Broker M&A: Uncovering Hidden Liabilities The continuing need for new sources of income, market clout and alternative production capacity in uncertain times has fueled the search by large and small brokers alike for potential merger and acquisition candidates. In pursuit of ever-increasing revenues, many brokerage executives have become accustomed to an analysis of potential acquisitions by focusing upon brokerage valuations, market clout and increased capacities.
Such clearly valid criteria aside, many agency executives nonetheless tend to ignore certain vital aspects of brokerage unification, such as hidden legal liabilities, potential cultural dissonance in the combined entities and the inherent instability of brokerage business valuations.
The ability to take a sharper view of the less obvious factors to be considered in the process of acquiring a business may well constitute the difference between a smooth transition and a rocky, exhausting travail. As a result, careful consideration of all aspects of how a brokerage will be affected by an acquisition is crucial.
One of these factors, the potential existence of unknown legal liabilities, constitutes the focus of this article.
As a general rule, a purchasing agency is not liable for any of the contractual or financial obligations of the predecessor business, unless those obligations are assumed specifically by the purchaser. As a result, the principles of so-called “successor liability” generally have no application in this context, unless the business obligations of the predecessor business are specifically assumed by contract.
The general rule, however, does not always apply.
In fact, the purchaser agency, as “successor” to the predecessor agency, may unwittingly assume the so-called “tort” liability of the old business as a matter of law.
“Tort” liability includes liability imposed by law for the negligent and reckless conduct of the predecessor agency, sometimes referred to as the “errors and omissions” of the selling agency.
Moreover, such liability may be assumed despite any recitation in purchase agreements stating that the purchasing agency does not expressly assume such obligations. The point here is that such liability may be legally “inherited” by the purchasing agency knowingly or unknowingly.
For example, if a former brokerage negligently failed to advise an existing insured to purchase adequate limits, the purchasing brokerage could, under some circumstances, be held liable for this mistake.
Legal precedent gives some guidance as to when a purchasing brokerage may find itself assuming such responsibility as a matter of law. As a general rule, a corporation that acquires the assets of another corporation may be constrained to assume the liability of a predecessor company under specific circumstances as follows:
If the purchasing corporation expressly or implicitly assumes those liabilities.
If the selling corporation and the purchasing corporation actually merge operations.
If the purchasing corporation is a mere continuation of the selling corporation.
If the transaction is entered into fraudulently, in an effort to escape such legal obligations.
There are many facets to these general guidelines. And there is obvious merit in consulting competent counsel in the process of moving through a purchase so that the specific circumstances of a brokers transaction may be balanced against legal considerations in the applicable jurisdiction.
Using these general guidelines, most courts will look to whether it is equitable for the new agency to escape the legal obligations of the purchased agency under the circumstances. As a result, a purchasing broker is well advised to take specific precautions in tandem with any acquisition or merger.
For example, care should be taken to make certain that a thorough analysis is conducted concerning all potential and reported claims and incidents of the selling brokerage that could develop into full-blown suits.
In addition, counsel should be consulted regarding the limitations period that would be applicable to each claim or incident. This is done to identify a probable “window” for suit.
Care should be given to make sure that all materials necessary to the defense of claim are fully preserved for the time period remaining on the statute of limitations.
Moreover, there should be no doubt that an errors and omissions policy providing coverage on a primary basis should be purchased for the period necessary to cover the statute of limitations applicable to the jurisdictions at issue.
Finally, once potential claims scenarios are identified, likely witnesses should be identified so that they may be located if needed to assist in the defense of a potential action.
By making such preparations, the purchasing broker will have gone far to protect against unforeseen liabilities that could well transform a satisfactory arrangement into a legal morass.
David H. Paige (left) is chief operating officer and an attorney at DeWitt Stern Group Inc. in New York City. Robert M. Sullivan is an attorney with Nicoletti, Hornig, Campise, Sweeney & Paige, also in New York City.
Reproduced from National Underwriter Edition, June 9, 2003. Copyright 2003 by The National Underwriter Company in the serial publication. All rights reserved. Copyright in this article as an independent work may be held by the author.