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The ability to “cap” or
transfer existing liabilities on the balance sheet to a third party
(i.e., an insurance carrier) is a financial risk strategy that is
once again gaining popularity and is increasingly being used by both
public and private companies to manage balance sheet risk. Simply
put, this “insurance for burning buildings” serves to create
certainty in an otherwise uncertain environment. While these
“capping” structures can cover many types of litigation, the most
popular typically include securities class action lawsuits,
environmental, employment and general liabilities.
These financial
solutions can be especially powerful in an M&A transaction when a
buyer conducts the preliminary due diligence on a potential target
and research uncovers a pending lawsuit or open ended liability. In
several recent deals procured by Worldwide, the use of these
solutions has eliminated the litigation hurdle and allowed the buyer
and seller to complete the deal.
Additionally, during the
past six months, we’ve seen a significant increase in the
utilization of these capping mechanisms by private companies who are
preparing themselves for sale. Capping an open ended liability at a
pre-determined amount often will result in a company being able to
attract more bidders and ultimately a higher sales price.
Subsequent to a
complimentary review by Worldwide to determine if a solution is
available, insurance carriers will often require an up front fee in
order to conduct due diligence necessary to adequately quantify the
risk and provide a balance sheet solution. This initial fee is then
credited towards the ultimate premium paid. The average time it
takes to secure a quotation is typically 10-14 business days.
Premiums will be predicated upon a number of different factors
including the amount of limits required, the type of
litigation/liability and at what stage the litigation is in.
Given the heightened
requirements of oversight and due diligence applicable to directors
and officers of both private and public companies, it is not
uncommon for senior executives, board members and outside advisors
to at least explore these solutions from a fiduciary perspective.
Brendan Williams is a
Senior Vice President with Worldwide Facilities, Inc., and the
Financial Risk Specialists (FIRST) Practice Leader for the Los
Angeles, Irvine, Chicago, Seattle, Phoenix, Hartford and Atlanta
offices of the Worldwide companies. The Worldwide Financial Risk
Services division is dedicated to the financial and professional
service marketplace and specializes in both standard financial risks
(D&O, EPL, E&O) and specialty risks (Representations & Warranties,
Tax Guarantee, Trade Credit, Litigation Caps/Buyouts). Williams can
be reached at (213) 380-4670 or via email at
b_williams@wwfi.com.
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