Until now, the general approach has been that a company cannot claim privilege against its own...
When purchasing a business/shares, buyers want assurance that they will be getting what they pay for, without unexpected surprises down the road. This is where warranties and indemnities feature, acting as crucial safeguards to help protect a buyer from unforeseen risks and liabilities. Let us break down:
- what they are;
- why they matter; and
- how to approach them effectively.
What are Warranties and Indemnities
- Warranties
- These are statements made by the seller(s) about the condition of the business/company being bought. Think of them as promises: examples are - the financial records are accurate and complete, the shares are free from any charges or encumbrances, and there are no disputes or claims regarding the ownership or use of the company’s intellectual property.
- If any warranty turns out to be false, the buyer can seek compensation for the resulting loss.
- Indemnities
- Indemnities go further by covering specific risks, often identified during due diligence. Unlike warranties, which only compensates a buyer for a breach if it is proven that the warranty was untrue, indemnities ensure the buyer is reimbursed for known but unresolved issues, such as ongoing tax investigations or legal disputes. Buyers should negotiate indemnities to cover these specific risks, ensuring they are worded precisely to avoid ambiguity.
Why they Matter
Warranties and indemnities provide buyers with a safety net. If something goes wrong post-acquisition – be it hidden debts or an unresolved legal dispute – these clauses can protect the buyer from financial loss. For sellers, they offer a way to limit exposure by clearly defining the scope of liability.
Negotiating Warranties
- Tailor Warranties to the Deal: avoid one-size fits-all warranties. Customise them to address the specific risks of the business being acquired. For example, in a manufacturing acquisition, warranties around faulty goods are crucial.
- Set Clear Limits: sellers often negotiate caps on liability and time limits on warranty claims. Buyers should aim for reasonable limits – too low, and they can lose valuable protection; too high, and the deal could fall through.
- Ensure Accuracy: the warranties in the agreement should be looked at alongside a separate document called the "disclosure letter." In this letter, the seller(s) will list any issues they know of that could potentially affect the warranties, either by breaching them or providing exceptions, as of the date the warranties are made. The information in the disclosure letter helps clarify or limit the warranties. If a warranty turns out to be untrue, the buyer may have legal options against the seller(s), unless the issue was already disclosed in the letter. The warranties are usually detailed in a separate section of the agreement, and their exact terms are typically worked out through discussions and negotiations between the buyer, seller(s), and their legal teams.
Final Thoughts
Warranties and indemnities are essential tools for managing risk in acquisitions. For buyers, they offer peace of mind; for sellers, they provide clarity on potential liabilities. Whether you’re buying or selling, negotiating these clauses carefully is crucial to ensuring a smooth transaction.
If you would like tailored advice on how warranties and indemnities can protect your interests or in relation to any other corporate matter, please contact Sarah Ward, Head of our Corporate at sward@georgegreen.co.uk for advice and assistance.