Cross-Border Indemnification Clause
Summary
This template indemnification clause provides for indemnification by each of the seller and buyer for breaches of representations and warranties, covenants, and other itemized occurrences. The indemnification includes a default ''tipping basket,'' but provides for multiple alternatives. This clause includes practical guidance, drafting notes, and alternate and optional clauses. Most private M&A acquisition agreements contain detailed indemnification provisions specifying the rights and remedies of the parties in the event of a breach (public M&A deals rarely include an indemnification provision). Indemnification provisions lay out the circumstances and manner in which (i) the buyer can seek remedies from the seller for committing any pre-closing breaches and (ii) the seller can resist the buyer's attempts to claw back the purchase price. The scope of coverage provided by an indemnification provision is the critical component in defining a contractual remedy for breach of an acquisition agreement and apportioning the risk of specific potential liabilities. Therefore, it is typically among the most negotiated provisions in an acquisition agreement. Like insurance policies, the key question is "what losses are covered?" As with insurance, some covered losses are customary in most transactions and others are highly specific to a particular transaction. The following is a summary of the most common issues in establishing the scope of indemnification: • Losses Resulting from Breaches of Representations and Warranties. Losses arising from breaches of representations and warranties are typically covered in the acquisition agreement. For this type of indemnity to be triggered, the indemnifying party must have actually breached its representations and warranties and losses must have resulted. It is not enough for a third party to merely assert some fact which, if true, would mean that the indemnifying party's representations and warranties were false. Some parties occasionally expand the coverage for breaches of representations or warranties to include any losses resulting from any "purported breach of a representation or warranty asserted by a third party." This would have the effect of significantly expanding the scope of the indemnity obligation to include mere allegations made by third parties, whether or not the indemnifying party can demonstrate the truthfulness of its representations and warranties. • Losses Resulting from Breaches of Covenants. Indemnification provisions will often cover losses resulting from breaches of covenants set forth in the acquisition agreement. Therefore, the parties should consider whether such breaches (particularly with respect to covenants to be performed at or after closing) should be outside of the scope of any limitations on indemnification. For example, should the buyer's covenant to pay a $1 million purchase price be subject to a $100,000 damage threshold before indemnification liability is triggered? If it is, the purchase price could effectively be reduced to $900,000 by operation of the indemnification mechanism. Breaches of covenants are often outside any basket or cap provisions or are subject to different baskets and caps, as are breaches of a limited set of representations and warranties considered fundamental to the parties' ability to engage in the transaction, such as representations that each party has the requisite authority to agree to the transaction. • Losses Resulting from Liabilities Specific to the Transaction. Sometimes an indemnification provision will cover losses resulting from specific potential liabilities to the buyer and for which the parties agreed to allocate risk between them using the indemnification provisions. These matters often arise with respect to discrete issues identified during the buyer's due diligence review. For example, if environmental regulators are investigating a parcel of real property owned by the target business, the buyer may prefer that the seller be responsible for the costs of the investigation and related environmental liabilities rather than try to quantify the risk associated with the investigation and attempt to factor such risk into the purchase price calculation. Such an approach is not uncommon for risks associated with past tax liabilities of the target business (such that tax risks are often the subject of entirely separate indemnity provisions) and other potential liabilities for which the parties are unable to agree as to the likelihood of assertion or the magnitude of exposure. The buyer will need to consider potential risk in asserting post-closing claims. In asset transactions, the seller remains a separate legal entity after closing and thus will be available as an indemnifying party. However, if the entire business of seller is sold and seller is no longer in operation, the buyer may also require the seller's stockholders to become party to the indemnification obligations to ensure that it can collect on any losses, particularly where the seller may be liquidated after the consummation of the asset purchase transaction. When more than one stockholder is obligated to indemnify the buyer, the buyer will often request that they do so on a joint and several basis, such that the buyer can recover all of its indemnifiable losses from any one or more of the stockholders. The reason for this is that the buyer typically does not want to incur the administrative burden of making multiple claims against multiple stockholders for losses incurred in connection with an indemnifiable loss. The stockholders are free to enter into a contribution agreement to allocate responsibility for indemnification payments among themselves to ensure that no one stockholder bears more than its fair share of liability (assuming that the other stockholders fulfill their obligations under such contribution agreement). For a template, see Contribution Agreement (Seller Indemnification, Acquisition Transaction). Capitalized terms that are not defined in this template are bracketed so that you may insert the correct defined term or match to this clause. Cross-Border Considerations When using this provision in the cross-border context, you should retain and consult with local counsel. Some cross-border specific issues include: • Enforceability. Some jurisdictions may review indemnification provisions under local law for enforceability or consistency with local public policy (even if the agreement is governed by U.S. law). This can lead to unintended results, such as modified limitations, or possibly severing the indemnification provision entirely. • Local custom. While global M&A practice may generally accommodate U.S. customs, counsel should still consult local counsel to ensure that expectations are met. For example, in the UK, indemnification will normally be limited to tax liabilities and certain other specific liabilities (such as environmental liabilities), and in Germany specific performance may be the primary form of remedy. Civil law countries typically do not provide buyers with broad representations and warranties. For more information, see Cross-Border Private M&A Transactions. • Other recourse. Counsel should also consider methods outside the indemnification provisions that may assist or support the indemnity remedy. For example, a buyer may want to ensure that the seller has adequate assets within buyer's jurisdiction for recourse in the event of a claim. Buyers can also consider escrows and holdbacks to ensure a recovery of cash (and in a desired currency). Representations and warranty insurance, if available, could also be considered. For more information, see Enforcement of Foreign Judgments in International Jurisdictions. For additional guidance, clauses, and templates regarding indemnification in acquisition agreements, see the following: • Indemnification Provisions in Private Acquisition Agreements • Key Drafting Considerations for Indemnification Provisions (Chart) • Indemnification Claims in Acquisitions • Indemnification Clause (Deductible) • Indemnification Clause (Tipping Basket) • Indemnification Clause (Combination Basket). • Sandbagging Clauses • Survival Clause • Contribution Agreement (Seller Indemnification, Acquisition Transaction) • Cross-Border Private M&A Transactions • Cross-Border U.S. Private Target Acquisitions: Before the Deal