Mergers & Acquisitions: Negotiate indemnity agreements

A. In virtually every definitive purchase agreement, there is a section devoted to indemnification which requires that sellers attest to the integrity of the firm's billing and collections, financial reporting, clinical protocols, corporate compliance and more. More importantly, these provisions are designed to indemnify, or protect the buyer, from any liability arising from any business activities that occurred prior to closing. Quite reasonable.

But sellers loathe them because a closing doesn't give them closure. They remain exposed to the ramifications of any past deeds long after the champagne goes flat and the Ferrari needs an oil change.

So what can a seller do to make the cloud hanging over his head a little less ominous? Buyers are often amenable to limit financial exposure to a negotiated dollar figure—often tied to a percentage of the purchase price (50%-100% is not uncommon).

Given the expectation that any bad acts will be uncovered relatively soon after a deal is closed, buyers are also often willing to limit indemnification for a specified period of time. We've also seen indemnification carved into multiple buckets with different dollar and time limits, i.e. one for violations of reps and warranties, another for unintentional billing errors, and yet another for fraud.  Another option is to limit claims until they rise to a certain threshold. There are “baskets” which act, more or less like a deductible—the seller is only responsible for claims above a negotiated limit. Alternatively, a seller might agree to a comparatively larger “tipping basket” which “tips over” when the threshold is reached, at which point the seller is responsible for dollar one.

Onerous as indemnification may feel, we counsel sellers to remember that any limitation is an “extra,” and they are exposed to these risks whether they sell, or not.

Pat Clifford is managing director, home medical equipment, for The Braff Group. Email him at pclifford@thebraffgroup.com.