Abdulali Jiwaji, Jan Kraayvanger, and Bruno Rucinski discuss warranty and indemnity insurance, in Insurance Day

Introduction

Warranty and indemnity (“W&I”) insurance is now a familiar tool in private M&A, giving buyers a solvent counterparty for warranty risk and helping sellers achieve a clean exit. Case law from England and other jurisdictions confirms a consistent message: a W&I claim rises and falls on orthodox contractual questions of warranty construction, scope, and proof of loss.

Warranty interpretation and loss: Finsbury Food v Axis

In Finsbury Food Group plc v Axis Corporate Capital UK Ltd the buyer sought to recover under a W&I policy, alleging that certain warranties had been breached, reducing the value of the acquired business.

Contract interpretation

The court held that the trading-conditions warranty (the “TCW”) contained two distinct warranties and refused to import a 20% customer-loss threshold from one warranty into the material adverse change concept in the other. It found that the MAC concept required a decline exceeding approximately 10% of total sales over nine months, but this was a fact-specific finding. This head of claim failed on multiple grounds.

On the price-reductions warranty (the “PRW”), the court held the temporal trigger was when price reductions were offered or agreed, not when they later took effect, so reductions agreed in October 2017 but implemented in 2018 fell outside the warranty.

The case underscores that commercial common sense will not override the natural meaning of a provision.

Causation and Loss

Finsbury Food also underlines that causation and loss must be proved in the ordinary way — there is no change of approach in the W&I context.

The court found Finsbury would have paid £20m regardless: the price, fixed at 1x audited net sales, never varied; the seller would not have accepted less; and Finsbury's overriding strategic imperative was to re-enter the gluten-free market. Loss was therefore unproved even assuming breach.

Who knows when

The court in Finsbury Food also found that a named transaction team member had actual knowledge of the price reductions before completion. That finding engaged both the SPA knowledge exception and the policy's knowledge exclusion, providing an independent basis to defeat the claim. The court endorsed a “2 + 2” approach: where the constituent facts are known, the insured cannot avoid an "actual knowledge" finding by saying the obvious inference was not drawn.

Policy Construction and Exclusions: Project Angel v Axis

Project Angel Bidco Ltd (in administration) v Axis Managing Agency Ltd & Ors illustrates the risk of misalignment between the cover spreadsheet (which identifies “Insured Obligations”) and the policy's operative exclusions. The spreadsheet marked the SPA's bribery and corruption warranties (13.5(a)–(h)) as “Covered” – by contrast the policy excluded loss arising out of “any ABC Liability”, defined broadly to capture any liability or non-compliance with anti-bribery laws.

The insured contended that this “give with one hand, take away with the other” outcome pointed to an obvious drafting error.  It argued that the wording should be read as “any liability for actual or alleged non-compliance”, so that the exclusion bites on liability for ABC breaches rather than excluding cover for ABC warranties simply because the loss “arises out of” alleged non-compliance.

By a 2–1 majority, the Court of Appeal rejected a corrective interpretation. Even accepting an apparent conflict, the majority was not persuaded it was clear (i) that a mistake had been made (given a rational underwriting reason to exclude share-value diminution from mere allegations), nor (ii) that the proposed cure was clearly the right one (the "error" could equally lie in the spreadsheet's “Covered” designation rather than the exclusion wording).

The practical lesson is that “Covered” in a cover spreadsheet is not a trump card. Unless the policy expressly gives the cover spreadsheet priority, parties should assume exclusions can still remove cover and check bespoke definitions and exclusions against the coverage grid line by line during placement.

Due diligence requirements: judgment of the German Federal Supreme Court dated 15 September 2023 (case no. V ZR 77/22)

Although W&I insurance enables M&A transactions to be executed, it does not eliminate the need for careful due diligence by both the seller and the buyer.

In a judgment by the German Federal Supreme Court dated 15 September 2023 (case no. V ZR 77/22), it was noted that the seller must disclose to the buyer all information that a reasonable buyer would consider relevant when deciding whether to purchase the target. In particular, the seller must answer all reasonable questions posed by the buyer during due diligence to the best of their knowledge and belief. If the seller makes incorrect statements that cannot be based on reliable information, a wilful breach of a related guarantee will have been committed.

In such a case, the seller cannot exclude their liability and may be held liable by the buyer or, by way of subrogation, the insurer. Conversely, if the buyer does not diligently investigate the data room, they may lose their insurance protection, as W&I policies typically exclude warranty breaches if the relevant information has been disclosed to the buyer in a fair manner.

Conclusions

Given the significant sums often in play, claims under W&I policies can be hard fought. Although many disputes will be resolved prior to a court hearing, in England we are seeing more cases coming through the courts. Some key lessons from recent cases are:

1. Draft with forensic precision. Loose wording in warranties can lead to problems with claims, and ambiguity invites disputes.
2. Focus on the end game of damages/loss. If the contemporaneous evidence shows the buyer would have paid the same price regardless, no amount of hindsight modelling will manufacture a recoverable loss.
3. Scrutinise the W&I policy for consistency pre-completion. Cover spreadsheets, operative clauses and bespoke exclusions must be cross-checked line by line before completion.