An interesting recent trend in the M&A space is the continued increase in the use of transactional insurance policies in M&A deals, particularly coverage for representations and warranties. Much of this growth has been driven by financial sponsors who in many cases use it strategically as a tool to differentiate a bid in a very competitive marketplace for deals. Understanding the development of this market and how this tool can be utilized effectively is more important than ever for M&A professionals so as not to be at a competitive disadvantage to firms who are actively working these insurance tools into their playbook in pursuing, structuring, completing and exiting transactions.
For example, Willis M&A placed approximately 60 representation and warranties policies in 2013 and 21 in the first quarter of 2014 on North American transactions, with a similar increase and an equal number of policies placed internationally through its London office in the first quarter of 2014. In North America, these policies represented a gross premium of approximately $19 million in 2013 and approximately $6.6 million in the first quarter of 2014. Much of this activity is driven by middle market transactions, but policies are also regularly being implemented in transactions valued in excess of $1 billion, particularly in sectors such as technology.
More than 80 percent of the policies placed are buyer-side policies, as buyers seek to proactively differentiate their bid by offering a more aggressive indemnity package that backstops the exposure via an insurance policy. That said, more frequently the sellers introduce the product into the transaction, as private equity sellers use transactional insurance to facilitate a clean exit with little or no indemnity by using a structured approach to introduce a buyer-side policy into the transaction. Nevertheless, there are still some situations where a seller-side policy is the best solution for the deal dynamics, particularly with late-stage private equity sellers.
Pricing has generally been in the range of 2.5 percent to 3.25 percent of limits, but can be higher on deals with no recourse to the seller and with deductibles at or near 1 percent of the purchase price. While exclusions for consequential and multiple damages can also be negotiated, this approach does result in higher pricing with an increased average rate, but it reflects the evolution of the market as more buyers seek to obtain this broadened coverage.
Bill Monat is Senior Vice President and Head of Transaction Solutions in the Mergers & Acquisitions Group of Willis North America.