Monday, July 20, 2015
Minimizing The Indemnity Sideshow (Greg Carboy)
By Greg Carboy
The negotiation of a sale or service contract typically includes an allocation of the risk of liability for injuries and damages arising from the sale of the product or the provision of the service. Usually, after some haggling, the parties agree upon a written indemnity provision that attempts to identify the specific responsibility assumed by each party. As with all contracts, though, the devil is in the details. For example, let’s say the provision states “Company A agrees to hold Company B harmless for all liability arising from the parties’ performance under the contract.” An accident then occurs at a worksite where both companies’ employees are present. An injured third party sues both companies. Company B, relying upon the indemnity provision, tenders the claim to Company A, demanding that Company A defend and indemnify Company B. A plain reading of the provision suggests Company A is contractually obligated to do so. But in many instances, putative indemnitors, like Company A, dispute either the scope or the enforceability of the indemnity provision, leading to the “indemnity sideshow” - a second lawsuit between the contracting parties over the issue of indemnity.
Although one can never eliminate the risk of a disputed indemnity claim, careful drafting of the indemnity provision can help to minimize the risk of the indemnity sideshow. Here are three tips to keep in mind to achieve that goal:
1. IDENTIFY THE POTENTIAL APPLICABLE LAW
In most contracts, the parties generally include a provision regarding the particular state law governing the enforceability of the contract. In our example above, let’s say the parties agreed that Texas law applied. The choice of law provision then dictates that Texas law is applicable to the enforceability of the agreement, including the indemnity provisions. If the parties’ performance under the contract occurred only within Texas, enforceability of the provision would be usually evaluated under Texas law. But what if the accident occurred beyond Texas, perhaps in Oklahoma when Company A’s driver was returning to Texas after picking up materials intended for use on the project. Does Oklahoma law conflict with Texas law regarding the enforceability of the indemnity provisions? Will an Oklahoma court recognize and apply the parties’ choice of Texas law as provided in the contract? Are there other considerations, such as does Oklahoma have anti-indemnity statutes like Texas does in the areas of construction and oil field work?
The potential application of another jurisdiction’s law, given the nature of the contract and the location of the parties’ performance, is of critical importance to the enforceability of an indemnity provision. When negotiating the contract, attempt to consider and evaluate whether another jurisdiction’s law is potentially applicable to your contractual rights and obligations. By doing so, you will draft the indemnity provision with a better appreciation of the complexity of the issues that can arise in the indemnity claim.
2. BE VERY SPECIFIC AS TO THE SCOPE OF THE INDEMNITY PROVISION
State laws regarding the enforceability of indemnity provisions vary; therefore, try to ensure enforceability by being very specific as to each party’s indemnity obligation. For example, Texas law requires indemnity provisions to be specific with respect to the type of liability assumed, requiring the parties to identify the specific conduct, damages and types of claims for which an indemnitor assumes the risk. The indemnity provision above between Company A and Company B is likely unenforceable under Texas law. Why? Because it does not specifically identify the party’s conduct which the Company is obligated to indemnify and whether that obligation remains if both parties’ conduct contributed to the accident. Further, the provision does not state the type of liability assumed (contractual versus tort), nor does it clearly state whether Company A is required to provide a defense as well as indemnity. Finally, the provision is not conspicuous, i.e., it does not appear in a distinguishing font nor a bold typeface.
Although another jurisdiction may not require the same degree of specificity and conspicuousness as Texas, a detailed description of the liabilities the parties assume anticipates such demanding requirements and minimizes the risk that the agreement is unenforceable based on ambiguity or mistake. With specific language, it is very hard for a party to avoid its responsibility by arguing that the parties didn’t really mean to assume or transfer the specific risk.
3. CONFIRM WHETHER THE INDEMNITY OBLIGATIONS ARE INSURABLE
Many parties agree to indemnity provisions without considering whether their insurance coverage will assume the indemnity responsibility and provide a defense to the indemnitee. Failure to confirm that your indemnity obligation is insured can be a costly error if you assume the defense and indemnity, or are sued for breach of contract for failure to do so. Be sure, too, that the contract requires your indemnitor to ensure its indemnity obligations are insured and that it requires the indemnitor to provide a copy of its policy confirming coverage. By doing so, insurance underwriters should independently review the indemnity provisions and might observe any issues associated with the enforceability of the indemnity provision.
Contractual indemnity involves complicated legal issues and demands careful analysis and consideration when drafting the indemnity provision. Keeping these tips in mind as you work with your counsel should go a long way to minimizing the risk of the “indemnity sideshow.”
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