Reps and Warranties 

Let’s switch gears for a moment. The scene is like a living, breathing postcard from paradise – clear skies, white-sand beaches, warm ocean breezes. And look! There’s you – tanned and rested, a John Grisham legal thriller in one hand and a pina colada in the other.

In one sense, it took a lifetime to get here. You spent decades building your company and a grueling 12 months to get it sold. But you did it, and now you’re reaping the rewards. You’ve heard about former life-long business owners who found it impossible to relax after successfully exiting the fray. But that’s not you. There are going to be plenty more postcards like this one. Life is good.

But then the phone rings, and life is about to get a little less good. It seems there’s a problem with your former company’s financial statements. The buyer of your business discovered that the numbers aren’t compliant with generally accepted accounting principles (GAAP), and as a result, EBITDA was overstated. It’s not a big deal, you think – your deal closed six months ago, and it’s the buyer’s problem now. The buyer is demanding a reduction in the $2 million purchase price. But, hey, the deal is already closed!

You call your attorney in a fit of fury. Your attorney asks if you remember signing a representation or warranty stating that your financials were prepared in accordance with GAAP. Your response: “What’s a representation or warranty?”

Welcome to the world of reps and warranties, where in extreme instances, a misrepresentation – inadvertent or otherwise – about the company you’re selling could put the kibosh on the deal or a major drain on your bank account. Let the headaches and lawsuits commence.

Reps and warranties typically make up the bulk of the content in a purchase agreement and are one of the most hotly negotiated components of the transaction. That’s why I’ve devoted more than half of this chapter to the topic here, and that’s why you should pay attention.

Reps and warranties typically make up the bulk of the content in a purchase agreement and are one of the most hotly negotiated components.

The Basics 

Reps and warranties are legal promises made by both you and the buyer. Reps and warranties are a foundational component of any purchase agreement, whether a stock purchase agreement or an asset purchase agreement. 

Reps and warranties survive the closing and serve as the buyer’s basis for future lawsuits under the “Indemnification” clause. Reps and warranties typically comprise most of the content in a purchase agreement and are heavily negotiated components, along with the price and terms. Reps and warranties serve to allocate the risk between you and the buyer and are one of the last major negotiations to take place before the closing can occur.

Definition: A representation is technically the statement of a fact, such as “The corporation is duly authorized …”, and a warranty is a promise that a fact will remain true, as in “The Seller warrants that the business has operated in compliance with all laws … .” However, this distinction has proven unimportant in recent years. Reps and warranties are not listed separately in the purchase agreement but are rather grouped together in one section called “Representations and Warranties.” 

For example, most agreements state, “The Seller represents and warrants that … .”

With minor exceptions, the other elements of the purchase agreement, such as price, terms, conditions, and covenants, have no further implications after the closing has taken place. On the other hand, the reps and warranties and related indemnification clauses “survive” the closing and can have implications for both parties for years thereafter. As a result, the reps and warranties are often heavily negotiated, especially when you wish to retire and avoid any lingering obligations that may conflict with your peace of mind. Most entrepreneurs want to sell their business so they can fully let go. If you’re meticulous in negotiating the reps and warranties, you’ll be able to do just that; otherwise the potential liability that can linger from poorly drafted representations can come back to haunt you during what should be the most relaxing stage of your life.

Most reps and warranties are worded similarly from deal to deal, and exclusions are then documented in the disclosure schedules for your business based on the following factors:

  • Size of your business
  • Complexity and type of business
  • Structure of the transaction – asset, stock deal, or merger
  • Specific risks that may be present in your business 

In practice, this means that the buyer’s attorney usually prepares the purchase agreement, which includes a standard list of reps and warranties, and your attorney is then obligated to list any exceptions in the disclosure schedules.

For example, a manufacturing company may have more representations concerning environmental and employee concerns, such as unions and benefits, while a technology company may have more representations regarding intellectual property.

Reps and warranties may address any of the following topics, as well as others not mentioned here: 

  • Corporate authority
  • Investment banker fees 
  • Insurance 
  • Compliance with laws 
  • Employee benefits
  • Product liability and warranties 
  • Material contracts 
  • Capitalization 
  • Intellectual property 
  • Title to assets
  • Taxes
  • Real property
  • Personal property 
  • Financial statements
  • Inventory
  • Customer agreements 
  • Environmental issues

The Importance of Reps and Warranties

Many sellers think they can run off into the sunset after closing, free of all future obligations related to the sale of their business once the check clears. Not true. 

Reps and warranties are one of a few protections that are instituted in most transactions to protect the buyer from material misrepresentations or fraud. These protections include:

  • Reps and warranties
  • Indemnification
  • Escrows or holdbacks

The reps and warranties that are signed in the purchase agreement survive the closing when you sell your business. In most purchase agreements, you indemnify the buyer, and a breach of a representation would be subject to indemnification. 

In other words, if a statement you make later proves to be untrue, the buyer may offset a portion of the purchase price via a setoff, withhold funds from escrow, or sue you to make themselves whole again. 

For example, if you claim your equipment is in operable condition and the buyer later proves this to be untrue, the buyer can seek damages from you, even after the closing. 

You’ll remain liable for a significant period after the closing if any of the reps or warranties are breached or found to be inaccurate. The time period ranges from 12 to 24 months, although in some cases it can be indefinite. For this reason, a significant amount of time is spent negotiating the reps and warranties. 

If a statement you make later proves to be untrue, the buyer may offset a portion of the purchase price, withhold funds from escrow, or sue you to make themselves whole again. 

Reps and Warranties Can Speed Up Due Diligence

Due diligence can expose problems in your business that will subsequently be addressed through drafting tighter representations based on what was uncovered during the process. However, due diligence is unlikely to reveal every problem concerning your business. 

In other words, reps and warranties are drafted to protect the buyer from what they may have missed during due diligence and what a seller may have intentionally withheld or simply forgot to disclose. The buyer’s decision to acquire the business is based on a combination of the due diligence they performed and the extent of the protections afforded to them through the reps and warranties.


Reps and warranties serve many purposes within a transaction. Following is a detailed explanation of their primary objectives.

Encourage Full Disclosure

Representations are engineered to compel you to provide full disclosure to the buyer – in other words, they force you to disclose material issues regarding your business. 

Allocate Risk

They also serve as a mechanism for allocating risk between the parties for events that are uncovered after the closing. 

For example, if a customer sues the business for an event that happened prior to closing, the reps and warranties would serve to allocate the risk of such events between the buyer and you. The reps and warranties would define who would be responsible for such an event, for how long, and to what extent.

Unknown risks are inherent in any business, and the reps and warranties seek to allocate both known and unknown risks between the parties. In a buyers’ market, the role of reps and warranties in risk allocation strongly favors buyers, and vice versa in a sellers’ market. Reps and warranties also serve as a condition to closing – if the reps and warranties aren’t true as of the closing date, the buyer may refuse to close. 

Flush Out Material Facts During Due Diligence

The representations serve as a method for encouraging disclosure of material facts during due diligence. Without reps and warranties, buyers would need to verify every statement you make. This would make for an inefficient process, and the cost of completing an acquisition would skyrocket. As a result, purchase prices would decline to offset the increased risk and higher professional fees would be required to perform more thorough due diligence.

How do buyers use reps and warranties to flush out the facts? It’s simple – the buyer includes a set of comprehensive reps and warranties, then uses your response as a device for ferreting out areas of concern. 

For example, the buyer may ask you to represent that your financial statements were prepared in accordance with GAAP. If you know this to be untrue, you’ll refuse to sign such a representation, and your attorney will either strike or heavily modify the clause. Your response will signal to the buyer that they need to perform more thorough financial due diligence. This may lengthen the due diligence period for selling your business and possibly result in a purchase price reduction if the buyer finds there are significant deviations from GAAP.

Buyers often include a set of comprehensive reps and warranties, then use your response as a device for ferreting out areas of concern. 

Function as Termination Rights or Closing Conditions

You may warrant that your business will operate in the normal course of events until the closing. If you decide to liquidate any assets, terminate any contracts, revise your product warranty, or make other material changes to your business outside the ordinary course of events, the buyer may have the right to terminate the transaction before the closing. Note that this may serve a similar purpose to pre-closing covenants if the purchase agreement is signed prior to the closing.

Encourage Precise Language

The language used to draft the reps and warranties plays a critical role in allocating risk between the parties. If, for example, you warrant that all your equipment is in good repair, you’ll bear more risk than if you simply warrant that “all equipment is operational to the Seller’s knowledge.” The phrase “all equipment is in good repair” is an absolute statement and is more restrictive than “all equipment is operational to Seller’s knowledge,” which includes a modifier (i.e., to Seller’s knowledge). 

Seller’s vs. Buyer’s Representations

The purchase agreement contains significantly more representations concerning you because the buyer has much more to lose than you do. You’re primarily concerned about receiving payment – therefore, the buyer’s representations are primarily about access to capital and authority to complete the acquisition. 

On the other hand, the buyer is concerned about dozens of aspects of the business and its operations. Here’s a list of sample representations you might be asked to make. Note that these should be subject to a knowledge qualifier, such as “to the best of seller’s knowledge”:

  • You aren’t delinquent regarding the payment of taxes.
  • There are no judgments, claims, liens, or proceedings against you or your business.
  • The information you’ve given the buyer, including financial information, is accurate.
  • Your corporation is in good standing and has the authority to enter the transaction.
  • The assets being sold constitute all the assets of the business, are in good repair, and are free and clear from liens, encumbrances, pledges, or claims.
  • You’re in compliance with all laws, including licensing, permits, zoning, environmental regulations, and more.
  • The inventory is sufficient, unused, and salable.
  • You aren’t in default on any obligations or contracts.
  • There are no hazardous substances used in the business.
  • All accounts receivable are bona fide, have arisen in the ordinary course of business, and are not subject to offset.
  • There are no undisclosed liabilities, legal proceedings, orders, or judgments.
  • There are no undisclosed employment, consulting, bonus, or other agreements with employees or any third parties.
  • You’ve disclosed all material facts that would affect the buyer’s decision to purchase the business.

Covered Parties

Normally, the buyer seeks to obtain protection from as many parties as possible in the purchase agreement, such as all shareholders, key managers, and others. They’ll also seek protection that’s as broad as possible, such as requiring you to represent that all information you’ve provided is accurate. When attempting to expand the scope to third parties, negotiations may become contentious as a breach can have major financial implications for such a party. 

The Process of Negotiating Reps and Warranties

Negotiating the reps and warranties can occur throughout the process of due diligence until the closing, in conjunction with negotiating the purchase agreement. Here’s a detailed description of the process of when and how the reps and warranties are customarily negotiated.

The Letter of Intent

Unfortunately, the full reps and warranties are only documented in the purchase agreement, not the LOI. As a result, you won’t have the opportunity to see the reps and warranties that a buyer may be proposing in the LOI. But you can counter this by asking the buyer to mark up a draft purchase agreement when evaluating a buyer’s LOI. However, this is customarily only done in larger transactions. The breadth and depth of the reps and warranties are also based on facts discovered during due diligence, and their substance may change based on what the buyer uncovers during the course of due diligence. 

As a result, the reps and warranties aren’t drafted until much later in the process. In effect, this results in two stages of negotiations – once when the LOI is hammered out, and again when the purchase agreement is negotiated. This is why reps and warranties are so hotly negotiated – the parties have already struck a deal, but now they must negotiate a second time.

The Purchase Agreement

In most transactions, the buyer’s attorney prepares the purchase agreement, and your counsel responds by marking up the agreement. When drafting the reps and warranties, the buyer’s attorney normally focuses on the likelihood and amount of potential exposure. 

The scope of negotiations is based on the first draft of the purchase agreement from the buyer’s attorney, taking into consideration how aggressive their initial draft is and the bargaining positions of each party. That’s why buyers aim for a long exclusivity period – to reduce your bargaining power later in the process when the purchase agreement and reps and warranties are being negotiated. 

Consider a scenario in which you take your business off the market before the sale is complete. You’ll have spent tens of thousands of dollars conducting due diligence through fees paid to attorneys and accountants, made a significant emotional investment in your transaction, and put all other potential buyers on hold for several months. As a consequence, you’ll be in a weaker negotiating position, and the buyer may be able to negotiate much more stringent terms in the purchase agreement.

You should carefully read through the representations and not blindly sign them as if they were boilerplate – they’re not. If you’re not 100% certain regarding a representation, that representation should contain a knowledge qualifier, such as “to the best of the Seller’s knowledge” or “to Seller’s knowledge.” At the same time, exclusions can be documented in the disclosure schedules. 

But, remember that the purchase agreement is essentially a tool for allocating risk. Even though you may not have knowledge of something, you may still be asked to make a representation regarding that fact, which in essence is transferring the risk to you, despite your lack of knowledge.

Breaching a rep or warranty can have disastrous effects on either party and shouldn’t be taken lightly. 

You can minimize the potential scope of reps and warranties by:

  • Hiring an experienced negotiator, such as an investment banker or M&A advisor, to manage negotiations.
  • Holding an auction to improve your negotiating posture – the more buyers you’re negotiating with, the stronger your position will be.
  • Doing pre-sale due diligence to identify and address problems before beginning the sales process. 
  • Conducting yourself in a trustworthy manner at all times. Always be on time, always do what you say you will do, maintain your composure during negotiations, make conservative estimates, and perform other trustworthy actions.

If you operate a simple business, the reps and warranties likely won’t be extensive in scope. However, if you own a risky or complicated business, you can expect the buyer to demand far more stringent reps and warranties. 

For example, if your business handles hazardous materials, the buyer will request stringent representations addressing potential environmental concerns, workers’ compensation claims from the workers handling the hazardous materials, and a lot more. 

The scope of negotiations is based on the first draft of the purchase agreement from the buyer’s attorney, considering how aggressive it is and the bargaining positions of each party.

Tips for Negotiating Reps and Warranties

Here are some tips for negotiating reps and warranties:

Past Events Only: Representations should primarily cover past events. They aren’t designed to provide the buyer with assurance regarding the future. Operating a business involves numerous risks, so the buyer should assume normal business risks and not attempt to mitigate future risks that occur in the ordinary course of business. 

Analyze Indemnity Provisions: Use a chart to analyze indemnification provisions. These provisions can be complex, and it’s best to separate the legal language from the economic parameters. Extract the economic parameters of the provision and map it out on a spreadsheet like the one below. This helps organize and analyze the terms of indemnification and facilitates making tradeoffs. 

Representations and Warranties Analysis
RepresentationSurvival PeriodBasket(% of Purchase Price)Cap(% of Purchase Price)
Accounts Receivable12 MonthsNone20%
All Other18 Months1%20%
Returns24 Months1%20%
Product Liability36 Months1%20%
Title and OrganizationUnlimitedNone100%
Non-Assumed ObligationsUnlimitedNone100%

Beware of Financial Representations: Be careful when making a financial representation, such as: “Purchase Price is based on EBITDA for the most current year of $5.2 million … continued to a separate representation … and the financial statements have been prepared in accordance with Generally Accepted Accounting Principles.” This is a potential landmine and is tantamount to giving the buyer a blank check. If your financial statements aren’t prepared in accordance with GAAP – and most aren’t, you’ve essentially given the buyer carte blanche to later negotiate the purchase price. Before signing representations concerning accounting or financial matters, have a CPA review them to ensure they’re accurate. 

Reducing Exposure

Here are some ways you can reduce your potential exposure to the reps and warranties:

  • Reps and Warranties Insurance: Insurance is available to minimize the potential liability of breaches. The price is normally 4% to 8% of the coverage amount – not the purchase price – and depends on the scope of the reps and warranties, the industry your business operates in, the deductible, and the term of the coverage. For a $50 million transaction, with a 10% cap ($5 million cap), this would equate to a one-time premium of $200,000 to $400,000. This type of insurance has become commonplace in private middle-market M&A transactions but doesn’t cover fraud or gross negligence. This is a wise investment for any middle-market business owner who plans on retiring and would like to fully let go after the sale. 
  • Knowledge Qualifiers: Limiting the reps and warranties based on your knowledge is an effective strategy for reducing your exposure and can place the burden of proof on the buyer to prove that you did have knowledge of the information. Knowledge qualifiers can also be limited to certain parties. For example, a representation can be limited exclusively to your knowledge, or it could also apply to your management team. You should attempt to limit knowledge solely to your own knowledge, as broadening the scope of liabilities of knowledge to third parties can increase the amount of risk. For more on this, including examples of knowledge qualifiers, see the “Limitations to Reps and Warranties” section below.
  • Materiality Qualifiers: Materiality can be addressed either in individual reps and warranties or collectively in the indemnification section. More commonly, materiality is addressed in the indemnification section by the use of baskets and other thresholds. Most agreements specify that only material breaches will be subject to indemnification. The level of materiality is usually defined by providing a specified basket, or deductible. In most transactions, the amount of the basket is 0.50% to 0.75% of the purchase price. For example, in a $10 million transaction, a claim must exceed $50,000 to $75,000 before it’s subject to an indemnification claim.
  • Survival Periods: Reps and warranties are almost always limited to a specified time period, also called a survival period. Survival periods may differ depending on the type of representation being made. For example, reps and warranties regarding tax and environmental concerns may be for longer periods or may even be perpetual, with no time limit, in certain cases. Nonetheless, survival periods can also serve to limit your level of exposure.
  • Right of Offset: Indemnification claims can also be offset by unpaid amounts of the purchase price. For example, indemnification claims could be subtracted from the outstanding balance of a seller note.
  • Insurance: You can insure against any risks that are potentially insurable by purchasing tail coverage for your existing insurance policies, in addition to reps and warranties insurance. You can also maintain your existing policies if the policies are made on a claims basis vs. an occurrence basis. The indemnification should be net of any insurance reimbursements. You should be sure to request that the insurer waive any subrogation rights they may have if they aren’t the named party in the policy. This prevents the insurer from coming after you in the event of a loss since you aren’t the named policyholder. 
  • Indemnification Caps: You can cap your total exposure to breaches of reps and warranties. Caps, or limits, are generally 10% to 20% of the purchase price, but may be higher for specific types of claims, such as environmental claims. 
  • Shareholder Liability: The parties to the indemnification can either be your entity or the individual shareholders. In most cases, the selling entity ceases to exist, and the buyer requests that all operating shareholders sign the purchase agreement. A selling shareholder must personally sign the purchase agreement in order to be subject to being required to indemnify the buyer. If multiple shareholders exist, they shouldn’t agree to “joint and several liability.” If joint (together as a whole) and several (individual) liability exists, the shareholders can be held liable either together as a whole (joint) or individually (several).
    • In other words, a 10% minority partner could be potentially liable for the entire amount of the claim. Or a 60% majority partner could be liable for the entire claim, and the 60% partner would then have to chase down the minority partners for reimbursement. If you have multiple partners, you should attempt to limit indemnification on a pro-rata basis where each partner pays their share of the award, as opposed to “joint and several.”

Limitations to Reps and Warranties

Limitations to reps and warranties can be further broken down into the following four categories:

  1. Knowledge Qualifiers: These limit reps and warranties based on a definition of your knowledge of the representation or warranty being made.
  2. Survival Periods: Reps and warranties expire after a period of time known as a “survival period.”
  3. Baskets – Minimums: You aren’t liable for claims until the basket amount is exceeded. This functions similarly to an insurance deductible.
  4. Caps – Maximums: You are only liable up to a maximum amount, also called a cap.

Here’s a closer look at each of these categories.

Knowledge Qualifiers

One of the simplest ways to limit the scope of a representation or warranty is through a knowledge qualifier. A knowledge qualifier limits your exposure based on your, or one of your executives’ (e.g., CFO), “knowledge” of a representation. For example, if you state that your accounts receivables are collectible, and the buyer later determines that you loosened your credit policies before the sale, you may be held liable. But the degree to which you’re held liable depends on the parties’ exact definition of “knowledge.”

You may not have knowledge regarding every aspect of your business. This can be especially the case if you’re an absentee owner. This means you may rightfully become nervous if you’re required to make representations regarding aspects of your business of which you may be unaware. For example, an absentee owner may not be aware if all equipment is operational. Therefore, reps and warranties are often limited based on your knowledge.

Sample in-line knowledge qualifiers include:

  • “To the best of Seller’s knowledge”
  • “To Seller’s actual knowledge”
  • “To Seller’s knowledge”

These statements may precede the reps and warranties section in a purchase agreement. For example, “To the best of Seller’s knowledge, the Seller represents and warrants that …”. In this case, the definition of knowledge is included in the statement itself, as opposed to being defined separately in the Definitions section.

The precise definition of knowledge, as defined in the agreement, will have significant implications for both parties. In the absence of any knowledge qualifier, you could be 100% responsible for any reps and warranties in the purchase agreement, regardless of whether you knew it was true or not. Limiting the definition of knowledge can dramatically alter the dynamics and can force the onus on the buyer to prove that you knew your representation was false at the time it was made. It can also significantly limit the buyer’s indemnification rights by shifting unknown risks to the buyer. 

The buyer will attempt to expand the definition of knowledge to include “constructive” knowledge, which includes information that should have been known after reasonable or due inquiry, or that should be known based on your role in your business. For example, a CEO will be presumed to have a different level of knowledge than a CTO or CMO.

Both parties should remember that uncertainty will always be present, regardless of the parties’ desires. Reps and warranties aren’t solely a test of integrity but are primarily a legal mechanism for allocating risk. 

Careful consideration should be given if you’re an absentee owner with little knowledge of your business. In such cases, the definition of knowledge should suit the circumstances, but bear in mind that knowledge qualifiers are also a risk-allocation tool, and you may be required to make representations regarding areas of the business of which you’re not knowledgeable. 

Finally, the agreement should specify to whose knowledge the reps and warranties are subject. Are the reps and warranties based solely on your knowledge, or is the knowledge of your officers and other executives also included in the definition? If third parties are to be included in the definition, you must be willing to bear the risk of depending on the knowledge of those third parties. In some circumstances, officers or key employees are asked to sign a certificate in which they individually certify knowledge of reps and warranties that are applicable to their roles. For example, a CFO may be required to sign a certificate relating to any financial representations.

Reps and warranties aren’t solely a test of integrity but are primarily a legal mechanism for allocating risk. 


Reps and warranties are also commonly limited in time. Once the time period elapses, you may no longer be held liable to the buyer for a breach, except in certain circumstances, such as an intentional or willful breach or fraud. Most buyers prefer to operate the business for at least a full year or business cycle to identify any potential breaches before the reps and warranties expire. As a result, the average life of representations ranges from 12 to 24 months. 

Survival periods may also differ, depending on the type and nature of the representation. For example:

  • Intellectual Property: Can often be as long as 36 months. 
  • Environmental: Can be unlimited.
  • Tax: Unlimited, or the full period of limitation under local, state, or federal law.
  • Employment: ERISA and employment matters can range from two years to unlimited.
  • Organizational and Title: Can be unlimited.
  • Compliance with Laws: Can be unlimited.

Baskets, or Minimums

Reps and warranties are almost always subject to a basket, or a minimum threshold that must be met before you become liable. This operates similarly to an insurance deductible. You aren’t liable for claims until the basket, or deductible, is exceeded. The basket sets the minimum loss the buyer must bear before you can be held liable. Most M&A transactions include a basket of 0.75% of the purchase price. In a $10 million transaction, a 0.75% basket would be $75,000. You wouldn’t be liable to the buyer until the cumulative amount of the claims exceeds $75,000.

The basket serves several purposes, such as:

  • It incentivizes the buyer to bear some of the risk, like an insurance deductible. If the basket, or deductible, were zero, the buyer would have nothing to lose by submitting numerous frivolous claims.
  • It acknowledges that no transaction is perfect. With a basket, the parties accept that problems will arise, and they agree to not submit claims until a material threshold is exceeded. This simplifies the transaction by requiring the parties to submit only material claims.
  • It improves the efficiency of the transaction by eliminating immaterial claims.
  • It encourages the buyer to be more thorough in their due diligence.

Baskets can be tipping or non-tipping:

  • Tipping Basket: With a tipping basket, you must reimburse the buyer for 100% of the losses once the basket is exceeded. For example, if the basket is $100,000 and there’s a $101,000 claim, you must reimburse the buyer $101,000.
  • Non-Tipping: With a deductible, or non-tipping basket, you only reimburse the buyer for amounts that exceed the basket amount. In the case above, with a $100,000 basket and a $101,000 claim, you would only reimburse the buyer $1,000.

Some agreements require the parties to split losses up to the deductible amount. For example, if there were a $100,000 deductible and a $101,000 loss, the buyer would be required to pay $50,000 and the seller $51,000. This provision requires the buyer to absorb a significant portion of any losses and therefore motivates the buyer to be thorough in their due diligence to mitigate potential losses. This also motivates you to help mitigate smaller losses on behalf of the buyer. This mitigates, to some extent, the motivation of a buyer to “tip” a tipping basket, so they’re reimbursed for the “deductible.”

Buyers will obviously argue for the lowest basket possible, while sellers will seek a higher basket amount. Certain reps and warranties are often not subject to the basket, such as those relating to employees, environmental, organizational, title to assets, or tax issues. The basket may also be voided if you commit a willful breach, or it may be limited based on your knowledge, as it’s defined in the agreement. However, most sellers contest this language since determining “willful” is subjective and subject to costly disputes.

Caps, or Maximums

A cap is the maximum amount of liability you can incur to the buyer. Caps average 10% to 20% of the purchase price of the business for most transactions. Once the cap is exceeded, you’re no longer liable to the buyer for damages, with minor exceptions such as fraud. Caps can be higher, or even unlimited, for the following reps and warranties:

  • Intellectual property
  • Title to assets
  • Employee matters
  • Employee benefits, ERISA
  • Environmental issues
  • Tax issues
  • Organizational issues

General Guidelines

Here’s a chart of general guidelines for baskets, caps, and survival periods.

General Indemnity Provision Guidelines for Baskets, Caps, and Survival Periods
BasketCap(% of Purchase Price)Survival Period
Title to AssetsNone100%Unlimited
Employee, ERISA0.75% to 1.0%20%24 to 36 Months
IP0.75% to 1.0%20%24 to 36 Months
Environmental0.75% to 1.0%10% to 100%24 to 36 Months
All Other0.75% to 1.0%10% to 20%18 to 24 Months

Sample Representations, Warranties, and Covenants

Seller Reps and Warranties

Here’s a general summary, though not a complete list, of typical reps and warranties you may be asked to provide. Note that the majority of the reps and warranties would be subject to a knowledge qualifier, and any exceptions would be listed in the Disclosure Schedules to the purchase agreement:

  • Approvals:
    • No approval or notice is required to do the deal, except as scheduled. 
  • Assets – Title to Assets, Ownership, Condition, Encumbrances, and Others: 
    • There are no judgments, claims, liens, or proceedings pending against the Seller, the business, or the assets being sold, and none will be pending at closing, except as disclosed to the bank or permitted pursuant to the loan agreement.
    • The entity being sold owns all the assets needed to operate the entity’s business. At closing, the assets will be free from any claims of others.
    • The business and financial information Seller has given the Buyer is accurate.
    • Tangible assets are in good working order, ordinary wear and tear excluded, except as scheduled. 
  • Authority:
    • Seller is in good standing and duly organized and qualified in their legal jurisdiction to conduct business. 
  • Brokers and Agents:
    • Seller has no finders’ or brokers’ fees, except as scheduled. 
  • Claims – Judgments, Claims, Liens, and Proceedings:
    • There are no judgments, claims, liens, or proceedings pending against the entity or its assets, and none will be pending at closing.
  • Contracts:
    • Seller is not in default under any contract assigned to Buyer.
    • The entity is not in default on any contracts.
  • Corporation:
    • The Seller is a corporation duly organized and existing in good standing under the laws of the state in which it is operating and has all requisite power and authority to carry on its business, to own or lease its properties and assets, to enter into this Agreement, and to carry out its terms. Copies of the Certificate of Incorporation and Bylaws of the Company that have been delivered to Buyer prior to the execution of this Agreement are true and complete and have not since been amended or repealed. The Seller has no subsidiaries or direct or indirect interest in any corporation, limited liability company, or partnership.
    •  The shares constitute all the issued shares of the entity. No additional shares will be issued before the closing. At closing, the shares will be free from any claims of any persons or entities other than Seller(s).
  • Customers:
    • Seller has not received any written notice from its largest customers of intention to discontinue or substantially reduce business.
  • Employees:
    • The borrower has no exposure under the Employee Retirement Income Security Act (ERISA). 
    • There is no union strike pending or underway or charges pending before the Equal Employment Opportunity Commission (EEOC). 
  • Environmental:
    • The entity is in compliance with all environmental laws. There are no hazardous materials on the business premises that may be a source of future liability under the environmental laws.
    • Seller’s operating sites are free of any environmental contamination, or order to remediate, or penalty from any authority. Seller has all environmental permits required to operate its sites, except as scheduled. 
  • Financials:
    • Seller’s financial statements are prepared per GAAP, are complete, and fairly present, in all material respects, the financial position of the business. 
  • Inventory:
    • Inventories are of a type and quality salable in the ordinary course and are valued at lower cost or marketed on a first in, first out (FIFO) basis net of appropriate reserves for obsolescence, except as scheduled. Buyers seek “quality and fit-for-purpose” assurances. 
  • Intellectual Property – Trademarks, Patents, and More: 
    • Seller’s IP does not infringe the IP of others. No outstanding claims against the company for infringing the IP of others exist pre-closing, nor do infringements of Seller’s IP exist pre-closing, except as scheduled. 
  • Laws – Compliance, Permits, and Licenses:
    • Seller is in full compliance with all laws, ordinances, or regulations applicable to the operation of the business.
    • Seller has all material approvals and permits for conducting the business, and all are in full force and effect. 
    • No government agency is investigating, threatening to investigate, or has filed or threatened to file a claim against the Seller or target business.
  • Liabilities – Absence of Undisclosed Liabilities and No Undisclosed Liabilities:
    • There are no undisclosed liabilities for which Seller is liable. 
  • Litigation:
    • There are no lawsuits pending or threatened against the borrower that are likely to have a material adverse effect on it if decided against the borrower, except as disclosed to the bank. 
    • There is no action or suit or governmental investigation to the knowledge of Seller pending or threatened with respect to the business that may affect the deal, except as scheduled. 
  • Material Adverse Change/Effect (MAC/MAE):
    • There has not been any material adverse change in the business or financial condition of the business as a whole since a certain date, except as scheduled. 
  • Operations:
    • The current uses of the Seller’s business premises are permitted under the applicable zoning laws. The business premises presently meet all applicable health, safety, and disabled access requirements and are in good repair.
  • Taxes:
    • At closing, Seller will have paid all taxes that have then come due and that affect the business and its assets.
  • Catch-All:
    • The information provided by the Seller and the Shareholders with respect to the Seller, the Assets, and the Business, including the representations and warranties made in this Agreement and the Schedules attached hereto, and all other information provided to the Buyer in connection with their investigation of the Seller, does not contain any untrue statement of a material fact and does not omit to state any material fact necessary to make the statements or facts contained herein or therein not misleading.

Buyer Reps and Warranties

Here is a summary of typical reps and warranties provided by a buyer. Note that most will be subject to a knowledge qualifier, and any exceptions will be listed in the Disclosure Schedules to the purchase agreement:

  • Buyer represents that its company is a duly organized entity, qualified in its legal jurisdiction to conduct business, and is in good standing. In other words, Buyer promises that its company is a going concern.
  • The business and financial information that Buyer has given Seller is accurate.
  • Buyer has the authority and legal right to execute the purchase agreement. 
  • Buyer is not in violation of its corporate governing documents and will not cause any liens or defaults, except as scheduled.
  • Buyer has no finders’ or brokers’ fees, except as scheduled. 
  • Due Diligence:
    • Buyer has had the opportunity to visit with the Seller to discuss the target business.
    • All materials and information requested by Buyer have been provided to the Buyer to their reasonable satisfaction.
    • Buyer has made their own independent examination, investigation, analysis, and evaluation of the purchased assets and the target business, including Buyer’s own estimate of the value of the purchased assets and the target business. 
  • Buyer has inspected the tangible assets that Buyer is purchasing and the leased premises and has carefully reviewed Seller’s representations regarding them. Buyer is satisfied with the physical condition of the tangible assets and the premises.