R&W Claims 101: Factors to Consider Before Filing a Claim

Mergers and acquisitions have many moving parts, both before the transaction is completed and after the deal has closed. Having a reps and warranties insurance policy can make things easier for an insured if problems arise with the transaction. Before submitting notice of a claim to a carrier, it is helpful to first ensure you have all the information you need.

In this article, part four of a five-part series on the fundamentals of R&W claims, we discuss what to look for before filing a claim, subrogation rights, and how R&W policies work with other insurance policies.

Before Filing a Reps and Warranties Insurance Claim

When you are contemplating putting your R&W carrier on notice for a potential claim, there are multiple areas to consider. As discussed in a previous article, one must note that a breach of the purchase agreement has occurred and advise which reps in the agreement were breached. Damages must also have been suffered as a result. Below is a list of items that can help you determine whether coverage will be afforded.

• Retention. A self-insured retention (SIR) is like a deductible, and for the majority of reps and warranties insurance policies, the SIR drops down to a smaller amount after the first year. As most claims are submitted within the first year, carriers often halve the retention after that time has expired. Remember that your R&W retention is an aggregate SIR and any covered loss suffered by the insured due to a valid breach during your six-year policy erodes it. Your broker will track how much of the retention you have paid down and ensure the carrier is aware of and agrees with the total.
  Action item: Know your policy's retention, whether it has been eroded by prior claims, and what amount remains before the retention is exhausted.

• Policy period. Different representations covered by your policy may have different coverage periods—general reps usually have a three-year coverage period, while fundamental and tax reps have a six-year coverage period.
  Action item: Understand which representation was breached and if are you covered.

• Named and additional insureds. Who are the insureds? Subsidiaries and affiliates, among other entities, may be covered despite not being named.
  Action item: Look in the definitions of your policy to make sure the entities filing the claim are covered.

• Insured representatives. Members of the deal team—named in the policy as those who may have actual knowledge of a breach—should be those who were involved in all aspects of the transaction and diligence.
  Action item: Determine if it can be proven that the deal team members had prior knowledge relating to the claim.

• Disclosure schedules. These are written documentation of all relevant issues with the acquired business. They accompany the purchase agreement in providing comprehensive information about the target company—the seller must disclose anything that might cause problems and enumerate them in the schedules that correspond to the reps in the agreement. Have things that are problematic and later named as claims been previously listed in the disclosure schedules, and thus were known?
  Action item: Scrutinize your disclosure schedules.

• Materiality in representations. The policy will usually grant a double "materiality scrape." This means the materiality of the claim, whether the subject is at issue or the amount in damages, will not be considered when it comes to claims—therefore, the insured can even submit a claim for a $10 loss if they choose.
  Action item: See if your policy includes this wording.

• Knowledge requirement in representations. Do any of the representations contain a caveat requiring that the information is known to insureds? For example, a statement that no outside vendors will breach their contracts can't be guaranteed, so the carrier will qualify this language to limit potential coverage.
  Action item: Determine what language the carrier requires knowledge qualifiers for and whether it relates to your claim.

• Consequential and multiplied damages. Almost all carriers will routinely exclude both consequential and multiplied damages in their policies. However, if the purchase agreement is silent as to these two types of damages, those exclusions will be carved out of (i.e., deleted from) the policy. Carriers will agree to match silence with silence, so the policy no longer excludes coverage for those damages.
  Action item: Ensure there is no reference in the agreement for these types of damages.

• Arbitration clause. Does the policy require arbitration for any alleged claims instead of or prior to filing a lawsuit?
  Action item: Check the language in your arbitration clause.

Subrogation Rights

Subrogation allows carriers to pursue cost reimbursement from a third party that caused the insurance loss in the case of fraud. If the insured ultimately resolves a case where fraud by the seller is proven, the insurer will have the right to pursue recompense from the seller.

It is extremely important for the insured not to do anything that would damage or otherwise limit the carrier's subrogation rights, such as agreeing that the insured and its carriers dismiss the claim in its entirety without further recourse.

How "Other Insurance" Interacts with R&W Policies

Like all other policies, the R&W policy contains “other insurance" language.

This is to explicitly state that the R&W policy should not be thought of as a replacement for policies that would more directly and thoroughly respond to those types of claims. In addition, depending on the type of target and its industry, the carriers may specify that the R&W policy sits in excess of existing standalone insurance for certain areas.

The most common products where we see R&W policies specified as excess only are:

• Cyber insurance
• E&O/professional liability insurance
• Environmental insurance
• Medical malpractice insurance
• Employment practices insurance
• Product liability/warranty/recall

States' Differing Laws Increase Complexity

Since R&W policies are a much newer insurance product, the canon of applicable law that exists is still in its infancy.

Additionally, different states handle loss in different ways—each state has its own laws with respect to coverage under insurance policies, and some have a much more comprehensive body of laws than others on which to base future decisions. California, Delaware, and New York have the most settled cases and hence more to draw from when it comes to reviewing precedence. Other states with fewer settled cases may look to laws in these specific states.

Moreover, certain states will have public policy reasons to not cover certain areas, such as punitive damages or criminal fines.

The complexity of R&W claims means it's beneficial to have experienced claims consultants in your corner to guide you through the process and ensure you make informed decisions. Contact your Woodruff Sawyer representative to learn more about reps and warranties insurance policies and claims.

Woodruff Whiteboard Breakdowns: SIR vs Deductible