Litigation and Contingent Risks: Unlocking the Value in M&A

Litigation and Contingent Risks: Unlocking the Value in M&A
June 15, 2023 8 mins

Litigation and Contingent Risks: Unlocking the Value in M&A

Litigation and Contingent Risks: Unlocking the Value in Mergers and Acquisitions Hero Image

Without the proper insurance, litigation and contingent risks can lock up capital and prevent a deal from closing.

Key Takeaways
  1. Arming your company with the right litigation and contingent risk insurance will enhance the business benefits of an M&A transaction.
  2. Adverse judgment insurance provides defense-side coverage that protects against potential litigation risk and, in the process, unlock capital.
  3. Judgment preservation insurance enables companies with a favorable award to protect against a reversal on appeal.

After a record-breaking spike in merger and acquisition (M&A) activity in 2021 to $5.9 trillion1, current global economic volatility has reduced the volume of deals in 2023 significantly, with first quarter volume of only $559 billion2. Climbing interest rates, geopolitical conflict, supply chain volatility and evolving regulation are all shaping the short-term economic outlook and directly impacting M&A deals. Amid these challenges, dealmakers also have to deal with the financial burden of litigation.

The threat of litigation can affect the valuation of a company, making an otherwise attractive deal stall, be renegotiated or fail completely. How buyers and sellers deal with that risk can go a long way toward the success of a deal. But beyond just simple preservation of deal flow, managing litigation risk properly can have other benefits.

Here we discuss the strategy behind the use of litigation insurance and how it can enhance M&A deal opportunities for your firm.

Mitigating Litigation Risk on M&A Deals

Just the threat of litigation or arbitration claims can impact asset valuations and limit market appetite. Buyers may seek escrows, indemnities or price chips, or even back away from a deal entirely if a company has risk of material judgments against it. Similarly, if a target has a favorable judgment or arbitral award that is not final, buyers may be reluctant to pay full value for that award. In such an environment, litigation is problematic for both buyers and sellers. Add to this tighter and more expensive financing, and the importance of mitigating litigation risk becomes even clearer. The two main types of insurance that are available on the risk transfer market are:

  • Adverse judgment insurance — defense-side coverage for companies facing or involved in a potential lawsuit can purchase this to cover a damages award if ordered to pay one.
  • Judgment preservation insurance — coverage that allows businesses that have won judgements to lock in those favorable results by paying out if the verdicts are reversed on appeal.

Companies can use these to mitigate risk, unlock capital and ensure that deals happen on the best possible terms.

The Benefits of Adverse Judgment Insurance

In situations where the target company is facing litigation that could result in a sizable judgment against it, adverse judgment insurance can help ensure that both buyers and sellers may proceed with a transaction with relative security. Essentially, a company purchasing adverse judgment insurance is buying a measure of financial security against shocks to its balance sheet from an adverse judgement.

Without insurance, sellers are often forced by buyers to retain part of the purchase price in escrow. They might also have to provide indemnities to cover losses from the litigation — or to reduce the price. Adverse judgment insurance allows a clean exit for the price of the premium, which provides sellers with immediate free use of the full deal proceeds. It also affords buyers a level of comfort when it comes to litigation risks — with which they are less familiar compared to the current owners.

Instead of waiting for litigation and arbitration matters to reach a conclusion, sellers can exit at the right time to free up capital for new investments and maximize investment internal rate of return.

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In M&A, time can be a huge factor and this is something that gives both parties the peace of mind to proceed with fewer issues to negotiate. This will help move the process along — to both companies’ benefit.

Stephen Kyriacou
Managing Director and Senior Lawyer, Litigation Risk Group, Aon
The Benefits of Judgment Protection Insurance

When a company secures favorable court judgments or arbitral awards, it could take years to become final given the length of time appeals and annulment processes usually take. Therefore, until the awards are final, a buyer will refuse to pay a purchase price that assumes that the favorable outcome remains intact. Judgment preservation insurance provides certainty of outcome so the seller can receive full value and the buyer is protected from unexpected (and unbudgeted) losses.

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In an appeal situation, after a successful claim, judgment protection insurance can protect against the risk of reversal or award reduction. It also protects defendants who avoided liability at trial from the risk of paying damages following appeal.

Robin Ganguly
Executive Director, Litigation Risk Group, Aon
3 Tips for Implementing Litigation and Contingent Risk Insurance

Buyers and sellers can benefit from litigation and contingent insurance by following these three steps:

  1. Analyze the litigation risks, both current and future. Consider the impact on the company’s balance sheet. How would a judgment in a current case affect the company’s valuation? How could the reversal of a previous judgment affect the company’s valuation?
  2. Recognize that a judgment won may need protection from reduction or reversal, while the risk of damage from an adverse judgment can be mitigated.
  3. Understand that these are complex issues that may require complex solutions with the help of an advisor. Litigation and contingent risk insurance can help smooth the path for a transaction.

When used strategically, litigation and contingent risk insurance can provide a safety net for companies involved in a transaction. But beyond that, it can be a powerful tool to unlock flexibility during the deal and long-term value after it’s complete. Making better decisions starts with the security and peace of mind that litigation and contingent risk insurance can provide.

Find out more about litigation solutions.

Aon’s Thought Leaders:
  • Robin Ganguly
    Executive Director, Litigation Risk Group, Aon
  • Stephen Kyriacou
    Managing Director and Senior Lawyer, Litigation Risk Group, Aon

Cyber Disclaimer

The information contained herein and the statements expressed are of a general nature, not intended to address the circumstances of any particular individual or entity and provided for informational purposes only. The information does not replace the advice of legal counsel or a cyber insurance professional and should not be relied upon for any such purpose. Although we endeavor to provide accurate and timely information and use sources we consider reliable, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future.

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