Explore a recent case, Continental Motors, Inc. v. Danbury Aerospace, Inc., to understand how indemnification provisions in asset purchase agreements impact legal outcomes. Learn about the buyer’s strategic approach to broaden indemnification scope.
April 13, 2020
Introduction:
In the world of business acquisitions, a crucial aspect is the responsibility for accrued vacation and sick pay when buying a company’s assets. The buyer might end up covering these costs if the seller doesn’t. Let’s explore how buyers handle this legal risk and a recent case that sheds light on it.
The Background:
When a company sells its business assets, it’s usually on the hook for any accrued employee vacation and sick pay. However, buyers can face the burden of these costs if the seller fails to fulfill its obligations. To protect against such risks, legal mechanisms are put in place.
The Case:
A specific deal involved purchasing assets from an aircraft engine manufacturer. The seller agreed to cover the accrued vacation and sick pay costs. As part of the agreement, the buyer set aside $2.4 million in an escrow fund to ensure the seller’s indemnification obligations.
After the purchase, the buyer hired some of the seller’s former employees who had accrued vacation and sick time. The buyer credited these employees for their unused time. However, the seller didn’t reimburse the buyer the $187,000 for these credits. To recover the expense, the buyer accessed the escrow fund, leading to legal action in a Texas court.
The Legal Twist:
Both the trial court and the intermediate appellate court ruled against the buyer’s claim to recover the $187,000 from the escrow fund. Their decision centered on the wording of the Asset Purchase Agreement (APA). The APA stated that the escrow funds were exclusively available to address indemnification claims as outlined in the APA’s indemnification provision.
The critical detail was that the indemnification provision covered losses suffered by the buyer due to breaches of the APA covenants by the seller. However, it only applied to losses arising from third-party claims against the buyer that the seller had agreed to be responsible for. In this case, the buyer wasn’t trying to recover losses from a third-party claim, so the indemnification provision didn’t apply.
Lesson Learned:
This case highlights a common limitation of indemnification clauses in acquisition agreements. Often, these clauses enable the buyer to seek compensation from the seller for losses resulting from claims made against the buyer by third parties. Such claims are the seller’s responsibility under the agreement. However, a strategic approach can alter this outcome.
Looking Ahead:
Incorporating direct claims into the indemnification provision can broaden its scope. By explicitly stating that the seller must indemnify the buyer for losses regardless of whether third-party claims are involved, the buyer gains more protection. This is the approach taken by the American Bar Association in its Model Asset Purchase Agreement.
Conclusion:
Understanding the nuances of indemnification provisions in asset purchase agreements is vital for businesses engaged in acquisitions. The Continental Motors, Inc. v. Danbury Aerospace, Inc. case serves as a reminder that careful attention to the wording of these provisions can significantly impact the legal outcomes of such transactions.
Case Reference:
This case is referred to as Continental Motors, Inc. v. Danbury Aerospace, Inc., No. 04-19-00059-CV., Court of Appeals of Texas, Fourth District, San Antonio (Delivered and Filed: April 1, 2020).
Email: jmccauley@mk-law.com
Profile: http://www.martindale.com/John-B-McCauley/176725-lawyer.htm
Telephone: 714 273-6291 Check out my book: Buying Assets of a Small Business: Problems Taken From Recent Legal Battles
Legal Disclaimer
The blogs on this website are provided as a resource for general information for the public. The information on these web pages is not intended to serve as legal advice or as a guarantee, warranty or prediction regarding the outcome of any particular legal matter. The information on these web pages is subject to change at any time and may be incomplete and/or may contain errors. You should not rely on these pages without first consulting a qualified attorney.
Recent Comments