Analysis of Recent Trends in Warranty Insurance in Private Equity M&A Transactions

Although Warranty Insurance in M&A transactions was a novelty product five to ten years ago, Warranty Insurance has now become an industry standard in Europe, largely thanks to its wide use by private equity firms who have been at the forefront of this trend. Not only is Warranty Insurance popularly used by private equity funds to “bridge the gap” between the buyer and seller in M&A negotiations, it has become a powerful tool to achieve cleaner exits through the reduction of residual seller liability (allowing private equity funds to return 100% of the purchase price proceeds to their investors immediately post completion). This Insight looks at the current trends in the use of Warranty Insurance in private equity transactions.

What is Warranty Insurance?

Warranty Insurance is a product designed to protect the seller or the buyer in an M&A transaction for a breach of the seller warranties. By way of background, there are two main types of Warranty Insurance: “Buy-Side Warranty Insurance”, where the buyer is the insured party, and “Sell-Side Warranty Insurance”, where the seller is the insured party.

Buy-Side Warranty Insurance covers the buyer for losses where the buyer is not able to recover from the seller for a breach of warranty as a result of either (i) the seller’s aggregate cap on liability under the related SPA being too low, (ii) the time limit for recovery under the warranties having expired or (iii) the seller not being able to pay amounts due for whatever reason (such as insolvency, corporate dissolution, etc.). Buy Side Warranty Insurance is generally structured either as “top-up policies,” which extend the warranty period and/or the aggregate cap on liability for a breach of a warranty, or as “parallel policies,” which allow the buyer to recover under the Warranty Insurance if the seller does not comply with its payment obligations for a breach of a warranty.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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