March 2025
REPRESENTATIONS & WARRANTIES INSURANCE (RWI): CLAIMS
Trends and Hot Button Issues
OVERVIEW
Unlike other insurance, RWI is a voluntary product. The continued success of the RWI market depends on insureds’ confidence that carriers will act commercially throughout the claim process and, ultimately, pay meritorious claims promptly. In this discussion, we will update the audience on the panel members’ experience, focusing on ways in which the market is meeting insureds’ expectations, as well as areas in which claim processes can be improved.
KEYS TO RWI COVERAGE — SETTING THE STAGE
To establish the right to coverage under an RWI policy, an insured must show that a representation in an acquisition agreement was breached and that the insured incurred damages arising out of or relating to that breach. If the insured establishes breach and loss, then, subject to the terms and conditions of the policy, the insurer is obligated to provide coverage unless it can prove that an exclusion applies.
CONTENTS OF CLAIM NOTICE
Most RWI policies require that a claim notice be submitted “as soon as reasonably practicable” after one of a group of specified persons knows or has reason to expect that a breach has occurred.
Policies also set hard deadlines, tied to expiration, for claim notices to be submitted. Given those policy provisions, claim notices are often submitted without perfect information. Insureds are free to supplement claim notices as additional information is discovered, loss quantifications are solidified, or additional breaches are uncovered.
Notwithstanding the foregoing, thoughtful analysis before submission can lead to a more efficient process, at least in the short term.
With the assistance of the insurance broker and other advisors as appropriate, an insured should carefully review both the acquisition agreement and the policy to make sure a contemplated claim is valid. Among other things, the insured should identify the section or sections of the agreement that were not true at the time the representation or warranty was made, review the disclosure schedules to make sure the item was not disclosed, analyze the policy to ensure that no deemed modifications or exclusions would bar coverage, and confirm that no deal team member had actual knowledge of the breach before the transaction occurred.
Because this analysis can often be time-consuming, insureds are sometimes caught between the duty to promptly submit RWI claims and the best practice of fully vetting claims before submission.
Though each situation is different, insureds will often err on the side of early submission to ensure prompt notice. When doing so, insureds should advise insurers that their investigation is ongoing. In some instances, the parties will agree that the insurer can defer its investigation of the claim to allow the insured to further its own investigation before claim adjustment commences.
INITIAL CALLS & INFORMATION SHARING
Many carriers initiate an early “initial call” shortly after receiving a claim notice. Insureds are also free to request such a call even if not offered by the insurer.
An early initial call — typically held within a few weeks of the claim submission — can have many benefits. Such calls have a humanizing effect, introducing the individuals from the insureds and insurers who will be working on the claim. They can also give insurers an opportunity to explain their processes and set expectations about what insureds will observe as the claim progresses. Many insurers utilize the initial call as an opportunity to have the insureds provide some additional color and context about the transaction, the target company’s business and, most importantly, the facts giving rise to the claim. By orienting the insurer early in the process, an insured can help focus the carrier’s investigation and avoid areas of inquiry that might not be relevant to the claim’s adjustment, all of which contribute to a more efficient claim process.
After (or in lieu of) an initial call, the insurer typically will transmit a “preliminary coverage letter,” which, most of the time, will not articulate a firm position as to coverage.
Rather, the letter will typically outline, in detail, what additional information and documents the insurer needs to be better positioned to do so, and reserve rights. Policies require insurers to substantively respond to claim notices as soon as reasonably practicable, and also set deadlines — often 30 or 60 days after claim submission — for insurers to either issue a determination or identify what additional information they need to complete their investigation. Because insureds generally bear the burden of proving their entitlement to coverage, insureds are advised to view information requests as an opportunity to educate the carrier on the facts that give rise to their claims. Insurers begin the claim process at an information deficit, and insureds should therefore help insurers get up to speed by providing relevant information about both breach and loss. Until an insurer has sufficient information to make a coverage determination, the insured cannot reasonably expect resolution of the claim
However, insurers should exercise reasonable restraint, recognizing that the claim adjustment process is not akin to litigation.
Requests for information should be targeted to facts directly relevant to the claim, and insurers should avoid overly broad or burdensome requests that seek far more than is necessary to adjust claims. In short, the parties must balance the insurer’s right to relevant information with the commercial reality that the insured is running a business and cannot be expected to dedicate full-time efforts to responding to insurer requests. Ultimately, open communication between the parties can help strike that balance.
UNIQUE ISSUES SURROUNDING THIRD-PARTY CLAIMS
RWI policies cover losses arising from both first- and third-party claims. In the first-party context, the insured asserts that a representation in an acquisition agreement was not true. Third-party claims, by contrast, arise when an outsider to the transaction makes allegations against the insured, which, if true, would reasonably be expected to result in loss arising out of a breach. Third-party claims include demand letters, lawsuits, tax audits, and other types of accusatory documents. RWI policies provide two types of coverage in the third-party claim context.
First, subject to the retention, insurers will pay reasonable costs and expenses incurred in defending third-party claims. Thus, if a matter falls within the definition of a third-party claim — that is, that the allegations, if true, would lead to loss arising from a breach — the insured will be entitled to recover reasonable defense costs.
Second, if the allegations are true — meaning that there is not just an alleged breach but also an actual breach — then coverage will also be available for loss arising out of or resulting from the breach. Nearly all lawsuits are contested, so an insured facing a third-party claim will oppose the plaintiff’s allegations while simultaneously asking the RWI carrier to cover a settlement.
With this dilemma in mind, RWI policies typically give insurers the right to consent to settlements of third-party claims (typically above a dollar threshold). The consent right provides insurers with an opportunity to vet the reasonableness of a settlement, with most policies stating that consent is not to be unreasonably withheld
While the settlement decision rests with insured, the consent right and related right to associate in the defense of the action permits the insurer to request relevant information, partner with the insured and, ultimately, withhold consent only if it deems an insured to be acting unreasonably.
With the foregoing in mind, it is vital for insureds to keep insurers apprised of significant developments throughout the life of a third-party claim and to promptly advise insurers when settlement discussions are underway.
SUBROGATION
Like the consent right discussed previously, insurers also maintain contractual subrogation rights with respect to payments made under RWI policies. In the RWI context, subrogation rights are subject to an important caveat: Insurers waive all subrogation against sellers except in the case of fraud.
Because insureds often pursue recovery for breaches from both sellers and RWI policies, it is important for insureds to protect insurers’ subrogation rights in the event of settlements with sellers. The safest way to do so is to expressly carve out fraud from any settlements between buyers and sellers. When such a carve-out is not possible, insureds should communicate with insurers to find commercial options to enable insureds to settle claims with sellers without prejudicing insurers’ rights.
Relatedly, insurers often seek to retain their subrogation rights upon settling RWI claims and routinely write such reservations into settlement agreements between insurers and insureds. In such instances, it is important to reserve both parties’ rights under the policies’ subrogation provisions.
For example, policies usually require insurers to pay expenses incurred by insureds with respect to amounts incurred assisting the insurers’ subrogation actions. Some policies also provide for reinstatement of limits to the extent that the insurer realizes a recovery. In the settlement context, if an insurer wishes to retain its subrogation rights, the insured’s associated rights should also be preserved.
CONCLUSION
Some RWI claims are straightforward, but others take time and expertise to manage efficiently. The industry is fortunate to have professionals with deep experience to help the process run smoothly. Carriers have dedicated representatives who understand the commercial nature of the product.
Law firms representing both insureds and insurers have practitioners with years of experience representing their clients and work collaboratively with one another to resolve claims efficiently and fairly. Financial advisors and other subject matter experts play a crucial role in working through complicated accounting and other specialized issues. And, finally, brokers with dedicated claims specialists work with all these individuals to ensure that claims are managed commercially and that meritorious claims are paid promptly.
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