It’s nine to 12 — maybe even 18 — months after the deal closed. There’s an R&W policy in place; the purchase agreement covers an array of representations and warranties. But you become aware of something that might be a breach. 

Tony Tatum, a partner at McGuireWoods and head of the Insurance Recovery Practice, certainly knows the ins and outs of claims, and how to properly see them through to fulfillment. 

In this episode of The Professor’s Corner, Tony walks listeners through the process of filing a claim, citing the internal and external issues that might arise, as well as errors to look out for from the beginning. He discusses the importance of gathering evidence, being thorough, advocating for your company, and mitigating losses.

“In some ways, you don't want to go overboard, but you certainly want to start gathering [evidence] — two or three key buckets of emails or other communications. Of course, right off the bat are things that are critical to whatever that issue is,” says Tony. “And be looking at the knowledge provision and the insurance policy.”

Featured Guest

Name: Tony Tatum

What he does: As a Partner at McGuireWoods, Tony is co-lead of the Insurance Recovery Practice. With more than 23 years of litigation practice, Tony represents both prominent public and private companies on insurance coverage and complex commercial disputes.

Organization: McGuireWoods

Words of wisdom: “You want someone who's got that expertise to be thinking about the issues and making sure that you're crossing the Ts and dotting the Is as needed.”

Connect: LinkedIn

Notes From the Professor’s Corner

Top takeaways from this episode

• There are two sides to every claim: internal and external. When a claim is filed, Tony breaks it down into two buckets. Doing so helps prevent missteps while also preparing for every possible outcome. 
• Be thorough with information gathering. From the moment of a potential breach, information and evidence gathering should begin. This is crucial to proving a breach and reaping the benefits of the filed claim. 
• Advocate for answers. When it seems like the insurer might be dragging their feet with little intention to pay the claim, do not hesitate to advocate for your company. Call, ask questions, and be a little reminder that the claim is still there and you have proof to back it up.

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This podcast was recorded and is being made available by McGuireWoods for informational purposes only. By accessing this podcast, you acknowledge that McGuireWoods makes no warranty, guarantee, or representation as to the accuracy or sufficiency of the information featured in the podcast. The views, information, or opinions expressed during this podcast series are solely those of the individuals involved and do not necessarily reflect those of McGuireWoods. This podcast should not be used as a substitute for competent legal advice from a licensed professional attorney in your state and should not be construed as an offer to make or consider any investment or course of action.

This is The Professor's Corner, a McGuire Woods series, exploring business and legal issues prevalent in today's private equity industry. Tune in with McGuire Woods' partner, Geoff Cockrell, as he and specialists share real world insight to help enhance your knowledge.

Thank you for joining another episode of the corner series, where we bring together thought leaders and deal makers at the intersection of healthcare and private equity, and delve into deeper topics relating to kind of getting deals done and issues that can come up in connection with that. I'm thrilled to be joined by my partner, Tony Tatum, who heads our insurance recovery group, where Tony helps navigate the many mine fields that can arise when you're trying to make a claim with respect to rep and warranty insurance. Tony, maybe give a quick introduction of yourself, and then we'll jump into some questions.

Happy to, Geoff. Thank you. So, our practice represents policy holders only. And as Jeff noted, we assist policy holders on rep and warranty claims, among others, and that includes both consulting on the front end, which there are certainly some mind fields there when placing the policy, but also on the back end, when claims come in the door.

So, Tony jumping right in, I think to today we'll focus on what to do when a claim arises. So, the deal is closed. You've got the array of representations and warranties in the purchase agreement. You may or may not have any recourse back to the seller. You've got a policy in hand. And now let's say we're we're 9, 12, 18 months in, and you become aware of something that you think might be a breach. It might be material. There may be a close call as to whether or not it is a breach or not. Tony, maybe articulate some of the things that you can do maybe incorrectly on that front, and then we can focus on things that you should be doing, but maybe give a little bit of the minefield on the front end.

Absolutely. And I generally, in talking with clients, Geoff, think about it in two buckets. There's both the internal piece, and then the external facing the insurance company or others. And so on the internal side, here are some of the common mistakes that we see. And the first one really relates to notice, of giving notice of a claim. And these rep and warranty policies are all created differently. While they all generally cover breaches of representation and warranties, the language on the conditions, and including notice, can be quite different. So as you noted, sometimes clients may think, "Well, maybe there's a claim. Maybe it potentially could exceed the escrow if you're within the escrow window," or "Oh, it's not going to exceed the retention."

Unfortunately, in most states, failure to give notice, even if there's no prejudice to the insurance carrier, can be fatal to a claim. So, that's unfortunately something that we see is just not giving notice. Now on the notice front, making sure that you've done that. You'll also want to make sure, in giving it, that you provide the information that's indicated in the policy. And it may be, Geoff, that that's quite different than the information that you may have to provide under the purchase agreement to the sellers. So, it could be two quite different things.

And Tony, maybe pausing there for a second, one of the things that I've seen come up as it relates to notice is that the purchaser, who's the policy holder, may have a kind of evolving degree of knowledge about the nature of the problem. You may see some smoke, or you may think that... Let's take a healthcare company where they made a close call, and you're not sure whether or not it's fully ripened up to a claim against you. How certain of a breach do you need to be before you start to trip into those areas where you need to provide notice to the carrier?

That's a great question. And I can say unequivocally, Geoff, that there's really rarely a justifiable reason not to give notice, even if it's a notice of a circumstance, which is probably exactly what you're describing. Again, all these policies are different, but most will provide an option that you can give notice of circumstance. And if you do, the claim will be deemed dated when you gave that notice. So, it's really better safe than sorry, as you're figuring out whether or not this is going to really turn into a claim, as you noted, as a material. Another common misstep on materiality is most of the rep and warranty policies will have what's called a materiality scrape. And except for things like financial representations, the policy will kind of ignore materiality. Now, it's to each specific deal and that's not always the case, but something that may be covered under the policy that is not necessarily a material breach under the purchase agreement, sometimes buyers will overlook that.

Another common misstep that we see, Geoff, is during this period, as you've kind of described, it's nine to 18 months later, okay, let's go ahead and get notice in, but we really don't want distract the business right now with gathering evidence and kind of putting together what we need for a claim. And in some ways, you don't want to go overboard, but you certainly want to start gathering, I'd say two or three key buckets of emails or other communications. And of course, right off the bat are things that are critical to whatever that issue is. If it's an inventory issue, make sure that you're protecting and gathering. You've got a duty to preserve those type of emails, certainly sellers communications during that time period. And the other one that probably is almost always at the top of the list is be looking at the knowledge provision and the insurance policy.

We almost know that knowledge, really in the context of these rep and warranty policies, has evolved to where it is the actual specific knowledge, and it has to be whoever the individuals are. Now, for companies, and I've seen this, where it's their first claim, they will interpret that very broadly, meaning, gosh... I think I did read something about some issue with inventory, and it's not specific, number one, to the deal team member, and it's not actual conscious awareness. And I've seen, in one circumstance, where that led not to reporting a claim. So, I bring it up as gathering evidence around it, and that is the company just needs to be aware of who the deal team members are and just going ahead and checking the box to see that if there is a issue and there was not disclosure, was there any actual knowledge, keeping in mind that the limited individuals likely that it's going to apply to?

And Tony, on the knowledge question, given that that's a barrier to a claim, again kind of in the healthcare context, there may be areas where you can... Going back again to the idea that you know they made a close call. Making a close call is not the same as knowledge of a breach. How would you advise to kind of navigate some of those dynamics where the issue was in front of you at some level, in the sense that you knew that they were making a shade of grade determination, which are pretty prevalent in healthcare companies? How would you navigate knowledge in that context?

Generally, Geoff, I'm advising clients that run it to ground. If you see the shades of gray, and again, you're now the buyer. You're now actually the company. You're integrated in most circumstances. And if part of the deal team happens to be there, and of course that depends on whether or not it's a portfolio company or if the deal team was at the private equity level, go ahead and really diligence that. Now, in doing so, the other kind of key area, I think on gathering evidence, it's kind of gathering evidence, and then maybe documenting it as you're noting. How do you handle it? You do want to be careful about how you document things, particularly with regard to knowledge, obviously damages. And it can be very simple, but oftentimes clients, especially on the business side, will get things running and start some internal investigations, start making notations, start asking other business folks about the potential nature of the damages. And you really do kind of absolute threshold requirement as make sure you've got some peripheral internal counsel involved so that that information can be protected.

And certainly you can do that with outside counsel too, but that's a key thing in gathering evidence where we see clients sometimes trip up.

And is it usually trying to minimize the cost on that front, or just not an appreciation of how kind of loaded for bear you need to be when you're going to the carrier?

I think it's both, Geoff. Obviously, in-house council, as we know, can be just so busy. And business folks will, you know, hate to burden them. They will not want to go and ask to have outside council involved. It really can be a fairly limited loop in, as I would say. And if you've got deal council that you're continuing to work with on other matters, certainly that should satisfy as well, but you just don't want to... As things... As you're saying, you kind of got smoked. You're not sure if this is going to turn into a claim. What often will happen is people are just not careful in their communications, and something that doesn't appear that it's going to be a material claim ends up being a material claim. And you just weren't as careful in communications early on as you should have been.

A couple other quick things on internal as well, Geoff. One is, so we talked about gathering evidence, and sometimes clients will kind of let it set until they feel like a claim is really in the making for certain. The other piece too, where I see clients misstep, and it's a place where insurers go right off the bat, it'll be in their first reservation of rights letters, is, what have you done to mitigate the loss? And of course, clients will do that. The problem that we see is really... Again, it goes to documentation and failure to mitigate the loss. And very simple, it's just putting a process in place internally, whoever is going to be kind of point person at the company who's dealing with investigating, vetting the claim, detailing it, looking to try to minimize any losses, whether it's on the inventory side.

I mean, sometimes mitigating is not going to be a dollar for dollar reduction, but if you've got a failure to comply with law or a regulatory compliance issue, you certainly want to be thoughtful about documenting internally what you're doing to try to mitigate the loss, because that'll be helpful down the road. The other one, and this goes to, what do you do again? So, we've got a potential claim here. Not sure that it's going to rise to the level of... Even if it is a claim, one that's going to be reimbursable above the retention. I would always advise, if you can... And this goes back to, do you use council or not? Certainly your right hand can always be, in most cases, whoever was your deal council, right?

And that's certainly a fine place to go, particularly when you're looking at the data room to make sure that's preserved, because you do have a duty to preserve that among other relevant evidence if there is a claim, but I always tell clients too, that deal council kind of knows anything and everything, and they're going to be focused on very specific aspects of going back and thinking about the deal, but also think about whether it's internal or external, making sure that you've got someone who has some knowledge about rep and warranty claims and how insurers approach it. Now, some deal counsel do, but some don't. And as a internal business person or internal legal counsel, you don't want to lose sight of that, because there are conditions to these policies, and we've talked about many so far today, that usually di council are not focused on. And you want someone who's got that expertise to be thinking about the issues and make sure that you're crossing the Ts and dotting the Is as needed.

And just a plug for you and your group, Tony, whenever an issue arises on a deal that we've worked on, our immediate reaction is not to navigate that pathway ourselves, but to involve you and your team. There's just a knowledge set on what kind of the protocols are, how those policies fit together, that if you look at one of those policies, it doesn't always immediately jump out as to how you should be approaching some of these things. So, definitely bringing in some qualified counsel that knows how to do this specifically is absolutely a day one thing to me

On that point too, we... This kind of goes to our philosophy specifically too, Geoff, at McGuire Woods. I mean, look, we are all about resolving a claim and doing it certainly without a legal proceeding, where there are costs. So, much of what we would be doing, and you know this from working together, is we're behind the scenes. It's usually still the client who's penning any responses to ensure letters, but we're there really just to consult and make sure that there are any missteps, and to your point, making sure that the client appreciates the ins and outs of what's actual knowledge and what's not, and other things, particularly as you get into coverage correspondence and how to address some of the questions that insurers raise.

One of the sensitivities that I often encounter with a buyer is that the sellers exposure is often going to be limited. Maybe there's an escrow connected to half the retention in the policy, but the seller's often kind of ongoingly integral to the business operations. And there's a desire to not kind of ruffle feathers with that individual or group of individuals, maybe a group of doctors. Is there any sensitivity that folks should have in kind of bifurcating the treatment where you're kind of making early direct notice to the carrier? There may be some reluctance to do that specifically with the seller. Do you ever encounter some friction there?

Definitely, for the very reason that you noted, Geoff. I think it's... It really comes down to a judgment call. You definitely go back to notice, which is just the hallmark of vetting that both on the purchase agreement side, as well as on the in insurance policy side. And if you know that information's going to be accessible, you don't have to go and really both from a distraction of the business or to create a significant concern on the seller's side. You may be able to sit back and kind of play it out for a bit. I think it really is. It's tough to call on just a black and white rule on that. But I think as long as you're meeting the conditions of the policy, and we've hit on several of those. And that is preserving the evidence, giving notice, mitigating damages, you can pull back or try to maintain a good posture without maybe elevating concerns with the seller if there's a sensitivity there.

So, that's a big piece, is on the internal missteps. Again, these are easy things that companies can do kind of not to step in it. The other side is really the external missteps that I mentioned earlier. And once you've put that claim in, you're certain to get an acknowledgement letter from the insurance company. That'll usually be right off the bat. Shortly thereafter, there'll be a more formal acknowledgement, likely with a number of information request. And we see a couple things happen that can be problematic there, Geoff. And the first is, unfortunately, when companies are really busy, they either don't respond or they'll make sure that the data room is made available, but they really won't otherwise treat the information request as something that has to have attention, and really a written response.

And again, not having gone through a rep and warranty claim, many clients will think, well, that's what it's there for, and as long as they're getting the information, do I really have to document and really create a chronology here? And the answer is absolutely, because making sure that your responsive with reasonable request is key. You want to make sure that you've got that evidentiary response where you went and did the reasonable diligence and responded in a timely fashion. And again, to kind of a judgment call when you... And not see this happen a year and a half down the road after the claim, you're getting just new and different request at that time. And it can be really mind numbing, as if it's never going to end. There will be a point where you have to document. And again, this can still be from the company. It doesn't have to be from litigation council that we provided all the reasonably requested information, and you just have to be prepared to do that.

The other big mistake that I see on responding can really flip to the complete other side. And that is just a big data dump. And in that sometimes, often clients will hand over privileged communications. And I've seen clients say, "Well, I see in here that there's a provision in the policy that says that simply providing privileged communications won't waive that privilege, but that doesn't insulate the company from another third party arguing waiver." And really, there are circumstances there's probably been in my 20 some odd years, and over the past four years where there was a deliberate decision made with a client to waive privilege over some information that was helpful to refute actual knowledge, but it should not be the default, but one that I see clients unfortunately step in oftentimes. It'll have a claims adjuster say it, or on occasion, brokers. And brokers do a great job in making sure that these claims get facilitated, but they're not there as legal counsel and really don't appreciate sometimes, what can happen when you waive privilege,

Tony, what are the timelines from kind of realizing that you have a claim to it resolving. If it's a dispute with the seller, that often kind of lands quicker. There's a desire on the part of a seller to not kind of create extra legal expense by fighting things that they don't want to fight, and so they will land. How does that compare to an RWI context?

It can be across the board, Geoff. And as you can imagine, and I know you've seen this too, from your vantage point. If it's a smaller claim, usually that can be handled depending on, are we talking about one breach, two breach, three breaches? How significant are the potential damages? But usually if it's let's say a less than a $5 million claim, and it's maybe one breach, so it's isolated, you should be able... And this is just a measuring stick that's very general. You should be able to resolve that in four to six months with the insurer. Now, that doesn't mean that even on a smaller claim or one to $2 million claim, it insurers, as I noted earlier, won't continue to ask for questions and continue to ask for things in some cases that have been provided before. Sometimes that's just how insurers operate and outside council who's representing insurers.

So, one piece of advice, and this is on the proactive side, is I really would... And again, this can be done within in-house council. It can be done with a business person, CEO, CFO at the company, is once you've gotten to a point where really there has been a fullsome production of information that's requested, it seems, based on the judgment of the company that the insurer has what it needs to, you really do have to call the question and kind of force as gently as you can, without suggesting that we need to go to a legal proceeding to call the question on whether or not they're going to cover the loss. And if not, you want reasons why. And that can be a challenge sometimes, but you really have to do it for a couple reasons. One, what I'll call just the insurer's claims investigation can just drag out for too long. Secondly, you do want to establish...

If it does look like that the insurer maybe just dragging its feet, not intending to pay the claim, you do want to establish that there's a breach under that contract that is the insurance policy, because in many states... And most often, Geoff, these claims get resolved. Even the ones that are larger rep and warranty claims that will end up perhaps mediating, and if unsuccessfully going into arbitration, they still usually resolve. For those that don't, and it's less than 10%, establishing the breach can be very important, especially in a place like New York where you can recover 9% statutory prejudgment interest.

Tony, I want to thank you for joining us in this episode. Clearly, dealing with a claim is specialized knowledge, and I would encourage folks to reach out to me or to you to connect on some of the processes you need to be absolutely mindful of if you're facing a claim. I think maybe later this year, we'll have you come in and we can talk through some of the minefield pitfalls that can happen on the front end of this process when you're first binding a policy. But thanks again for joining us. This has been super enlightening.

Absolutely. Thank you, Geoff.

Thank you for joining us on this installment of The Professor's Corner. To learn more about today's discussion, please email host, Geoff Cockrell, at gcockrell@mcguirewoods.com. We look forward to hearing from you. This series was recorded and is being made available by McGuire Woods for informational purposes only. By accessing this series, you acknowledge that McGuire Woods makes no warranty guarantee or representation as to the accuracy or sufficiency of the information featured in this installment. The views information or opinions expressed are solely those of the individuals involved and do not necessarily reflect those of McGuire Woods. This series should not be used as a substitute for competent legal advice from a licensed professional attorney in your state, and should not be construed as an offer to make or consider any investment or course of action.