Page 57 - M & A Disputes

its terms. As such, the injured party is entitled to the benefit of its bargain. That benefit is measured as
the difference between the value bargained for and the value received at the time of the transaction.

If the buyer did receive the benefit of the bargain, then the value at the time the contract was signed is
equal to the value received. However, if the buyer did not receive the benefit of the bargain, then the
practitioner should consider whether the buyer relied on a material or intentional misstatement when
agreeing to a purchase price.

The following example illustrates a buyer seeking damages under an indemnification claim:

Company A acquires company B’s business for $400 million, or 8 times the company B annual
EBITDA of $50 million. Company A alleges that company B overstated EBITDA by $10 mil-
lion as a result of a material misrepresentation regarding generally accepted accounting princi-
ples violations. Company A alleges that it bargained for a business worth $400 million and re-
ceived a business worth $320 million, or EBITDA of $40 million times the multiple of 8.

Indemnity Provisions in Acquisition Agreements

Despite thorough due diligence prior to a transaction, certain conditions may not be discovered by the
buyer until the transaction is complete, and the buyer has assumed control of the target books and rec-
ords. To reduce uncertainties associated with the buyer’s imperfect information, the seller will typically
indemnify the buyer for certain circumstances that may be uncovered subsequent to the closing of the
transaction.

From a buyer’s perspective, the seller’s representations and warranties serve a two-fold purpose: protect-
ing the buyer from not having full insight into the business that it is purchasing and enabling the buyer
to recover damages if the seller’s representations and warranties materially or fraudulently misrepresent
the financial reality of the business.

Generally, a seller agrees to indemnify a buyer for the losses, damages, and expenses arising from spe-
cific matters defined in the contract. Indemnification claims may relate to breaches of representation,
warranties, or covenants. An example of such a claim would relate to undisclosed or improperly valued
liabilities, overstated revenue, or understated expenses; however, the scope of these claims should be
governed by indemnity provisions contained in the acquisition agreement. The indemnity provisions are
generally contained in a section of the acquisition agreement separate from those provisions relating to
working capital adjustments.

Indemnity provisions contained in the acquisition agreement will dictate the scope of the claims. For ex-
ample, operative language such as "indemnify," "hold harmless," and "pay and reimburse" may vary
among different acquisition agreements.

Limitations may be placed on the period for which indemnities may be claimed on representations and
warranties stated in the acquisition agreement. For example, an acquisition agreement may specify that
indemnities may be claimed indefinitely or for a negotiated period of time, or the agreement may impose
a statute of limitations. Limitations may also be placed on the dollar amount for which the buyer can
claim indemnification.

Indemnity provisions may also cover specific litigation matters or claims, taxes due for periods of the
seller’s ownership, or the collectability of accounts receivable. Indemnity provisions sometimes include
thresholds (or "baskets") that may be required to be met in order to recover damages.

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