Report Finds Claims Are on the Rise, With $1 Trillion on the Line for Mergers and Acquisitions

AIG’s M&A Claims Intelligence Series reveals increases in the severity and long-tail nature of M&A claims — and an increased likelihood of higher rates.
By: | June 23, 2019

The fourth annual edition of AIG’s M&A Claims Intelligence Series reveals increases in the severity and long-tail nature of M&A claims that, coupled with a competitive marketplace, declining rates and broadening terms and conditions, could mean serious challenges to profitability — and an increased likelihood of higher rates.

Claims notification frequency as a whole has remained stable at 20%, but for deals in the $500 million to $1 billion range, frequency has increased from 21% to 26%.

The proportion of claims valued over $10 million have doubled year on year, from 8 to 15%, with an average cost of $19 million.

The report quotes Mary Mclvor, global head of M&A claims at AIG, as saying, “We are seeing the severity claims on an increasing frequency and the interesting thing about that is we are seeing them all over the globe.”

Overall Findings

The report looked at data from 2011 to 2017, and policies covering approximately 2,900 deals, with a combined deal value in excess of $1 trillion with more than 580 claims during the study period.

The percentage of deals covered by R&W policies is still relatively small, but it is growing. Many of the policies included in the report are reaching maturity, offering longitudinal insights that have previously been unavailable, including a longer tail than some might have expected.

While 29% of claims are expected within the first six months from policy inception and 74% come in during the first 18 months, the report shows another 9% notified between two and three years and 3% after the three-year mark.

In the Americas

That long-tail is even more pronounced in North America: “The fact that in North America we get nearly half our claims after 12 months is very interesting and contrasts with the international business,” Michael Turnbull, head of M&A for the Americas at AIG, is quoted as saying.

“One of the reasons this is significant for AIG is that on many policies issued in the U.S. and Canada the retention usually drops down to a smaller number after 12 months.”

Globally, the R&W breach types driving the majority of claims notifications remain tax, compliance with laws, material contracts, and the largest type, financial statements, a third of which entail undisclosed liabilities. But the report does reveal certain other regional distinctions.

The Americas see a higher frequency across all deal sizes, and the report speculates that the increase in claims could be due in part to a growing understanding on the part of insureds as to how the policies work and what is covered.

“Clients are becoming more familiar with the way the product works and this is reflected in the notifications,” Turnbull said in the report.

“Savvy insureds will provide adequate supporting documentation early in the claim to allow the process to proceed as efficiently as possible.”

Litigation’s Impact on Claims

Another geographic difference is the extent to which litigation is driving claims: 12% in Asia Pacific, compared to 5% in North American and 8% in Europe.

Darren Savage, Asia Pacific M&A manager at AIG, sees signs of a maturing market in Asia Pacific.

“Notification with respect to policies issued in Asia is on the rise, which reflects the increased use of R&W throughout the region, particularly in markets like Korea and Japan,” Savage said in the report.

He also sees a growing sophistication in notifications in the region, with more detailed quantification of loss: “It is a positive development and shows clients are adapting and improving their understanding of the product and the information they provide with notifications,.”

Tax Breach Claims

The frequency of tax breach claims notifications also varies by region, with 25% in Europe compared to 18% globally.

The report speculates this could be due to the audit regimes of tax authorities in certain European jurisdictions, although it also notes that Asian tax jurisdictions may be even more complicated and lack the unification of a structure like the EU.

For the first time, the report drills down into the types of tax breaches that are driving losses.

Corporate income tax (34%), employment (23%) and sales taxes (17%) form the bulk of claims notifications across the regions, followed by intra-group arrangements; import/export; and deductions (interest, expense, etc.) all at 6%; franchise tax and property/transfer tax both at 3%; and incorrect use of exceptions or reliefs at 2%.

The report concedes 6% figure for claims relating to intra-group arrangements may be deceptively low, as AIG’s R&W policies typically exclude pure transfer pricing risks. &

Jon McGoran is a magazine editor based outside of Philadelphia. He can be reached at [email protected].