Have you noticed unusual language in a client’s contract pertaining to broad waivers of subrogation and acceptance of risks that you never thought your client would have? A brief trend in contract negotiations for many industrial projects has been the appearance of the so-called “knock-for-knock” indemnity provision. The term “knock-for-knock” is typically used for a provision in which each side agrees to bear the loss and liability for all harm to its own property, employees and vendors/subcontractors, regardless of the cause of the fault. In the most rigid of provisions, in addition to each party agreeing to bear the losses and damages to its “side” of the agreement, each party also agrees to defend and indemnify the other party from and against any claims by those on its “side.” For instance, in an owner/general contractor agreement, the owner would bear losses for any harm to its employees or other contractors, irrespective of whether the general contractor caused the harm. And if that other contractor or employee sued the general contractor, the owner would step in and pay for the defense and indemnity of the general contractor. This arrangement, while well known and traditional among insurers and common in the drilling/oil/gas/ocean construction industries, is less familiar and expected in U.S. commercial or industrial construction contracts. The premise behind such arrangements is a reduction in the administrative expenses of litigation where the parties are pointing fingers at each other and the certainty of handling claims to resolution with fewer costs.
While substantial legal, business and practical issues should be considered and discussed when negotiating such a provision, three key categories should be at the forefront of any advice:
1. Does the applicable law allow such provisions? Many states, by common law or statute, prohibit the indemnification of another party’s sole negligence or willful misconduct, and even more states are limiting the transfer of that part of the “active negligence” of another to a non-responsible entity. See, for instance, California, Oregon, Idaho and Texas anti-indemnity statutes that either void such provisions or effectively re-write the provisions to comply with the law. Of course, many states are looking to or have modified their statutes to severely restrict indemnity provisions in even the commercial construction setting, although many out-of-state entities, even if licensed in such a state, will still use their favored boilerplate contracts which may contain these provisions outright or even their vestiges.
2. Even if allowed, are the risks to your client warranted for the benefits claimed, or is the greater risk that to your client and the other side is simply using its negotiating weight to its advantage? There may be valid business reasons why the other side is effectively, “the only game in town” for your client. However, a clear-headed and objective evaluation will allow your client to balance the risks and rewards of such a provision and possibly take other action to protect against this risk that it would not otherwise own.
3. If your client must take this risk, or affirmatively decides to take this risk, is the client’s insurance adequate in type and amount for the increased risk? And is the waiver of claims and subrogation requirement, found parallel with such knock-for-knock indemnity provisions, at odds with your client’s insurance such that it may not have the coverage that it initially believed? A thorough consideration of the business and legal risks that your client may assume under a knock-for-knock indemnity provision is critical to the proactive protection of its interests in what could otherwise rapidly become a “bet the company” situation.