Approaching the end of a business sale process may bring thoughts of celebration, but acquirer protection is a top concern for legal teams. After due diligence, buyers use warranties and indemnities to fortify their position against post-deal surprises.
Warranties vs. Indemnities: Unveiling the Distinctions
Warranties affirm your business’s health, vouching for truthfulness, while indemnities commit to compensating the buyer for post-transaction liabilities. Warranties ensure truthfulness; indemnities ensure compensation for specific circumstances.
Warranties: Navigating Buyer Beware
In business transactions, warranties, initiated by due diligence, are contractual statements. Queries from the buyer’s team receive responses, creating a detailed section in the sale and purchase agreement. Accuracy is crucial to avoid post-sale liabilities.
Warranty Liabilities: Limitations and Protections
Warranties are enforceable but often have cost limitations. Claims may trigger after a ‘de minimis’ threshold, with a maximum payout ceiling. To ease seller concerns, warranties should have a specified time limit.
Indemnities: Unilateral Protection for Buyers
Indemnities shift concerns from buyer to seller, addressing post-deal risks beyond the seller’s initial knowledge. Unlike warranties, indemnities solely favour the buyer.
These issues can bite you months or years after the champagne has gone flat – and may lie beyond your knowledge at the time of the deal. An example might be an accident at work that happens on the day of the transaction, with the implication of compensatory payments to the injured individual. An indemnity would transfer the risk and cost back to you.
Another possibility is an adverse tax judgement. The UK’s HMRC tax regulations provide a good example of how this might occur. Under IR35, the authorities might decide that your contractors or freelancers were actually your employees, leading to a large tax liability and bill for the business.
Limiting Exposure: Negotiating Indemnity Terms
Indemnities can be financially impactful, potentially reaching the entire purchase price. Negotiating for a capped indemnity and a specified duration is crucial. Engaging an experienced M&A lawyer is vital for a successful deal.
With so much at stake, it is vital when selling your business to appoint a good corporate lawyer with years of M&A experience. Most entrepreneurs underestimate the importance of getting this part of the deal sorted out correctly. The upfront cost is likely to be high, but a smallish proportion of the eventual sale proceeds, and far less painful than facing a damaging liability payout further down the road.
Insurance: Ensuring Peace of Mind
Exploring warranty and indemnity insurance provides added peace of mind for sellers. Premiums depend on due diligence depth, underscoring the importance of comprehensive information in the virtual data room.
In the intricate landscape of business transactions, understanding warranties and indemnities, guided by expert legal advice, ensures a smoother journey to a successful deal.