An acquisition is agreed on price and completed on risk allocation, and the risk allocation lives in the warranties and indemnities. These provisions decide who bears the cost when something the buyer assumed turns out not to be true, and they are negotiated hardest precisely because they determine what the price actually bought. A buyer who focuses on the headline figure and leaves the warranties to the lawyers has misunderstood which part of the deal protects them.
Warranties and indemnities are not the same thing
A warranty is a statement of fact about the target, that the accounts are accurate, that there is no undisclosed litigation, that the company owns its assets. If it proves false, the buyer claims damages, and must prove the loss and that the warranty was breached. An indemnity is a promise to reimburse a specified cost if it arises, pound for pound, without the buyer having to prove breach or quantify loss in the same way. Indemnities are used for identified, specific risks; warranties cover the general landscape.
Disclosure defeats warranties
The most important thing a buyer must understand is that a warranty is qualified by what the seller discloses. If the seller discloses a problem, the buyer cannot later claim under a warranty for that very problem, because it was disclosed and therefore accepted. This is why the disclosure exercise is as important as the warranties themselves: a broad warranty against a disclosed risk is worth nothing, and the protection the buyer actually has is the warranties minus everything the seller put in the disclosure letter.
A warranty tells you what the seller promises. The disclosure letter tells you what the seller has quietly taken back. Read the second as carefully as the first.
Specific risks need specific indemnities
When due diligence uncovers a known problem, a tax position that may be challenged, a piece of litigation, an environmental exposure, the answer is a specific indemnity, not reliance on a general warranty. The indemnity should name the risk, and provide that the seller bears its cost if it materialises, outside the general caps and time limits. A known risk left to a general warranty is a known risk the buyer has effectively agreed to bear, since disclosure will have removed the warranty protection.
Caps, baskets and time limits
Sellers limit their exposure through caps, an overall ceiling on liability, and through thresholds below which claims cannot be brought, and through time limits after which warranties expire. These are all negotiable and all consequential. A cap set too low relative to the price leaves the buyer exposed on a large loss; a time limit that expires before tax authorities can reasonably assess leaves the buyer carrying the tax risk. The buyer’s protection is only as good as these limits allow.
Warranty and indemnity insurance
Increasingly, an insurer stands behind the warranties, allowing the seller to exit cleanly while the buyer claims against the policy rather than against a distributed shareholder. This is particularly valuable where the seller is a fund distributing proceeds, or an individual who will not be worth pursuing years later. The policy has its own exclusions and its own diligence requirements, and it does not cover known risks, which still belong in specific indemnities. It changes who pays, not what was agreed.
The link to diligence
Warranties and indemnities only work when informed by thorough diligence, because the buyer cannot protect against a risk it has not found, and the seller cannot disclose one it has not identified. The two exercises are one, which is why we treat them together with our note on legal due diligence before you buy. A buyer who does light diligence and then relies on warranties has the protection precisely backwards.
Montclare coordinates the legal architecture behind cross-border structures, working with counsel in each relevant jurisdiction to one design. Our services are set out on our services page.
This article is informational and does not constitute legal advice. The law differs by jurisdiction and the treatment of any matter depends on its facts. Each engagement is subject to scope and applicable regulation.