All Insights
The escrow agreement in many M&A deals contains a section that says the buyer and the shareholder representative jointly and severally will indemnify the escrow account agent against all acts performed by it, absent gross negligence or willful misconduct. Many representatives assume they have no choice but to accept this.
SRS Acquiom’s view is that the representative should start with the position that indemnification can come solely from the buyer. The typical buyer is a major corporation or private equity firm with significant assets. The typical representative is an individual or a comparatively small entity. Adding the representative to the indemnification clause gives the escrow agent little additional protection. If desired, the agreement could provide indemnification for the buyer for any losses it suffers in connection with it providing indemnification to the bank.
Moreover, the representative is just an agent in the transaction, not one of the principal parties. Generally, it is not appropriate to ask a person who is acting only as a representative of some of the parties to the transaction to take the risk of providing indemnification to an escrow bank.
If it is necessary for the representative to provide this indemnification, it should make clear that it is acting in that capacity as the representative of the shareholders and, in that capacity, is committing the shareholders to the indemnification terms. The representative should not give the indemnification personally. As mentioned above, the principals to the deal (i.e. those benefiting from the transaction) should be those who provide any necessary indemnification.
In response to this position, we’ve heard arguments that the representative receives indemnification from the selling shareholders, so it is not really taking any risk by indemnifying the escrow bank. The problem with this is that even if the representative in turn has indemnification from the shareholders for any losses incurred, it should not have to take the risk of having a payment obligation it then hopes to be able to recoup.
Below are four alternatives to the typical form language that do a better job of recognizing that the representative is acting as an agent only, and should not be subject to this indemnification risk. They are in descending order from language SRS Acquiom believes to be the most favorable to the selling shareholders and their representative to the least favorable (but still preferable to language that simply says that the buyer and the representative jointly and severally indemnify the escrow agent).
Alternative 1: Buyer agrees to indemnify the Escrow Agent for, and hold him harmless against, any loss, liability or expense incurred without gross negligence or willful misconduct on the part of Escrow Agent, arising out of or in connection with his carrying out his duties hereunder. [Buyer shall be entitled to be reimbursed out of the Escrow Fund for fifty percent (50%) of any amount that Buyer is required to pay to the Escrow Agent pursuant to this Section.]
Alternative 2: Buyer and the shareholder representative (solely through the Escrow Fund and not directly) agree to indemnify the Escrow Agent for, and hold it harmless against, any loss, liability or expense incurred without gross negligence or willful misconduct on the part of Escrow Agent, arising out of or in connection with his carrying out his duties hereunder. Buyer, on the one hand, and the Escrow Fund, on the other hand, shall each be liable for one-half of such amounts. In the event the Escrow Fund is insufficient to cover the one-half of such amounts for which it is responsible, such shortfall shall be paid by Buyer.
Alternative 3: Buyer and the Shareholders agree to indemnify the Escrow Agent for, and hold it harmless against, any loss, liability or expense incurred without gross negligence or willful misconduct on the part of Escrow Agent, arising out of or in connection with his carrying out his duties hereunder.
Alternative 4: Buyer and the shareholder representative (solely as agent for and on behalf of the Shareholders and not individually) agree to indemnify the Escrow Agent for, and hold it harmless against, any loss, liability or expense incurred without gross negligence or willful misconduct on the part of Escrow Agent, arising out of or in connection with his carrying out his duties hereunder.