Indemnification clauses are common in contracts. They shift potential liability and legal risk from one party to another under certain circumstances. For example, let’s say that a company sells golf carts (the “Company”). The Company executes contracts with suppliers that provide different components of the golf cart, such as the engine, the wheels, the body, etc. The Company understands that if its product is defective, the Company will be liable for harm caused by the defect. But what happens if the defect is not due to the Company’s error but rather the faulty component of a supplier? In the case of the golf cart, if defective wheels result in a golf cart accident that causes injuries, an indemnification clause would allow the Company to be indemnified by the wheel supplier (the “Supplier”) if the Company is sued by the injured person, meaning that the Supplier would have to either pay the damages or reimburse the Company for them.
Boilerplate indemnification clauses are often broad and frequently one-sided, which benefits the party seeking indemnification (e.g., the Company), but detriments the indemnifying party (e.g., the Supplier). Such a clause might look like this:
Supplier agrees to protect, defend, indemnify, and hold harmless Company, its subsidiaries, and its and their respective successors, assigns, directors, officers, employees, agents, and affiliates from and against all claims, demands, actions, suits, damages, liabilities, losses, settlements, judgments, costs, and expenses, including but not limited to reasonable attorneys’ fees and costs (collectively, “Claims”), directly or indirectly, arising out of or related to: (1) any breach of any representation or warranty of Supplier contained in this Agreement; (2) any breach or violation of any covenant or other obligation or duty of Supplier under this Agreement or under applicable law; and, (3) any third-party Claims which arise out of, relate to, or result from any act or omission of Supplier.
The above clause is excellent for the Company. The Supplier, however, is exposed to substantial, and potentially unforeseeable, legal liability. This is further reinforced by California case law, in which courts have held that unless the indemnification clause provides otherwise, indemnifying parties (e.g., the Supplier) must defend the other party (e.g., the Company) for claims that are in any way alleged to relate to the indemnifying party’s acts or omissions, even if the indemnifying party did nothing wrong.
Here’s another example to help highlight this phenomenon. Let’s say a physician (“Physician”), who is an employee of a medical group (“Group”), works at a hospital (“Hospital”). Hospital and Group have an indemnification agreement similar to the above, except it applies to claims against Hospital arising out of services provided by the employee physicians of Group. Working at Hospital are many physicians, some of whom are employed by Group and others of whom are employed by other medical groups, including one particular medical practice (“Practice”). One doctor (“Doctor”) is an employee of Practice. Physician and Doctor both concurrently care for a patient (“Patient”) who is currently at Hospital. During Patient’s stay at Hospital, Doctor makes a mistake which results in further harm to Patient, and Patient then sues Doctor, Practice, and Hospital. Note that Patient has not even named Physician as a defendant in Patient’s lawsuit, as Physician committed no error and Patient does not allege error against Physician. Hospital, however, files a counterclaim naming Physician as a cross-defendant and invokes its indemnification agreement with Group to seek tender of defense. Must Group defend Hospital against Patient even though Group knows that its employee Physician was not negligent? According to the holding in UDC-Universal Dev., LP v. CH2M Hill (2010) 181 Cal.App.4th 10, the answer is yes. (Id. at 17.) Although Group will not have to indemnify or reimburse Hospital if it is shown at trial that Physician did not engage in any wrongdoing, Group must defend Hospital upon Hospital’s tender of defense in the meantime.
The consequences of court decisions like the one above can be severe and should make parties looking to enter into contracts careful of the language regarding indemnification contained therein. Assuming you cannot get out of the indemnification obligation altogether, consider hiring an experienced attorney to carefully specify the exact nature of the indemnification obligation. Here are a few things than can be done:
- Eliminate the duty to defend from the indemnification obligation;
- If you cannot eliminate the duty to defend, specify when it is triggered (e.g., upon the injured person’s allegations of wrongdoing against the indemnifying party or the indemnifying party’s agent) and impose limitations on the party seeking indemnification (e.g., must tender defense within 10 days of service of the injured party’s complaint).
- Add a provision for proportional indemnification, meaning that if multiple parties are found liable, the indemnifying party’s indemnification obligation will not be greater than the extent of its liability.
- Add a clause requiring the party seeking indemnification to reimburse the indemnifying party for the cost of defense if the indemnifying party defends the other party and it turns out that the other party is liable but the indemnifying party is not liable.
These are just a few tools that can be employed in order to mitigate some of the unforeseeable risks of indemnification clauses. If you would like assistance crafting an indemnification clause, evaluating a current contract, asserting rights under such a clause, or defending against the unfair invocation of the indemnification obligation against you or your business, the experienced attorneys at Thakur Law Firm, APC can provide you with the counsel and representation you need. Learn more at https://www.thakurlawfirm.com/.