Insurance for corporate transactions, known as representation and warranty coverage (R&W), is becoming increasingly common among both buyers and sellers engaged in global mergers and acquisitions. Marsh says demand for R&W insurance has jumped 35% over the past 12 months, even as M&A fell.
“Demand for transactional risk insurance has soared as both buyers and sellers worry about how to protect their positions during a deal,” says Lorraine Lloyd-Thomas, senior vice president in the private equity and M&A practice at Marsh. “We are increasingly seeing sellers build transactional risk insurance into the M&A process in order to exit with minimal post-closing warranty exposure, while at the same time preventing buyers from seeking to reduce the purchase price.”
Another source of the increased demand, she says, is U.S. corporate buyers and sellers using R&W coverage to counter risks associated with investing in Europe and Asia. U.S. buyers account for 36% of R&W insurance purchased over the past year, with European firms accounting for another 52%.
Craig Schioppo, managing director for Marsh USA’s financial and professional group, says one change over the past year is that large corporations, including Fortune 100 companies, routinely obtained transactional coverage for “middle market” deals in the $50 million to $1.5 billion range. “For deals bigger than $2 billion, we don’t see the insurance coverage being purchased,” he says.
Typically, in an M&A deal, a buyer will contract for insurance that covers up to 10% of the price of a deal and protects the buyer from risks that may not have been adequately disclosed or anticipated by the seller, such as a potential lawsuit.
Schioppo says that even as demand for transactional coverage has grown significantly, rates held steady. “Over the past seven to eight years, rates fell by half,” he says, “but now, the increased demand is not pushing rates up.” While the premium for R&W insurance five years ago came to about 5% to 6% of the coverage amount, it is now down to about 2% to 3%. One reason, Schioppo suggests, is that the number of companies offering these policies has grown, increasing competition among providers. There are currently seven major companies offering transactional insurance policies, including Hartford, Chartis and Concord Specialty Risk.
Markus Bolsinger, a partner at the New York-based law firm Kirkland & Ellis, argues that R&W coverage is likely to become routine and increasingly in demand in M&A deals going forward.
“In the past,” he says, “you had an advantage in the auction process if you came in with a bid that included transactional insurance. Now you’re at a disadvantage if you don’t utilize it. That shift is the reason you’re seeing the big increase in demand for coverage.”
Many sellers are “baking the insurance” into their offering price by “having the buyers pay for insurance as part of the deal,” Bolsinger explains. In other cases, the buyer and seller split the cost of coverage.
According to Bolsinger, about 20% of M&A deals result in some type of claim against the seller, and between a quarter and a half of those claims result in some recovery.