The Coronavirus disease (COVID-19) is changing how parties-to-tech agreements are contracted. As a result, parties have become hyper-focused on issues such as (i) what effect the pandemic has on achieving milestones; (ii) what rights exist for excused performance; (iii) not just whether an agreement has a force majeure provision, but whether it is meaningful; (iv) when are liquidated damages triggered or abated; and (v) what effect a vendor’s insolvency has on licensed intellectual property rights. All of these are important questions that, without surprise, are being heavily scrutinized. That said, however, the post-pandemic answers are not drastically different than what they have always been. In many regards, these are just repackaged questions that a savvy consumer of tech goods and services (or any goods and services, for that matter) will recognize as fundamental issues that have always deserved attention.
Regardless of the reason for renewed attention, now is as good a time as any for a check up on your contracting procedures to make sure you are asking the right questions, evaluating vendors and being mindful of contractual limitations. To get started, the following is a list of issues a tech buyer should consider, whether during a pandemic or otherwise.
Vendor due diligence and management
First, and always foremost, vet your vendors. There is more to a vendor than the promise of low pricing or quick implementation. Make sure that the vendor is reputable, successful and prepared to address the issues that are important to you. If there are unanswered questions before entering into a contract, then buyer beware.
Has a contractual provision ever had as big a glow-up as the force majeure provision has of late? As quarantines and travel bans picked up, so did the focus on this provision. Some of the more-common force majeure events typically include acts of God, war, terrorism, unavailability of the usual means of transportation, compliance with law or any other cause that is unforeseeable or beyond the reasonable control of a party. That last one is broad, but also very common. Obviously, a vendor wants as broad of a provision as possible to avoid liability if it is unable to perform, but being overly broad can greatly diminish a buyer’s rights to get the benefit of what it has contracted to receive. Buyers may want to consider pushing for a termination right in case a force majeure event extends too long or even a right to reduce the buyer’s payment obligations to reflect the services that are no longer being timely or fully provided.
Milestones and liquidated damages
A contract will often detail specific dates by which certain events have to occur. Sometimes, these come with the risk of a liquidated damage payable by the vendor if the milestones are not achieved. Parties have to consider whether these truly are hard dates or what degree of flexibility exists. For example, if a milestone is missed, does that push out all other milestones, or does a vendor now need to work double-time to stay on track?
As for liquidated damages, these are not intended to be a penalty but rather the parties’ estimate of actual damages in the event of a breach. But, what if the actual damage turns out to be much different than the agreed-upon liquidated damage? Parties have to be mindful of what the law is in the state that will govern the agreement and whether (i) additional damages may be available (keeping in mind that a liquidated damage is often to the exclusion of all other damages); or (ii) if the agreed upon liquidated damages are materially disproportionate to the actual damages and risk being viewed by a court as a penalty. The risk in the latter is that, generally speaking, penalties are contrary to public policy and often not enforceable.
Disaster recovery and business continuity
Two things that will come as no surprise to anyone is (i) businesses depend on digital technologies, and (ii) things happen. These realities highlight the important of disaster recovery and business continuation plans. The purpose of these plans is to minimize the effects of technology outages, lost data, or disruptions of business operations. Ensuring that there are mechanisms in place to restore data quickly and continue business operations promptly in the event of a loss or an outage would seem like obvious requirements for a buyer. Disaster recovery and business continuity plans properly aligned with a buyer’s needs can be the deciding factor in whether an outage is simply an inconvenience or a “business killer.” Buyers should be clear with a vendor about the buyer’s needs and expectations, and if appropriate, what contractual obligations should be imposed regarding this type of planning.
From time to time, there will be periods during which hosted services may be unavailable. Sometimes this downtime will be negligible, and other times, it may continue for an extended period. Vendors often offer a service level agreement (SLA) that details various metrics by which their services will be measured, and buyers have to make sure that a vendor’s SLAs are appropriate in light of the type of services being provided. The failure to achieve a particular service level often results in credit against a future service payment, but buyers have to be attentive to whether a credit will truly mitigate the effects an outage has on the buyer’s business. In truth, no one really wants an SLA credit and would much prefer that the service simply work without interruption. Outages happen, however, and thus buyers need to ask: If the service is regularly missing the SLA, when does the need for a termination right become necessary?
Not surprisingly, bankruptcy filings are increasing during the pandemic. That said, a vendor’s bankruptcy has always been a risk and thus, a buyer has to understand what rights it has in the event of a vendor bankruptcy, what access a buyer will have to data maintained by the vendor, and whether the buyer can easily migrate to another vendor’s platform if necessary.
At a high level, the U.S. Bankruptcy Code allows a debtor in bankruptcy to either assume or reject an executory contract (i.e., an agreement where material obligations are ongoing such as a software license agreement), meaning that the debtor can seek to cancel the remaining term of a license agreement. Section 365(n) of the Bankruptcy Code, however, provides some protection for a licensee of intellectual property to retain the licensed rights, provided that the contract is, in fact (i) for the use of intellectual property (as defined in the Bankruptcy Code) and (ii) an executory contract. Not all rights in an executory contract, however, are protected by Section 365(n) and, thus, a buyer will want to consider to what extent it is necessary for the contract to include an express acknowledgment of the buyer’s retained 365(n) rights, but also that the parties agree that the granted licenses are in fact licenses of “intellectual property,” as that term is defined in Section 101 of the Bankruptcy Code.