Preparation for the sale of an insurance intermediary can be difficult and requires senior management to devote sufficient time and attention to ensure a smooth transaction. This is something that takes time and planning with a clear understanding of what things a Buyer will be interested in. A Seller’s aim ought to be that there are no surprises for either party to the transaction such that each has sufficient comfort when it comes to the due diligence exercise. The due diligence process sets the tone for a transaction. It can take many months before for it to be completed and before a sensible draft purchase document can be put together, but early preparation inevitably assists. Below are 10 things a Seller may need to consider.
1. Data Room
A Seller needs a team to assemble detailed documents about the business (some of which may need to be anonymised) including an asset list (including real property and intellectual property) and details of contracts with clients and counterparties, including terms of business agreements. Therefore, a Seller ought to consider at an early stage whether the target has key assets, contracts and service providers to understand what information it will need to provide to a Buyer, and if it has ownership rights to trademarks, patent rights etc. or the rights/permissions to use products or software.
A Seller benefits immensely from a well-structured virtual data room from the outset such that documents can be identified and located with ease. Ideally this is something the Seller has given a lot of thought prior to the business being marketed. That not only enables a time efficient review of the documents when heads of terms may have been agreed but it assists the Seller when dealing with a Buyer’s queries, or adding additional documents in support of its responses to those queries. Ideally, a Seller will want to know what has been reviewed by the Buyer and when, while the Buyer will want the ability to clearly identify any new documents that are added to the data room. These will assist the parties when it comes to negotiating whether a Seller should be required to give representations or warranties in a share purchase or business purchase agreement.
A fundamental aspect for the Seller is to ensure suitable security measures are in place to protect the target’s data and prevent data breaches or the downloading of documents. Tightly drafted Non-Disclosure Agreements and restricted access to data are means of reducing potential harm to the Seller should a sale not happen, but external hacks of the site also pose a serious risk to the business.
2. Records & Registers
The Seller must ensure that the target’s records and registers (including the PSC register and register of members) are up to date and complete. The target’s statutory books and accounts should be properly maintained, accurate and complete. If not, this must be rectified prior to being uploaded to the data room. The target’s filings at Companies House should also be correct and complete, such as forms, returns, resolutions, directors’ appointments and resignations. It should consider if any charges filed by the company ought to have been released or should be released at sale.
There should also be a complete file of the target’s authenticated board minutes recording its directors’ decision-making and the proceedings of each meeting.
3. Contracts
A Seller needs to ascertain if the target has agreed contractual terms by which counterparties have the option to terminate agreements with the target if there is a change in ownership of the target, unless they consent to that change. If such terms exist, then the Seller will need to consider how and when it will deal with this aspect because it is likely a Buyer will want comfort those parties will continue to deal with the target after the purchase. The Seller will need to consider also what documents are confidential and for which it may need consent to disclose to a Buyer.
4. Warranties & Indemnities
Buyers will often require Sellers to give warranties in relation to many of the items addressed in this article. A term often used by Buyers is ‘light due diligence’. In our experience Sellers wrongly assume that will benefit them and ensure the transaction proceeds at a quick pace, resulting in less professional fees. In reality, this usually results in the Buyer producing a lengthy list of onerous warranties and/or indemnities that it requires (some of which are applied without proper consideration of the subject matter of the transaction or the business being sold or risks associated with a transaction). This sometimes can seem as if those undertaking due diligence (usually the Buyer’s advisors) are having it both ways, rather than standing behind the advice they give the Buyer having reviewed the disclosure the Seller has given.
A Seller will have to spend considerable time – perhaps more than they have or are willing to dedicate – to look through these and to know if it can or should give a warranty, or moreover to see how and what qualifications it ought to give to the warranties or indemnities in a disclosure letter. An under-prepared Seller can be overwhelmed by such requests or demands, particularly when the Sellers consist of a combination of management and passive investors, the latter knowing little about the day-to-day running of the relevant business to agree to the warranties. Therefore, by the Seller’s team having a good knowledge of the business, its financials and underlying documents, it is in a better position to respond to broad requests and politely refer the Seller to what it has disclosed, thereby reducing the ambit of a warranty or indeed eliminate the need for one.
A Buyer might assert commercial pressure by pushing for agreement on what it perhaps, sometimes unreasonably, suggests are “standard” warranties and indemnities, stating that it will not accept any deletion or amendment to the warranties and indemnities as drawn. That is a risk of dealing with a Buyer undertaking many transactions and with the Buyer’s solicitors working on a commoditised basis adopting the same formulaic approach to each. This places pressure on the Seller because first, it may not wish to lose what in fact may be an advantageous deal; or second, there is a risk of potential bad publicity because a deal does not proceed.
5. Liabilities
For both Buyer and Seller, one of the biggest and yet less well addressed aspects of a sale is the hidden liabilities associated with legacy books of business and insurance transaction monies which an intermediary holds. Too often, Buyers seem to rely on audit reports regarding client money or insurer money, rather than have accounting experts review the target company’s books and ledgers. This can lead to problems as client money audit reports can be limited in scope.
Often, when a target company is acquired by a Buyer, its existing book of business may be integrated into the Buyer’s existing book, so too the target’s insurance transaction balances migrated to the Buyer’s client money bank accounts. However, a Buyer may be reluctant to take on a large number of legacy client balances if it is unclear what they represent and it is no longer known for whom the money is held, on what basis it is held, and who it is due to. This is particularly relevant in the context of business undertaken in the London insurance and reinsurance markets where there can be multiple parties involved either insuring risks or in the transactional chain. Client money should not be held indefinitely in an insurance intermediary’s account, and therefore the Seller should endeavour to clear legacy balances to the fullest extent possible prior to a sale. It may need to be proactive to implement a ledger clearance and legacy balance policy, devoting sufficient resource and skill to have dealt with the balances within a set timetable.
6. Disputes
In preparation for a sale, the Seller should ensure that any disputes (whether or not proceedings have been commenced) between the target and its employees, clients, service providers, etc are properly managed and, if appropriate, are settled. It is not unusual for a Seller to give a warranty that the target has no ongoing disputes nor any proceedings threatened or expected. This may include any dispute with or investigation by HMRC (or equivalent tax authority), as well as any litigation, arbitration, mediation, dispute resolution or criminal proceedings either by or against the Company or any person for whose acts or defaults the Company is or may be vicariously liable.
The Seller should also ensure there are no outstanding orders, judgments, awards or decisions (from a court, tribunal, arbitration, governmental agency or regulatory body) in relation to the target and/or its assets.
7. Employees
Information about employees likely will form part of the virtual data room. This includes employment contracts and details of an employee’s compensation, benefits, notice period, and any other material clauses. The Seller should ensure that the target has made and accounted for all payments, deductions, withholdings or reductions as required by law.
A key issue is staff retention both before and after a sale. A Seller needs to know who its key people are, who have the business relationships with clients or insurers. Moreover, it needs to know that they will continue working for the target after a sale. A major risk is that staff leave the target and take business (and income) away from the target either before or after a contemplated sale. Therefore, if they do leave, a Seller needs to know how any potential loss or damage may be contained or minimised. In part, this may require a review of the relevant employment contracts to ascertain the terms and extent of restrictive covenants and/or confidentiality obligations in place. It may also require a review of any employee share ownership schemes to see how those impact a sale.
In order to maintain business continuity and for the Buyer to receive the value it is paying for the business, it is often helpful for the Buyer to retain key staff such as the target’s senior management team post-acquisition. The Buyer may be interested in how these employees can be incentivised to remain.
Records relating to employee grievances and disciplinary actions should also be retained, particularly those from which a dispute could arise.
Where the transaction relates to the sale of the business or part of a business only, rather than a share purchase, the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE) may apply. Therefore, the Seller needs to review which employees work on the subject business and the amount of their time spent on it. This will assist in establishing which employees’ contracts of employment transfer to the Buyer on completion. TUPE can also impact staff in suppliers.
8. Regulatory Compliance
A UK insurance intermediary will be regulated by the FCA. Accordingly, the target’s filings with its regulatory body should be up to date and the Seller should ensure that there are no unresolved supervisory issues or ongoing investigations. To the extent possible, the Seller should also ensure that the target has complied with the relevant rules.
The Seller should consider any individuals holding senior management functions in the target and whether they will continue in those positions post-acquisition or not and the consequences of either scenario. Both the Seller and the Buyer will need to consider notifications to the FCA about prospective sale pursuant to SUP 11, particularly the requirement to notify a proposed change in control.
9. Real Property
If the target is party to a lease e.g. its office premises, consideration should also be given to the terms of the lease. For example, it is not uncommon for landlord consent to be required by a lease where ownership of the lessee changes. Further, the Buyer will likely want a warranty from the Seller that all sums due under the relevant lease are paid to date and all tenant covenants have been complied with.
Further, group companies of the target may have given rent guarantees in respect of the target which may need to be released or substituted by the Buyer.
10. Deal or No Deal
The focus for the Seller and the Buyer needs to be on what the respective parties’ expectations are following completion, and if the current owners of the target (or at least the target’s senior management team) remain in situ. If there is an earn-out with deferred consideration paid in tranches over a period of time following completion, then the Seller(s) likely will want assurance that first, the Buyer will not interfere with the way in which the business is run; and second, the parties agree on the transition and integration of the business into any other part of the Buyer’s group. The Sellers likely will not want the business dismantled and sold off, nor find that key business relationships are managed by another part of the Buyer’s group, thereby impacting their earn-out, nor will they want internal charging for group services which might have been provided more cheaply by a current supplier or in-house function e.g. treasury.
It is important that the Seller remains alive to the risk that a sale process causes a distraction for the business, for example by too much time of a finance director or senior managers being spent on a sale. Since it is not certain that a sale will complete, it remains imperative the business continues to be run as if there was no sale.
Elborne Mitchell LLP’s commercial transaction team would be pleased to assist if you would like advice on a sale or purchase of a company or a business, or have questions about your company’s position in anticipation of a sale. Contact Tim Goodger (goodger@elbornes.com) or Lydia Cheng (cheng@elbornes.com).
