Reps & Warranties in M&A: How They Protect Buyers and Sellers
When you sell a company, the buyer wants to ensure that the proceeds are not jeopardized by hidden liabilities or legal issues that emerge after the transaction is completed. This is exactly what so-called reps & warranties (representations and warranties) are for – contractual mechanisms that protect both parties. Find out why they are not a pointless legal ritual, how they work in practice, and what happens when you fail to account for them.
Article contents
Quick summary
- Reps & Warranties are not insurance, but contractual legal protection. The buyer wants to verify that the seller truly owns what they are selling, that there are no hidden liabilities, and that all legal obligations have been met. Representations and warranties secure this contractually.
- There is asymmetric risk: the seller does not know all risks that may emerge after the sale, such as employment-law claims, hidden contracts, or tax issues. Yet the seller remains liable for them. Without proper negotiation of R&W, you may lose part of the proceeds.
- The practical impact of R&W is significant. They can reduce the company’s price by 10–20% and extend the transaction by months due to due diligence and negotiations. If you are not prepared, you may even end up in litigation over damages.
- It is important to consider insurance as well. Thanks to R&W insurance (warranty insurance), you can protect yourself even after the sale, as an alternative to long-term obligations towards the buyer.
What Reps & Warranties are and why the seller does not want them
Reps & Warranties (representations and warranties) are the seller’s contractual statements that certain facts are true at the time the sale is completed and for a certain period thereafter. The buyer relies on these statements and, if they prove untrue, has the right to claim damages.
Typically, the seller states that they are the owner of the company and have the right to sell it. The company also has no hidden liabilities, litigation, or tax deficiencies. All contracts are in order and are not being breached. It is also stated that employees are not involved in employment-law disputes and that the assets are not encumbered by third-party rights.
Why is this uncomfortable for the seller? Because you are liable for matters that may surface months or years after the transaction. When setting the scope and limits of these statements in the purchase agreement, the transaction structure and negotiation of key provisions are typically addressed as well, with support from company sales and transaction advisory services. The buyer may send you a claim for damages within 18–36 months and you must prove that your statements were true. For specific warranties (e.g., tax warranties), these periods may be longer, usually until the end of the statutory limitation periods under Czech law.
In practice: You sell a company for CZK 50 million. Six months after the sale, a tax audit takes place and the inspection finds that the company had been failing to pay certain insurance contributions. The additional payments and penalties amount to CZK 2 million. The buyer sends you a claim: you are in breach of the R&W in which you stated that all tax obligations had been met. You now either litigate with the buyer or have to pay out of your own pocket. On how to avoid similar consequences already at the verification stage and when setting liability, see also the article Vendor Due Diligence: Why have your own company reviewed before the buyer does?.
How R&W work in M&A transactions
The process has several key phases that are often underestimated:
Preparing R&W in the purchase agreement
The purchase agreement (Sales & Purchase Agreement, SPA) usually contains an extensive chapter on R&W. It sets out which facts the seller represents and for how long the statements apply.
Example from practice: The seller’s agreement includes R&W stating that “all obligations have been fulfilled, and there is no debt to the state, financial institutions, or third parties.” It sounds simple, but in practice:
What counts as an “obligation” — only legally formalised ones, or also factual ones? If VAT was paid late, does that count as a breach? Is there any tolerance for minor discrepancies?
Without precise definitions, you and the buyer will interpret the agreement differently and a dispute is effectively built in. That is precisely why, in practice, it pays to rely on contracts and negotiations, so that terms such as “obligation”, “knowledge”, or “material adverse change” are defined unambiguously. The attorneys at ARROWS advokátní kancelář can help you with linguistically precise R&W wording that fits your interests.
Quantification and limits of liability
This is where the amount and mechanism of damages are determined. A threshold/basket means the buyer does not need to bring claims below a certain minimum amount. This is often 0.5–1% of the purchase price, which may be CZK 500,000–1,000,000 in the case of a sale for CZK 100 million.
A cap, on the other hand, means the seller does not have to compensate more than a certain maximum amount. This often reaches 10–15% of the purchase price.
A deductible then determines the amount the buyer bears themselves, for example the first CZK X, before the seller’s obligation to compensate arises.
Practical risk: A threshold protects you from small claims, but a cap can expose you in the event of major issues. If the cap is too low and a serious problem emerges, such as hidden litigation with a higher contractual penalty, you may not be able to limit your risk.
Escrow and retention of the purchase price
To ensure that the seller will be able to pay damages, part of the purchase price (sometimes 10–20%) is often retained in a special account (a so-called escrow account) for the duration of the R&W period.
In practice: You sell a company for CZK 100 million, but you receive only CZK 80 million immediately. The remaining CZK 20 million sits in an escrow account for, for example, 24 months. During that time, the buyer may assert claims, which are then satisfied from the funds held in this way.
This also means: If after the sale you find that you are missing CZK 20 million in income and you are no longer part of the company, you may face liquidity issues. This is a common surprise for sellers who do not factor escrow into their planning. Approaches to setting the purchase price, retaining part of the price, and the cash-flow impact are also discussed in the article How the final price is determined in a company sale: Closing accounts vs. locked box.
Most common questions on preparing for R&W
1. Should I hire a lawyer to review my own R&W?
Yes. Many sellers hire a lawyer only to protect their interests during negotiations with the buyer, or only at the stage of reviewing the share purchase agreement. That is a mistake. The attorneys at ARROWS, a Prague-based law firm, will help you systematically go through all your statements and identify risk areas. This may include, for example, an overlooked tax obligation, internal policies that do not comply with legal regulations, or an employment-law inconsistency you have forgotten about. This way, you avoid unpleasant surprises.
2. What if we know about a certain issue but think the buyer will not find out?
That is the worst approach. Concealing a fact you knew about can lead to litigation where intentional concealment is proven against you. It can also result in rescission of the sale agreement due to fraud, or personal criminal liability of the owners for fraud under the Criminal Code in the Czech Republic. If you know about an issue, you must discuss it with the buyer and either resolve it before the sale or disclose it appropriately and transparently in the R&W with a qualification. So-called disclosure becomes part of the agreement.
3. What is the difference between a “representation” and a “warranty”?
A representation is a statement about the past and present (e.g., “The company has no litigation”). A warranty is more of a promise about a certain state that will continue in the future, or a guarantee that something will not happen (for example, that an agreement will not be terminated or will remain in force). In practice, both terms are often used interchangeably, but legally they may have different consequences. The ARROWS team will ensure that the terminology in your SPA is consistent and protects you.
Reps & Warranties insurance: a modern solution for sellers
Traditional approach: The seller bears all R&W risks for 3 years, and if an issue arises, the seller pays damages.
The modern approach is Reps & Warranties insurance (R&W insurance). This is a special insurance policy purchased by the seller (or sometimes the buyer) that covers damages claims arising from a breach of the R&W. Key benefits:
The seller is relieved of long-term liability because, instead of responding to claims for 24–36 months, compensation is handled under the insurance policy. At the same time, the transaction price remains higher, because instead of a price reduction due to escrow you can negotiate a higher upfront price. The buyer also has the comfort that the insurer will pay under the policy rather than the seller, and routine situations are therefore often resolved without court proceedings.
In practice: You sell a company for CZK 100 million with traditional R&W. The escrow is CZK 15 million, the cap is CZK 12 million, the period is 24 months. Later, an issue of CZK 5 million arises and you would have to pay. Alternative: Purchase R&W insurance for CZK 600,000; the average cost is 0.5–1% of the transaction value, you receive the full price immediately, and the policy covers the risks.
However, you should know: R&W insurance also has exclusions, deductibles, and conditions. When negotiating the policy, you need a lawyer to ensure the policy truly covers your key risks.
Most common questions about R&W insurance
1. How long does it take to arrange R&W insurance?
The process of arranging R&W insurance runs in parallel with negotiating the share purchase agreement and usually takes 2–4 weeks. The policy is then typically arranged and effective as of the signing date or closing of the transaction. The insurer wants to see the final SPA draft and conducts its own risk review. Even though this may slightly extend the transaction process, it is definitely worth it.
2. Who contacts the insurer – us or the buyer?
Usually the seller organises it, because the seller is purchasing the policy. The insurer will want to communicate directly with the seller’s lawyer and sometimes with the management of the target company. The ARROWS attorneys have experience here and know what insurers expect from the seller.
3. What if we do not notify a claim and a problem appears later?
R&W insurance has so-called notification periods. If an issue arises within 3 years of closing the transaction, you must notify the insurer, often within 30 days. If notification is missed, the policy may not respond. This is critical—ARROWS will alert you to all deadlines and ensure they are met.
Typical risks and how to address them
|
Potential issues |
How ARROWS can help (office@arws.cz) |
|
Hidden tax issue: Two years after the sale, a tax audit takes place. It is found that you failed to remit a certain portion of VAT. Additional tax + penalties = CZK 3 million. The buyer asserts a claim. |
The ARROWS team will carry out a pre-sale tax analysis and identify all risk areas. We will also structure the R&W provisions so that they include an adequate definition of “tax liability” and, if needed, assist with R&W insurance. |
|
Employment-law dispute: After the sale, employees claim they should have been dismissed with severance pay, not immediately. The buyer faces extensive legal disputes. Result: a court award of CZK 1.5 million. The buyer blames you for breach of the R&W. |
We will prepare an audit of all employment-law matters, complete all unresolved disputes before the sale, and ensure that the R&W is insured. Employment matters are among the most common sources of claims. |
|
Breach of a contractual obligation: An agreement with a long-term customer contains a clause stating that “sale to a third party without consent is prohibited.” Shortly after the sale, the customer notices it. Termination of the agreement and loss of revenue is threatened. |
We will review all key contracts, identify hidden third-party rights, and negotiate your partners’ consent to the sale. If that is not possible, we will appropriately record it in the R&W. |
|
Intellectual property: The buyer later discovers that one of your registered trademarks originated from adopting a third party’s idea that you never verified. Cancellation of the trademark and legal disputes are threatened. |
The ARROWS attorneys will conduct a comprehensive audit of the IP portfolio—the origin of each trademark, patent, and copyrighted work. We will ensure that all IP is properly protected and that its origin is verifiable. |
Practical steps before a sale
If you are planning to sell a company, you should consider the following steps:
Contact a lawyer before officially marketing the company
Too many sellers initiate a sale without legal advice. When the volume of legal issues then comes to light, it may already be too late. The ARROWS team can assist you with a pre-transaction audit: a systematic review of all legal aspects of the company. This allows us to identify risks you can address in advance and those you must record in the SPA.
Prepare a list of all facts and documents
The buyer will send you detailed information requests (data request lists) with details about legal agreements, liabilities, disputes, etc. If you do not have this organised, the transaction will drag on for months and create unnecessary stress.
Clarify your R&W position
What R&W are you willing to give? What exceptions or limitations do you want? What about insurance? This should be a clear subject of negotiation with the buyer and the lawyers.
The ARROWS team will help you set a realistic position and anticipate what the buyer will require.
Arrange R&W insurance
If it is strategic for you (and it usually is), contact the insurer or the R&W insurance broker at an early stage. Although the policy is typically arranged in parallel with signing the SPA, the first discussions with the broker or insurer should start already in the early phase of the transaction.
Most common questions on practical steps
1. How much does legal support with R&W preparation cost?
It depends on the size and complexity of the transaction. For thorough preparation and negotiation of R&W in the context of a company sale, costs may run into the hundreds of thousands of Czech crowns and more, depending on the complexity and volume of the transaction. Compared to the potential risks arising from a breach of R&W (which can reach millions), this is a key investment. ARROWS attorneys will agree pricing with you—typically a combination of an hourly rate and a fixed fee for certain tasks.
2. What happens if the sale agreement does not include specific R&W?
Then the legal principle of “caveat emptor” (let the buyer beware) applies. The buyer then has significantly limited options to assert claims for defects or shortcomings that arise after the transaction, and the seller remains without contractual protection. You should always have at least basic R&W in the SPA.
3. Can we negotiate R&W in advance before we start looking for a buyer?
Yes, to some extent. You can prepare a standard R&W template with your lawyer and later tailor it to the buyer. ARROWS attorneys can help you prepare a realistic template that will be easier for any buyer to accept.
The relationship between R&W and the seller’s credibility in the M&A process
R&W also play an important role in signalling the seller’s credibility to potential buyers. A seller who offers reasonable and specific R&W presents themselves in the market as confident and transparent. Conversely, excessive limitations of R&W or vague wording raises suspicion.
In practice: One seller claims they only want to give minimal R&W and with a long validity period. Another seller offers standard R&W with a reasonable cap and deductible. For the buyer, it is clear who is likely hiding problems and who is open and reliable.
This is another reason why it is good to have a lawyer. Contact the attorneys at ARROWS, a Prague-based law firm - office@arws.cz. They will not only protect you from overly strict R&W, but also help you with precise drafting that inspires trust.
Final summary
Reps & Warranties are not a pointless legal ritual. They are real money. When you sell a company, the risk that hidden issues will emerge after the transaction is not zero. Representations and warranties determine who will bear that risk—you or the buyer.
Without proper negotiation, you risk a 10–20% reduction in the company’s price due to uncertainty. You also risk long-term liability for issues that may arise even years after the sale. There is also the risk of litigation with the buyer for damages and the loss of funds held in an escrow account if claims are asserted.
At the same time, there are ways to protect yourself: first, thorough preparation and clarification of all R&W in advance; and second, R&W insurance, which relieves you of long-term liability. ARROWS attorneys, a Prague-based law firm, specialise in M&A transactions and, through the ARROWS International network, also handle cross-border sales. Understanding R&W and setting them up correctly is not something you should handle on your own.
If you do not want to take risks and want to be sure that your R&W position is set optimally and that all risks are identified, contact the attorneys at ARROWS, a Prague-based law firm, at office@arws.cz. They know what to watch out for.
FAQ - Most common questions on protecting proceeds from the sale of a company
1. What is the average number of R&W that appear in purchase agreements?
Typically, there are 15–30 key R&W plus dozens of detailed clarifications. A typical purchase agreement is 50–100 pages long and often has 10–20 pages dedicated specifically to R&W. Most commonly, these are R&W relating to ownership, finances, legal disputes, taxes, employment, contracts, and intellectual property. ARROWS attorneys can help you prioritise—which R&W require the most caution.
2. What are the typical time limits during which the buyer can bring a claim?
Most commonly 18–36 months from completion of the sale. Some R&W (for example those related to tax obligations) may apply longer—until the statutory time limit for assessing tax expires (usually 3 years, but under certain conditions up to 10 years). The length of the period is negotiated and is critical—the longer it lasts, the greater the risk for the seller.
3. Is there a difference between R&W in a domestic sale and in international M&A transactions?
Yes, there are significant differences. International purchase agreements (especially where the buyer is from the USA or a large foreign capital group) often contain more detailed and stricter R&W. These agreements also include detailed arrangements on access to information and documents (the so-called right to information/inspection), which allows the buyer to verify the truthfulness of the R&W after completion of the transaction or substantiate a claim for breach. ARROWS attorneys work on international M&A transactions and understand the differences between Czech, Czech-foreign, and purely foreign M&A.
4. What if, after completion of the sale, it is discovered that I knowingly lied in the R&W?
This is very serious and may lead to: rescission of the sale agreement, meaning the deal is treated as invalid. It may also lead to compensation for actual damage plus penalty interest, and personal criminal liability of the owners for fraud under the Czech Criminal Code. It never pays to conceal facts. It is better to be honest and negotiate a price reduction or insure the risk.
5. What are the most common issues that appear in claims in the first 12 months after the sale?
Based on the experience of ARROWS attorneys, these include tax issues (10–15% of all claims), employment-law disputes under Czech legislation (15–20% of all claims), and hidden liabilities and credit exposure (20–25% of all claims). Further, infringements of intellectual property or third-party contractual rights (10–15% of all claims), hidden legal disputes (10% of all claims), and other issues (15–20% of all claims). ARROWS attorneys know which areas are the riskiest and will help you focus on them.
6. How do R&W differ from classic seller warranties in civil law?
R&W in M&A are much more specific and relate more to future claims and complex facts about the company. A classic seller warranty (under the Czech Civil Code) relates more to defects in goods or work, both factual and legal, and its scope and time limits are more limited. R&W in M&A are negotiated contractual rights and obligations relating to legal and factual matters about the company and are usually agreed in greater detail. ARROWS attorneys will explain the difference and ensure that your R&W are drafted correctly from a legal perspective.
Notice: The information contained in this article is of a general informational nature only and is intended to provide basic guidance on the topic based on the legal framework as of 2026. Although we strive for maximum accuracy, legal regulations and their interpretation evolve over time. We are ARROWS advokátní kancelář, an entity registered with the Czech Bar Association (our supervisory authority), and for the maximum protection of our clients we maintain professional liability insurance with a limit of CZK 400,000,000. To verify the current wording of the regulations and their application to your specific situation, it is necessary to contact ARROWS advokátní kancelář directly (office@arws.cz). We accept no liability for any damages arising from the independent use of the information in this article without prior individual legal consultation.
Read also:
- Vendor Due Diligence: Benefits, Scope and Key Phases for Sellers
- Transactional Risk Insurance (W&I): How to Close a Deal Without the Risk of Litigation
- Managing Seller Risks Between Signing and Closing in Company Sales
- Pre-Closing Covenants in Share Deals: Seller Obligations and Key Risks
- How to Respond to a Damages Claim for Breach of Due Managerial Care