First Published in The Royal Gazette, Legally Speaking, August 2020
Indemnity clauses represent a contractual transfer of risk between parties to a transaction, the purpose of which is to prevent loss to one of the parties or to compensate that party for losses that may occur as a result of a specified event.
They may cover all losses or liabilities, or be restricted by the scope of the clause to certain types of loss, and may also cap the maximum liability of one party to another under the clause.
Indemnity clauses play an important role in managing the risks that may come with certain transactions and are commonly found in commercial contracts.
An indemnity claim in a business purchase context formed the basis of a recent English High Court case, Towergate Financial v Hopkinson&Howard.
Hopkinson and Howard, the defendants sold English company M2 Holdings Limited to Towergate Financial, the claimants, by way of a share purchase agreement. When a company is sold as a going concern, all of it is typically sold - the good and the bad. Indemnities are vital in this context because the seller indemnifies (ie, promises to cover) the buyer against the risk of costs and expenses that may flow from the occurrence of certain events.
The indemnity in the SPA required the seller to indemnify the buyer against costs associated with professional negligence claims that might arise. This clause was included by the buyer because M2 provided financial advice to retail customers; the indemnity was against the risk that some customers might sue M2 for negligent financial advice.
Each of the defendants and their spouses indemnified the claimants against such claims. As a condition precedent to reliance on the indemnity clause, the contract first required the claimants to inform the defendants of any matter that might lead to a claim under the indemnity "as soon as possible and in any event prior to the seventh anniversary" of the date of the SPA.
This kind of notification provision is very common in commercial contracts.
In Towergate, the claimants became aware of potential claims as early as mid-2012. However, it was only in July 2015, on the eve of the seven-year anniversary of the SPA, that the claimants notified the defendants of their intention to make a claim.
The defendants chose not to honour the indemnity and the claimants issued proceedings in the High Court seeking payment. The defendants contended that notice of the claims had not been provided "as soon as possible" and therefore they were no longer liable.
The decision of the High Court emphasises several core principles relating to the notification provisions of indemnity clauses.
First, the court stressed that notification clauses are a form of exclusion clause because they have the potential to limit the remedies that a party to the contract might be able to claim upon. For that reason the clause must be clearly drafted. Any uncertainty in the drafting of the clause (and therefore its interpretation) will be resolved by the court against the party seeking to limit or exclude liability under the clause.
In Towergate, the claimants suggested that the clause was ambiguous and unclear. They sought to argue that, in fact, when read a certain way, the clause contained no requirement for notification "as soon as possible". The court was unpersuaded by the claimants' argument and the reasoning why underlines the second core principle.
The requirement for clear drafting does not mean that the court will entertain fanciful readings of common sense contractual language in order for a party to escape a notification clause, particularly in cases involving commercial contracts freely negotiated and agreed by the parties. The clause in Towergate was "not perfect", but it was "perfectly clear" and the issues it presented could be resolved by any "sensible reader . without any difficulty". Ultimately the judge found that the language was clear, grammatical and workable.
The third principle is perhaps the most obvious; where an indemnity clause requires notice "as soon as possible" the language is not a mere suggestion, but a contractual imperative and failure to give notice in that manner will render a claim on the indemnity impossible. This remains the case even where the notification clause has a long-stop date.
The claimants in Towergate did not notify as soon as possible. The timeline of the claimants' own documents showed that they had been in contact with the industry regulator about potential issues some three years before they gave notice and that they had started to identify and investigate potential claims internally two years before.
In the end, notice was only given because of the impending expiry of the seven-year-long stop date, which, the documents showed, had been diarised by the claimants. A delay of this kind was held to be a clear breach of the notification language in the indemnity clause and the claim for indemnification failed.
Towergate is a salutary reminder to clearly set out the terms of any notification requirement under an indemnity clause and, then, to ensure those terms are comprehensively followed.
Originally published 27 Aug 2020
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.