Representations and warranties

The statements of fact a seller formally makes in a transaction document, which the buyer is entitled to rely on and can claim against if untrue.

Example

A warranty that the accounts give a true and fair view, or that there is no outstanding litigation.

Important

They are only worth the substance of the person behind them and the cost of pursuing a claim. Diligence checks a small fraction of what a file asserts; warranties are what stands behind the rest.

Related terms

• Disclosure schedule — The document in which a seller lists the exceptions to what they are formally promising - the litigation, the defaults, the contracts that are not on standard terms.
• Management representation — A statement made by the people selling or running the thing you are examining, whether spoken, written in a deck, or set out in a document they prepared.
• Conditions precedent — Things that must happen before a transaction completes - a consent obtained, a licence transferred, a regulatory approval granted.

Lessons that explain it

• Deal killers: the findings that end it — A deal killer is not a very large red flag. It is a fact that has already been established and that no price adjustment can reach. (8 min)
• The headline sale price is not what investors receive — Proceeds from a sale flow through debt, transaction costs, preferences, escrow and earnouts before reaching each shareholder. The waterfall decides what a headline price is worth to you. (13 min)
• Small shareholders mostly sign, but what they sign matters — An acquisition involves warranties, indemnities, escrow and a drag-along that can compel minority holders to participate. Understanding the documents before signing is the last chance to know what you are agreeing to. (11 min)
• The company's name and inventions may already belong to someone else — Legal IP diligence checks registered rights such as trademarks and patents, and looks for claims by founders' former employers or universities over work the company relies on. (10 min)
• The liabilities that are not on the balance sheet — Legal diligence looks for obligations the accounts may not show: workers who may legally be employees, pending or threatened litigation, and regulatory licences or rules the business depends on. (10 min)
• A breach can cost a young company its customers, not just its data — Security diligence checks how a company protects systems and customer data, what incidents it has had, and whether it meets the obligations its customers and regulators expect. (10 min)

All 578 terms in the Investing glossary