In business acquisitions, it is common for the seller to provide certain warranties and indemnities to the buyer with respect to the business to be transferred. It is important for the buyer to ensure that the damages to be claimed under such indemnities and/or breach of warranties can actually be recovered from the seller.
To provide the buyer with that security, some form of security for the buyer's benefit is usually agreed upon in the purchase agreement. The following varieties of security are common in practice.
Vermogensinstandhoudingsverklaring
The (ultimate) shareholder of the seller issues a statement to the buyer in which the seller undertakes to keep a certain amount of capital available for a certain period of time (e.g. up to 18 or 24 months after the transfer), or at least to be able to liquidate it at very short notice, should the buyer have a claim against the seller. The seller's (ultimate) shareholder usually co-signs such a statement and personally guarantees the fulfillment of the obligations under the asset retention statement.
Providing this form of security is relatively simple and inexpensive, but offers the buyer only limited security. In the event of non-performance, the buyer will in principle only have a claim for breach of contract. The buyer will then still have to invest time and expense in getting the claim paid.
H&I insurance
W&I insurance (W&I stands for "Warranty and Indemnity") specifically provides coverage for damages suffered as a result of breaches of warranties and/or under indemnities. With W&I insurance, the risks arising from warranties and indemnities are placed with a third party, the insurer.
A seller is not always willing to provide extensive security because, for example, it wants to use the proceeds of the sale or distribute them to its shareholder(s). An S&I insurance policy can then provide a solution. The policy, like the purchase agreement, is subject to financial thresholds and liability and time limitations. Further, coverage is usually limited to breach of title warranties, standard business warranties and tax indemnities. The insurability of environmental warranties and product liability warranties is usually excluded.
The insurance premium varies from transaction to transaction and depends on the arrangements made. Provided the scope of the insurance is clearly defined, S&I insurance provides the buyer with a relatively high level of security. S&I insurance can be taken out by either the buyer or the seller, through a buyer's policy or seller's policy, respectively.
Escrow
The parties enter into an escrow agreement with a third party (the escrow agent) and agree to deposit a portion of the purchase price into a cash account held by the escrow agent as additional security for the seller's performance of its obligations under the warranties and indemnities. Typically, an escrow agent pays out to the buyer if a claim by the buyer against the seller under the warranties or indemnities is irrevocably established.
Anything not paid out to the buyer is paid out to the seller upon expiration of the escrow period. The disadvantage of escrow is that part of the purchase price is temporarily fixed and cannot be used for anything else during that period. The advantage for the buyer is that it offers relatively high security.
Concern guarantee
The seller's shareholder or another company belonging to the same group as the seller and which is sufficiently solvent, guarantees that the seller will fulfill its obligations under the purchase agreement, such as the obligation to pay compensation for breach of warranties or indemnities.
Providing this form of security is relatively simple and inexpensive, but offers the buyer limited security. In the event of non-performance, as with the asset conservation declaration, the buyer will in principle only have a claim for breach of contract. The buyer will then still have to put time and expense into getting the claim paid.
Bank guarantee
By means of a bank guarantee, the bank secures the fulfillment of certain obligations of the seller towards the buyer, such as the obligation to pay damages. Providing a bank guarantee often involves significant costs that are usually borne by the seller. A bank guarantee offers the buyer a relatively high degree of security.
