have learned that increasingly minority investors – for example, those who are obtaining more than 40% of the company’s equity or who will be the company’s single largest shareholder – find R&W loss proration unsatisfactory, believing that it fails to adequately compensate them for the true impact to their investment of target-level losses. These investors want more holistic protection for their bona fide expectations as to the health and prospects of a target.
R&W insurance underwriters are understandably reluctant to provide a policy that could substantially benefit an existing equity holder of the target by compensating for losses to the target business resulting from breaches of representations made by that very owner and provide what could be viewed as windfall proceeds to a buyer that only bears a portion of the target-level economic loss.
Despite the dynamic between R&W insurers and minority investors, WTW has recently found that non-prorated coverage for true minority investments can be obtained. We have negotiated non-prorated policies with several reputable, well-established R&W insurers and have confirmed their willingness to provide such coverage on a case-by-case basis, where appropriate.
We have bound several of these policies for M&A and PE clients, with more in the pipeline. In our experience, there are several key factors that can help get an underwriter comfortable with providing this coverage, including:
WTW understands the intricacies of R&W insurance and has negotiated full coverage for M&A and PE clients making minority investments. We also have the technical skills and relationships with R&W insurance underwriters to obtain favorable terms and conditions.
For questions about minority investments or any other transactional risk-related matters, please fill out the form.
WTW hopes you found the general information provided in this publication informative and helpful. The information contained herein is not intended to constitute legal or other professional advice and should not be relied upon in lieu of consultation with your own legal advisors. In the event you would like more information regarding your insurance coverage, please do not hesitate to reach out to us. In North America, WTW offers insurance products through licensed subsidiaries of Willis North America Inc., including Willis Towers Watson Northeast Inc. (in the United States) and Willis Canada, Inc.
