Indemnification Explained

Описание: Indemnification is a critical aspect of selling a business, involving promises made by the seller to the buyer regarding the company's health and status. Here's a summary of the key concepts discussed:

Representations and Warranties
The Promises: When you sell your business, you make a series of promises known as "Reps and Warranties". These can include statements about taxes, lawsuits, financial statements, and intellectual property.

Indemnification Clause: This clause states that if any promises turn out to be false and result in a financial loss for the buyer, the seller is obligated to compensate them.

Protecting the Seller
Knowledge Qualifiers: These limit promises to only what the seller or a defined group of key people actually knew or should have known.

Materiality Scrapes: Many promises include the word "material," meaning small breaches don't count. A materiality scrape ignores the word "material" when calculating losses, ensuring that only significant dollar losses contribute to basket and cap thresholds.

Mechanisms to Limit Exposure
The Basket: A threshold that total losses must reach before the seller has to pay anything, acting like an insurance deductible.

The Survival Period: A time limit for promises, typically lasting 12 to 24 months after closing.

The Cap: Sets the absolute maximum dollar amount a seller will ever have to pay for indemnification claims.

How Payments are Made
Escrow Account: A portion of sale proceeds can be held in a neutral third-party account for the duration of the survival period to cover valid claims.

Direct Recovery: If there's no escrow or claims exceed the escrow amount, the buyer can seek funds directly from the seller, subject to the cap.

Fundamental Representations
These are bedrock promises, such as the company's legal existence and the right to sell the business. They often have no cap and longer survival periods because they're so fundamental to the deal.