Indemnity In IP Contracts

This article throws light into Intellectual Property indemnification which is currently receiving global attention due to its widening practice as well as importance. It is begun by explaining the concept of indemnity, its application in Intellectual Property Rights, and as to the parties who seek and give such indemnity. The reasons for the grant of indemnity along with the justification for its provision are enumerated there under. The need of this sort of indemnity in the current world of IP infringement for the protection of Intellectual Property product users is an important area that is discussed. The article further probes into the necessity of indemnity in patent infringement particularly, which is outlined with recent examples of practice of providing indemnification by some of the major companies. Important terms of the indemnity that the parties may stipulate in such Intellectual Property indemnity contracts are listed down. Further, discussion as to the major steps which have to be undertaken by the parties to minimize the risk exposure towards infringement claims is incorporated in the article. The necessity for a negotiating approach to be adopted by both the parties to the transaction may be understood from this article, along with the reasons for them and related suggestions are made. It concludes with a view into the overall development of the concept of Intellectual Property indemnity including its increasing economic value.

INTRODUCTION:

Indemnity means an acknowledgement and promise by one party to cover the potential liability suffered by the other. [1] English law defines indemnity as a promise to save a person harmless from the consequences of an act; the promise may be express or implied from the circumstances of the case [2] . In short, an indemnity enables the “indemnified” to seek reimbursement (“indemnity”) for money forced to pay to a third party as a result of an injury, caused by the indemnifier. [3] The indemnified and the indemnifier can be people of different positions depending upon the nature of the contractual relation between them such as buyer and seller, licensor and licensee, owner and contractor etc.

Indemnity for Intellectual Property infringement is a slightly newer concept, adopted by companies of almost all sectors promising to indemnify their users, licensees, and other customers against any third party claims on Intellectual Property infringement. Due to the ever increasing importance of intellectual property, these companies realize the importance of securing their intangible assets. Other than the rising phenomenon of infringement of third party Intellectual Property rights, particularly in the field of distributing the technology products, the reason behind this grant of indemnity by the company- indemnifier cannot be traced to any statutory obligation, but to a simple business strategy that general public prefers products with maximum security package.

The crux of any IP indemnification lies on which IP law is being upheld by the parties since these laws vary from country to country. For the same reason, ‘it is very rarely that a contract with global significance keeps its legal base at a third world country’s law, such as India or China where IP infringement like piracy is not taken much seriously. Naturally, indemnifiers prefer first world countries like US or UK, which not only have a well drafted IP law, but also have an established enforcement system’. [4]

Further the justification of seeking indemnity from the vendor or licensor of the IP product is to be understood. In most cases, it is logically simple that when you are selling something, you are expected to be the owner of the same. Economically speaking though, it is to be seen that, in sale or even perpetual license which is as good as a sale, the customer has already made total payment for the product, and hence is entitled to protection against any excess payment as damages in the event of it infringing any other party’s IPR.

The number of patent infringement suits between the big corporate entities keeps rising and has been receiving global attention. Some examples are Microsoft filing patent infringement complaints against Motorola and its Android phones [5] , Motorola trying to invalidate Apple patents [6] , Nokia expanding patent lawsuit against Apple [7] etc. Apart from this, it is to be realized that any third party can directly sue the licensees and the customers claiming infringement of his IPR. Under this scenario, IP indemnification comes to play a pivotal role.

NEED FOR IP INDEMNITY

Since most of the IP contracts are in accordance with the US and UK laws wherein the damages awarded constitute millions and billions, the common man needs to be protected against this financial liability by way of an indemnity.

It is highly probable that the licensor- vendor is expected by the licensee- buyer to comply with the IP claim made; hence it is only prudent on their behalf to accept this responsibility beforehand. [8]

Taking responsibility for the protection of the customers increases the reputation of the company- indemnifier. Thus provisions of IP indemnity can act as a stepping stone to business expansion as well.

The presence of an indemnity clause as a pre accepted liability also lessens the burden of the Courts to some extent.

The liability to indemnify compels the indemnifiers to take maximum efforts to avoid potential third party claims; as a result it facilitates reducing the overall rate of IP infringement.

PATENT AND INDEMNITY:

In case of IP indemnities, those concerning patent should be well scrutinized, and dealt with utmost care. The reason is that the likelihood of infringement is more likely in patents than in case of any other IPR. This is attributable to the fact that the confidentiality inherent in patent system often makes it very difficult for the suppliers and licensors to learn about relevant patent systems even after conducting exhaustive patent searches. [9]

Another reason of patent’s vulnerability to infringement is that ‘unlike a copyright or trademark, which is violated by direct copying, a patent can be easily infringed, even innocently, without knowledge of any third party rights. Further it is difficult to prevent a patent infringement due to the expensive research it demands, which again will not always be successful, particularly if overseas patent searches are required. The situation goes further out of hand because of the novel ways of business such as online ordering processes’ [10] , whereby it is expensive and impractical to keep a track on products and its sale.

In cases of limited indemnity of contracts concerning products or inventions or any matter which can infringe different forms of IP, the indemnified should beware. For reasons discussed above, an indemnified would be wiser to seek a broad indemnity exclusively for patents, even if accepting limited indemnity for infringement of other IPR, in case of product or matter that may infringe different forms of IPR.

The main fields in which IP indemnity is of relevance are in business merger and acquisition agreements, asset purchase agreements, business entity formation agreements, patent licensing or cross-licensing agreements, joint venture agreements, technology sharing or consultation agreements, institutional research and development agreements, sales and distribution agreements, franchise agreements, and in governmental contracts. [11]

SPECIFICATIONS REQUIRED IN IP INDEMNITY CLAUSES:

The language of the indemnity clause is very crucial because Courts generally do not go beyond the words used. In common law, strict construction is adhered to for the same. [12]

General essentials of an indemnity clause can be put down as follows:

A detailed specification should be given as to who exactly constitutes the indemnifier and the indemnifier. For e.g., whether the indemnified forms the licensed entity along with its employees, or also includes its affiliated entities etc.

The nature of liability the indemnifier incurs to undertake against the indemnified should be mentioned clearly. The standard broad indemnity clause states as ‘…Indemnify, hold harmless and defend….’ In case of a limited indemnity, this language is better avoided.

There should be a clear allocation of risk between the parties where the indemnifier intends to enter into a liability sharing mechanism.

Any cap on indemnity intended to be put by the indemnifier should be specifically and conspicuously drafted. By putting a cap, the indemnifier would be monetarily restricting his liability towards loss.

The specific items of loss recoverable under the indemnity offered should be well drafted. For example, either a broad indemnity may be provided which covers all of the indemnified’s expenses including the final damages awarded, court costs, legal fees, loss of profit etc or it may be restricted to only the actual damages.

The time period within which the indemnifier is to reimburse the indemnified may be incorporated in the indemnity clause. Imposition of such a time period is hardly practiced, however it would only secure the indemnified from having to unnecessarily wait in order to be indemnified

The time period for which the indemnity is in operation should be included, if such a limitation is intended to be imposed by the indemnifier.

The indemnifier should specify any exclusions he seeks to make in the indemnity clause such as infringement caused by the licensee not following the instructions by the indemnifier, modifications made in the product, use outside the specified scope etc.

It is important to determine the country whose intellectual property law is to be upheld by the parties, irrespective of the nationalities of the parties.

The indemnity contract altogether should be clear and unambiguous.

MEASURES TO BE TAKEN BY THE INDEMNIFIER:

Reasonable conduct on the part of the indemnifier can go a long way in mitigating the risk of potential infringement. At the outset, the indemnifier should conduct reasonably extensive searches and thereby ensure due diligence in creation of the product. The customers/licensees must be clearly notified about the scope of risks involved and guidelines to be followed regarding the use of the product. Encouraging the customer to report problems and taking corrective steps for the same can also help the supplier in avoiding undertaking of the liability of indemnification. Although generally indemnity is provided by the licensor to the licensee, sometimes it can be the other way round as well. In circumstances where the infringement occurs due to the inappropriate use of the product by the licensee/customer it is appropriate for the supplier to claim indemnity from the customer.

The responsibilities of an indemnifier would vary as per the nature of the Intellectual Property under which the product falls. ‘While in copyrights it is important for the technology developer to assure that the employees do not indulge in borrowing any copyrightable expressions; developers who formulate a product using a novel method must ensure that the trade secret and the technical knowhow are not borrowed from a third party. Suppliers must also emphasize on using proper trademarks which have acquired due legal clearances. Modification in the product in a way that the essence of the product is not lost is another way of controlling the damage.’ [13] Patents being the most controversial field of providing indemnity should receive special care from the indemnifier.

It is prudent for the indemnifier to seek specific caps and liability sharing agreements with the indemnified especially when the risk predominantly involves patent infringement .This appears as an equitable proposition as the scope of assessing the risk of patent infringement is considerably difficult as against copyright and trademark. Such caps and liability sharing agreements will necessarily involve calculating the likely financial damages to be reimbursed by the indemnifier and prepare him for such future contingencies with better confidence.

Though in many cases we see that warranties are preferred by the licensor- seller of the IP product over an indemnity, this does not eliminate risks. However, out of such warranties, the a prudent one that can be opted is a ‘best of knowledge’ warranty [14] by which liability for non-infringement could be limited to “so far as the vendor is aware, having made all diligent enquires”, under which the vendor will not be liable in case of an IP allegedly infringed, if the vendor had not and could not have known its existence, after completing commercially reasonable searches he was expected to do.

In spite of the taking the measures mentioned above there might rise a situation where the infringement occurs or poses a great likelihood of taking place. Under such circumstances it is advisable for the indemnifier to take steps to resolve the matter, as by doing so he can avoid getting dragged into litigation and paying hefty sums against the indemnity claim. In case the infringement has taken place the indemnifier can enter into a settlement with the IP owner and make attempts at resolving the matter.

MEASURES TO BE TAKEN BY THE INDEMNIFIED:

The language of the indemnity clause should be checked and rechecked by the indemnified not to leave out any loopholes which may expose him to huge monetary risk. Some forms of limitations which may be put by the indemnifier are limiting the indemnity to only violation of patents in a particular country or patent existing at the time of the agreement or indemnifying only the actual damages and not the loss of profit etc. Such limitations on liability shall be understood and accepted by the indemnified with full knowledge of its consequences.

It is always best for the indemnified to seek an indemnity as broad as possible. Special care is to be taken to specify the items which will be covered. One significant method of drafting such items is include the following words “all actions, proceedings, losses, costs, claims, demands or expenses whatsoever become payable by you.” [15] However, not all indemnifiers offer an uncapped indemnity in which cases it becomes a negotiable issue with the indemnified. Also, having a broad indemnity from an indemnifier with no financial security is highly risky. So the indemnified should choose between the companies after having an information based research about the indemnifier’s financial position and negotiate the deal. It is to be borne in mind that companies face competition on these grounds and hence the indemnified, to an extent, enjoys the liberty to negotiate the conditions in his favour. The recent step taken by Microsoft in broadening their scope of indemnity [16] may be mentioned here to see that companies keep improving their policies for better business.

It is also an option for the indemnified to accept some other forms of limitations or conditions against an uncapped indemnity. For e.g., one may agree to notify the indemnifier within 24 hrs of the alleged infringement, failing of which, share the loss with indemnifier. It is thus a pure case of bargaining. The binding force of the indemnity may be clearly stipulated to be upon the company’s executors or administrators and any committee receiver and other person lawfully acting on its behalf. [17]

Further, the indemnified may also make sure to withhold right to defense against the third party claim in case the indemnifier fails to fulfill the same.

PRICE FOR INDEMNITY:

If there is security offered by the indemnifier to the indemnified, a question arises as to the price the latter will have to pay for such security. Even though companies should not charge for such protection separately, it is natural that they add the price of the risk they undertake to that of the product, which is a reason for small companies refraining from broad indemnities. A huge price for their product with an indemnity clause will adversely affect their business but a broad indemnity with a moderate price may take them off the business. But pricing structure of the products along with the indemnities is to be considered by the customers in their selection of a company’s IP products. [18]

GENERAL PRACTICE:

The practice of IP indemnity is most easily found in Software licensing industries. Microsoft recently indemnified its OEMs using Windows Phone 7 against patent infringement. [19] It is seen that the practice of providing IP indemnity is feasible for only companies with a large capital. Small scale companies are less financially secure to undertake such liabilities of potential infringement, mainly due to the large sums of money at stake. Hence they should take additional efforts to undertake steps as discussed above so as to avoid potential infringement to the maximum extent possible. However, more and more companies are coming aboard with the idea of indemnification owing to the rise in Intellectual Property value. For example, in recent times, Hewlett-Packard began offering indemnification to customers that run Linux on HP computers, subject to certain limitations and Novell introduced an indemnification program to cover customers of its newly acquired SuSE Linux. [20]

CONCLUSION:

IP indemnification, a concept which is rising day by day, plays a role in different fields involving IP products; its prominence is seen the most in the field of technology transfer. It is a concept which appears to be more favourable towards the user of the product, though the company is also benefited in the process by way of limiting its liability. Patents fall under the category of the most indemnified IPR owing to their susceptibility to infringement. The major software licensing companies indemnifying its users proves the fact of there being a wide acceptance for this concept all over the world. This is in spite of the prevailing practice of the IP contracts being based on the laws of a very few first world countries.

Similar to any other contract, IP indemnity also requires negotiation by the parties to reach consensus upon the terms and conditions. The nature, extent, limits, conditions and exclusions of the indemnity are thereby agreed between the licensor and the licensee. It is however considered prudent for both the parties to anticipate potential risks and take control measures accordingly.

Though the overall process of IP indemnity helps in the minimization of IPR infringement, the practice of it needs to be more in favour of the indemnified, since he is entitled to security against monetary loss from the use of a product for which total payment has been complied with.