Not any Indemnification Letter Actually does the Work

Not any Indemnification Letter Actually does the Work

July 2, 2019

Recently we see more and more cases of directors and officers who find themselves at the center of legal proceedings against the companies in which they serve. In many cases, the company insured the officer, but the main disadvantage of insurance (even if the insurance company does accept its responsibility) is that sometimes the insurance compensation is limited and sometimes it is paid only after the end of the case at Court. The correct path is to add to the insurance an indemnification letter under which the company undertakes to indemnify the officer and finance the proceedings that the insurance does not finance, but even a letter of indemnification, if not duly drafted by a lawyer specializing in the field, may be invalid or irrelevant to the case.

An insurance and an indemnification letter are two well known ways of protecting directors and officers and ensuring their operation in the company without apprehension of legal proceedings against them. A letter of indemnification is a convenant of the Company to finance the defense of the officer and is generally broader and more flexible than an insurance policy. Insurance, on the other hand, ensures that the reimbursement of the director does not fall on the shoulders of the company and is even more important in cases where the company ceased its activity or does not have the cash flow to allow the reimursement.

However, sometimes the indemnification letter is not drafted by a professionals in this specific field and it is later discovered that it is not sufficient to cover all required legal proceedings, from start to end. In such a case, the director or officer remains without financial support to manage the legal proceedings, and the chances of a good outcome in the legal proceeding are significantly reduced. In a case published in June, 2019, a merger agreement between Helman Aldoubi and IBI included an indemnification clause for directors and officers and probably insentified the managers to promote the agreement. However, upon the occurrence of an event and a demand for indemnification, it transpires that the indemnity is contingent on acctual damage and will be granted only at the end of the proceeding, subject to the outcome of the proceedings. Thus, the directors and officers found themselves exposed, with no financial backing or full indemnification for the legal proceedings that they were forced to conduct by themselves.

Among the things of importance in the context of a letter of indemnity, is to ensure that it covers all activities of the officer in all group companies. It is recommended that the letter includes reference to a situation in which the officer was removed from office before filing of the claim and also covers the period in which there is a concern that proceeding will be opened against the officer but no claim has yet been filed In addition, it is vital to ensure that the company's Articles of Association include a specific clause enabling it to issue letters of indemnification - either for its offices or to officer of other group companies. A letter of indemnification issued without power under the Articles of Association will be invalid.

Although sometimes the director or officer has no “bargain power” over the wording of the letter of indemnification (especially if similar letters were already granted to other officers), it is worthwhile reviewing the wording thereof by a lawyer exeperienced in this specific field. Sometimes the officer will learn that the same people who negotiate his employment terms have themselves received a similar letter of indemnification and they themselves do not understand the limitations thereof and may even be more than happy to amend the document. In other cases, it is at least important to understand, with the assitance of a lawyer experienced in the field, the scope of the letter, because even if you received a letter of indemnity, good for you, but it may weel be that it is, in fact, worthless.