Representations and warranties in the SPA can force you to return part of the sale price years after closing. Learn how they work and how to negotiate them to protect yourself as a seller in an M&A transaction.
Representations and warranties — commonly known as reps & warranties — are arguably the section of the share purchase agreement (SPA) that can cost you the most money after a deal closes. Yet they are consistently the least discussed element during the early stages of an M&A negotiation.
When a business owner receives an acquisition offer, their focus is naturally on the price: the EBITDA multiple, the total consideration, the payment structure. But there is a legal and financial mechanism that can significantly reduce your net proceeds: the warranty clauses embedded in the SPA. Understanding reps & warranties before you sit down to negotiate can be the difference between receiving what you expected and returning hundreds of thousands of euros years after closing.
In this article, I explain what they are, why buyers always include them, how they work in practice in Spanish and European M&A, and how you can negotiate them to protect yourself as a seller.
What are representations and warranties in a business sale?
Reps & warranties are statements the seller makes about the state of the business at the time of closing. They are essentially promises: "my accounts reflect the true financial position," "there are no hidden liabilities," "client contracts are valid and in force," "there are no material tax contingencies I am aware of."
If any of those statements turns out to be false — even in good faith, through error or omission — the buyer can seek compensation from the seller. In a typical SPA, these clauses can run to dozens of pages and cover virtually every aspect of the business: financial accounts, intellectual property, employment relationships, material contracts, regulatory compliance.
The technical distinction: representations are assertions about past or present facts, while warranties are commitments that something is true as of the contract date. In Anglo-Saxon practice — and increasingly in Spanish M&A transactions — both are treated jointly under a single liability regime.
Why buyers always include reps & warranties
Buyers conduct due diligence to understand what they are acquiring. But no due diligence is perfect: some information does not surface in four to eight weeks of document review. There are contingencies that do not exist on paper but do exist in the operational reality of the business. There are informal commercial relationships, verbal commitments, and unwritten arrangements that affect the true value of the company.
Reps & warranties are the mechanism by which buyers transfer that residual risk back to the seller. The implicit message is: "If what you told me is true, there is no problem. If something you declared as true turns out not to be, you compensate me for the damage."
From the buyer's perspective, this is a reasonable and standard protection mechanism across the entire European M&A market. From the seller's perspective, it can become a source of financial claims months or even years after the deal has closed and the proceeds have been received. This is why understanding what you are signing matters so much.
The most sensitive areas in a Spanish SPA
While every transaction is different, in mid-market M&A transactions in Spain certain areas consistently generate the majority of post-closing claims:
Tax and employment contingencies
These are, by far, the most frequent source of claims in the Spanish market. Buyers know that the Spanish Tax Agency can audit the last four fiscal years. If a tax regularisation arises after closing — VAT, corporate income tax, withholding taxes — the buyer will want the seller to bear that cost. The same applies to employment contingencies: irregular contracts, misclassified employees, verbal agreements with key staff that were never formalised in writing.
Material contracts with clients and suppliers
When the business has long-term contracts with key clients, the buyer needs warranties confirming those contracts are valid and that there are no change of control clauses that would automatically terminate them upon the ownership transfer. A major client exercising such a right post-closing can destroy significant portions of the value the buyer paid for.
Intellectual property and intangible assets
In technology or service businesses, buyers require warranties confirming that the company is the effective owner of its software, trademarks, databases, and know-how. If an external developer holds rights over the source code, or if the registered trademark stands in the founder's personal name rather than the company's, the damage to the deal value can be severe.
Undisclosed litigations and claims
Any ongoing or reasonably foreseeable legal or administrative proceedings must be explicitly disclosed. If the seller concealed a dispute with a former employee, a regulator, or a key client, and this surfaces post-closing, the warranty mechanism triggers the seller's indemnification obligation.
Hidden debt and working capital
Beyond the standard price adjustment mechanism, warranties relating to the level of indebtedness at closing are particularly sensitive. Hidden liabilities to suppliers, social security authorities, or the tax administration can generate material claims if they were not reflected in the closing balance sheet.
How much might you have to repay? The limits negotiated in the SPA
Without agreed limits, a seller could theoretically be liable for the entire transaction value if their representations are false. In practice, the parties negotiate a set of mechanisms that substantially condition the real economic impact of the warranties:
- Cap (maximum liability limit): The maximum amount the seller can be required to pay under warranty claims. Typically set between 20% and 50% of the purchase price. In Spanish mid-market practice, 25–40% is the most common range.
- De Minimis threshold: A minimum individual claim threshold below which no single claim is actionable. It prevents litigation over minor amounts.
- Basket or aggregate threshold: A minimum aggregate amount the buyer must accumulate before making a claim. It functions like an insurance deductible: the buyer absorbs the first portion of losses.
- Warranty period: The time window during which the buyer can bring claims. For general warranties, typically 18–24 months. For tax and employment warranties, this can extend to 4–5 years, tracking Spanish statutory limitation periods.
The practical implication for the seller is that the true net proceeds are only known with certainty once all warranty periods have expired. In transactions where part of the price is held in escrow as warranty security, the wait can extend two to three years and the liquidity impact is real and material.
How to negotiate reps & warranties and protect yourself as a seller
The good news is that reps & warranties are fully negotiable. The challenge is that negotiating them effectively requires preparation and, above all, specialist M&A legal counsel from the first SPA draft. A general-practice lawyer is not sufficient; experience in transactional work is essential.
The Disclosure Letter: your most powerful tool
The most effective tool available to a seller is the disclosure letter: a document appended to the SPA in which all exceptions to the warranties are explicitly disclosed. If something is disclosed in the letter, the buyer cannot later make a claim for it, because they already knew about it before closing.
The logic is straightforward: what the buyer already knew cannot constitute a warranty breach. A well-prepared disclosure letter — with the support of your tax, employment, and legal advisers — is your first line of defence against future claims. Over-disclosing is always preferable to under-disclosing.
W&I Insurance (Warranty and Indemnity Insurance)
In transactions above a certain size — generally above €5–10 million enterprise value — it is possible to obtain a specific warranty and indemnity insurance policy. This insurance covers the buyer directly in the event of a claim, eliminating or dramatically reducing the seller's personal liability exposure.
Premiums typically range from 0.8% to 1.5% of the insured value. In many transactions the buyer pays the premium, or it is split between the parties. It is a solution gaining increasing traction in the Spanish M&A market and can unlock deals where seller and buyer are far apart on the warranty cap.
Reducing the cap and shortening the periods
Negotiating a 20% cap instead of 40%, or reducing the tax warranty period to three years instead of four, are specific battles that carry real economic consequences. You should not concede these points without a counterbalance. Every percentage point of the cap represents thousands or millions of euros of exposure over which you will have no control once the contract is signed.
Seller's knowledge qualifier
Another common negotiating tool is to limit warranties to "what the seller knew or could reasonably have been expected to know." This excludes claims for facts the seller genuinely did not know and could not have known through reasonable diligence. Sophisticated buyers will resist this limitation, but in balanced negotiations it is achievable, at least for lower-criticality warranties.
The three most common seller mistakes on warranty negotiations
The first and most costly: accepting a 90-page SPA draft — full of broadly worded warranties — without negotiating point by point, convinced that "it's standard" or that "the buyer will never claim anything." They may be right. But if a problem arises, the exposure is real.
The second mistake is failing to prepare an exhaustive disclosure letter. The more meticulous the disclosure letter, the lower the risk of future claims. If you are in doubt about whether to disclose something, disclose it. The cost is zero; the benefit can be significant.
The third mistake is not calculating the economic impact of the cap and warranty periods on the transaction's real economics. If you sell for €8 million with a 40% cap and a four-year tax warranty period, you have €3.2 million of potential exposure for four years. That must influence how you manage the proceeds and what investment commitments you make during that window.
Frequently asked questions about reps & warranties in business sales
What is the difference between reps & warranties and indemnities?
Reps & warranties are statements whose falsity triggers a breach-of-contract claim, requiring the buyer to prove a loss arising from the breach. Indemnities are direct commitments to compensate for specific, identifiable risks — without needing to prove a breach. Indemnities are more direct and enforceable: if the specified event occurs, payment follows without further debate.
Can reps & warranties be removed from the SPA entirely?
In practice, no. Any well-advised buyer will include warranties in the sale agreement. What is fully negotiable is the scope of the warranties, the cap, the periods, knowledge qualifiers, and the breadth of the disclosure letter.
What happens if the seller genuinely did not know about a contingency?
It depends on how the warranty is drafted. An absolute warranty — without a knowledge qualifier — makes the seller liable even without actual knowledge. A warranty with a knowledge qualifier limits liability to what the seller knew or should reasonably have known. This makes negotiating the precise wording just as important as negotiating the economic limits.
Is W&I insurance worthwhile for transactions below €5 million?
Below that threshold, the fixed structuring cost of a W&I policy is typically disproportionate to the benefit. The best protection at that level is a thorough disclosure letter, a rigorously negotiated cap, and well-defined warranty periods — supported by experienced M&A advisers.
When in the M&A process are warranties negotiated?
Reps & warranties form part of the SPA, which is negotiated after the LOI (letter of intent) and in parallel with due diligence. The disclosure letter is prepared during due diligence and finalised just before closing. It is the most important phase of the process for the seller, and the one where specialist advisory support makes the greatest difference.
