Hong Kong Professional Liability Regional Symposium Emerging Products for Emerging Markets: Warranty and Indemnity Insurance

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Vernon Ramsey
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1 Hong Kong Professional Liability Regional Symposium Emerging Products for Emerging Markets: Warranty and Indemnity Insurance 24 September 2013 Hong Kong

2 Warranty and Indemnity Insurance: 101 A transaction based product Warranties given by Seller to Buyer in respect of the Target Business Policy sits back-to-back with liability associated with a breach of any one of those warranties or indemnities What does the policy cover? Loss arising to either Buyer or Seller in the context of a transaction Specifically, financial loss arising due to an inaccuracy of a warranty or indemnity given by the Seller to the Buyer in a Sale Agreement Buyer Purchase Price $$$ Warranties Sellers Target Business

3 A claim under the Sale Agreement triggers a claim under the W&I policy How is the policy triggered? Breach: If a warranty is found to be inaccurate post transaction, the warranty is said to be breached Entitlement to claim: Buyer has the right to claim against the Seller for the loss associated with that breach under the terms of the acquisition agreement Financial loss: Buyer must have suffered a financial loss Who buys the policy? Either the Buyer or the Sellers Often the premium cost is shared

4 Examples of insurable warranties Title Warranty: The Shares of the Target Company are fully paid and not subject to any encumbrances Financial Warranty: The accounts have been audited and give a true and fair view of the financial condition of the Target Company Insurance Warranty: No notice of any material insurance claims has been received Other examples: compliance with laws, employment conditions, taxation law, no litigation etc Sale Contract between Seller Target Business and Buyer Warranty 1... Warranty 2... Warranty 3...

5 Buyer s Warranty and Indemnity Policy Transaction Value $100m Buyer s risk Insured: Buyer Objective: To provide coverage against financial loss suffered as a result of an inaccuracy of a warranty given by the Seller to the Buyer in the Sale Contract Policy Limit: Determined by Buyer s risk appetite $50m Limitation of liability for breach of $25m warranty or indemnity Seller s risk Protect against financial loss suffered by Buyer Insurance policy

6 Seller s Warranty and Indemnity Policy Transaction Value Buyer s risk Insured: Sellers (Warrantors) Objective: To provide coverage in the event the Buyer sues the Seller for a breach of the Seller s warranties or indemnities Limitation of liability for breach of warranty Seller s risk Protect against financial loss suffered by Seller Insurance policy

7 Motivation for Warranty and Indemnity Insurance Buyers: Investing in unfamiliar jurisdictions or industries Bid enhancement Deal facilitator: replace escrow, earn-out, parent guarantee Comfort to debt finance providers Protection where Seller s financial security is uncertain Sellers: Protect sale proceeds, allow full distribution Clean exit, fund wind up, cash extraction, estate planning Defence costs cover Match long period of liability post acquisition

8 A typical W&I Policy: What are the characteristics? Buyer s W&I Policy Type: When: Expiry: Limit: Claims made policy Policy can be placed before, during, or after a transaction Up to 7 years cover Typically 20-50% of EV How much? Price: Typically 1-2% of policy limit One off premium Deductible / Retention: Standard: 1% of EV 8

Growth potential of Asia: An active M&A market and W&I is under-utilised Asia: High level of M&A activity: US$279bn YTD Australia/NZ: M&A is US$46bn YTD, and yet

9 Growth potential of Asia: An active M&A market and W&I is under-utilised Asia: High level of M&A activity: US$279bn YTD Australia/NZ: M&A is US$46bn YTD, and yet contributes approx 60-70% of Asia Pac GWP for W&I Completed M&A AsiaPac (ex.jpn and AU) (US$) Completed M&A Australia (US$) Data Source: BofA Merrill Lynch Global Research, Dealogic

10 Market trends: Asia Pacific is an important region and insurers are responding Greater primary capacity New licences eg Lloyd s Japan Underwriters willing to consider complex deals in new jurisdictions W&I tailored to variety of deal scenarios and client needs PE continues to drive growth but not the only driver GWP per region: 2013 (pro-rata estimate) Data Source: Ironshore Global Data

11 Case Studies (1 of 3) : W&I used in sale of a Hong Kong Clothing Label Business Transaction: Clothing label business being sold by the founder manager and investors to PE for approx US$150m Insurance Need: Founder retaining minority stake and remaining as CEO post sale Buyer concerned about bringing a warranty claim against the CEO Buyer also cautious due to operations in unfamiliar territories across Asia W&I Solution: Buyer Policy for Seller s liability cap amount (approx 15% of EV) Deal facilitator: W&I enabled the transaction to proceed by addressing Buyer s acquisition risk and alleviating concerns in relation to a warranty claim made against the founder CEO

12 Case Studies (2 of 3) : W&I for a Chinese Retail Property Asset Sale Transaction: Chinese Property Co (subsidiary of an international retail business) selling a commercial property in Qingdao Province for approx US$70m; Insurance Need: Limited Recourse Seller wanted to distribute proceeds of sale to offshore parent Seller wanted to limit liability for warranties to US$500,000 Buyer concerned about limited recourse to the Seller W&I Solution: Buyer Policy; Premium paid by the Seller Deal facilitator: W&I offered protection to investment fund, and allowed Seller to distribute sale proceeds to its parent

13 Case Studies (3 of 3) : Chinese outbound investments and W&I Bright Foods Group Transaction: acquires 75% stake in Manassen Foods for approx AU$400m Insurance Need: Cautious Buyer; 1 st investment in wholesale food sector in Australia; limited recourse against PE Seller; 25% retained by s/holders Co-shareholder deal Transaction: Chinese shareholder (Buyer) increasing its equity stake from 10% to 50% in a food distribution business in Australia Insurance Need: Buyer required warranties to protect its acquisition price, however concern re disputes with co-shareholders W&I Solution: In both cases, Buyer W&I Policies; Premium cost shared with Sellers; Protection against the risk of a dispute among co-shareholders

Introduction to Warranty and Indemnity Insurance 18 October 2012

Introduction to Warranty and Indemnity Insurance 18 October 2012 Mergers & Acquisitions Insurance Group Adrian Furlonge Assistant Vice President Svetlana Soroka Senior Underwriter Introduction Background