Chancery Addresses Notification Requirement of Indemnification Provision

I/Mx Information Management Solutions, Inc. v. Multiplan, Inc. and HMA Acquisition Corp., C.A. No. 7786-VCP (Del. Ch. Mar. 27, 2014).

Jill Agro of Eckert Seamans  prepared this synopsis.

While framed in the context of an indemnification suit, the Court of Chancery’s decision in this matter came down to time-honored principles of contract interpretation.  The contract at issue, a stock purchase agreement (SPA), provided that funds being held in escrow would be released to the plaintiff on July 29, 2012, unless the defendants, at that time, had a pending claim for indemnification. When the time came to release the funds, the parties had differing views as to whether the defendants had a valid claim for indemnification.

The indemnification provision of the SPA stated: “If any Action is commenced or threatened that may give rise to a claim for indemnification by any Indemnified Party, then such Indemnified Party will promptly give notice to the Indemnifying Party,” and defines “Action” as “any claim, action, or suit, or any proceeding or investigation, by or before any Governmental Authority or any arbitration or mediation before any third party.” (Emphasis added).

As of July 29, 2012, the defendants (purchasers) had informed the plaintiffs of one potential third-party claim, but had not commenced any action against the plaintiffs for indemnification. Notwithstanding, the defendants refused to release the escrow funds—claiming that they were entitled to withhold the escrowed funds because of the third-party claims. The plaintiff filed suit to secure the release of the funds.

In response, the defendants asserted that they had a second claim for indemnification that existed as of July 29, 2012, involving the same third-party claimant. The plaintiffs, however, were never informed about the second claim until well after the July 29, 2012 cutoff. Accordingly, the plaintiffs moved the Court for partial summary judgment on the issue of whether the second claim provided a valid basis for the defendants to withhold the escrowed funds. In support, the plaintiffs argued that the second claim did not comply with the terms of the SPA, and even if it did, the defendants failed to provide the contractually mandated notice.

The Court turned to the contract language to determine whether the defendants “commenced or threatened” an action against the plaintiff with regard to the second claim. The defendants acknowledged that they had not commenced an action, but they argued that their communications with the plaintiff about the claim was sufficient to constitute “threatening” an action. Since the SPA did not define threaten, the Court looked to the term’s common definition, and framed the issue as whether the defendants “gave signs or warning” to the plaintiff that it was going to commence an action regarding the second claim or “announced to [the plaintiff] that it intended to, or that it was possible that it would, commence an Action regarding” the second claim.

In finding that the defendants did not “threaten” an action, the Court stated that for the defendants to have threatened to commence an action against the plaintiff, the defendants would have to do more than simply notify the plaintiff of a problem; the defendant “also must have expressed that it was going to do something about that problem, in such a way that a reasonable person would understand that [the defendants were] intending to press the issue through a proceeding before a third party.” The Court held that letters between the parties prior to July 29, 2012, concerning the first pending claim, which may have hinted about a potential second pending claim, were insufficient to inform the plaintiffs that the defendants were “threatening” an action related to the second pending claim.

The Court ultimately granted the plaintiff’s motion for partial summary judgment, thereby excluding the defendants’ alleged second claim for indemnification from the suit.