THE RISK:

Once you acquire your target company, you might choose to either add them onto your current policies or maintain a separate insurance program for them altogether. Depending on your new organizational structure, business goals, and the size of the seller’s company, it’s worth considering increasing your policy limits to accommodate the expanded growth and potential losses.

But whatever you decide, don’t leave insurance decisions to the last minute. It takes time to negotiate policy terms and determine pricing, especially for M&A transactions, which are complex in nature and involve multiple stakeholders. Delaying this process can lead to complications, including inadequate coverage and higher premiums.

Additionally, when taking on a businesses’ clients and relationships, certain contracts or jobs might require specific limits of insurance. For example, as the digital world grows, more and more clients, particularly those in the IT space, are requiring Staffing & Recruitment firms to carry high amounts of Cyber Insurance, with limits of up to $5 million or more, as part of their contract. Without proper research, you might not have the right coverage in place to protect your interests or meet client demands, putting you at risk of breach of contract.

PRO Tips:

Before finalizing the deal, conduct a thorough investigation of the seller’s insurance program to assess their existing terms and pinpoint any gaps or risks (more on this below). Review their client contracts to determine if there are any obligations, including insurance coverages or limits that your insurance program isn’t compliant with.

Bring on an insurance broker early in the process to discuss the sale and ensure no areas are overlooked. A broker can help you understand pre- and post-acquisition risks, advise you whether or not to add the seller to your current policy, have the seller maintain their own separate coverage, secure new insurance, and help you prepare for increased costs. Be sure to provide your broker with as much information as possible about the company you’re acquiring, as they’ll need to review this data and consider terms with the insurance company. This proactive approach will help mitigate risks, reduce costs, and ensure you have the appropriate coverage in place when the transaction closes.

RELATED: What’s an Insurance Broker, Anyway?

THE RISK:

When you purchase a staffing firm, you might only be acquiring just their assets. Or you could be purchasing the shares of the company, and all of the liabilities that come with it, as well. If you’re purchasing the shares, that means you’re also taking on their prior acts, including all current and past liabilities.

But no matter how diligently you vet a firm before acquisition, the unknowns about their past actions, management decisions, internal processes, regulatory compliance, and more pose a significant go-forward risk to your business. Any actions or events that occurred before the transaction could expose you to a range of potential lawsuits, claims, and unforeseen challenges that might not become apparent until well after the deal is sealed—maybe even years later.

Here’s where it gets tricky: by acquiring past liabilities, you’re now responsible for insuring any work that was done before the acquisition. If a claim occurs for past work, it’ll need to be reported to your insurance company, not the seller’s, unless you’ve made a critically important insurance coverage arrangement prior to the closing of the transaction. Depending on the severity of the claim, reporting can have major implications for your insurance. Your premiums might go up, or in extreme cases, your insurance might not get renewed.

PRO Tips:

Understanding and addressing past liabilities is a crucial aspect of the due diligence process in M&A transactions. You’ll need to thoroughly assess the target company’s historical operations, potential legal exposures, and existing insurance coverage to make informed decisions and effectively manage risks.

Whether or not you’re taking on prior liabilities, request the seller to provide full disclosure of any known circumstances that could result in a claim before the transaction. It’s their responsibility to inform you of any such events; failure to do so could constitute misrepresentation. If the seller is aware of any known circumstances that could give rise to a claim, insist that they report these events to their own insurance company, while their policy is still active. Finally, ask for a “loss run” or “claims letter” from their insurance carrier on each of their commercial policies so you can see what claims were reported in the past. The past is often a good predictor of the future.

For added protection, determine if the seller’s insurance policy is “claims-made” and if so, ask them to purchase an extended reporting period (ERP), also known as “tail coverage”. Most Professional Liability Insurance policies are claims-made; coverage will only apply to claims that are made against you and reported to the insurance company during the policy period. An ERP preserves the right for the seller to report a claim against their policy for a defined period of time following their policy’s cancellation or non-renewal. Specifically, that includes incidents that occurred while that policy was active, but you only become aware of following the cancellation or non-renewal.

While the duration of the ERP will depend on the policy type, contractual obligations, and risk profile of the target company, it’ll protect both of you by providing a safety net for the seller’s past activities once the acquisition is complete and their policy is cancelled or non-renewed. Plus, many client contracts require the vendor to maintain insurance for a certain number of years after the project is completed. You’ll need to consult the seller’s contracts to determine what the specifics of these contractual requirements are.

Keep in mind: you’ll need to decide which party foots the bill for the ERP. ERPs can be quite pricey, ranging from about 100% to 300% of the current annual premium, depending on how long you want coverage. Typically, the buyer might see an ERP as the seller’s responsibility since it covers past mistakes from before the sale. Conversely, sellers might view it as a buyer’s expense, as it reduces post-transaction risk. Every deal is different, but ERP terms should be negotiated before the transaction closes. Sometimes, the seller might pay upfront and your broker will hold the premiums until closing. Be sure to get the numbers and talk through options with your broker.

RELATED: The 8 Most Frequently Asked Questions About Professional Liability Insurance

THE RISK:

If you’re assuming responsibility for past work, you’ll need to align your insurance coverage with the historical timeline of the business. Remember, claims-made policies only cover incidents that were made and reported during the active policy period; they don’t extend coverage for acts occurring before a specified date, known as the retroactive date. The retroactive date marks when uninterrupted coverage was first attained. In some cases, it may even cover events preceding policy purchase, but this is rare.

Here’s an example: if a policy is active from January 1, 2024, but the retroactive date is January 1, 2023, incidents that occurred and are reported from January 1, 2023 onward will be covered. But if you weren’t aware of the seller’s retroactive date and only set up coverage to begin on January 1, 2024, you won’t be protected for any claims that arise from before then.

Additionally, you’ll also need to confirm if the seller had any breaks or lapses in coverage in their insurance history. For instance, suppose the business was open for five years before acquisition. Were all five years continuously covered by insurance? Did the owner go on leave or temporarily cease practice and cancel their policy? Even a single day without insurance can create problems if claims arise during those uncovered periods, leaving you without protection from both your policy and the seller’s.

PRO Tips:

If you’re taking on prior acts, request a copy of the seller’s Professional Liability Insurance and share it with your insurance provider or broker. This way, you can verify if the target company consistently maintained insurance coverage throughout the policy period and take steps to ensure adequate protection.

You can also have your broker carry over the retroactive date and match the terms on your policy. This will ensure smooth and seamless transition of coverage and prevent gaps, ensuring there are no periods where the business is left vulnerable due to lack of insurance continuity. However, carrying over the retroactive date can often lead to a premium increase for the buyer, and it exposes your policy to incidents that occurred prior to the acquisition. In some cases, it might make more sense to opt for an extended reporting period.

THE RISK:

All companies should proactively obtain a Directors & Officers (D&O) Insurance as part of their risk management strategy. D&O Insurance protects business leaders and board members if they’re personally sued for any actual or alleged wrongful acts in managing the company, such as poor governance, failure to act, financial losses, tax liabilities, and more. In today’s society, where corporate practices are under greater scrutiny, claims of mismanagement can have serious consequences. A D&O Insurance policy will help safeguard both your corporate and personal assets and it can be relatively affordable to purchase when first quoted.

However, many sellers tend to put off buying this coverage until after signing the Letter of Intent. This delay can lead to significantly higher premiums, sometimes increasing by five times or more. Insurance companies are likely to raise premiums due to the urgency of securing coverage during an acquisition and the heightened risk of potential misrepresentations from the seller. As a buyer, it’s beneficial for the seller to have a D&O Insurance policy in place before starting the transaction to cover pre-acquisition decisions. But, if it’s not in place, making it a condition of the sale can complicate matters due to the potentially high cost of coverage when the transaction is already in progress. Having the option to claim against a policy, rather than relying solely on escrow or the previous owners personally, can avoid uncomfortable conversations and protect your investment in the acquisition, especially if the seller’s shareholders are critical employees post-transaction.

PRO Tips:

Acquiring a company poses significant risks for your organization, from ensuring proper disclosure to shareholders and aligning shareholder interests to managing the financial strain of the purchase and potential employment practices risks post-acquisition. D&O Insurance offers the potential to transfer the financial exposure of these risks from your balance sheet to an insurance policy. Given that lawsuits from shareholders and employees can quickly escalate to tens of thousands of dollars, the cost of a D&O policy is a worthwhile investment and often outweighs other transaction costs.

Be sure to buy a D&O Insurance policy early on, rather than waiting until a purchase is imminent, to avoid higher premiums and ensure ample time for coverage assessment. Review your policy and clarify any coverage terms or limitations for acts that occurred before the purchase. Work with insurers to ensure adequate protection and explore options for retroactive coverage of the seller if needed.

Finally, conduct through due diligence for any international acquisitions to identify and address potential tax issues and compliance concerns proactively. Out-of-country tax issues are complicated and expensive to deal with, so it’s best to engage legal and financial experts to help navigate foreign jurisdictions.

RELATED: 3 Management Risks Faced By Staffing Firms (and How D&O Insurance Can Help)

THE RISK:

In addition to assets, you’re also stepping into a network of established relationships with employees, clients, and other stakeholders that were built by the seller over time, particularly with their biggest and most influential customers. In many cases, key individuals from the seller’s team might need to be retained to the bridge relationships and assist with retention.

But similarly, if there are misrepresentations or undisclosed issues that emerge later on, you might face financial risks. What if there were inaccuracies in financial statements or projections provided by the seller? Or compliance violations? Or contractual disputes with clients, employees, or subcontractors?

Without the right insurance to back you up, you’ll have limited options for recourse. You could pursue the seller for damages, but this could prove challenging if they’ve already divested the proceeds of the sale elsewhere, lack the financial means to adequately address the issue, or key employees that you need to retain in the business.

PRO Tips:

Transactional Risk, or Representations & Warranties Insurance (R+W), is a vital tool for approximately 90% of buyers to make sure everything goes smoothly when navigating the complexities of acquisitions. It’s a specialized coverage that’s designed to address the unique risks of M&A transactions, which aren’t typically covered by standard policies. While it’s usually bought by buyers, Transactional Risk Insurance can protect all parties involved in a sale, including sellers and lenders, from losses caused by unforeseen circumstances related to the deal.

R+W Insurance protects against misrepresentations and breaches of the representations and warranties in the Purchase and Sale Agreement (PSA). If, after the transaction closes, you feel the seller has violated one or more of the representations or warranties agreed to in the PSA, you can file a claim with your insurer for compensation instead of relying solely on the escrow fund or the seller. Worse yet, having key employees of the seller upset or quit because they feel you’re trying to claw back some of the proceeds of the sale from them. Plus, R+W Insurance generally costs 1.5% to 3% of the policy limit, a low premium cost when compared to the loss in value of the business if those key employees of the seller aren’t retained.

Beyond financial protection, having Transactional Risk Insurance enhances deal certainty by instilling confidence among all stakeholders. As a buyer, you might be more willing to proceed knowing that your interests are protected, while sellers can mitigate concerns about potential liabilities post-closing. It’ll also give you a competitive edge in the bidding process and expedite negotiations by demonstrating your commitment to protecting everyone involved. And it can be obtained quickly, usually within 48 hours for smaller deals.

THE RISK:

When acquiring a company’s backups and candidate databases, you’re also inheriting potential cybersecurity challenges. Along with the typical professional and financial risks, buyers must also navigate the growing concern of cyber threats within the seller’s networks. Recent years have seen a surge in ransomware attacks, where threat actors infiltrate systems, operate quietly and covertly, and demand payment to release compromised data. Once cybercriminals gain access to a system, they can lurk undetected for weeks or even months at a time and collect intel about the company to determine the opportune moment to strike.

That means there could be threat actors hidden within the seller’s system, which may only come to light after the acquisition is complete. When transferring data to your system, you could encounter unknown ransomware bugs, viruses, and malware that leave you vulnerable to attack. If there’s a privacy breach that exposes client data, regulatory authorities may intervene, leading to unforeseen expenses for notifying affected parties and meeting compliance obligations. Finally, your reputation in the marketplace can take a beating, resulting in a loss of candidates and clients and a significant financial hit to your business. Unfortunately, your standard Cyber Insurance might not cover ransomware, leaving you to bear the costs yourself.

PRO Tips:

To mitigate cyber risk, carefully assess the data information you’re purchasing and determine how much is necessary to facilitate operations and run smoothly. Consider purging some of the seller’s old files to minimize the exposure of sensitive data on your network. Additionally, take inventory of what software and technology platforms the seller is using. Are they outdated and susceptible to attack? How will they be integrated into your infrastructure? How can the seller’s data and networks be scanned for potential threats? Are any extra costs or training requirements involved?

For added measure, bolster your cybersecurity measures to protect sensitive candidate information from falling into the wrong hands. Conduct a cyber scan on your network and on the seller’s network to uncover any vulnerabilities ensure they are patched as needed. Finally, review your Cyber Insurance policy to ensure adequate coverage against potential data breaches and cybersecurity threats related to the acquired business. Ensure an ERP is purchased on the seller’s cyber policy so you can report any potential claims for a breach that occurred prior to the closing of the transaction. Consult with your insurance broker to explore options to strengthen your coverage where needed.

RELATED: Data Breaches: How Staffing Firms Can Prepare for Unexpected Lawsuits