The global boom in merger and acquisition (M&A) deal-making has triggered a surge in demand for reps & warranties (R&W), tax, litigation and other contingent insurance products. The M&A insurance marketplace has expanded rapidly in line with corporate M&A activity. According to global professional services firm and brokerage giant Aon, the number of insurers offering these coverages jumped from just six in 2014 to 20 in 2018 – and the demand for specialized brokers is equally high.
Aon’s global M&A Risk in Review report found that more than 34% of the North American M&A market used R&W insurance in 2017, up from 20% in 2016. Private equity buyers and sellers have a much higher participation rate than strategic buyers, but adoption rate among strategic buyers is increasing every year.
“We established our M&A practice in 2011 to address a need in the growing M&A market. Frankly, we’re quite astonished at how quickly the market has grown year-over-year,” commented Charles Fogden, national director Canada, Aon M&A and transaction solutions at Aon. “Very rarely now is a transaction contemplated or completed without discussion about transferring R&W risk, tax risk, or other contingency risk within the deal.”
Before the recent surge in the purchase of R&W insurance, deal-makers would collateralize R&W with escrow holdbacks. Simply put, they would withhold a portion of the purchase sum within an escrow fund to guarantee the outcome of R&W made by the seller. R&W insurance was initially developed as an alternative way to protect the seller, but it quickly transformed into a buyer’s product when private equity became interested in the efficiency of using insurers’ capital as a substitute collateral instrument. Fogden explained that it’s frequently more efficient to purchase R&W insurance than to strand money in escrow because insurance is less costly.
“It has become commonplace that insurance is now part of an M&A deal. It’s a very different story to five or six years ago, when the product was not trusted by businesses and the general understanding of the product was very low,” said Jason Stone, vice president, transaction solutions at Aon. “In the past few years, deal professionals (both principals and their advisors) have started to understand how the insurance works and have become comfortable using it as an alternative to traditional escrow funds.”
Insurance brokers have become “an essential part of the M&A process,” according to Fogden. R&W insurance took a while to take off because the players in the game lacked sufficient tools to carry out appropriate due diligence and deal with the legal intricacies of the transactions, he explained. Once education among deal-makers and insurance firms improved, an opportunity opened up for brokers to support clients with deep professional resources to advise on contentious issues within a deal, relative to R&W insurance.
“The leading brokers in this field are tolled with the appropriate diligence suites and networks,” Fogden told Insurance Business. “Deal teams looking to complete an M&A transaction should seek out a broker with all the tools in the toolbox to be able to close a deal. I like to use the house inspector analogy – if a seller says a roof was replaced three years ago, who is checking that statement on behalf of the buyer? The general rule of thumb is – no diligence, no insurance.”
As more and more brokers develop specialized diligence toolboxes, clients can be assured of better decisions with M&A insurance products, which will continue the boom in the market.