PART 3: Tips for Negotiating Key Policy Terms
Introduction
Representations and warranties insurance policies are often viewed as relatively standardized products. While many policies share common structures and core provisions, important differences frequently exist beneath the surface. As a result, seemingly minor wording changes negotiated during underwriting can have significant implications when a claim arises.
For buyers and deal professionals, understanding these provisions is important not only when evaluating policy terms, but also when assessing how the policy may respond in the event of a post-closing claim.
Although no single provision determines the outcome of every claim, certain terms consistently play an outsized role in coverage disputes and recovery efforts.
This post highlights several policy provisions that warrant careful consideration during placement and underwriting.
Exclusions: Scope Matters
As discussed in Part 2 of this series, exclusions are often among the most heavily negotiated provisions in an RWI policy. Insurers frequently use exclusions to address identified risks, unresolved diligence issues, or areas where underwriting information is limited.
The existence of an exclusion is not necessarily problematic. Rather, the key issue is often how broadly the exclusion is drafted and how it may be interpreted in the future.
For example, an exclusion intended to address a specific diligence finding may appear relatively narrow during underwriting but later become the subject of competing interpretations once a claim arises. In some circumstances, disputes center not on whether an exclusion exists, but on whether the insurer’s proffered interpretation extends beyond the risk originally contemplated by the parties.
Accordingly, careful attention to exclusionary language during underwriting can help reduce uncertainty later in the claims process.
Materiality Scrapes and Loss Calculations
Materiality concepts are a common feature of purchase agreements. Representations may be qualified by terms such as “material,” “material adverse effect,” or similar formulations that limit the scope of potential breaches.
In the RWI context, however, parties often seek to eliminate or “scrape” certain materiality qualifiers when evaluating whether a breach occurred and calculating resulting losses. The rationale is straightforward: allowing materiality qualifiers to remain embedded in both the liability analysis and the damages calculation can effectively reduce recovery in ways that may not align with the parties’ intended allocation of risk.
While many RWI policies are designed to work alongside purchase agreement provisions addressing materiality, the interaction between the policy and the transaction documents is not always straightforward. Questions may arise regarding the extent to which materiality qualifiers are disregarded for purposes of coverage, loss calculations, or claim valuation.
RWI insurers are willing to add scrape language in transactions where the Seller has no indemnity obligation. For transactions where the Sellers have an indemnity obligation, however, the purchase agreement should set forth a double scrape.
Accordingly, buyers and deal professionals should carefully consider how materiality concepts are addressed in both the purchase agreement and the policy. Ensuring consistency between the two can help reduce uncertainty and avoid disputes if a claim later arises.
Interim Breach Considerations
Many transactions involve a period of time between signing and closing (often referred to as a “split sign and close”). During that interval, circumstances may change, new information may emerge, or potential breaches may be identified.
Most Policies contain provisions addressing how newly discovered information affects coverage during this period. Depending on the policy language and timing of the discovery, questions may arise regarding whether coverage remains available for a particular issue.
While these provisions may receive relatively little attention during a fast-moving transaction, they can become highly significant if new facts emerge before closing.
For transactions with interim periods in excess of thirty (30) days, the purchase agreement should provide a mechanism to capture interim breaches that are not insured by the RWI policy.
Policy Language and Purchase Agreement Alignment
Another recurring area of focus involves the interaction between the RWI policy and the underlying purchase agreement.
The policy does not exist in a vacuum. Rather, it is designed to insure the representations and warranties negotiated in the transaction documents. As a result, inconsistencies between the purchase agreement and the policy—for example, differences in defined terms, materiality concepts, loss calculations, or representation language—can lead to disagreements in the context of a post-closing claim. In particular, the definition of “Loss” or “Damages” in a purchase agreement should not include references to diminution in value, multiples, and the like. Any restrictions to indemnifying punitive damages and fines should have an exception for third party claims. Ensuring that the policy accurately reflects the parties’ intended allocation of risk can help avoid such disputes.
Looking Beyond Placement
Many of the policy provisions discussed above receive attention during underwriting. However, their true significance often becomes apparent only after a claim is submitted.
This is one reason why coordination among deal teams, brokers, and insurance professionals can be valuable throughout the placement process. Understanding not only how a provision functions at signing/closing, but also how it may be applied during a future claim, can help parties make more informed decisions when negotiating policy language.
Conclusion
Although RWI policies have become increasingly common, coverage outcomes often turn on specific policy language negotiated during underwriting. Exclusions, knowledge-related provisions, interim breach concepts, and alignment with the purchase agreement can all influence how a policy responds when a claim arises.
For buyers and deal professionals, careful attention to these provisions during placement can help reduce uncertainty and better position the parties if post-closing issues emerge.
This Series
This post is part of a series examining practical issues that arise throughout the lifecycle of an RWI policy, including:
- the interaction between RWI policies and purchase agreement remedies;
- common post-closing claim scenarios;
- the realities of pursuing recovery under RWI policies; and
- allocation and “no double recovery” issues in the claims process.