M&A Minute: Do I Need Both an R&W Policy and a D&O Policy?

As someone who seeks to minimize my clients' risks associated with Mergers and Acquisitions (M&A) activity, I often field some of the same questions. One of the most common questions my clients have is, "Why do I need a Representation & Warranty (R&W) policy if I already have a Directors and Officers (D&O) policy to protect me from possible M&A litigation?

The short answer is that these policies cover you for different problems. An R&W policy is a breach of contract cover, and a D&O policy is a breach of duty cover. In order to better understand these differences, let's examine the fundamental difference between the two policy types.

What Does an R&W Policy Cover?

R&W policies are essentially breach of contract policies. The claim is triggered by the breach of the seller's representations and warranties in the sale-purchase agreement of a transaction. In our practice, we have found that the buyer is the insured party in about 98% of M&A transactions. So the coverage is triggered by a buyer's claim of loss as a result of a breach of the seller's reps and warranties in the sale-purchase agreement.

One of the selling points for R&W insurance from the seller's perspective is that the buyer will often let the seller have a smaller escrow and then use the insurance to make up the rest. R&W policies typically have a deductible—or retention—of 1% of the transaction value, as opposed to the more common 10 to 15% of transaction value that needs to be held in a traditional escrow.

Therefore, when an R&W policy has been placed, the seller often has a small or even non-existent escrow. So the buyer, instead of going to going to the traditional large escrow, will go straight to the insurer to obtain reimbursement for the losses the buyer suffered because of the seller's breach.

What Does a D&O Policy Cover?

On the other hand, D&O policies are errors and admissions policies (E&O) or malpractice policies for a company's directors and officers.

One of the main functions of a D&O policy is to cover directors and officers against claims brought by their company's shareholders alleging a breach of the directors' and officers' fiduciary duties. D&O policies typically also provide balance sheet protection for corporate entities when such entities are named in the M&A litigation.

The size of any self-insured retention or deductible may depend on whether the claim is against the individual or the entity. This protection extends to the directors of both the buyers and the sellers from their respective policies.

Why You Need Both Types of Coverage

As you can see, each type of insurance plays a role in many litigation scenarios. A good R&W policy with robust limits can actually function as a bulwark against D&O claims.

If you have additional questions about how you can protect your company from possible M&A litigation, please reach out to your Woodruff Sawyer representative.