A merger, acquisition, or other corporate transaction can raise a number of issues for the insurance coverage of the parties involved. The transaction may affect the parties’ current coverage and their rights under their historic policies. The parties will want to specify clearly the intended interplay of other aspects of the deal, such as indemnities, with available insurance. And the parties may wish to consider purchasing various types of insurance for aspects of the deal itself.
This post provides an overview of insurance-related issues that tech companies (and others) contemplating a corporate transaction should consider and address to avoid gaps in coverage, unpleasant surprises, or unnecessary disputes:
Corporate Transactions Can Affect Existing Insurance Coverage
Many insurance policies require notification to the insurance company if the policyholder under an existing policy undergoes a change in control, or acquires another company above a certain size. These events can have other effects as well, including the obligation to pay additional premiums to cover the new acquisition, or the conversion of Directors & Officers or other claims-made coverage to “run-off” at a change of control, which changes the scope of coverage as further discussed below.
In a corporate transaction, both the target company and the purchaser should review their insurance policies to determine whether the planned transaction triggers any such requirements, so as to maintain continuity of coverage and avoid gaps in protection.
A Change of Control May Require the Purchase of “Tail” Coverage
Directors & Officers insurance policies typically have a “change-of-control” provision that converts coverage to “run-off” if the policyholder is acquired, or otherwise undergoes a change of control. That is, there is no coverage for any claims arising from conduct taking place after the change of control, and claims based on conduct from before the transaction are covered only if the claims come in before the end of the current policy period. The company will need to purchase new coverage (or be integrated into the policies of its new parent) to have coverage for claims based on post-transaction conduct. These going-forward policies, however, will not cover claims arising out of pre-transaction conduct.
Given that most causes of action are subject to a multi-year statute of limitations, this creates the potential for a gap in coverage in situations where a claim comes in after the transaction alleging pre-transaction wrongful conduct, and the policy period of the target’s pre-transaction D&O policy has expired. To close this gap, the target company can purchase “tail” coverage, often as an endorsement adding an “extended reporting period” to its existing policy, extending coverage for pre-transaction conduct to claims coming in for several years.
Change-of-control provisions are most commonly found in Directors and Officers liability policies, but may appear in other types of claims-made policies as well. Parties to a transaction should carefully review the target’s insurance policies to determine which would need tail coverage to avoid a gap in coverage after a change-of-control transaction.
Purchasers Should Consider How A Target’s Insurance May Respond to Its Particular Exposures
Transaction documents often disclose, and make representations about, a target’s current insurance policies, as well as the policies in effect in the last few years. Whether a target has adequate current insurance is an important consideration, but, depending on the target’s particular exposures, the purchaser also should consider whether there is additional insurance coverage that should be reviewed, as well as how the transaction may affect that insurance. For example, is the target involved in long-running litigation that already has been noticed under liability policies in effect many years ago, and will the transaction affect the right to access that insurance?
Even if there is no present litigation, long-term latent injuries can trigger “occurrence”-based liability policies dating back many years, through the entire injury process. If the target may face this kind of liability exposure, the purchaser should determine whether it has historic liability insurance policies that may provide coverage, and whether the transaction will affect the rights to access that coverage.
Transactions May Affect the Rights to Access Historic Insurance Policies
“Occurrence”-based general liability policies respond to liabilities arising out of harm during their policies periods, even if the claim for that harm was not made against the policyholder until a later policy period. This is a particular issue with latent injury claims, but even for abrupt accidents, claimants often have multi-year statutes of limitations before they must bring their claims. Thus, a claim may come in after a transaction that alleges pre-transaction harm which would trigger a pre-transaction general liability policy. A frequent question that arises is whether rights to the proceeds of pre-transaction liability insurance for such claims have transferred in the deal. The answer can depend on the language and structure of the deal, as well as how the state law applicable to the insurance policies interprets the “anti-assignment” clauses found in many policies, and these issues should be considered in structuring transactions and evaluating existing and historic policies of the target.
Parties Should Consider the Interplay of Insurance with The Indemnities in the Transaction Agreement
Transaction agreements for corporate transactions often contain provisions in which one of the parties agrees to indemnify the other in various situations. The parties should consider whether they intend these indemnities to be excess to any insurance maintained by the indemnified party that may apply to the same loss. Expressly specifying in the agreement whether a particular indemnity is meant to be net of insurance will help avoid unnecessary disputes on this point after a loss arises.
An Acquirer Placing Its Own Personnel as Directors or Officers of A New Acquisition Should Examine the Interplay of the Multiple Lines of Insurance And Indemnity
While many purchasers will integrate a new acquisition into the acquirer’s own insurance program, this is not always the case. Private equity firms, for example, typically maintain separate insurance programs from their portfolio companies. As a result, if such a firm places its own personnel as a director or officer of an acquisition, that individual may be covered under two separate sets of Directors & Officers insurance policies—that of the acquirer and that of the acquired company. In addition, there may be multiple indemnifications available if that individual is sued.
Which line of insurance or indemnity responds to a given claim against such a director or officer may depend on how the claimant characterizes the individual’s role and alleged misconduct, as well as any language of policies setting out an order in which they respond. Companies should examine the interplay of the multiple sources of insurance and indemnity that may apply in such situations before a claim comes in, to make sure the arrangements reflect the parties’ intent, and that there are no gaps in coverage.
Parties to such an arrangement also should review the portfolio company’s Directors and Officers liability policies to make sure they do not contain overbroad “capacity exclusions” that bar coverage for claims arising out of allegations that the director or officer was acting in any capacity other than as a director or officer of the portfolio company. It is not uncommon for claimants to allege directors and officers in this situation acted wrongfully precisely because of their dual roles with both the private equity firm and the portfolio company. An overbroad capacity exclusion could have the effect of barring coverage for such claims by the very fact that the allegations are that the individual was acting in two capacities.
Parties Can Purchase Insurance Policies for Aspects of the Transaction Itself
In addition to considering the effects of a deal on present and historic insurance coverage rights, parties to a transaction can also purchase various types of insurance policies for aspects of the deal itself. Representation & Warranty insurance covers breaches of representations and warranties made by the seller and can provide flexibility in addressing the indemnification obligations in a transaction. An overview of Representation & Warranty insurance appears here.
Certain types of transactions may call for specific other types of insurance, including environmental impairment liability policies, political risk policies, and policies that cover the failure to qualify for expected tax or regulatory treatment.
Given the many insurance issues that arise in connection with corporate transactions, parties planning a transaction should carefully consider the effects it will have on the parties’ existing insurance, as well as any insurance arrangements that should be made as part of the deal itself. Experienced insurance coverage counsel can assist the parties in addressing these issues.