When a startup signs a contract with a bigger company to deliver the startup’s product, the bigger company will often insist on an indemnification clause in the agreement, especially when it comes to claims third parties may bring against the big company as a result of the startup’s product. While the big company almost certainly won’t accept unlimited liability from third parties for the startup’s product, neither should the startups accept an indemnification clause that pushes all the liability onto them, at least not without a few caveats — IP infringement cases, for example, can cost millions, which would sink virtually any startup.
Protections that startups should insist on for itself in indemnification clauses include, for starters, having full control over defense or settlement of an indemnified claim. Startups should also modify or disclaim liability in the event that the big company client uses or modifies the startup’s product, especially in a way that was not intended for the product, or continues to use the product after being notified by the startup of potential liability. Startups should also ensure that they are also not subject to a breach of contract claim in addition to the indemnification claim by reserving the right to upgrade, replace, or refund for a liable product, or to disclaim liability in the event that the big company refuses an upgrade or replacement.
In addition to the above provisions, which startups should insist on, startups should also try to secure a limitation on liability (as stated earlier, IP litigation for example can cost millions, which would ruin virtually any startup), or limit covered claims to third parties who, for example, actually practice the IP they claim is being infringed (freeing the startup from having to indemnify costly suits brought by so-called “patent trolls”).
When a startup manages to sell its product to a big company, it is a moment that signals that a startup as made it, but also increases the profile of the startup and its product, opening it up to claims from third-parties. The big company is not about to take on unlimited liability as a result of the product; however, startups generally do not have the resources to handle unlimited liability, nor is their product priced accordingly. As a result, startups should insist on limitations and protections for themselves in indemnification clauses in their agreements with their clients and customers.