The Disclosure Letter: The Other Half of the SPA

If representations and warranties define the contractual picture of the target, the Disclosure Letter explains where that picture needs to be qualified.

This makes it one of the most important documents in a private M&A transaction.

The SPA may contain a warranty stating that the target is not involved in material litigation, has complied with applicable laws, owns its intellectual property and is not in breach of any material contract. The seller may nevertheless know that one specific dispute is pending, that a licence renewal is outstanding or that a customer has raised a contractual issue.

The purpose of disclosure is not necessarily to remove those warranties. It is to identify the relevant exceptions with sufficient clarity so that the buyer enters into the transaction knowing that those particular facts exist.

In practical terms, the warranty package and the Disclosure Letter must therefore be read together. One sets out the general statements the seller is making. The other identifies the circumstances in which those statements are qualified.

That is why the Disclosure Letter is not a secondary closing document. It is part of the core risk-allocation mechanism of the SPA.

What does disclosure actually do?

Suppose the SPA contains the following warranty:

> The Company is not involved in any material litigation.

If that statement is given without qualification and a material lawsuit already exists, the warranty may be inaccurate from the moment it is made.

The seller can instead disclose the proceeding against that warranty, explaining the nature of the claim, the parties involved and the relevant status.

The effect, subject to the wording of the SPA and the applicable law, is generally that the buyer cannot later claim that the existence of that properly disclosed proceeding itself constituted a breach of the warranty.

The disclosure therefore changes the contractual allocation of risk.

The seller has said, in substance: the warranty is true, except for this identified matter, which you now know about and are accepting subject to whatever other protection we have agreed.

That last point is important. Disclosure does not necessarily mean that the buyer simply accepts the economic risk.

If the disclosed issue is significant, the parties may respond through a price adjustment, a specific indemnity, an escrow, a condition precedent or another contractual solution.

Disclosure identifies the problem. It does not automatically determine who should ultimately pay for it.

General disclosure and specific disclosure

Disclosure is often divided into two broad categories: general disclosures and specific disclosures.

General disclosures typically cover information that is publicly available or otherwise deemed to be known to the buyer under the agreed terms of the transaction. This may include matters appearing in public corporate registers, constitutional documents or other identified sources.

Specific disclosures are different. They relate directly to particular warranties and identify individual facts or circumstances that would otherwise make the relevant warranty inaccurate.

For example, against a warranty stating that no material customer has given notice of termination, the Disclosure Letter might identify a particular customer that has communicated its intention not to renew a contract.

The more significant the issue, the more important it becomes that the disclosure is specific enough for the buyer to understand its nature and potential consequences.

A vague statement that "certain customers have raised commercial issues" is very different from identifying the relevant customer, contract, correspondence and potential financial exposure.

The quality of disclosure matters because the document is supposed to provide information, not simply create a broad legal shield around the seller.

When is a matter fairly disclosed?

One of the most important concepts in disclosure is whether a matter has been disclosed with sufficient detail.

The precise test depends on the transaction and governing law, but commercially the issue is intuitive.

Has the buyer been given enough information to understand the nature and significance of the exception to the warranty?

Simply uploading a document somewhere in a large virtual data room does not necessarily mean that its relevance has been properly communicated.

Imagine a data room containing 40,000 documents. One email, buried within a folder containing hundreds of customer communications, refers to a potentially significant claim by a major client.

The seller may argue that the buyer had access to the email. The buyer may respond that no reasonable disclosure process identified the issue as an exception to a warranty.

This is why the SPA and Disclosure Letter often regulate the standard of disclosure itself.

The debate is not only whether information was technically available. It is whether the matter was brought to the buyer’s attention in a way that allowed it to assess the risk meaningfully.

Can the entire data room qualify the warranties?

This is often a major negotiation point.

The seller may want the full contents of the virtual data room to qualify the warranties. From its perspective, information already made available during due diligence should not later become the basis of a warranty claim.

The buyer may resist.

A data room is primarily an information repository. It is not necessarily organised as a legal disclosure exercise, and requiring the buyer to treat every document as qualifying every warranty may significantly weaken the contractual protection it negotiated.

A compromise may involve incorporating the data room into the disclosure framework subject to agreed conditions, such as a defined disclosure standard, a fixed copy of the data room and confirmation that only information sufficiently clear and identifiable will qualify the warranties.

From an advisory perspective, the broader lesson is important: a data room and a Disclosure Letter perform different functions.

The data room allows the buyer to investigate the business. The Disclosure Letter tells the buyer which facts the seller specifically relies upon when qualifying its contractual promises.

The two processes overlap, but they should not be confused.

Disclosure should begin before the SPA is finished

One of the most common practical mistakes is treating disclosure as something to be completed at the end of the transaction.

That creates unnecessary pressure.

The seller’s management team may suddenly be asked, shortly before signing, to review dozens or hundreds of warranties and identify every exception that needs to be disclosed.

The exercise can reveal problems that should have been identified much earlier.

A more effective process begins while the SPA is still being negotiated.

If the draft warranty says that all material contracts are in full force and effect, the seller should immediately ask whether any key agreement is being renegotiated, disputed or terminated.

If there is a warranty concerning intellectual property, the relevant business team should verify ownership, licences and pending registrations.

If employee warranties are extensive, HR should be involved early.

This makes disclosure not merely a legal drafting exercise but a structured internal due-diligence process on the seller’s side.

It often forces the company to examine its own business with greater precision than it has before.

The Disclosure Letter can reveal where the real transaction risk sits

From an advisory perspective, the Disclosure Letter is particularly valuable because it shows where the warranties collide with reality.

If a warranty schedule appears clean but the Disclosure Letter contains repeated exceptions relating to the same area, that may indicate a broader issue.

Multiple disclosures concerning key customer contracts may suggest commercial fragility. Numerous intellectual-property exceptions may reveal unclear ownership. Repeated regulatory disclosures may indicate that compliance risk deserves deeper analysis.

The buyer and its advisers should therefore not review disclosures only from the perspective of whether they legally qualify a warranty.

They should also ask whether the pattern of disclosures changes the investment case.

Sometimes a disclosure is perfectly acceptable as a contractual matter but commercially significant enough to affect valuation or deal structure.

The legal document may therefore reveal a financial problem.

Known issues may require more than disclosure

Disclosure is not always an adequate solution.

Suppose the seller discloses a tax assessment for EUR 4 million that is under challenge.

The disclosure may protect the seller from a claim that the tax warranty was breached merely because that assessment exists.

But the buyer still faces the economic risk that the target may ultimately have to pay EUR 4 million after closing.

If that risk is material, the buyer may require a specific tax indemnity, a purchase price adjustment, an escrow or another form of protection.

Similarly, disclosure of a major customer threatening termination may not solve the commercial problem. The buyer may require the matter to be resolved before closing or reconsider the valuation.

This is why disclosure should not become an automatic response to every identified issue.

The question is not simply:

"Can we disclose this?"

It is:

"If we disclose this, who bears the risk after closing?"

That is a much more important transaction question.

The process matters almost as much as the document

A strong disclosure process requires coordination between legal advisers, management and the commercial teams that actually understand the business.

Lawyers can identify what needs to be disclosed against the warranties, but management often holds the underlying knowledge.

The person responsible for sales may know that a major customer relationship is deteriorating. The CTO may know that part of the software relies on third-party code. HR may know about a threatened employment claim. The finance team may know that a particular receivable is disputed.

A Disclosure Letter prepared only by the legal team without effective management input can therefore create significant risk.

The seller should treat the exercise as a disciplined internal review, with relevant warranties allocated to the individuals best placed to confirm whether exceptions exist.

For the buyer, the same principle applies in reverse. The disclosure should be reviewed not only by lawyers but, where appropriate, by financial, tax, commercial and technical advisers.

The meaning of a disclosure often depends on its economic context.

Disclosure and negotiation are closely connected

The disclosure process can also become a negotiating tool.

The seller may seek broader disclosures and more extensive qualifications in order to reduce post-closing liability.

The buyer may seek narrower disclosures and greater specificity in order to preserve the value of the warranties.

Neither objective is surprising.

The negotiation is ultimately about how much information is enough to shift a particular risk from seller to buyer.

This is why disclosure standards matter so much.

A seller will often prefer language that allows information contained in the data room or otherwise made available to qualify the warranties broadly. A buyer will generally prefer a requirement for sufficiently specific and detailed disclosure against identified warranties.

The drafting determines how much contractual protection remains once the Disclosure Letter is taken into account.

The other half of the SPA

A warranty schedule viewed without the Disclosure Letter can create a misleading impression.

The SPA may appear to contain broad and comprehensive assurances about the business, while the Disclosure Letter materially qualifies many of them.

Conversely, a carefully prepared Disclosure Letter can significantly reduce uncertainty by ensuring that known issues are addressed openly before closing rather than becoming disputes afterwards.

The relationship between the two documents is therefore fundamental.

The warranties establish the contractual baseline.

The disclosures identify the exceptions.

And the negotiation around those exceptions determines whether the buyer accepts the risk, reprices it, requires specific protection or refuses to proceed.

That is why the Disclosure Letter should never be treated as an administrative attachment prepared once the SPA negotiations are substantially complete.

It is the document that shows where the seller’s contractual promises meet the actual business being sold.