Reps and Warranties issues in M&A

Representations and warranties (R&W) are fundamental components of merger and acquisition (M&A) agreements. They provide a factual framework upon which the transaction is based and serve to allocate risk between the parties. R&W are statements made by the seller about the condition of the target company and are critical in ensuring that the buyer has a clear understanding of what is being acquired. This article delves into the legal issues related to R&W in M&A transactions.

Representations are statements of past or present facts, while warranties are assurances that certain statements about the business are true. They serve several key purposes:

• Risk Allocation: R&W allocate risk by making the seller responsible for any inaccuracies or misstatements.
• Due Diligence: They facilitate due diligence by providing a framework for the buyer to verify the information provided by the seller.
• Indemnification: They form the basis for indemnification claims if the representations prove to be false or the warranties are breached.

Common R&W in M&A agreements cover a wide range of aspects about the target company:

• Corporate Status: Statements about the target's incorporation, existence, and good standing.
• Financial Statements: Assurances that financial statements are accurate and prepared in accordance with generally accepted accounting principles (GAAP).
• Title to Assets: Representations regarding the ownership and condition of the company’s assets.
• Contracts: Warranties that material contracts are valid and enforceable.
• Litigation: Statements regarding any pending or threatened litigation.
• Compliance with Laws: Assurances that the company complies with applicable laws and regulations.

A breach of R&W can have significant consequences:

• Indemnification: The buyer may seek indemnification for losses arising from the breach. The terms of indemnification, including survival periods and caps on liability, are typically negotiated in the M&A agreement.
• Purchase Price Adjustment: The breach may lead to adjustments in the purchase price or other forms of compensation.
• Rescission: In severe cases, the buyer may seek to rescind the transaction.

R&W often include qualifiers to limit the seller’s liability:

• Materiality: A materiality qualifier limits the scope of R&W to significant issues. This means the seller only represents and warrants facts that are materially significant to the business.
• Knowledge: A knowledge qualifier limits the R&W to what the seller knows or should reasonably know. This protects the seller from liability for unknown issues.

The drafting of R&W requires careful attention to detail to avoid ambiguities and ensure enforceability:

• Clarity and Specificity: R&W should be clearly and specifically drafted to avoid misunderstandings.
• Negotiation: Both parties must negotiate the scope and limitations of R&W, balancing the buyer’s need for assurance with the seller’s desire to limit liability.
• Integration: R&W should be integrated with other provisions in the agreement, such as covenants, conditions, and indemnification clauses.

Representations and warranties are critical elements in M&A transactions, providing a basis for risk allocation, due diligence, and indemnification. Understanding the legal issues related to R&W is essential for both buyers and sellers to protect their interests and ensure a successful transaction. Careful drafting, negotiation, and integration of R&W with other contractual provisions are crucial to avoid potential disputes and liabilities.

1. Harvard Law School. (n.d.). Mergers & Acquisitions
2. American Bar Association. (n.d.). Model Stock Purchase Agreement
3. University of Pennsylvania Law School. (n.d.). Representations and Warranties
4. Stanford Law School. (n.d.). Corporate Transactions
5. Georgetown Law. (n.d.). Indemnification Provisions in M&A Transactions
6. Columbia Law School. (n.d.). Corporate Governance
7. University of Chicago Law School. (n.d.). Transactional Law

Disclosure

This is not legal advice and are my solely held, and individual opinions. If you want to speak with me regarding the content or are in search of a lawyer please reach out here.