Definitions in Acquisition Agreements
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Defined Terms in Agreements
Agreements will also contain a list of defined terms. This is done to ensure certainty over what is meant by certain phrases. This is nothing specific to M&A or W&I and most contractual documents have defined terms in them. For the purpose of W&I insurance, there are some key defined terms that need to be drafted in a certain way in order for the insurer to provide cover.
Disclosed / Fairly Disclosed
The first such definition is what is meant by the term “Disclosed” or sometimes “Fairly Disclosed”. The disclosed definition is important because it is used to decide when information given by the seller’s to the buyers should be considered sufficiently disclosed. This is key because the buyer can’t claim under the policy or agreement for anything that has been disclosed. Therefore, the insurer will want a really wide definition that catches all information and considers it disclosed no matter how potentially ambiguous that information could be. However, the buyer will want a very narrow definition of disclosed so that only information which clearly shows the impact and consequence of that information is disclosed.
Sellers' Knowledge
Another important definition is “Sellers' Knowledge” (sometimes called something different such as “Awareness of the Sellers’”) which is used in agreements to qualify warranties. Some warranties will often be qualified by the knowledge of the sellers’ so that a warranty is true only “to the knowledge of the sellers’”. Proving a warranty was wrong suddenly becomes very difficult if you have to consider what the sellers actually knew. It is very difficult to be actually sure of what the sellers knew at the time of giving a warranty. Therefore, the insurer wants a very narrow definition of sellers’ knowledge so that only the actual knowledge of the sellers’ is included. However, the insured will want a very wide definition so that included is information that the sellers should or ought to have known. This is called constructive and implied knowledge and refers to what the sellers would have known if they were held to a high standard.
Insurers will also want the definition of “Sellers’ Knowledge” to only refer to specific identifiable individuals. This is to ensure that those individuals have a good handle on the disclosure process (the process of disclosing information to the buyers). If the definition referred to any number of sellers then included in that could be people who don’t have a good understanding of the target company and therefore might be holding back important information from the buyer (remember the buyer can’t claim for what they already know so it is important all useful information is disclosed to them).
Loss
The definition of “Loss” can also be important to the insurer. This definition is only important when a breach of the warranties will allow the buyer to claim for “Loss” under the agreement. Understandably, the buyer will want the definition to be as wide as possible so that they can claim for as many things as possible. A wide definition will always include items such as consequential loss, indirect loss and loss of profits. These are losses that might not directly occur as a result of a breach of warranties and therefore there can often be debate about the true cause of the loss and whether it could have been avoided. The insurer will want a very narrow definition of Loss which only includes direct loss that has been directly caused as a result of the breach of warranties. Currently, it is not very common for insurers to cover indirect and consequential losses and regardless of the definition there will often be a clause in the policy which expressly carves out these elements from the definition of “Loss”. However, this is an areas of potential change and insurers may offer as an enhancement to their coverage the ability to cover these more remote elements of loss.