Full Definition
Representations and warranties (R&W) are factual assertions made by the seller (and sometimes the buyer) in an M&A agreement about the condition and status of the target company at the time of signing. The seller "represents" (asserts as currently true) and "warrants" (commits that the statement is accurate, with legal consequences if it proves false) a comprehensive set of facts about the business: the company has good title to its assets and intellectual property, the financial statements are accurate and prepared in accordance with GAAP, there is no undisclosed material litigation, all material contracts are disclosed and in good standing, all tax returns have been filed and taxes paid, the company is in compliance with applicable laws, and no material adverse change has occurred since the most recent financial statements. If any representation or warranty proves false or misleading, the buyer has claims for indemnification. The scope of representations and warranties is heavily negotiated—sellers seek narrow, highly qualified representations (everything subject to "knowledge qualifiers," "materiality qualifiers," and "material adverse effect" carveouts) while buyers seek broad, unqualified representations covering the full range of potential risks. Knowledge qualifiers limit the representation to facts known to specified individuals ("to the knowledge of the sellers") rather than creating absolute accuracy obligations. Materiality qualifiers limit the representation to material facts, excluding minor inaccuracies. Disclosure schedules allow sellers to identify specific exceptions to representations—"Section 3.12 of the Disclosure Schedule sets forth all pending litigation" effectively carves out disclosed litigation from the litigation representation. The interaction between representations and warranties and the indemnification provisions determines the buyer's actual economic protection. A seller who makes comprehensive representations but provides inadequate indemnification (short survival periods, low caps, excessive baskets) provides limited actual protection. A seller who provides narrowly qualified representations with reasonable indemnification terms is actually providing less risk coverage than it might appear. Sophisticated buyers and their counsel evaluate the total risk coverage of the representation, warranty, and indemnification provisions together—not any single element in isolation.
FAQs
What is the 'fundamental representation' concept and how does it differ from regular representations?
Fundamental representations are a subset of representations (typically: due organization, capitalization, authority to enter the transaction, and title to assets) that are considered so essential to the transaction that they receive different treatment: longer survival periods (often surviving indefinitely or for 6 years rather than the standard 18-24 months), higher indemnification caps (often 100% of purchase price rather than the standard 10-15%), and sometimes separate from R&W insurance coverage that may be required to cover them. Fundamental representations address whether the seller actually owns what they're purporting to sell—the buyer's most foundational concern.
How are representations and warranties structured in asset sales versus stock sales?
In a stock sale, the seller makes representations about the entire company—its assets, liabilities, contracts, IP, and employees—because the buyer is acquiring everything the company owns (including unknown liabilities). In an asset sale, representations are typically limited to the specific assets being transferred, because the buyer is selecting which assets to acquire and generally leaves liabilities with the seller. Asset sales therefore typically provide buyers more control over risk exposure, while stock sales require more comprehensive due diligence and typically more extensive indemnification provisions to address unknown liabilities.
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