With the uncertainty brought about by the COVID-19 pandemic and resulting economic downturn, dealmakers have been watching the merger & acquisition (M&A) market with eagle eyes in order to gauge the potential impacts on transactions.
According to Joe Castelluccio, a partner in Mayer Brown’s corporate & securities practice, one thing has become abundantly clear amid the COVID-driven uncertainty, which is that dealmakers need insurance. Throughout 2020, Castelluccio identified a continued and increased desire among dealmakers to use representations and warranties (R&W) insurance in a wide variety of M&A deals.
Like the dealmakers, transactional liability underwriters got to grips with the uncertainties triggered by the pandemic “pretty quickly,” according to Castelluccio. After a brief pause in activity during March and April of 2020, when there were hardly any deals happening and not much underwriting going on, transactional risk underwriters suddenly re-adjusted and started re-offering insurance with exclusions for COVID-related business issues.
“Over the past six to eight months, those exclusions have become much more nuanced, tailored, and, in some cases, much more narrow, as different insurers figured out effective strategies to handle the risk,” said Castelluccio. “That quick adaptation mirrors a practice that’s happened more broadly in the [transactional risk insurance] market over the past few years, where underwriters have become incredibly sophisticated.
“Instead of excluding everything possibly related to COVID-19 and a deal from their policies, underwriters started to scrutinize industries and individual businesses much closer, especially regarding their COVID-related risk management and due diligence. For example, we’ve seen increased focus on companies that have taken PPP loans or have touch points with the CARES Act or other government-related pandemic responses. Based on answers to those questions, insureds get a policy with coverage that is tailored and specific to their needs, and with premium that they’re comfortable paying. At the same time, the insurers are comfortable that they’ve not insured a black box of risk.”
Over the past few years, transactional risk underwriters have also increased their appetite, both in terms of insuring deals in industries previously considered challenging to underwrite (for example, financial services), and underwriting deals with complex tax and regulatory issues (such as, deals in the renewable energy space).
“When you hear the terms transactional risk or transactional liability insurance, the most commonly used product is R&W insurance, but there are also a lot of specialty coverages that have arisen,” Castelluccio told Insurance Business. “There are specific policies outside of the R&W policy that cover specific risks - even known risks - as long as the underwriters can get their heads around what those risks are. For example, there’s tax risk (that’s probably one of the most popular specialty products) and there’s contingent liability risk in litigation or government investigations. Those policies tend to be much more bespoke; the premiums tend to be higher (unsurprisingly), and the limits can sometimes be much higher than you’d see in an R&W policy.
“The tax policies that are being underwritten, for example, are very specific and they cover very large potential liabilities. Companies are using these policies to move liability or reserves off their balance sheets; they’re very useful tools for that […] so I see this as a big area for growth. It’s not one-size-fits-all, and it’s certainly not for everybody, but the coverage is there.”
Moving forward through 2021, as dealmakers continue to grapple with a rather uncertain economic outlook, Castelluccio expects to see continued robust submissions flow in the transactional liability insurance market. He said: “Notwithstanding some short-term bumps in the road, whether they’re political issues or regulatory issues, I think the M&A market and the transactional risk insurance market are well poised for continued growth.”