Must an indemnifying party meet in full all claims arising, including a third party claim which has not been defended by the indemnified party? The High Court has recently issued guidance on this question in the case of Rust Consulting Ltd v PB Ltd [2010]EWHC 3242(TCC).

The facts

Rust Consulting Ltd (“Rust”) entered into contracts in 1995/96 with Eagle One to carry out geotechnical work for a large shopping village development. In 1997, as part of a group re-organisation, Rust was taken over by its then affiliate, PB Limited (“PB”) pursuant to an Asset Purchase Agreement (APA). The APA contained an indemnity clause whereby PB assumed “responsibility for the satisfaction, fulfilment and discharge of all of the outstanding Liabilities and Contracts of [Rust’s] Business” and indemnified Rust “against all proceedings, claims and demands in respect thereof”. In 2007, Eagle One issued proceedings against Rust and others claiming breach of contract and negligence. Rust went into creditors’ voluntary liquidation in April 2008 and Rust’s liquidators consented to judgement in Eagle One’s favour for just over £8 million, which was the full amount claimed by Eagle One.

Rust’s liquidators then brought proceedings against PB under the APA indemnity (effectively for the benefit of the Eagle One companies as principal creditor). Rust argued that as a matter of construction, the consent judgment was covered by the indemnity; PB claimed that it was not bound by the consent judgment and that Rust had to prove its liability to the Eagle One companies and that the settlement Rust had made was reasonable.

The court’s decision

The judge identified two issues:

  1. was PB obliged to indemnify Rust against its liability to Eagle One; and if so
  2. was PB obliged to indemnify Rust against the consent judgment.

Having examined the wording and construction of the APA and the agreements between Rust and Eagle One, (in particular, the definitions given of “Liabilities” and “Contracts”), the judge concluded that PB assumed responsibility for the contingent and potential contractual liability of Rust to Eagle One for any breach of contract or warranty by Rust.

However, on the second issue, the judge decided that in terms of this particular contract, Rust was indemnified against “proceedings, claims and demands in respect” of any actual liability which Rust had to the Eagle One companies. The fact that proceedings were issued against Rust by the Eagle One Companies did not of itself mean that PB was liable to indemnify Rust against them. PB would not be bound simply because a judgment had been entered against Rust (unless, for example, PB had been brought into the proceedings by Rust to try to enforce the indemnity there and then). Subject to any arguments regarding estoppel, Rust must prove that it was not only liable to the Eagle One Companies but also liable for a particular sum.

Principles to be applied

The Court set out various principles to be used in determining whether an indemnity is enforceable in these circumstances

  1. The first step is to determine (as a matter of contractual interpretation) the precise extent and scope of the indemnity.
  2. If the indemnifier undertakes, in effect, to pay any relevant judgment sum however it is procured, the beneficiary can recover the judgment sum. If, however, the indemnity only covers actual liabilities, then the liabilities in question have to be established against the indemnifier.
  3. Clear wording is required to make an indemnifier liable for judgments obtained against the beneficiary of the indemnity.
  4. It is possible that the indemnifier’s actions may form a basis for arguing that it is estopped from avoiding the claim under the indemnity (in this case, there was an allegation that PB had been involved in Rust’s liquidators' conduct of the action which led to the consent). Giving notice of the case to the indemnifier may form one basis for estoppel. The active participation of the indemnifier in proceedings may, depending on the circumstances and level of participation, go much further to establish an estoppel against it. The positive concurrence by the indemnifier with a consent judgement will go further still. But given the wide range of possible factual permutations, the Court refrained from setting out specific requirements needed to establish an estoppel – all the circumstances of each case must be looked at.

This case reinforces for those seeking to rely on indemnities the importance of making sure that the wording used is clear and specific. If court proceedings are raised, then consideration should be given as to whether the indemnifying party should be brought into the action to enforce the indemnity rather than relying on the assumption that it will pay up at the end of the day.