Warranties and indemnities at the heart of the agreement
In the purchase agreement the buyer secures its expectations about the target through warranties and indemnities. Warranties (representations & warranties) are seller assurances about facts: that the accounts are correct, no hidden liabilities exist, key contracts are valid and no litigation looms. If a warranty later proves false, the buyer can claim damages.
Indemnities go further: they oblige the seller to fully indemnify the buyer against specifically known or suspected risks, such as a pending tax audit. Together they form the deal's liability framework.
The negotiation: liability scope, caps and thresholds
At the core of every warranty negotiation is the limitation of seller liability. Standard are a liability cap, often between ten and thirty percent of the price for general warranties, de-minimis thresholds and a basket below which no claims can be raised. Equally important are limitation periods, usually 18 to 24 months for general warranties and considerably longer for tax and fundamental warranties.
The quality of the prior due diligence heavily influences this negotiation: what the buyer examined and knew is harder to claim later. Professional due diligence support creates clarity on both sides.
Escrow as the classic security instrument
So that warranty claims do not run dry, part of the price is often held back in an escrow account at a trustee or bank. Typically five to fifteen percent for the duration of the warranty periods. A valid claim is served from the escrow; otherwise the amount flows to the seller after expiry. The downside for the seller is clear: a significant part of the proceeds is tied up for years. This is where W&I insurance steps in.
W&I insurance: transferring risk to a third party
W&I insurance (warranty & indemnity) transfers the risk of warranty breaches to a specialised insurer. With the common buyer-side policy, the buyer claims against the insurer instead of the seller. The seller gets a clean exit without long-term liability and can distribute proceeds immediately; the buyer gets a solvent debtor and avoids conflict with a seller often still in the business.
The premium is typically around one to one and a half percent of the insured sum, plus a retention. A robust due diligence is a prerequisite, as the insurer scrutinises the reports. A vendor due diligence considerably eases the underwriting process.
When W&I insurance is worth it
It is especially useful for sellers wanting a clean break, such as succession situations, private-equity exits or multiple selling shareholders, and where the relationship between buyer and seller continues after closing. For smaller deals the premium may be disproportionate, leaving the classic escrow more economical.
FAQ
Does W&I cover all warranties? No. Known risks, matters without sufficient due diligence and areas like pending tax proceedings are regularly excluded and still handled via indemnities or escrow.
Who pays the premium? A matter of negotiation, often the buyer or shared between the parties.
How long does a W&I policy take? With good preparation, two to three weeks is realistic. An existing vendor due diligence shortens it further.
30-day implementation plan
Week 1: Review the warranty catalogue and identified risks, set the negotiating position on caps, baskets and limitation periods.
Week 2: Check due diligence reports for insurability, close gaps and identify potential policy exclusions.
Week 3: Obtain quotes from W&I insurers and compare premiums and retentions economically with the escrow alternative.
Week 4: Finalise the security structure, bind the policy or negotiate escrow terms, and incorporate the warranties into the agreement.