Microsoft Partners: 4 Myths about Indemnity Clauses

This blog has been written by our Senior Associate, Juliet Nutland, for those with a good understanding of indemnity clauses. For a simplified overview, we’d recommend reading her blog, “No Legal-Speak — Your FAQs about Indemnities.”

Introduction

Indemnities are an intrinsic part of many commercial contracts and the IT and Tech sector is no exception.  We know that our Clients want to focus on the actual business of providing a Service and/or Product rather than having to get into the nitty gritty of their own contracts – after all, that’s what we’re here for – but we also know that they want to be aware of their contractual risks and how to manage them.  So, we found 4 oft’ quoted inaccuracies about indemnities, listed them below and then provided the facts.

Myth #1:  ‘Indemnities are for the lawyers to worry about’

Fact:  Often considered to be part of the small print that is solely the province of the lawyer, indemnities are really anything but.  They are a promise to pay another party money in respect of, commonly by way of example:

“all actions, claims, liabilities, demands, proceedings, costs suffered or incurred”

which relate to specific trigger events like:

• “as a result of any third-party alleging infringement of Intellectual Property Rights”;

and even

• “as a result of any breach of this Agreement”.

So, like all commercial terms of an agreement which relate directly to the financial risk to your business you need to be fully informed as to the implications and understand how best to limit them.  This can be done by minimising the extent of any indemnity (so limiting to (i) above rather than to allow for (ii) – which we consider to be quite unfair! See below); and including further language that ensures that you as Supplier have control of any such subsequent action (etc) so that the indemnified party is not free to incur extensive and unnecessary costs.

Myth #2: ‘Indemnities provide £ for £ recovery for the indemnified party’

Fact:  Indemnities do not offer carte blanche full recovery for all of the monies claimed under them BUT, depending on the language of the indemnity, they can offer a significantly wider recovery than if a party was bringing a claim for damages in respect of breach of contract.

An indemnified party has to show that the money they are seeking to recover does fall within the losses set out within the clause and if it does then you will have to cover the loss that they have incurred.  However, there is still a general duty to mitigate these costs such that the indemnity will cover the cost of the reasonable steps for the indemnified party to have incurred in  reducing its losses but it does not extend to losses caused by the receiving party’s unreasonable failure to take those steps.

Whatever it says at law on this point, we believe in belt and braces on this issue where possible and recommend including a reference to the indemnified party’s obligation to mitigate any losses incurred in respect of an indemnity.

Myth #3: ‘An indemnity is an uncapped liability’

Fact:  An indemnity can be capped under the general terms and conditions of the contract provided the language of the contract is sufficiently clear that it applies to ALL claims made thereunder.  However, more often than not Customers will try to exclude an indemnity provision from a limit of liability clause. If this is the case then a sensible approach is to offer what we call a ‘Super Cap’ to cover these extenuating circumstances.  This Super Cap is more likely to be aligned to your business level of insurance for professional indemnity, but in any event something to be discussed.

Myth #4: ‘Indemnity payments need to be paid immediately on request’

Fact:  Most indemnity provisions do not provide that payments should be made “on demand”.  This needs to be expressly referenced in order for payment to be due immediately.  So unless the contract says otherwise, you will have time to review the request for payment alongside the contractual terms before determining whether or not you must pay.  The idea is that the indemnified party does not have to bring a contractual claim against you to claim the monies owed.  As such you will need to act in a manner which is commercially reasonable, so you can’t drag your feet but you can assess the request for payment properly.

How we manage indemnity clauses at Law 365

Because indemnities do provide a swifter remedy than an action for breach of contract that may end up in the courts, we believe they should be limited to matters which are outside of the general rights and obligations each party has to the other in a standard contract for the provisions of Goods and Services.  An indemnity clause should relate to actions brought by third parties where it can more easily be identified that a triggering event has occurred and how to manage it.  For example, as set out above,  we would expect our Clients to provide an indemnity against an action brought against a Customer of theirs for infringement of third party IPR.

That’s fair – you are supplying a product and service to your customer and they should be able to use it freely (within the constraints of the contractual permissions);  but what is not fair is when a party is looking for an indemnity in respect of any breach of contract and we advise against these.  There are other remedies available in respect of breach of contract, first and foremost we would expect that commercial parties should work together to address any kind of breach rather than one party feeling the pressure of an obligation to pay building on them on a daily basis.

Further reading

• More FAQs about indemnities
• Are warranties better than indemnities for suppliers? (law365.co)
• Find out why you should cap indemnities (law365.co)