Many of today’s mergers and acquisitions have hidden risks, which, if unaddressed, could prove financially fatal years after a deal is completed. Mergers and acquisitions have played a major role in the business marketplace for many years. Companies once acquired other entities with little thought to the potential liabilities they could inherit, known as successor liability. If they did nothing to protect themselves from future litigation arising out of successor liability, the past could come back to haunt them.
With the increase in frequency of product and professional liability lawsuits that seek more than $1 million in damages, executives have become more concerned that there may be a skeleton or two in their closets resulting from past mergers or acquisitions. They wonder where the next asbestos or defective product lawsuit will come from.
Companies contemplating mergers or acquisitions have an opportunity to protect themselves against such pitfalls of successor liability.
Successor Liability Safeguards
Acquirers have the opportunity to mitigate much of the unknown and unforeseen risk through insurance protection against potential losses from future liabilities. The warning is that this insurance is truly effective only when it’s part of a systemic pre-merger due diligence strategy that includes a well-drafted buy/sell agreement that clearly assigns responsibilities to the acquirer and the acquired.
Seeking solutions prior to the final handshake may enable companies to avoid or minimize the financial cost of lawsuits. Even companies that have completed a merger or acquisition and haven’t had any liability claims should protect themselves against the potential for future successor liability claims. The determination of who will be responsible for liabilities arising out of past activities of the acquired company can often be difficult and seem unfair. Still, the issue must be addressed up front, with great care and circumspection.
A number of factors must be considered in assessing liability arising out of a merger or acquisition. This information can only be obtained by gleaning the facts surrounding the entire deal. Such planning includes anticipating the future conduct of the parties in terms of the purchase/sale agreement.
A successor liability claim may manifest in many different ways – and are often contrary to the intent of the parties involved. It is critical that companies develop a well-rounded plan for managing the liabilities associated with mergers and acquisitions. A thorough due diligence investigation can alert corporate executives and their legal counsel to previous or current exposures of liability.
For instance, during due diligence buyers should identify and quantify products manufactured or services rendered prior to the merger or acquisition, and then assess those exposures. Careful examination may reveal loss trends or defects – critical information for the successor company. The result of the due diligence process can significantly influence the value of the transaction, particularly if the successor company agrees to accept liability for products or services rendered in the past.
Mergers and Acquisitions and Successor Liabilities: The Deal is Done, but the Liability Lives On
During the due diligence process, risk management professionals should review the selling company’s insurance records and claims history. Since many of today’s liability claims involve products or services rendered or sold many years ago, it’s important to locate and preserve the predecessor’s insurance policies – even those purchased decades ago. These policies may prove to be very valuable by providing protection against future claims.
The purchase/sale agreement plays a key role in establishing the company’s first line of defense against lawsuits. The successor company should work closely with legal counsel to ensure that the purchase/sale agreement is designed to clearly allocate responsibility between the parties. Additionally, it is important that the allocation is compatible with the triggering of the successor’s and the acquired company’s liability insurance.
Most insurance companies are highly sensitive to mergers and acquisitions and their inherent exposures; their policies will likely exclude insurance for successor liability. To address this concern, mergers and acquisitions insurance combined with a thorough due diligence investigation and a carefully structured purchase/sale agreement may offer the protection required. Successor companies that have not explored ways of reducing or eliminating exposures to successor liability lawsuits are playing Russian Roulette.