With technology being the ultimate enabler across the majority of industries, commercially available “off the shelf” software products have become the lifeline of many businesses. When licensing such software products, customers often must agree to use the vendor’s form of agreement, even for software products that are large investments for, and critical to the operations of, those customers. The customer should nonetheless review the vendor form closely and negotiate key terms as necessary to allow the customer to effectively leverage the software to meet operational needs over the long term, as well as mitigate material risks.
Ten of the top issues for customers to consider when licensing commercially available software products under a vendor’s form agreement are set forth below.
Scope of the License
Duration. The term or duration of the license being granted (e.g., is it a perpetual or term license) is a key term for customers to consider. If the license is a term license, customers will want to ensure that appropriate renewal and termination rights (including what happens upon termination) are detailed in the agreement.
Type. Customers should review closely the manner in which the software is being licensed and how entitlements are counted. For example, is the software licensed on a named or concurrent user basis, at the enterprise level, through value units, by processor or otherwise? An emerging issue to pay close attention to is the potential impact of robots on license usage and entitlement counts.
Authorized Users. Another gating issue is to identify “who” can use the software within the customer’s enterprise. The license may be limited to use by employees of the signing party only, or it may extend to employees and other users of the customer’s existing (and potentially future) affiliates or joint ventures. Since most customers leverage third parties to provide services, customers should determine the extent to which third parties (e.g., independent contractors, outsourcing providers) are entitled to access and use the software. Customers should also review geographical limitations on the license grant, including limitations on the ability to access the software from offshore delivery centers.
Nonproduction Environments. How the license grant applies to nonproduction environments, e.g., testing, backup, archive and disaster recovery (hot, warm, and cold sites) is a key consideration for customers, particularly the extent to which, if at all, nonproduction use counts against entitlements.
Effect of Business Changes
Routine Changes. For installed software, customers should determine if they are permitted to relocate any of the locations, processors, or other assets or equipment on which the software is installed. For software that is licensed on a user or seat basis, customers should determine if they are permitted to change users or transfer licenses to account for personnel turnover.
Change in Corporate Structure. Customers should determine if, in the event of a divestiture, they are permitted to split the software entitlements between the divesting and divested entities and if the software can be used during a transitional period by the divesting entity to provide services to the divested entity. For such transitional use, it often makes sense to try to align this period with the term of any applicable transition services agreement. Similarly, customers should consider whether, in the event of an acquisition, the acquiring company is permitted to leverage the entitlements on behalf of the acquired entity as well as its broader enterprise.
Ongoing Support Obligations
The software license is often coupled with a support agreement. The business teams should align in the duration of the support agreement and what releases are supported. In certain scenarios, warranties under the agreement may be leveraged for a period before needing additional support services from the vendor.
Another consideration is how future and replacement products are handled from a licensing and support perspective. If the customer is granted rights to receive vendor’s future product offerings, are its rights limited to updates and upgrades at a version level or do they include new releases of the software?
Clearly specifying license, maintenance, implementation and other applicable fees will help mitigate disputes. In addition, agreement to the payment terms is an important part of the negotiations, particularly with internal pressure to comply with the company’s procurement policies. The parties will need to agree to the timing of payment, as well as when the invoices may be issued (e.g., upon signing, delivery, installation, first use in production). If support or term license fees are to be paid in advance, customers should consider proposing a prorated refund of prepaid, unused amounts upon early termination.
How pricing for renewal terms is to be determined is an important issue, particularly if there is a short initial term or auto-renewal provision. If the vendor can increase fees for renewals, customers often wish to have advance notice of an increase as well as include a cap on the escalator.
Warranties and Disclaimers
Compliance. Vendors are generally willing to commit that the software will comply with specifications, or at least to material or substantial compliance. In order to align on what the “specifications” are, it is a good idea to attach to the agreement the applicable software descriptions or the vendor’s published documentation. The parties also should establish the available remedies for noncompliance (e.g., repair, replace, refund, termination).
No Disabling Code. A common customer requirement is that the software does not contain time-bombs, worms, viruses, or other code that might be used to deactivate or disable the software or the customer’s systems. Customers should assess whether such a warranty is given only at the time of delivery or does it continue throughout the support term, as well as whether there any knowledge or materiality qualifiers that limit the warranty.
Open Source. Ideally, any open source or similar publicly available software incorporated into the software would be specifically identified in the documentation and reviewed by the customer as part of its vendor due diligence. Customers should consider including representations by the vendor that the software will be free from any “viral” open source software (e.g., a GNU general public license) that could result in obligations for disclosure of the source code or free licensing of the software or any software used in connection with the software.
Indemnification by the vendor for third party infringement claims relating to the software is often a key customer requirement. Customers should be mindful of the scope of this indemnity, particularly whether it covers all infringement claims or is limited to certain claims, and that any exceptions are narrowly tailored. In addition to the indemnity, the customer should consider how direct damages to the customer are accounted for in the event of infringement. One mechanism is to include a noninfringement warranty that allows the customer to seek damages incurred directly by the customer (as opposed to third party claims) as a result of infringement, such as replacement and downtime.
Customers should inquire as to whether any other products are bundled with the core software that is being licensed and, if so, whether they are vendor or third party products. The customer will want to be cautious of references to additional terms and conditions that apply to bundled products, as well as any disclaimers of liability or exclusions by the vendor for issues relating to the bundled products.
IP Rights to Modifications and Additions
If the customer will be modifying, configuring, or creating add-ons to the software, terms regarding ownership of and right to use such changes become important. Customers have a tendency to think that if they make the change, they own it. Beware, though, as some agreements pull all modifications into the definition of the product without reference to who made the modification, potentially resulting in vendor ownership of customer modifications. The importance of owning such contributions will likely depend on whether they are specific to this vendor’s software and of limited utility outside that context, or they provide a competitive edge.
Customers will want to be mindful of absolute disclaimers of responsibility or liability, as well as low or ineffective liability caps. Customers should review the liability provisions carefully and consider including appropriate carve-outs, such as for breaches of confidentiality, noninfringement, indemnification obligations and gross negligence and willful misconduct.
No Other Terms and Right to Change Terms
Finally, it is important to check for the inclusion of additional (and often inconsistent) terms through links or references to other documents that are not attached. A potential way to reduce the risk of inadvertently adding unknown terms is to include in the “entire agreement” provision a sentence stating that click-throughs and links are specifically excluded. As licensing models evolve, vendors look to change their licensing terms to keep pace and may include provisions that allow them to unilaterally make changes. Customers will want to consider requiring a formal amendment to enact changes or retaining the right to approve changes (at least material ones!) to the contracting terms.
Barbara Melby, a partner at Morgan Lewis & Bockius, has been active in the outsourcing and technology transaction legal market for the last 25 years. As leader of the firm’s technology, outsourcing & commercial transactions practice, she represents clients in such complex transactions as outsourcing, strategic alliances, technology and data-related agreements, and other services transactions.
Eric J. Pennesi, an associate with the firm,focuses his practice on technology, outsourcing, and commercial transactions.