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Beware of indemnities

07 December 2015

In the recent case of Wood v Sureterm Direct Ltd & Capita Insurance Services Ltd, the Court of Appeal considered the importance of carefully drafted indemnities in a share purchase agreement (SPA).

An indemnity is an obligation on the seller to compensate the buyer for loss arising from a specific cause, by making a monetary payment to the buyer. It differs from a warranty which is a contractual promise that, if breached, enables you to sue for damages for breach of contract. Indemnities are often used in a SPA to address specific areas of risk which are of concern to the buyer, such as tax liabilities or a pension scheme shortfall.

In this case, under the disputed provision, the seller agreed to indemnify the buyer in respect of “…all actions, proceedings, losses, claims, damages, costs, charges, expenses and liabilities suffered or incurred, and all fines, compensation or remedial action or payments imposed on or required to be made by [the company] following and arising out of claims or complaints registered with the [Financial Services Authority or other regulator]… pertaining to any misselling or suspected misselling...” in the period before the acquisition took place.

The issue which the court had to decide was whether the indemnity covered circumstances where the buyer suffered loss as a result of the target company self-referring potential misselling to the FSA (rather than as a consequence of a customer making a claim or registering a complaint with the FSA).

The court held that the indemnity was limited to loss caused by misselling where such loss followed or arose from a customer claim or a complaint registered with the FSA. The fact that this interpretation by the court made it a bad deal for the buyer could not dictate the court’s construction of the indemnity.

In a SPA, indemnities usually represent a strong form of buyer protection against known risks. It will therefore be important that any legal adviser is made aware of the exact losses which a buyer is trying to cover.

In the future it would be prudent to ensure that rather than trying to cover everything in a single clause (which may prove difficult to split into its relevant parts (as in this case)), it might be preferable to provide a series of sub-clauses, so that any problems with the scope of the clause should be resolved prior to signing.

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