Financial R&R: How Reps & Warranties Insurance Benefits Mergers & Acquisitions
By Alliant Specialty
Ron Borys and Ryan Farnsworth, Alliant Financial Institutions, welcome Jacob Borth, Alliant M&A, to discuss Reps & Warranties Insurance (RWI) in financial services transactions. The team discuss the current state of the RWI market and nuances of transactional risk insurance including ideal consumers, risk exposures, deal size and what buyers can do to differentiate themselves in a soft market.
Welcome to Financial R&R, a show dedicated to financial insurance and risk management solutions and trends shaping the market today. Here are your hosts, Ron Borys and Ryan Farnsworth.
Ron Borys (00:13):
Welcome everyone, I'm Ron Borys, I'm here with Ryan Farnsworth, and this is the Financial R&R. Today's topic is mergers and acquisitions in the financial services space. Ryan and I are thrilled to have a first timer on the Financial R&R, Jacob Borth, one of our senior leaders in our M&A practice who focuses on transactional risk type products. So Jacob, thanks for joining us today and we're looking forward to having a great conversation with you.
Jacob Borth (00:39):
This is fantastic, guys. Thanks very much for having me. I feel like maybe a little bit overdue, but welcome the opportunity to talk this afternoon, so thanks.
Ryan Farnsworth (00:46):
Well, Jacob, it's great to have you. And I know a lot of our clients, especially in the private equity world, are thinking that it's long overdue for a softer market generally, not just on the financial lines that we see in the management professional liability lines, but also in the representations and warranties insurance marketplace. Maybe talk about where we are with the marketplace right now, and then we'll dive into what's important to our listeners.
Jacob Borth (01:08):
I think one of the things that we certainly want to hit on here today is the rep and warranty market overall. More and more deals are being facilitated with rep and warranty insurance, meaning more and more rep and warranty policies are being placed as a percentage against the overall M&A market. And we say as much despite 2022 and 2023 being slower M&A years. That being said, this is evidenced by insurers’ continued profitability with the rep and warranty marketplace, as well as the continued capital that pours into this space. So again, I think in short, what we're seeing are more and more insurers who have piled into this space, certainly over the last three to five years, but more specifically to the last 24 months, really the intersection of a slowdown in deals and more insurers has created for a market that is undeniably soft.
Ron Borys (02:01):
I've been in the private equity space for a long time. It's amazing to me when transactional risk products first came out, it seemed like there was three or four, maybe five markets that would consider the opportunities. How many markets are you looking at right now? I know Ryan and I are seeing new markets every day in our space. I think we're probably at what, 35, 36 markets?
Ryan Farnsworth (02:21):
37 now actually since we started the podcast.
Jacob Borth (02:24):
Yeah and Ron, you hit the nail on the head. I think if you go back, even just a short handful of years specific to rep and warranty insurance for financial institutions, you'd maybe be looking at three upwards of five maximum. Right now, I would confidently say that the number of insurers who we could get quotes on on any given deal would easily triple for this industry class. It's not just a soft marketplace that's driving insurer interest in this. I do think that with a maturation of the product and more experienced underwriters and more experienced M&A individuals coming into the space, that has also led us to more interest in the industry class. But you're absolutely right, and I do think that, again, on any given one opportunity, we would very much expect 10, 15 quotes from the insurance marketplace on any financial services deal.
Ron Borys (03:18):
Yeah. Jacob, one of the misnomers that I would love to clear up is, a lot of times people think transactional risk, rep and warranty, I know I've spoken a lot with Dan Schoenberg about tax liability. Everybody always thinks it's private equity driven, right? It it's only for leverage buyout, sort of ,addresses risks associated with one company buying out another. But I can tell you firsthand from financial institutions’ perspective, we've done a couple deals with your team that are not a private equity firm buying a leveraged buyout of a full portfolio company in a leveraged buyout transaction. We've seen bolt on acquisitions, we've seen foreign transactions. So maybe you can talk a little bit about who the ideal customers are, what those exposures look like, what the deal size should be around for folks that want to consider rep and warranty insurances as part of an M&A transaction.
Jacob Borth (04:07):
I think that that marketplace also shifted over the years. I just recorded a podcast a few weeks ago and we were talking about the softer marketplace. Again, I think if you go back just a few years, insures four deals under, I would even say, $25 million in some instances, $50 and $75 million in enterprise value, you really would only have a handful of insurers who had a genuine interest underwriting those transactions. As the market stands in December of 2023, on any particular deal, we would easily get 10 plus, 15 plus quotes on any one deal. That being said, I do think that the lion's share of the deals that we're seeing, while we are very much focused on middle market, the lion's share of the deals that we're seeing are north of $50 million in enterprise value or purchase price up to a couple billion dollars.
So while you're absolutely right, Ron, again, that private equity is unquestionably a mainstay and unquestionably a driver for our product, certainly in financial institutions who aren't PE-backed, we've seen more and more transactions and we've seen the marketplace shift there as well. Specific to working with your group, I've worked on RIA transactions with a purchase price of $7 million. Put an asterisk next to that one. That one's a little bit of an outlier, admittedly, but again, $7 million all the way up to $2.5 billion for a wealth manager deal that we did a few years back.
Ryan Farnsworth (05:39):
I mean, it's no different than what we do every day with all of our clients, which is try to help them find the more rewarding way to manage risk. And what's the most efficient way to transfer risk? What's the most efficient way to manage risk with an insurance marketplace? As I think about all of those options that are out there, Jacob, what goes into underwriting these placements, is there anything that buyers can do to differentiate themselves or their transaction with the underwriters?
Jacob Borth (06:04):
Another great question, guys. I don't think it'll come as any surprise. First and foremost, for me is being out ahead of the process and having an experienced broker who can talk the talk and walk the walk for this industry class. I think you would be hard pressed to find a lot of brokers who necessarily know the difference between a hedge fund manager, a registered investment advisor, a wealth manager, a proprietary trader, etc. And I think that's where the marriage of our two groups is really a strong suit for Alliant and a strong suit for our clients. To better answer your question, Ryan, for me, that always comes down to the level of due diligence that the buyer is willing to conduct and getting reputable third parties engaged early in due diligence, the transaction in all material areas, so your capitalization documents, of course, your legal and compliance matters. Obviously, SEC, Department of Justice to right on down the line for financial institutions, network security and cyber, and it is nauseatingly at the tip of everybody's tongue. But that's the reality - diligence in all those areas is all the more important. And when an underwriter in our space sees that the buyer or the insured is asking the right questions and covering off those areas, it really makes the process that much smoother and it really gives the underwriters that much more comfort in what they're actually insuring.
Ron Borys (07:34):
That’s great, Jacob, really helpful. One of the other things that I think would be helpful to clear up for some of our listeners is, obviously most of our customers who approach us with a transactional risk opportunity probably purchase some other products, whether it's D&O, EPL, cyber, so on and so forth. How does the rep and warranty insurance supplement, interact? Do you need to have those coverages in place? Can you talk a little bit about the interplay between the rep and warranty contract and other coverages that the firm may have, either pre-close or post-close?
Jacob Borth (08:07):
Yeah, definitely. And that is one of the million dollar questions that every rep and warranty underwriter will be asking through the normal course of an underlying meeting. What underlying insurance does the target company have in place pre-transaction closing, and what will the post-close insurance program look like? So to the extent that there are holes in the D&O, E&O, cyber, employment practices liability, to the extent that there are holes in those coverages, the insurer's going to want to see that, okay, there is a hole, but is it being remediated? So there may be an issue with the target company's risk management program. What are we doing to address that? Rep and warranty insurers, Ron, and this goes back a little bit to the softer marketplace where we're at, a lot of them would only sit excess in no broader than any professional liability, existing professional liability policy, that has somewhat gone away, both as a function of the brokerage community pushing, as well as the marketplace being a little softer. So that absolutely is one of the main questions that those insurers will ask. And again, I think that kind of makes it all the more important to have a comprehensive risk management approach, not only to your day-to-day insurance program, but as our clients are going through transaction.
Ryan Farnsworth (09:32):
That's super helpful. Thank you, Jacob. Because a reps and warranty policy should be independent of itself and be able to underwrite to the risks that are being contemplated within the policy and gain that contract certainty. And I always thought it was a bit of an overreach by the insurers to try to indicate that coverage would somehow be subjective to other policies that were negotiated, perhaps even by other brokers and in other situations. So it's good to see that the policy is becoming more aligned with the actual risk that's being underwritten and priced for. The point made that you've been able to articulate pretty clearly that the more open that a buyer is with the underwriters and with the underwriting process, the more favorable the result will be, the more favorable the process will be, and positive engagement throughout the process will drive a much more favorable result. So at the end of the day, perhaps with how favorable the market is, we can only blame ourselves if we don't get an optimal outcome. It means that perhaps the process broke down somewhere and we can and should learn from that, but it's good to know that we have a team of experts and specialists who are doing this all day, every day in the reps and warranty space.
Jacob Borth (10:39):
And our team is a pretty cohesive unit, but all of us on the transactional team have upwards of 10 years of either insurance or M&A experience or both. The bulk of the rep warranty team and tax team were former underwriters as an example, as well as former corporate attorneys as well. I think that's boated well for our group and not only having the experience and the solidarity to work through a deal in real time, but also understanding M&A and talking to our clients and understanding what actually is being purchased and how they operate in a particular industry class.
Ron Borys (11:19):
Awesome, Jacob. We really appreciate your time and appreciate your partnership. Again, I know everybody likes to say they're the best, from what I've seen so far, our service, our expertise, our resources, our market relationships are right up there in driving outcomes for clients. So for anyone listening who's interested in learning more about what Jacob's doing in the Alliant M&A group or financial institutions, please feel free to visit our website at www.alliant.com. Thanks for listening. We look forward to talking to you all next time.
Alliant note and disclaimer: This document is designed to provide general information and guidance. Please note that prior to implementation your legal counsel should review all details or policy information. Alliant Insurance Services does not provide legal advice or legal opinions. If a legal opinion is needed, please seek the services of your own legal advisor or ask Alliant Insurance Services for a referral. This document is provided on an “as is” basis without any warranty of any kind. Alliant Insurance Services disclaims any liability for any loss or damage from reliance on this document.
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