Author: Shawn Alavi
The market for pollution liability insurance has dramatically changed over the past few years. Environmental liability coverage is broader, limits have increased, and premiums are significantly lower.
When evaluating the acquisition or divestiture of an asset, it's crucial to be aware of potential environmental liabilities arising from ceased onsite operations, as well as past and present offsite sources. These liabilities can vary in exposure based on geological characteristics and groundwater flow direction. Therefore, thorough environmental due diligence is essential to ensure a successful transaction.
Gallagher's Environmental practice specializes in providing environmental risk management and insurance services. Our practice is an industry leader, focused on helping our clients:
- Identify their potential environmental risks.
- Analyze environmental risks in terms of potential frequency and severity.
- Review the risk control and financing mechanisms available to address these risks.
The details below provide some perspective on each party's mindset and what should be considered through the acquisition and divestiture journey as it pertains to environmental risk.
Buyer's questions
Has up-to-date due diligence been completed (i.e. Phase 1, 2 or 3s)? If so, did the environmental investigations identify a recognized environmental condition (REC)?
- Yes. How will the REC be handled in the transaction? Will the seller fix the issue before the sale or lower the purchase price? Or will the buyer take on the liability?
- No. How confident are you in the thoroughness of the investigations conducted for the sale? Were these investigations carried out on behalf of the buyer or the seller, and is the consultant known for their reliability? Additionally, are you prepared to take on the liability?
Are tenants currently occupying the site? When is their lease set to expire, and does their lease agreement stipulate any due diligence requirements before vacating, forfeiting, or transferring the lease?
What are the plans for the acquired assets post-deal closure? The risk level varies based on whether the site continues its current operations or undergoes redevelopment.
Seller's questions
How do I maximize my profit on the sale? Contaminated lands are devalued and restrict your ability to achieve market value.
How do I shift as much Environmental liability to the buyer as part of this transaction? Conducting thorough due diligence and effective risk management of the asset can help potential buyers feel more at ease with assuming liabilities. Addressing any environmental issues before the sale will also facilitate this transition.
How can I protect myself if the company or former directors and officers are named in a suit or claim?
- If a transactional policy is being placed, ensure all directors and officers are individually listed if they're not covered under the first named insured on the policy.
- If no transactional policy is being placed, be aware that there have been cases where individual directors and officers were held liable and had to pay out of pocket.
Lender's questions
Is my investment protected? Could an environmental incident or event hinder the loanee's ability to operate a successful business? Environmental losses can lead to insolvency, potentially resulting in the lender taking ownership of the asset.
Is there an Environmental Insurance requirement included in the loan agreement? This insurance provides an additional layer of protection, allowing the financial burden to be transferred to either the buyer or the seller.
As with any transaction involving real estate, potentially contaminated sites have commercial or business risks associated with them. Protection can be provided for many of the risks that are identified above. Transactional Environmental Liability policies cover cleanup costs, bodily injury, property damage, fines, and penalties.
Reasons to invest in a Environmental Liability policy
- Environmental due diligence: While this process offers some assurance about the current state of the site, it can't guarantee that there are no existing pollution issues with the acquired assets.
- Environmental indemnity provisions: These provisions are often included in purchase agreements. Depending on the terms, liability may be shared or assumed by one or both parties, with or without conditions.
- Unknown maximum loss potential: The extent of potential losses is often uncertain, especially if contamination spreads offsite.
- Limited coverage of Representations and Warranties insurance: This type of insurance typically doesn't cover environmental liabilities.
- Risk mitigation: Insurance can provide financial stability against both immediate and long-term environmental risks.
- Liability of directors and officers: Without an Environmental Insurance program, directors and officers can be personally liable for environmental issues, which may include fines, cleanup costs and claims for bodily injury or property damage.
