THRESHOLDS, BASKETS AND CAPS: LIMITATIONS OF WARRANTIES IN M&A AGREEMENTS

In practice, M&A transactions consist of several stages, with the majority of negotiations

taking place during the drafting of the Share Purchase Agreement (SPA). In that context,

the most important sections of the SPA are the seller’s warranties and the limitations

attached to them.

After completing the due diligence process, buyers aim to secure protection against

uncertainties identified during their review. Accordingly, the seller typically provides

warranties, for example in relation to key assets or material contracts. If such warranties

are breached, the buyer is contractually entitled to request restoration to the previous

state or claim damages.

These warranties can be modified and limited through different contractual mechanisms.

In practice, the most common are de minimis clauses, basket clauses and seller liability

cap clauses.

1. DE MINIMIS CLAUSES

A de minimis clause sets a threshold, meaning that warranty claims can only be brought

if the damage exceeds a fixed amount. Its main purpose is to protect the seller from numerous small claims that are insignificant compared to the agreed purchase price, and to avoid a large number of disputes between the parties over minor amounts.

2. BASKET CLAUSES

A basket represents the level of aggregate losses that the buyer must suffer before

becoming entitled to compensation from the seller. There are two main types: tipping

basket and deductible basket.

A tipping basket means that the buyer becomes entitled to full compensation once the

total losses exceed the agreed amount. For example, if the tipping basket is EUR

30,000, the buyer may claim the entire amount of damages once total losses exceed

that threshold, but has no right to compensation before that point.

A deductible basket can be compared to a deductible in insurance contracts. If the

losses exceed a certain amount, the buyer may only claim compensation for the portion

exceeding that amount. For example, where losses up to EUR 30,000 are not

recoverable, the buyer may only claim the difference between the actual losses and

EUR 30,000 once the threshold is exceeded.

When negotiating an SPA, the parties need to agree on both the type and the amount of

the basket. A tipping basket is generally more favourable to the buyer, while a deductible basket is more favourable to the seller.

3. CAP CLAUSES (LIMITATION OF LIABILITY)

A cap represents the maximum financial exposure of the seller towards the buyer in

respect of damages. It is the total amount of losses that the buyer is entitled to claim

from the seller.

During negotiations, the seller will typically propose a lower cap, while the buyer will

seek a higher cap or, in some cases, no cap at all. Caps can also be agreed separately

for different types of losses and are often excluded for the seller’s fundamental

warranties, such as the seller’s authority to enter into the agreement. In such cases, the

cap may be set at the full purchase price.