Companies that are considering an M&A transaction should review their insurance policies to determine whether the carrier needs to be notified of the potential transaction.  In some cases, failure to do so can cost the insured the coverage that it was expecting.  In a case out of California (Scottsdale Insurance Co. v. CSC Agility Platform, Inc., C.D. Cal, Feb 4, 2019), the U.S. District Court for the Central District of California held that an insured’s failure to notify its insurer of a pending transaction allowed the insurer to deny coverage when an otherwise covered claim arose.

ServiceMesh was a technology start-up company with a long-term goal of being acquired by a larger industry player.  ServiceMesh partnered with CSC to provide services to customers, and at some point the parties began discussing the possibility of CSC acquiring ServiceMesh.  The parties had several meetings, and began the due diligence process.  During this period, ServiceMesh sought to renew its Business and Management Indemnity Insurance policy with Scottsdale. One of the questions on the renewal application was “Does the Company contemplate transacting any mergers or acquisitions in the next 12 months…”.  The Company answered “No”, the policy issued, and CSC ultimately acquired ServiceMesh.

After the closing of the transaction, CSC brought claims against certain officers of ServiceMesh, and the officers sought coverage under the policy.    Scottsdale initially provided the coverage under a reservation of rights, and later brought a claim to recoup the amounts it had paid based on claims that in its application ServiceMesh materially misrepresented the likelihood of an acquisition.  The court agreed with Scottsdale, finding that “the ordinary meaning of “contemplate” suggests something more considered and intentional than a stray thought but nonetheless can encompass thinking about something that has not yet formed into a definite plan.”  Viewed in this context, the discussions that ServiceMesh and CSC engaged in at the time of the policy renewal clearly “contemplated” a transaction.  The court further noted that “contemplated” didn’t require a formal offer, but rather “serious consideration” towards a transaction, i.e. something more than the typical start-up’s plan to be acquired.

Companies “contemplating” a transaction must consider whether their carrier needs to be notified, or how to respond to questions on an application or a renewal.

In this matter, it is possible that ServiceMesh may well have been able to get the benefits of the insurance policy if they had answered that they were considering a transaction, or if they had updated the carrier at some point before the transaction.  When in doubt, companies should seek advice from someone such as legal counsel or an insurance industry expert who can advise on the risks and benefits of a particular course of action.  Failure to give the issue due consideration may cost a company coverage that would otherwise have been available, and the impact of such a loss may be difficult to contemplate.