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How to Design Indemnification Clause in a M&A Agreement?


When conducting due diligence in an equity acquisition transaction, it is one of commonly found issues that the target company pays the social security and housing provident fund according to a standard which is lower than the national legal requirement. Especially for those manufacturing enterprises with a relatively long history and a large number of employees, the potential amount of indemnification can be relatively high, and the feasibility that the target company makes up for the shortage before the equity transfer is relatively low. Therefore, after completion of due diligence by the buyer, normally the parties will sign an indemnification clause to leave this issue to be solved after the deal, hoping no claim will be raised by the employees.

However, with the employees' increasing awareness of protecting their legal rights in recent years, the probability that employees claim for the supplementary payment of social security and housing provident fund after completion of the transaction has gradually increased. It thus becomes an urgent task to reach more specific agreement regarding the indemnification obligation in a M&A contract.

We recently dealt with a case in which the employees of the target company requested for the supplementary payment of housing provident fund around one year after closing of the M&A deal, and the indemnification obligation borne by the seller toward the buyer was thus triggered. Based on this case, we analyze the points the buyer and the seller shall pay attention to when they draft the post-closing indemnification clause.  In fact, these principles apply not only to the supplementary payment of social security and housing provident fund, but also to most other issues which will lead to indemnification (such as environmental protection and tax issues) and worth our attention.

Gong Chu, Oscar

A lawyer at DeHeng Law Offices (Shenzhen)

Floor 22/11/19/33, Section B, Anlian Plaza,

No. 4018, Jintian Rd., Shenzhen. 518026 P.R.C

Mobile: +86 135 9049 6399, +86 186 8246 3518