Indemnification by seller: Overview, definition, and example
What is indemnification by seller?
Indemnification by seller refers to a provision in a contract (often in mergers, acquisitions, or asset sales) where the seller agrees to compensate or "indemnify" the buyer for certain losses, liabilities, or damages that arise after the transaction. Essentially, the seller assumes responsibility for specific issues or claims that may arise due to events or circumstances that occurred before the deal closed. This clause is meant to protect the buyer from risks associated with the seller’s past actions, such as undisclosed liabilities, legal disputes, or breaches of representations and warranties made during the sale process.
In a typical transaction, the seller agrees to indemnify the buyer for claims arising from the seller's actions or omissions, and the buyer agrees to limit the scope of indemnity based on agreed-upon terms, such as time periods, monetary caps, or specific exclusions.
Why is indemnification by seller important?
Indemnification by seller is important because it protects the buyer from unforeseen risks or losses related to the seller's business or assets before the sale. It helps ensure that the buyer does not bear the financial burden for any issues that existed prior to the transaction but were not fully known or disclosed at the time of the deal. This clause provides a level of assurance to the buyer that they can recover damages if certain conditions (like undisclosed debts or legal actions) materialize after the transaction.
For sellers, agreeing to indemnify the buyer can be a critical part of negotiations, as it limits the seller’s ongoing risk after the deal. The seller will typically seek to limit the indemnity to specific issues and a fixed period of time to reduce their exposure.
Understanding indemnification by seller through an example
Imagine a company, Company A, sells its business to Company B. During the due diligence process, Company B discovers potential environmental liabilities that were not disclosed by Company A. As a result, the sale agreement includes an indemnification by seller clause, where Company A agrees to compensate Company B for any costs or legal fees incurred due to these environmental issues that arise after the sale.
In another example, a seller of real estate, Seller X, agrees to indemnify the buyer, Buyer Y, for any damages or legal claims related to the property that arose before the sale but were not disclosed. If a claim is filed regarding a structural defect in the building after the closing, Seller X would be obligated to cover the costs of the claim.
An example of indemnification by seller clause
Here’s how an indemnification by seller clause might appear in a contract:
“The Seller agrees to indemnify, defend, and hold harmless the Buyer from and against any and all losses, damages, liabilities, and expenses (including reasonable legal fees) arising from or relating to any breach of the Seller’s representations and warranties, or any liabilities that were incurred by the Seller prior to the Closing Date and were not disclosed to the Buyer.”
Conclusion
Indemnification by seller is an essential clause in business transactions, particularly in asset sales and mergers, that ensures the buyer is protected from any potential liabilities or damages related to the seller’s past actions or undisclosed issues. It provides peace of mind to the buyer, knowing they can seek compensation from the seller if certain risks arise after the transaction. For sellers, this clause is a point of negotiation to define the scope and limits of their ongoing responsibility after the deal.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.