A laptop in a busy conference room

Considering a Merger or Acquisition? Don’t Forget to Think About Insurance

Nick Maletta
Nick Maletta
Client Executive, Property Casualty

Both 2020 and 2021 brought about a great deal of change — change that will inevitably shape the world going forward forever. While you may be impacted in various ways, I’d like to focus on mergers and acquisitions (M&As) for this blog.

In fact, consolidation or the M&As of firms have ramped up. Whether it’s part of a greater strategy to help bolster wounded firms coming out of a rough economic window driven by the pandemic, firms who have been challenged by their own corporate structure and perpetuation, or an exit strategy for those who hadn’t planned on the impacts of the last two years or how it affected their personal timelines, the trend in is very real.

According to a recent 2022 M&A trends survey published by Deloitte, 92 percent of respondents believe the “deal” volume will increase or stay the same over the next 12 months. This activity, especially in the professional services space, can be drastically impacted on how the deal is structured and where the liability will fall after the closing of the acquisition.

An important rule to remember — liability doesn’t just vanish in the language of a buy/sell contract. So, what all do you need to know, especially when it comes to insurance? I’ve identified some key tips below.

Business Merger Impacts on Insurance

If two firms are merging into one firm, there are many considerations that need to be contemplated. Although much of the attention will be placed on the marketing side of this transaction (i.e., logo and name moving forward), the insurance implications are paramount to review.

The insurance programs for each firm need to be evaluated and consolidated. This should be done by one insurance broker who understands the insurance and risk management issues and can coordinate the consolidation of both sets of policies.

The end product should be a single, cohesive program for the combined entity that picks up the prior liabilities of both firms. It should also involve the cancellation of the unnecessary policies in the most favorable manner.

Acquisitions and Ownership Change Impact Insurance

An imperative first step in the acquisition process is the acquisition structure. Whether the acquiring firm is buying stock (assets and liability) or just assets, it all starts with two questions — how do we want to roll this firm into our firms practice, culture, and structure; and what do we want to do with the liability?

It’s critical that each party to the transaction understand “who is responsible for what,” as it pertains not only to existing liabilities, but current and future insurance as well.

In any corporate transaction, the buyer will want to know what they are getting. They will, therefore, require (from the seller) a long list of representations and warranties whereby the seller provides the state of affairs of the business or assets that are being sold. These “reps and warranties,” as they’re known, can touch on just about anything from accounts receivable to tax treatments, physical assets, work-in-progress details, copies of standard contracts, large client contracts, etc.

All of this information is exchanged in the due diligence phase, and this leads to the questions you must consider and the strategy these answers present. This will be outlined in the customized buy/sell agreement.

Insurance Considerations in Buy/Sell Agreements

A large focus of the buy/sell agreement — and one that should not only be crafted and reviewed by your attorney, but also your insurance broker — is where the liability will fall after the closing of the deal. Many times, the intent and language crafted by attorneys do not always follow those practices and protocols required in the insurance policy.

There are several ways that coverage can be handled, but it will ultimately be controlled by the buy/sell agreement. It’s also important to consider all options as the cost associated with the options will assist in determining how the buy/sell agreement may be modified to fit everyone’s budget.

Here are some options we’ve seen:

  • Seller purchases extended reporting period (tail coverage) from their current insurance carrier. Any work in progress (WIP) would get re-written to a new contract with the buyer firm and is endorsed to the buyer’s policy. Sometimes this cost can be split or negotiated by the parties.
  • Buyer purchases extended reported period coverage (tail) for the seller. The WIP is endorsed to the buyer’s policy. Sometimes this cost can be split or negotiated by the parties.
  • Buyer assumes all prior acts and endorses the seller’s firm onto their policy. This blends the seller firm into the buyer’s policy. The WIP is not an issue with this option.

All the options carry a significant consideration for past and future liabilities, as well as expenses in closing the transaction. All of this should be considered early and proactively so as not to derail a potential closing at the final hour.

While I’ve touched on the many impacts of a firm’s professional liability coverage, keep in mind you must also consider other coverages and how they will be handled through these types of M&A transactions, including the assignment of insurance policies, other executive risk policies, standard auto and property coverages, workers compensation insurance, etc.

If you’re considering a merger, acquisition, or divestiture, please make sure you know all the angles and insurance implications. I’d be happy to discuss them all with you. All you need to do is reach out to us.

Explore more from Holmes Murphy