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Technology Procurement Handbook

I am delighted to issue this first edition of the Technology Procurement Handbook.Produced by Maddocks, the Handbook builds on the considerable experience and expertise of our team in the area of technology procurement. Drafted in plain English and using straightforward guidance and useful checklists, the Handbook encourages a best practice approach by customers to technology

procurement. It delivers a range of informative and useful material for reference at each step of the procurement process and offers specific guidance in relation to more complex and risky aspects of the contract negotiation process, such as service levels, exclusion clauses and indemnities. The key messages within the Handbook are highlighted using easily understood examples and case studies, which illustrate the key points and help to put the procurement process into context.

I trust that this Handbook will become a useful resource for you and your team in adopting a best practice approach to technology procurement, and welcome any feedback or queries you may have.

If you or your team members require further copies of the Handbook, please contact a member of our team.

Jeff Goodall | PartnerTechnology, Media & Telecommunications61 2 9291 6220 | [email protected]

© Maddocks (November 2014)

The copyright in this Technology Procurement Handbook is owned by Maddocks. All rights are expressly reserved. This Technology Procurement Handbook may not be downloaded, printed or reproduced, in whole or in part, without the prior written consent of Maddocks. Copyright enquiries and requests for additional copies should be directed to Maddocks.

Disclaimer

This Technology Procurement Handbook provides general information which is current as at the time of production. The information contained in this communication does not constitute legal or other advice and should not be relied on as such. Professional advice should be sought prior to any action

being taken in reliance on any of the information and any action taken or decision made by any party based on this Technology Procurement Handbook is not within the duty of care of Maddocks.

Maddocks disclaims all responsibility and liability (including, without limitation, for any direct or indirect or consequential costs, loss or damage or loss of profits) arising from anything done or omitted to be done by any party in reliance, whether wholly or partially, on any of the information contained in this Technology Procurement Handbook. Any party that relies on the information contained in this Technology Procurement Handbook does so at its own risk.

Access to this publication is not intended to create nor does it create a solicitor-client relationship between the reader and Maddocks.

COPYRIGHT and dIsClaImeR

FORewORd

Foreword, Copyright and Disclaimer | Maddocks Technology Procurement Handbook

01 Maddocks Technology Procurement Handbook |

Maddocks’ award-winning Technology, Media and Telecommunications (TmT) team brings together wide-ranging technology, communications and media industry experience, outstanding legal skills and a focus on delivering practical, commercially-focused solutions for our clients.

• Focus on front-end technology: Our team has strong experience advising on all stages and aspects of complex technology procurements. We predominately act for clients on the ‘customer side of the fence’, rather than for technology vendors/service providers. This means we are much less likely to have conflict issues when acting for an acquirer of technology solutions.

• national coverage: With offices in Sydney, Canberra and Melbourne, we are able to seamlessly service corporations (most of which are headquartered in these states) and government.

• Broad client base: We act for a diverse range of clients, including global brand names. We act for government, at all levels, and large to mid-market corporations. We also act for companies across the entire technology supply chain, from small ‘start-ups’ to some of the largest technology businesses in Australia.

• ‘Top tier’ experience: We offer exceptional depth of experience and talent. Before joining Maddocks, the majority of our partners and lawyers trained and worked at ‘top tier’ firms in Australia, including Herbert Smith Freehills, Gilbert + Tobin, King & Wood Mallesons, Ashurst and Clayton Utz. As a result, we are able to offer our clients top tier expertise without the costs and overheads often associated with these larger firms.

THe maddOCks TmT Team

The Maddocks TMT Team

| Maddocks Technology Procurement Handbook 02Introduction

Technology procurement is a fact of life

Technology products and services play a critical role in every organisation, in both the private and public sectors. Organisations simply cannot function without third party software, telecommunication systems and hardware, such as phones and computers.

Whether you are procuring ‘business critical’ systems or ‘business as usual’ products and services, things can easily go wrong. Poorly managed technology procurement can lead to cost blow-outs, lengthy delays and axed jobs. They can cripple an organisation and bring an entire country to a standstill (imagine a botched upgrade of software in connection with a country’s air traffic control network). On the flipside, successful technology projects can transform an organisation by facilitating the timely achievement of its goals, including, for example, improved customer service.

Value of the Technology Procurement Handbook

This Technology Procurement Handbook is for those proposing to engage a supplier or service provider (Vendor) to provide products and/or services to a customer (Customer).

As legal advisors specialising in technology procurement and outsourcing matters, we have seen it all: the good, the bad and the ugly. This Technology Procurement Handbook consolidates our years of expertise gained acting for both Vendors and Customers in the private and public sectors.

This go-to guide will assist Customers by:

• Providing a quick reference checklist: A user-friendly checklist to assist lawyers and project managers to better review and assess contractual arrangements associated with technology procurement.

• Identifying critical success factors: Elements of the technology procurement process that are essential for better management of technology procurement.

• Identifying common pitfalls: Mistakes and failures which lead to the mismanagement and poor implementation of technology projects.

• Providing risk mitigation strategies: Clear guidance and strategies for mitigating the risks and potential losses associated with the implementation of technology projects.

We understand the immense pressure our clients in both the private and public sectors are under when implementing technology projects. We are delighted to be able to share this invaluable resource and hope it will help Customers better manage the complexities and issues that commonly arise with technology procurement.

InTROduCTIOn


COnTenTs

The Technology Procurement Handbook is divided into the following chapters. Each chapter is designed to operate as a stand-alone document or can be read together with the other chapters.

1. Procurement Best Practice

This chapter is a short exploration of the key practical and structural aspects of technology procurement. It explores some common problems and pitfalls and sets out some easy to follow recommendations on best practice.

2. Pre-Contractual Considerations

An essential ‘dos and don’ts’ checklist of issues to consider before engaging a Vendor to supply technology products and/or services to a Customer. This chapter is suitable for project managers, commercial contract managers and lawyers, and represents a helpful starting point at the beginning of any new project.

3. Technology Contract Review Play Book

A comprehensive guide which expands on many of the themes touched on in chapter 2. The Play Book is a detailed, clause-by-clause examination designed for use by both lawyers and commercial contract managers when reviewing terms and conditions of supply proposed by Vendors. The chapter sets out a variety of ‘Preferred Positions’ and ‘Minimum Positions’ and is designed to be reviewed alongside the contract in question.

4. Service Levels

Service levels are commonly used in technology contracting, but are often misunderstood (particularly by non-specialists). This chapter dissects service levels and is suitable for project managers, commercial contract managers and lawyers. It includes handy hints and commentary, as well as a worked example to illustrate the key issues discussed.

5. Exclusion Clauses

This chapter is a detailed examination of the variety of contractual risk allocation ‘tools’ or clauses available to drafters and negotiators of complex technology contracts, with a particular focus on exclusion and limitation of liability clauses. It is aimed at lawyers and experienced commercial contract managers, and includes an analysis of recent case law on the meaning of ‘consequential loss’.

6. Indemnities Revisited

This chapter picks up on some of the themes discussed in more detail in chapter 4. It unpicks the key issues to consider when reviewing and drafting indemnities for technology contracts. It will serve as a useful refresher for project managers, commercial contract managers and lawyers.

7. Technology Cases

Learn from the mistakes of others. This chapter features high-level summaries of the key cases in technology contracting, together with a brief outline of the lessons for Customers in each case.

Contents

| Maddocks Technology Procurement Handbook 04Procurement Best Practice

The key reason for implementing effective procurement processes is the efficient employment of an organisation’s resources. Put simply, effective procurement processes add value and enable an organisation to efficiently execute its strategy.

From a legal perspective, a robust approach to procurement is also important because of the consequences which may arise from sub-optimal processes, which include:

(a) exposure to corruption risks

(b) exposure to legal liability and dispute risk in tenders for breach of the ‘process contracts’ which generally govern major tenders

(c) the loss of legal rights against suppliers through ineffective contract formulation and management processes.

1. Common problems in procurement

In our experience, the following problems repeatedly affect procurement from a legal perspective:

(a) the terms of tender documents and associated evaluation criteria are inadequately prepared, increasing the risk of tender decisions being challenged

(b) the technical and commercial specifications for the project, upon which market soundings are based, are vague and ill-defined, leading to proposals which do not meet the organisation’s requirements

(c) insufficient attention is devoted to the finalisation of the contract in the context of the technical and commercial specifications of the transaction, so that the final agreement does not clearly and adequately describe what the organisation is obtaining under the contract

(d) contract variation processes are inadequately managed, leading to organisations agreeing to increased costs of projects when not necessary and impinging on their legal rights to insist on proper contractual enforcement.

From a legal perspective, a robust approach to procurement is also important because of the consequences which may arise from sub-optimal processes, which include the following.

PROCuRemenT BesT PRaCTICe

CHaPTeR 1


1.1 Corruption risks

Procurement is a major area of exposure for corrupt conduct.

1.2 Tendering – the process contract

During the market engagement phase of the procurement process, the act of tendering, negotiation and concluding a contract with a Supplier will generally result at common law in the creating of a ‘tender process contract’1&2. As illustrated below, an organisation can be sued if it acts in contravention of a tender process contract.

While the existence of a process contract in any tender is a matter of construction, for any major tender, courts are likely to read down an attempt to exclude the process contract.

Legal action in respect of the tendering process is a major concern on high-profile procurements and such tenders are vulnerable to challenge by unsuccessful tenderers, even if such actions prove ultimately unsuccessful. Effective procurement practices mitigate the dispute risk by ensuring that an organisation has engaged in a defensible process and has documentary evidence to support its decisions.

1.3 Contract life-cycle management

Effective procurement systems and processes add value through the protection of an organisation’s rights and remedies, particularly in respect of mission-critical assets and services. In contrast, poor practices can inhibit an organisation’s ability to adequately protect itself, e.g. inadequate tender specifications and tender documents can materially inhibit an organisation’s ability to sue a provider for a failed solution.

2. Best practices in procurement

Best practice in the area of procurement requires an understanding of the end-to-end processes involved in procurement and the implementation of a system that drives effective outcomes at each stage of those processes.

Many organisations equate procurement with tendering and the signing of contracts. In reality the procurement process starts with the planning phase, moving through Supplier engagement and contracting, then onto the implementation and lifecycle administration, and eventually the termination of supply arrangements. By viewing procurement as an end-to-end solution, a process can be designed to fit into an organisation’s structure which supports business practices.

The composition of an effective procurement process can be looked at from two perspectives, namely the principles that should inform the procurement process and the specific elements of the end-to-end process that need to be implemented.

2.1 Principles for procurement

Any procurement process should encompass the following basic principles.

• Value for money: the concept of value for money is centred on obtaining the best quality and value for the price. A value for money approach means that lowest cost is not the sole determinate of outcome.

• Probity and transparency: all suppliers/vendors must be treated (and be seen to be treated) fairly and in an open transparent manner. This includes vendors having the same access to information and being treated in the same manner without bias or perception of bias, and with strict confidentiality being maintained.

• accountability: the organisation has a procurement framework which is robust and sets out the process, and identifies specific accountabilities for managers within the organisation and their responsibilities for procurement.

• Risk management: it is recognised that all procurement involves risk and the organisation identifies such risks and develops appropriate strategies to mitigate such risks.

The relevant elements of an organisation’s procurement processes can be further supported through:

(a) the development of detailed policies and procedures

(b) the provision of sufficient resources to employ and regularly train suitably qualified staff for the procurement processes.

Procurement Best Practice

1 Australian cases concerning the existence of process contracts have been in the context of government tenders. Australian authority is sparse on the point on whether the process contract approach also applies for private sector tenders.

2 It is possible to structure a major tender to exclude the process contract – see State Transit Authority of NSW v Australian Jockey Club [2003] NSWSC 726. However, purporting to exclude the process contract should be thought through carefully, for example, an organisation may seek to rely upon representations made by bidders during the process and therefore want the process contract to exist.


2.2 Structure of procurement systems

As previously stated, the procurement process needs to be seen as an end-to-end process, starting with needs analysis and eventually moving through to managing the end of contract process. The procurement process can be represented as follows:

2.3 Procurement planning

The planning phase of procurement is where an organisation identifies its need for resources and undertakes analysis processes to develop the business case and implementation plan for the employment of resources to complete the acquisition.

A key part of the planning process is the risk identification exercise in relation to the assets/services to be procured. Risk identification is important, as the risks identified and mitigation strategies developed will inform the level of resources to be applied to the procurement process and the type of market sounding an organisation is to enter into. In addition, the risks identified will form the basis for determining appropriate contractual protections, performance measures and the like.

Best practice in procurement is moving towards a risk-based approach to determining the complexity of the procurement process to be adopted (rather than the traditional dollar threshold determination). A simple model for such analysis is as follows:

By the end of the planning phase, the organisation should have developed robust technical and functional specifications of what is to be achieved from the procurement, and developed plans for properly mitigating the material risks associated with the procurement.

2.4 Supplier engagement

The issues identified in the procurement planning phase will help inform the type of approach to market to be undertaken. It is during this phase that an organisation would be drafting tender specifications and request for tender (RFT) documentation as part of the formal approach to the marketplace. This phase of the process is very important, as the market approach documentation will inform the quality of the responses received and set the framework for effective implementation and ongoing management of the contract.

Significant time needs to be invested in properly developing the business requirements for the market approach. The business requirements should include the technical specifications or outputs sought from the procurement and details such as to how contractor performance will be monitored and evaluated, what specific events will trigger review rights or provide grounds for termination. This level of analysis will form the basis of the tender documentation and any service level agreements and will mitigate the ability of tenderers to claim ‘out of scope’ variations later on.

In our experience, several problems can occur during the supplier engagement phase, including the following.

2.4.1 Inadequate tender document preparation

There is a tendency to rush the preparation of a tender document as many of the stakeholders involved in the procurement perceive it as merely a formal process document which does not add value. This is often in the context of the length of time taken to date in planning the procurement, which can create a sense of the need to move on to the acquisition phase as soon as possible.

A poorly drafted tender document can cause several issues for an organisation, including inhibiting its future ability to take action against a proponent whose system does not operate as expected, or leading to an abandoned tender process due to the poor quality of responses received.

A key area of concern involves how the technical and business requirement aspects of the procurement are drafted and reflected in the tender documents and contractual schedules. There is often a gap between the legal/procurement teams and the business specialists, so the technical and business specifications of the project are ill-defined. This will create ambiguities in the contract, which tend to favour the contractor, as an organisation will find it difficult to insist on strict performance.

Inadequately prepared tender documents can leave an organisation in a very difficult position once responses are being evaluated. Poorly drafted documents can create uncertainty as to the obligations owed. Seeking to ‘cure’ the problem by amending the process may leave an organisation open to challenge for breach of the process contract and will at the very least, introduce material delays into the procurement timeline.

2.4.2 Inadequate documentation of evaluation process

From a tenderer’s viewpoint, there can be a lack of transparency regarding tender evaluation and reasons for contract award decisions. It is essential that an organisation’s tender evaluation and reporting be able to withstand scrutiny should it be subject to challenge.

This is especially the case in the area of winning tenderers who do not submit the lowest price for the contract. While a tender award should be made on a determination of the offer which provides the best value for money and normal tender conditions would state that the lowest price will not guarantee tender award, the value for money analysis supporting such a decision needs to be cogent and evidence-based.

1. Low degree of business risk and low expenditure

‘ROUTINE’

2. Low degree of business risk and high expenditure

‘VOLUME’

3. High degree of business risk and low expenditure

‘SPECIALISED’ ‘CRITICAL’

4. Hight degree of business risk and high expenditure

Bus

ines

s ri

sk

Expenditure

Source: Queensland Government Chief Procurement Office (www.qgm.qld.gov.au)

Source: Queensland Government Chief Procurement Office

PROCUREMENT PLANNING SUPPLIER ENGAGEMENTMANAGING SUPPLY

ARRANGEMENTS

Demandanalysis

Supply market analysis

Options analysis

Planning for significant procurement

Developing requirements

Going to market

Evaluation and selection

Awarding

Contract implementation and administration

Prerformance monitoring

Review and closure


2.4.3 Inadequate formation of contract schedules

Any sizeable procurement will involve an extensive amount of technical specifications for the project. Those specifications will start with the tender request documentation, include responses from the successful bidder, the schedules appended to the final contract and possibly a whole series of statements of work or work packages (or similar types of documents) sitting underneath. Some or all of these documents may form part of the formal contract (for example, sometimes tender specifications will be appended as a schedule to the contract). There may also be a whole series of representations made by a bidder during the tender process, which may or may not be reflected in the contractual documents.

Problems with the schedules can arise due to either a lack of detail (the ‘two-page schedule’ seeking to describe a major project) or too much detail (volumes of impenetrable technical specifications prepared by different parties).

For the optimum outcome, multiple layers of documents must work together and be consistent and the order of interpretive priority in terms of any disputes between the documents should be clear. The focus is on both the accuracy and the identification of the documents that best represents the proper description of the project to ensure its provisions prevail to the extent of any inconsistency.

Precision in ensuring contractual schedules are properly formed will minimise disputes about the technical and commercial requirements of the contracts. This will help avoid the situation in the case of Unisys v RACV. 1 In that case, a dispute arose regarding how Unisys had represented certain matters as to the technical performance of the system. Despite the complete failure of the project, the RACV was caught up in expensive litigation, which went to the Court of Appeal, because the contract did not include the relevant technical requirements. Fortunately for the RACV, the Court had no trouble finding that the relevant representations had been made by Unisys, and that the RACV could rely on the statutory deceptive or misleading conduct remedy to be compensated.

2.5 Managing supplier arrangements

Best practice in procurement involves recognising the importance of the investment of resources in negotiation of contractual terms and schedules, the monitoring of performance of the contract, the enforcement of contractual terms and conditions, and the effective treatment of contractual variation requests.

Many of the biggest challenges in procurement relate to this phase. Often this is because organisations do not manage them effectively, as they perceive the procurement has finished and has moved into ‘business as usual’. Even where organisations do understand the importance of contract management, factors such as project fatigue, inadequate resourcing of implementation teams, and inadequate hand-over plans between project teams and business users can result in sub-optimal outcomes.

2.5.1 Contract implementation

Following contractual close, it is essential that an organisation centrally captures the existence, and major terms of all material contracts. Further, the unit responsible for central repository of contracts needs to ensure that all affected business areas understand their rights and obligations under the contract.

Depending on the size of a project, contract implementation can be a major undertaking in its own right, e.g. implementation of a technology project could easily take one to two years. A lengthy implementation phase may require its own procurement process, e.g. procurement of external project management resources. Effective supervision of a material implementation is required to ensure that an organisation receives what it is entitled to under the main contract and that it does not undo the result of its negotiated position through its actions during the implementation phase (this issue is related to contract variations, discussed below).

A changing contract scope caused most of the problems in the GEC Marconi case.2 In that case, a major project for the implementation of diplomatic communication software for the Department of Foreign Affairs ran into difficulties when a key element (an IT security device) to be provided by the Department to the software developers was delayed and then cancelled (GEC Marconi was a subcontractor to the main software provider BHP-IT). The parties engaged in a series of work-arounds and other actions to resolve the issues and keep the project going. Eventually the project collapsed and lengthy litigation ensued. Among the many faults of all the parties to the dispute, the Commonwealth was found to have breached the contract through its calculated misrepresentations as to the status of the security device deliverable.

1 Unisys Australia Ltd v RACV Insurance Pty Ltd [2004] VSCA 81.

2 GEC Marconi Systems Pty Limited v BHP Information Technology Pty Limited [2003] FCA 50.



2.5.2 Performance monitoring

The success of performance monitoring of a contract is built on the effectiveness of the planning and acquisition phases of a procurement; i.e.the risk identification and contracting process should provide an organisation with meaningful contractual measures in the form of key performance indicators, service level agreements and a contractual rewards and sanctions regime, such as abatement of service fees, liquidated damages payments and the like.

In order to assure performance under the contract, regular reporting should be received from the contractor and meetings held where performance issues can be addressed and resolved. Internally, it is advisable that there be regular reporting of performance on material contracts to an internal management risk committee in order to give visibility of contract performance to enable underperforming contractors to be addressed and identify those contractors providing effective service to the organisation.

Failing to address performance failures under a contract can have a number of serious consequences for an organisation. From a legal risk management perspective, contract managers need to be aware that excusing contractor defaults or failing to enforce abatement provisions and the like can lead to an organisation losing such enforcement rights in the future (through the various legal doctrines of waiver, election or estoppel). This risk can often arise when an organisation overlooks a series of minor defaults, to avoid upsetting the relationship with the contractor. This pattern of behaviour can continue until contractor performance deteriorates to the point that an organisation then seeks to insist on strict compliance and take enforcement action, only to find its earlier conduct being used as an argument to resist such action. In GEC Marconi, the Court held that GEC Marconi had forfeited its right to rely on the failure to supply the security device as a termination right for overlapping reasons of variation by agreement, election and estoppel.

2.5.3 Contract variations

Any large-scale procurement project will see, even with the best planning, a certain amount of variations required after the original contractual close. However, contractual variations relating to contract scope and price cause many problems and can undo the most rigorous tendering processes.

Contractual variations are difficult to combat because of such factors as the following.

• Many suppliers have an active strategy of submitting low offers to win tenders and increase the contract sum through variations. Suppliers know that after contract close, an organisation is under pressure to complete a project within a timeframe and the ability to appoint an alternative contracting party has diminished or been lost.3

• There is no fool-proof legal mechanism for preventing contract variations from occurring outside of formal sign-off procedures. This is because there are legally several ways a contract may be varied, such as when an organisation varies a contract by performance even though the contract itself states that variations are only to be approved in writing.

• There may be variability in the quality of contract management staff that process contract variations without reference to whether the variation is allowed under the original contract, or whether the underlying issue is one of non-performance by the contractor.

While no process can fully capture all contractual variations, best practice would see the following safeguards in place.

• Contractual variations have dual sign-offs by different areas of the organisation. For example, both the business unit to which the contract relates and legal/procurement should sign off on the necessity for the variation and the position of the variation in the original contract, before formal variation documentation is signed.

• Invoices payable under contracts are reconciled to the underlying contract, in order to detect variations that have not been captured by the contract management system.

• There is management visibility of and accountability for variations. For example, material variations above a certain threshold are reported to an executive risk committee for further discussion and monitoring.

3 As an interesting aside, the decision in Pratt Contractors Ltd v Transit New Zealand [2005] 2 NZLR 433 involved, in part, a bidder’s reputation for under-bidding being a relevant factor in awarding the contract to another party. The Privy Council held Pratt’s reputation was a valid commercial consideration for Transit New Zealand to take into account and did not breach the process contract.


3. Recommendations for improvement

Achieving best practice in procurement may involve an entity-wide commitment and a considerable investment of time and resources to properly implement. Some basic steps which may be implemented are included below.

3.1 Procurement training

• All procurement officers should receive a minimum level of training in procurement and the issues which arise over the procurement cycle.

• Organisations such as the Chartered Institute of Procurement Specialists operate in Australia and have a range of resources including training programs available (www.cipsa.org.au). Their training includes standard format and corporate programs tailored for an organisation’s requirements.

• Training would ideally give procurement staff a base level of consistent knowledge, to add value to the procurement process.

3.2 Reporting lines

• Much like compliance staff, the role of procurement staff may involve making decisions which are in the best interests of the organisation as a whole, but are not received well by relevant line managers/business units.

• The use of structural reporting lines which require all procurement staff, even those deployed within a business unit, to report to the ‘Head of Procurement’, or similar, may reduce the risk that procurement staff are disadvantaged for carrying out their roles properly.

3.3 Procurement specialists

• A core staff of highly skilled and experienced procurement specialists or ‘commercial managers’ (as they are sometimes called) can assist on major procurements, developing and refining policies and procedures and providing general day-to-day assistance to procurement staff embedded with business units.

• Such a team can be deployed anywhere in the business as needed, to assist with particular projects. Once such a unit is established, it can be used to determine whether a wider team of commercial managers/project managers who drive material projects is feasible. Some large organisations have ‘commercial manager teams’ who take control of strategic procurement processes for major initiatives.

• This recommendation requires some investment in resources, but where it can be implemented expeditiously without significant changes to overall processes it may be advantageous.


| Maddocks Technology Procurement Handbook 10Pre-Contractual Considerations

This document sets out key issues to consider when you are proposing to engage a Vendor to supply products and/or services to a Customer for a project (Project). It is intended for use by project managers, but would also serve as a useful tool or ‘check sheet’ for lawyers seeking instructions from the business. Using this document as a guide should assist project managers to outline key details and issues to lawyers when instructing them on a contract. Lawyers may therefore wish to provide this document to project managers and contract managers instructing them.

Drafting the contract

Where possible, Customers should carefully consider each of the issues to follow and determine their requirements up-front, before asking Vendors to provide pricing information or entering into contract negotiations. Setting out all of the Customer’s requirements at the outset should restrict a Vendor’s ability to change its position during negotiations as further details are provided (e.g. by increasing the initially quoted price, as the Vendor should have already scoped and priced its solution with full knowledge of all of the Customer’s requirements), and consequently expedite finalisation of the contractual documentation.

PRe-COnTRaCTual COnsIdeRaTIOns

CHaPTeR 2


PRe-COnTRaCTual COnsIdeRaTIOns | dRaFTInG THe COnTRaCT

Form of contractdo do – Get it in writing: When dealing with Vendors, it is nearly always appropriate to frame the relationship with a formal, legally binding,

and written contract. Depending on the complexity and value of the Project, a simple short-form letter agreement may be sufficient or a complex long-form contract, ideally based on one of the Customer’s existing precedent contracts (rather than the Vendor’s), might be more suitable.

do – use agreed Customer prescribed terms: If a panel/tender arrangement is in place, consider whether the Vendor has already agreed to contract with the Customer under prescribed terms.

do – engage with relevant stakeholders early on: Engage with the relevant stakeholders in the Customer’s business as early as possible and ensure you allow enough time to prepare a contract prior to going to tender and enough time for post-tender negotiations.

don’t don’t – Blindly use an existing contract: It is not always appropriate to leverage an existing contract with the Vendor – separate contracts may be required for specific Projects. Earlier contracts may have been heavily negotiated and may contain concessions that are inappropriate in the present situation.

Identity of the Vendordo do – Clearly identify the Vendor: Clearly identify the proposed Vendor, including its full legal name and its Australian Business Number

(ABN) and/or Australian Company Number (ACN). A company may change its name, but not its ACN (i.e. the ACN attaches to the underlying legal entity). Accordingly, the ACN (and not the company name) should be used as the key identifier of the proposed Vendor.

do – establish direct contractual relationships with the Vendor: Generally speaking, in order for the Customer to be able to enforce rights against a well-known Vendor, such as an IBM, HP or Cisco, the Customer must have a contract directly with that Vendor, rather than a local third party re-seller of that Vendor’s products and services.

don’t don’t – Confuse the Vendor identity: Do not confuse the Vendor’s proposed contracting entity with:

• a business or product brand or trading name

• the original equipment manufacturer/licensor (i.e. the Vendor’s proposed contracting entity may be an unrelated third-party re-seller of the Vendor’s products and services).

don’t – allow Vendors to ‘ring-fence’ liability with separate contracts: Beware of Vendors who propose to use separate contracts and/or different contracting entities for the initial supply of products and the ongoing provision of maintenance and support services. This is usually done to ring-fence the Vendor’s risk and will be detrimental to the Customer’s position in the event of a failure by the Vendor, its products or its services.

scope of work – what are we buying?do do – Clearly define the scope of work: The products and services being purchased must be described in sufficient detail and clarity

so that it is clear to any reader of the contract, including anyone who has not been involved in the Project, what is being purchased by the Customer. If the ‘front-end’ and the schedules/annexures are the responsibility of different teams, both components should be checked by the person/team responsible for the ‘front-end’ for both content and consistency.

don’t don’t – Have unclear, vague or imprecise contract schedules: The primary responsibility for preparing the necessary schedules/annexures (covering, for example, the Customer’s specifications for the required products and services, project plan, pricing, payment plan, key milestones, service levels, etc.) usually lies with the project manager. The schedules/annexures to a contract are critical to determining the Customer’s rights under the contract. Keep in mind that favourable terms regarding warranties, indemnities and liabilities in the ‘front-end’ of a contract become irrelevant if the schedules/annexures do not describe the Vendor’s obligations in full and sufficient detail. Unclear, vague and imprecise schedules/annexures will seriously undermine the Customer’s position in the event of a dispute.

Risk managementdo do – Contract with a company of substance: The Customer’s rights and remedies under a contract are effectively worth no more than

the assets of the legal entity that it contracts with. Accordingly, it is important to ensure that the Vendor’s proposed contracting entity is a company of substance (i.e. it has the financial capacity to meet any claims made against it). Where the proposed contracting entity is not a company of substance, it may be necessary to obtain a guarantee (e.g. from its parent company or directors) or require a performance bond to be obtained from a bank.

do – Get an indemnity against third party intellectual property (IP) claims: Vendors should be required to ‘stand behind’ their products and services, by providing the Customer with an unlimited/uncapped indemnity against any third party claims of IP infringement.

don’t don’t – Think one size fits all: Each Project and the allocation of risk and responsibilities between the parties must be considered on a case-by-case basis. For example, if the Customer has agreed a certain position with a Vendor on a particular Project, this does not necessarily mean that the same position will be acceptable when dealing with a different Vendor on a similar Project or the same Vendor on a new Project.

don’t – Confuse risk with project value: Although there is often an element of proportionality, the ‘dollar value’ of a Project does not necessarily determine the risk to the Customer should the Project fail. A detailed risk assessment should be undertaken for all Projects. Such assessment should consider the issues arising directly from the Vendor’s breach (e.g. whether alternative ‘off-the-shelf’ replacement products and services are readily available from an alternative supplier) and the indirect or flow-on effects to the remainder of the Customer’s business. Any exceptional or unusual risks (such as increased security requirements) should be addressed in the contract.

Pre-Contractual Considerations

| Maddocks Technology Procurement Handbook 12Pre-Contractual Considerations

negotiating – key points to rememberdo do – ensure the process is ‘subject to contract’: During all phases of the Project leading to contract signing (e.g. tendering, assessment,

down-selecting, negotiations) it should be made clear that any arrangement with the Customer is ‘subject to contract’, and that the Customer is not bound to purchase products or services from a Vendor unless and until a formal, legally binding, written contract has been entered into by the parties. Even when agreement has been reached, the parties should not begin performance prior to execution.

do – Remember, time kills deals: Nothing kills deals more than protracted negotiations. This is not to say that the Customer should rush into signing contracts – a considered and practical approach is required. However, it is very important to engage key stakeholders within the business as early as possible (such as in the areas of legal, risk and insurance). There is little point in a project manager negotiating and ‘agreeing’ certain positions with a Vendor unless these are acceptable from a Customer policy perspective.

don’t don’t – Just draft the contract: Exchanging long-form contract drafts before agreeing on the key commercial terms can cause negotiations to become costly and ineffective/drawn out. The parties should first reach agreement on the key commercial terms (such as what products and services are being provided, how the service level regime (if any) operates, how fees will be calculated, the term of the agreement, renewal rights, etc.) and ideally, should have addressed all of the issues raised in this document.

don’t – Just make it mutual: Often in commercial negotiations, parties will say ‘let’s just make that clause mutual’ with little consideration for the consequences. It is generally not the case that contractual obligations/provisions should be made mutual. For example, when determining the term of a contract covering support services for a high value hardware item, it is preferable that the term is asymmetrical, with the Vendor being locked-in to provide support at a pre-agreed price for the life-of-type of the hardware (which may, for example, be five or more years) and the Customer being able to walk away after, say, 12 or 24 months.

don’t – Blindly agree to exclusivity: Ideally the Customer should not agree to any element of exclusivity when contracting with Vendors. Any exclusivity provisions should be considered carefully alongside other relevant terms such as term, termination rights and pricing (fixed or otherwise).

Price and paymentdo do – ensure the price is right: The fee payable for goods and services is one of the most critical parts of any commercial deal, yet

commonly the most poorly constructed. The formulation of the fees payable needs to be crystal clear and drafted to reflect the Customer’s intention. Ideally, agreed pricing should be ‘all inclusive’. Where it is necessary to pass certain costs onto the Customer (e.g. travel and subsistence), the Vendor should be required to provide a quotation, and obtain the Customer’s prior written approval, for each such expense.

do – use payment plans to incentivise the Vendor: The schedule of payments should be used as a tool to incentivise the Vendor to perform/deliver. Wherever possible, the Customer should seek to minimise up-front payments and payments in advance of services being provided. Payments should be tied to successful completion of milestones, and should ideally only be payable in arrears.

do – Consider tax risk: Vendors should be asked to provide pricing that is inclusive of all taxes, duties and levies. The only general exception to this is where pricing is quoted excluding GST. This approach reduces the likelihood of the Vendor being able to pass through the impact of any ‘hidden’ taxes, duties and levies. This issue is particularly important where the Vendor is proposing to contract through an offshore entity.

don’t don’t – let Vendors hike up the price: Consider whether it is reasonable for the Vendor to be able to increase its pricing over the term of a contract (e.g. for a long-term support arrangement) and, if so, what indexation methodology is appropriate. To provide the Customer with pricing certainty over the term of the contract, consider having pricing that increases by a pre-agreed fixed amount (e.g. 2%) year-on-year, rather than tying price increases to a published index (such as CPI).

don’t –Take on exchange rate risk: Where products or services are priced in a foreign currency, consider who bears the risk of fluctuations in the exchange rate. Ideally, all contracts entered into by the Customer should be priced in Australian dollars (so the Vendor bears any exchange rate risk). If the Vendor is resistant to this, consider contractually agreeing a fixed exchange rate for the term of the contract.

what you want from the Vendordo do – Incentivise the Vendor: Determine the best methodology for incentivising the Vendor to perform, which may include rear-loading the

payment schedule (so that the Vendor is not paid until the work is completed and the products have passed acceptance testing), including suitable key milestones, key performance indicators and service levels in the contract and, where appropriate, linking these to liquidated damages. Any liquidated damages must be a genuine pre-estimate of the loss that the Customer is likely to suffer as a result of the Vendor’s failure to achieve the relevant key milestones, key performance indicators and/or service levels.

do – Include a clear project timetable: A detailed project plan/timetable should be included in the contract. Ensure that timelines are practical, feasible and allow enough time to gather all required inputs, permits, approvals, sign-offs, etc. Plan for a realistic amount of time for the parties to negotiate and agree the contract. For a large Project, this is likely to be months rather than weeks.

do – specify reporting: Stipulate what reports will be required, and in what format, during each phase of the Project.

do – Cover ownership of IP: As a starting point, the Customer should own any IP developed specifically for the Customer in relation to a Project. This will require an express assignment of ownership in the contract. The contract should also contain an appropriate licence (ordinarily non-exclusive) to the Customer of any IP that forms part of the Project but will not be owned by the Customer.

do – Identify key Vendor personnel: If you require key Vendor personnel to be involved in the Project, they should be named in the contract.


PRe-COnTRaCTual COnsIdeRaTIOns | dRaFTInG THe COnTRaCT

Other practical considerationsdo do – Include standards, procedures, etc.: Determine which internal policies, procedures, etc., and which external standards (e.g. those

relating to quality assurance) the Vendor will be required to comply with. Make clear that such inclusions are intended to have contractual effect.

do – deal with existing contract(s): Where the arrangement contemplated under a new contract is intended to replace, in part or in whole, an existing arrangement, it is necessary to ensure that the existing contract(s) relating to such arrangement are properly terminated and/or amended. Carefully consider the underlying legal identity of the incoming and outgoing Vendors (please see comments above regarding ACNs).

do – ensure appropriate sign-off: Consider who within the Customer has the delegated authority to execute the contract and what sign-offs will be required from stakeholders within the business. Start planning for these from the outset.

don’t don’t – Forget maintenance and support services: Do not consider purchasing a product from a Vendor without negotiating the details, including price, of the necessary maintenance and support services required for the life-of-type of the relevant product. Ideally, such services should be contracted for at the same time and under the same contract as the initial purchase, otherwise the Customer might be left with products that are unsupported and, therefore, effectively of no value. The Customer may well be unable to source appropriate maintenance and support from elsewhere in the marketplace.

don’t – Forget to appoint the systems integrator: Where products and services are being purchased from multiple Vendors and/or need to be integrated with the Customer’s existing systems, carefully consider which party will perform the role of systems integrator. Where multiple Vendors are proposed, it is likely to be preferable to appoint a single lead Vendor to take on this role. It can be very problematic for the Customer to fulfil this role, particularly from a resourcing perspective, where it is required to co-ordinate multiple Vendors involved in the same Project.

Terminationdo do – spell out termination for cause – specific triggers: In addition to the usual right for the Customer to terminate a contract for

‘material breach’, consider whether there are any specific circumstances where the Customer should be able terminate the contract (e.g. failure of Vendor’s products or services to pass acceptance testing and go-live prior to a pre-agreed back-stop date, the Vendor’s failure to meet certain key milestones, key performance indicators and/or service levels).

do – Include termination for convenience: Ideally, the Customer should always have a right to terminate a contract for convenience at any time. In order to get this into the contract, it may be necessary in certain limited circumstances to agree to pay the Vendor early termination charges.

Early termination charges should compensate the Vendor only in respect of up-front costs that it has not been able to amortise over the term of the contract, due to the Customer’s early termination for convenience, and should not provide the Vendor with a windfall profit. They should not, for example, be calculated simply as a percentage of the total remaining fees and charges. If the contract has ongoing obligations imposed on the Customer, such as exclusivity or a minimum spend (i.e. a ‘must purchase’ requirement as opposed to a ‘right to purchase’), then there must be a clear end date to the contract.

don’t don’t – Blindly make termination rights mutual: Vendors often insist on making termination rights mutual. However, this is rarely appropriate. For example, where the Customer is a government entity or large publicly listed company, termination for change of control in ownership or insolvency type events are unlikely to be relevant.

Pre-Contractual Considerations

| Maddocks Technology Procurement Handbook 14Technology Contract Review Play Book

Introduction and instructions

This Play Book is intended to be used as a guide by lawyers (internal and external) and contract managers when reviewing terms and conditions of supply proposed by technology Vendors in an agreement with a Customer (agreement).

The table commencing on the following page addresses issues which commonly arise in contract reviews and negotiations where a Vendor is providing products or services to the Customer, by providing a number of possible negotiating strategies and/or alternative positions.

A ‘one size fits all’ approach is not appropriate for the acquisition of all products and services. It is always important to consider the context of an issue in negotiations. For example, what is materially significant to the Customer will vary considerably between an agreement for an ancillary, ‘low value’ and ‘low risk’ service, versus an agreement for a mission critical IT system. The dollar value of the agreement may not be indicative of its importance to the Customer. Accordingly, it is always important to consider the context of the agreement and seek instructions from the relevant business stakeholders.

The ability to negotiate issues will be influenced by the respective bargaining positions of the parties. In some cases the Customer’s negotiating position may be relatively weak (this may be for a number of reasons (for example, the Vendor is the only viable supplier of a particular product in the market)) or even effectively non-existent (for example where the Vendor is a reputable global corporation such as Microsoft, contracting on its standard terms). In such cases, it is likely to be more important to focus on the core issues, rather than entering protracted negotiations in an attempt to seek the best position on every clause.

The Play Book sets out ‘Preferred Positions’, which should ordinarily be the starting point for negotiations, with the caveat that such matters are always influenced by context and bargaining positions. In some cases a ‘Minimum Position’ is also specified. If the ‘Preferred Position’ is not attainable, the next port of call should be the ‘Minimum Position’, which represents the minimum acceptable standard for the Customer on a particular issue. The Customer may require ‘sign-off’ from appropriate stakeholders where deviation from the Minimum Position is necessary.

TeCHnOlOGY COnTRaCT ReVIew PlaY BOOk

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TeCHnOlOGY COnTRaCT ReVIew PlaY BOOk | InsTRuCTIOns

number/Issue Position1.Principal performance obligations

Issue: Commonly, agreements proposed by Vendors are not ‘fit for purpose’ because the principal performance obligations (such as descriptions of the products and services to be provided) are not properly defined.

If the service description is vague, the Customer could face significant difficulties demonstrating there has been a breach by the Vendor in delivering the services in the event of a dispute or delay. On a practical level, if the services are not properly defined, it would be difficult for the Customer to interpret what the Vendor was required to provide, if key staff of the Customer who dealt with the Agreement move on.

Preferred Position: As much as possible, the principal performance obligations should be as clearly and thoroughly defined in the Agreement as the context permits, otherwise there is little to be gained from negotiating the ‘legal’ terms and conditions (e.g. limitation of liability, indemnities, warranties, etc.).

Consider: What, how and where (i.e. service/technology/equipment descriptions); quality (i.e. service levels); when (i.e. project timetable); and price (i.e. fees schedule). These issues are discussed in more detail below.

minimum Position: Where there is little time to prepare comprehensive descriptions of the products and services to be provided, consider incorporating by reference or attaching to the Agreement any or all of: the Customer’s request for proposal, if there was one; the Vendor’s response to the RFP, or any similar ‘proposal’ document; and the Vendor’s standard marketing materials, specifications, etc., for the products and/or services being provided (refer to the Preferred Position on the incorporation of ancillary documents in Section 2 below).

Also include a ‘priority’ clause which, in the case of conflict or inconsistency, ranks the Customer’s requirements ahead of the Vendor’s specifications.

2.Incorporation of ancillary documents

Issue: Vendors often attempt to incorporate documents simply by reference (for example, by referring to policies or procedures posted on the Vendor’s website), which may be unilaterally amended by the Vendor ‘from time to time’.

As a result, the Customer may unwittingly agree to additional obligations which it has no knowledge of or with which it cannot comply. Further, if a Vendor has a right to unilaterally amend an ancillary document (such as a policy), then it effectively has a right to unilaterally amend the Agreement.

Preferred Position: Ideally all key provisions should be contained in the body of the Agreement and ancillary documents should be attached and not incorporated by reference. Amendment should be by written agreement of both parties only.

minimum Position: Where it is not possible to attach ancillary documents (as may be the case when negotiating with a large telecommunications or technology supplier) ancillary documents should, at a minimum, be sighted and clearly identified (with the relevant date and version noted). Amendment should be by provision of written notice with a right to terminate where adversely/significantly affected.

3.Term

Issue: It is not uncommon for Vendors to propose a term which seems inappropriate for the product or services provided. In particular, be aware of unusually long terms or agreements with no end date (which have the effect of the Customer having ongoing liability to the Vendor).

For example, it would be extremely problematic if the Customer was locked into a seven year term which included a minimum spend, if in the second year the Customer realised it no longer required the services or could acquire them on better terms from an alternative supplier.

Preferred Position: As a general rule, the term of an Agreement should have a clear end date and reflect the period the Vendor is prepared to give the Customer fixed pricing for the product or services.

minimum Position: If the Agreement (such as a master services agreement with work orders) has ongoing obligations imposed on the Customer, such as exclusivity or a minimum spend (i.e. the Agreement has a ‘must purchase requirement’ as opposed to a ‘right to purchase requirement’), then there must be a clear end date to the Agreement. Further, where any ‘must purchase’ (i.e. minimum spend) or exclusive obligations are included, sign-off from the legal department is required.

If there are no ongoing obligations in an Agreement (such as a perpetual licence or a master services agreement), then a clear end date is not necessarily required.

4.Renewal of term

Issue: It is common to see agreements with an automatic renewal of the term on expiry of the initial term. If the Agreement automatically renews, the Customer may be left with services or products it does not require, or terms and conditions it would have liked to have had the opportunity to amend (particularly as to price).

For example, the Customer acquires products or services from a Vendor pursuant to an Agreement with an initial three year term. The Agreement includes a minimum annual spend by the Customer. The Agreement automatically renews for another three years, unless a party gives notice within 30 days from the date of expiry of the initial term. The Customer fails to provide notice and the Agreement is renewed for a further three years. Consequently, despite being in discussions with an alternative Vendor, offering more suitable products or services and/or lower prices, the Customer ends up locked in to the original Agreement for a further three years.

Preferred Position: If an Agreement is favourable to the Customer, the extension of the term should be at the Customer’s unilateral written election. This position gives the Customer control over the renewal. Alternatively, renewal should be by mutual agreement, rather than automatic.

minimum Position: Have no express renewal provisions, so that the parties have to negotiate a new Agreement at the end of the original term.

If automatic renewals are included (i.e. the Agreement rolls over unless a party gives notice), ensure that the Customer has a right to terminate for convenience after the initial term (i.e. the Customer must be able to terminate for convenience during any renewal term). For more discussions of termination for convenience, see Section 5 to follow.

Technology Contract Review Play Book


number/Issue Position5.Termination for convenience – the Customer

Issue: A termination for convenience clause gives the Customer the right to terminate an Agreement without cause. Such clauses give the Customer a great deal of flexibility (however, most Vendors are reluctant to accept them). A termination for convenience clause may be appropriate in a number of circumstances. For example, where the Vendor insists on a long term (see Section 3), in the case of rolling renewal of terms (see Section 4) or in the context of an acceptance testing regime. If the Customer has a right to terminate for convenience, be sure to consider whether there are any ‘break fees’ payable by the Customer to exercise the termination right.

Preferred Position: While a termination for convenience clause is generally a good outcome for the Customer, it is not required where the Customer does not have any ongoing obligations (e.g. the Agreement does not place a minimum spend requirement on the Customer or require that the Customer acquire products or services exclusively from the Vendor).

minimum Position: If the Agreement has a long term (see Section 3) or automatic renewal of terms (see Section 4) and there are ongoing obligations on the Customer, such as purchase obligations (e.g. minimum spend requirements) or exclusive supply arrangements, then the Customer must have a right to terminate beyond the initial term without being subject to any ‘break fees’ for exercising that right.

6.Termination for convenience – the Vendor

Issue: The Agreement may have a right for the Vendor to terminate without cause/for convenience.

This is generally not an acceptable outcome because if the Vendor exercised this right, the Customer may be left without a key input for its business. It is important to consider whether continuity of service and certainty of supply is generally critical to the Customer’s business operations, even for non-mission critical services.

minimum Position: The Vendor must not have a right to terminate for convenience.

7.services/product obligations and warranties

Issue: Agreements proposed by Vendors often lack the usual service and product obligations. There is little point in entering into an Agreement if a Vendor is unwilling to ‘stand behind’ its products and services. A breach of a product or service obligation by the Vendor will ordinarily entitle the Customer to terminate the Agreement, if it chooses, and recover damages.

In addition to the obligations set out below, corresponding service and product warranties can be included. It is important to remember the difference between warranties and conditions. A breach of a warranty by a Vendor will not of itself entitle the Customer to terminate the Agreement and recover damages. It will only entitle the Customer to recover damages. Accordingly, service/product warranties should be included in addition to the obligations to perform and not instead of them.

Preferred Position: Ideally, the Vendor should be under an absolute obligation to provide the services/products and perform its other obligations under the Agreement:

(a) in a timely, efficient, proper and workmanlike manner using reasonable care, skill and diligence

(b) using a sufficient number of suitably trained, qualified, skilled and experienced personnel

(c) in accordance with: (i) the specifications (i.e. the required functionality and performance criteria for the productsand services, as set out or referred to in the Agreement or, if no specifications will be included in the Agreement, in the Vendor’s standard specifications for the relevant products and services); (ii) any agreed timetable; (iii) best industry practice; (iv) all applicable laws; and (v) the directions of the Customer from time to time.

minimum Position: It may not always be possible to obtain all of the product and service obligations set out above. However, at a minimum the Vendor should be under an absolute obligation to provide the products and services and to perform its other obligations under the Agreement:

(a) in a timely, efficient, proper and workmanlike manner using reasonable care, skill and diligence

(b) using a sufficient number of suitably trained, qualified, skilled and experienced personnel

(c) in accordance with: (i) the specifications; and (ii) all applicable laws.

8.Project timeline

Issue: A common issue that arises in the provision and roll-out of technology related products and services (e.g. the development of software) is that the project runs over time.

Project timelines (for example, a timeline which includes key milestones) are often used in technology agreements. When reviewing these provisions, the Customer should consider the main objectives of imposing a project timeline and the consequences of the Vendor failing to meet key milestones. A Vendor may insist that it will only use ‘reasonable endeavours’ to meet a project timeline or that key milestones are estimates only. In such cases it may be appropriate to insert a ‘sunset’ or ‘drop dead’ date in relation to completion of the project, so that the Customer has a mechanism for exiting the arrangement.

Preferred Position: Where applicable, a project timetable should be incorporated into the Agreement and be contractually binding on the Vendor. The Vendor should be obliged to meet with the Customer to monitor progress against the timetable and agree any corrective steps.

minimum Position: There are several ways to approach this issue and the final clause will depend on the Customer’s objectives. Options include having a ‘sunset’ clause, whereby if the Vendor fails to meet a certain ‘final’ deadline, the Customer may terminate the Agreement and, depending on the circumstances, possibly be entitled to a refund.

Alternatively, payment by the Customer could be tied to completion of specified key milestones (e.g. acceptance of a deliverable, and implementation, etc.). In this case, payments are aligned with the project timeline.


number/Issue Position9.liquidated damages

Issue: Liquidated damages are damages for breach of contract that are fixed (i.e. pre-determined) by the parties prior to entering into the Agreement. Liquidated damages are sometimes used as an incentive to ensure that the Vendor complies with key milestones where delivering a mission-critical product or service. Liquidated damages should only be included if instructed by the Customer’s relevant business stakeholders. Generally a Vendor will not agree to liquidated damages provisions.

Preferred Position: Consider whether liquidated damages for delays in implementation are appropriate. Such a regime does not have to be complicated (e.g. it could consist of a single ‘go-live’ milestone which triggers liquidated damages).

For example, the Customer could require that if the Vendor fails to perform its obligations with respect to any milestone by the due date, the Customer is entitled to liquidated damages equal to 5% of the total fees paid or payable under the Agreement for such delay and a further 5% of the total fees paid or payable under the Agreement for each additional week of delay, up to a total of 50%.

The Customer would need to be in a strong negotiating position for the Vendor to agree to the above and liquidated damages of any kind would generally be a good outcome for the Customer.

minimum Position: Ensure that liquidated damages (if any) are not the sole and exclusive remedy available to the Customer. At a minimum, the Customer should have a right to damages for delay in the performance of obligations.

10.service levels

Issue: It is important to understand the difference between the service description and the service levels. If the Customer requires a service to be provided 24x7, the service description should state this (see Section 1). On the other hand, service levels (e.g. availability of 99%) describe the quality of the service provided and should be thought of as the pre-agreed failure rate for a service.

Possible Position: Service levels (e.g. the pre-agreed failure rate) will depend on the nature of the service being provided. While 99% per annum reliability may sound good, for mission critical systems the 3½ days of permitted downtime (allowed by a 99% per year service level) is unlikely to be acceptable to the Customer.

An easy technique for effectively improving a service level is to reduce the period over which it is measured. Instead of 99% per annum, have 99% per week or per day. This means that the permitted total downtime in any set period of time is less. For example, a service level of 99% per week equates to only 1.68 hours of downtime in a week.

11.service credits

Issue: A service credit is essentially a rebate or a credit where the Vendor fails to meet a service level (see Section 10). Service credits are sometimes seen in technology contracts, however they are not generally required and should only be included when specifically requested and instructed by the Customer’s business stakeholders.

Preferred Position: Careful consideration regarding the Customer’s position and risk profile should be given before including service credits.

If there are service credits that attach to service level failures (see Section 10), the Customer should not agree that such service credits will be its sole and exclusive remedy. If the Vendor insists on this, consider a tiered or multi-level service level regime, where, for example: an availability of less than 99% is the trigger for service credits; and an availability of less than 97% is deemed to constitute a non-remediable material breach of the Agreement, triggering termination rights for the Customer.

minimum Position: If the Customer requires a system to be operational 24x7 (i.e. 100% of the time), then consider what happens when it is not, if the Customer has agreed a service level of, say, 99%.

Ideally, the Customer should ensure that anything less than 100% availability constitutes a breach of the Agreement, entitling the Customer to damages at law for breach of contract. A Vendor is likely to insist that agreed outages and maintenance are not caught by this.

Ensure that service credits (if any) are not the sole and exclusive remedy available to the Customer. If the Vendor insists on this, consider dropping the service credits altogether, as the Customer may be better off without them e.g.in the event of a catastrophic failure.

12.Product warranties

Preferred Position: In addition to the minimum position set out below, the Vendor should be required to warrant that the products are fit for the purposes for which they are provided.

minimum Position: In addition to the product obligations (see Section 6), the Vendor should be required to warrant that the products will:

(a) provide the functions and meet the performance criteria set out in the relevant specifications

(b) be of satisfactory quality

(c) be free from defects in materials, workmanship and installation

(d) be free from viruses

(e) not contain or incorporate any open source software (unless the Customer has agreed in writing).




number/Issue Position13.service warranties

Preferred Position: In addition to the minimum position set out below, the Vendor should be required to warrant that the services are fit for the purposes for which they are provided.

minimum Position: In addition to the Service obligations (see Section 6), the Vendor should be required to warrant that the services will:

(a) meet the performance criteria set out in the relevant specifications

(b) be of satisfactory quality

(c) be free from defects in materials, workmanship and installation.

14.General Vendor warranties

Preferred Position: Ideally the Vendor should be required to warrant that:

(a) all information which it provides to the Customer, whether prior to, on or after the effective date of the Agreement, is true and correct in every respect and is not misleading or deceptive

(b) it has and will maintain all necessary licences, consents, and permissions necessary for the performance of its obligations under the Agreement.

There are some additional warranties that may be worth considering depending on the context (for example, where the Vendor is a foreign entity, the Customer is agreeing to pay significant funds upfront, or the Vendor is holding assets of the Customer). However, these warranties are generally not required in the case of a standard supply or service agreement.

These include warranties that:

(a) the Vendor is validly existing under the laws of the place of its incorporation and has the power and authority tocarry on its business as that business is now being conducted

(b) the Vendor has the power, capacity and authority to enter into and observe its obligations under the Agreement

(c) the Agreement and the obligations created under the Agreement are binding upon it and enforceable against it in accordance with its terms

(d) there is no proceeding pending or threatened, or any other event, matter, occurrence or circumstance which tothe Vendor’s knowledge challenges or may have a material adverse impact on the Agreement or the Vendor’s ability to perform its obligations under the Agreement.

minimum Position: The Vendor should be required to warrant that it has and will maintain all necessary licences, consents and permissions necessary for the performance of its obligations under the Agreement.

15.warranty period

Issue: In some cases the Vendor may offer a ‘warranty period’. This generally means that the Vendor will fix all faults and defects free of charge during the specified warranty period. Carefully consider what a ‘warranty period’ clause will achieve for the Customer. Query what is the difference between the ‘services’ the Customer receives under the warranty period and the support services the Customer is paying for.

minimum Position: As the length of any warranty period is a commercial consideration, consult with the Customer’s relevant business stakeholders.

16. Customer warranties

Issue: As far as possible, do not accept warranty or other obligations on behalf of the Customer. If the Customer fails to meet contractual obligations, it may be liable to pay damages to the Vendor for breach of contract.

Preferred Position: The Customer may, if pressed, give mutual/corresponding general warranties to those set out in the Preferred Position for General Vendor Warranties (see Section 14).

If possible, no other warranties should be made by the Customer. In particular, be vigilant for issues which should not be expressed as warranties (such as the Customer warranting to provide information on time to the Vendor). The Customer should not agree to be liable to a Vendor for these issues.

minimum Position: If the Vendor insists that the Customer should accept additional warranty obligations, the Vendor’s concerns should instead be addressed by reference to ‘excused performance’ events. That is, the Customer should not be liable to the Vendor as a result of any delay or other failure in the performance of its obligations under the Agreement (see Section 39 for more details).

17.Risks and insurance

minimum Position: The Customer may have certain standard provisions dealing with risk and insurance, which must be included in every Agreement.

Any deviations from these provisions, including queries regarding the extent to which these provisions should apply to ‘low value’ and/or ‘low risk’ technology contracts, may need to be signed off by the Customer’s relevant business stakeholder.

18.Occupational health and safety

minimum Position: The Customer may have certain standard occupational health and safety provisions which must be included in every Agreement.

Any deviations from these provisions, including queries regarding the extent to which such provisions should apply to ‘low value’ and/or ‘low risk’ technology contracts, may need to be signed off by the Customer’s relevant business stakeholder.


number/Issue Position19.Consequential loss

Issue: Where a party breaches obligations under an Agreement and the other party suffers loss as a result of that breach, the loss suffered can be categorised as either direct, indirect, or loss which is too remote and is therefore unrecoverable as a matter of law.

Legally, the Customer is generally entitled to recover all direct and indirect losses it suffers. However, Vendors will nearly always seek to contractually exclude all liability for indirect loss (also known as ‘consequential loss’). They will also usually seek to cap liability for direct loss.

When considering any carve-out of indirect/consequential loss or any cap on direct loss, the key is to be specific when drafting the relevant clauses, so that it is clear what and where damages are limited or excluded.

Preferred Position: If an Agreement does not have a carve-out for consequential loss clause, do not include one for the benefit of the Customer as the Vendor will generally request that it be made mutual. On balance, it is generally better not to have a carve-out of indirect/consequential loss for the Customer, rather than have a reciprocal/mutual carve-out that also applies to the Vendor.

minimum Position: If a carve-out for indirect/consequential loss has been included and the Vendor insists on it, make it mutual.

Be aware of any broadly drafted clause claiming to carve-out ‘consequential loss’, which in fact carves out liability for certain heads of damage (e.g. loss of data) in their entirety (regardless of whether the losses suffered are direct or indirect).

To provide greater clarity, where a carve-out of consequential loss is included, good practice is to expressly carve-in particular heads of, for example: direct loss of profits; costs of implementing any temporary workaround in relation to the products or services; costs arising from the loss or corruption of data, including the cost of reloading the relevant data from back-up storage; and the cost of wasted management and staff time.

If a carve-out of consequential loss is included, always ensure that any IP rights indemnity provided by the Vendor (see Section 23) is not subject to the carve-out of consequential loss, as any loss suffered as a result of such a claim will most likely be indirect/consequential.

20.liability cap

Issue: It is very common for a Vendor to want to cap the quantum of its liability through a liability cap. The amount and nature of a liability cap are both highly commercial and the context should always be carefully considered. In some circumstances, for example the supply of technology, a liability cap is industry standard and will be aggressively pursued by a Vendor.

Exclusions

Where a liability cap is included, it is extremely important to ensure that commonly excluded items are not covered by the cap. These include losses arising in connection with: wilful default or fraud by the Vendor; death or personal injury; third party property damage (in some cases); breach by the Vendor of any third party IP or privacy obligations.

Preferred Position: Never include a liability cap if it is not already included in the Agreement.

minimum Position: If a Vendor insists on including a liability cap, while it is unlikely that the Vendor will agree to it, as a starting point, try for a liability cap which is the greater of: (a) 300% of the total fees paid or payable by the Customer; or (b) a fixed dollar amount equal to three times the total value of the Agreement.

A liability cap of anything more than 100% of the total fees paid or payable is generally a good result.

The extent of any liquidated damages and insurance obligations should also be considered in the context of assessing the appropriate value of the liability cap.

Importantly, if a liability cap is included, consider also those heads of damage that should fall outside the cap, such as liability for: death or personal injury; property damage; breach of confidentiality; and liability under the indemnity protecting the Customer in relation to claims by third parties of IP rights infringement (see Section 23).




number/Issue Position21.Indemnities

Issues: An indemnity is a promise by one party to hold the other party harmless against one or more losses sustained by the other party. It is usually linked to the acts or omissions of the party giving the indemnity. An indemnity is not governed by the law relating to assessment of damages for breach of contract. For this reason, factors such as remoteness and mitigation do not need to be proved by the party enforcing the indemnity, unless these issues are expressly brought into play by the wording of the clause.

Frequently, reciprocal indemnities are given without any consideration as to whether this is appropriate. Indemnities are about risk allocation and rarely will the parties’ risk profile be the same.

Preferred Position: Do not agree to give indemnities. Argue that the Customer does not agree to liability on an indemnity basis (i.e. Customer’s liability should be governed by ordinary breach of contract principles, including rules relating to causation, remoteness of damages and mitigation). It would be acceptable for the Customer to provide a third party IP rights indemnity where the Customer is supplying the Vendor with the Customer’s background IP.

minimum Position: If the Vendor insists on an indemnity from the Customer, ensure that the indemnity is strictly limited to those issues which the Customer can control. The Customer should only be liable for events over which it has control. For example, the Customer should not be responsible for damage caused by equipment that it owns (or that is otherwise in its possession or control) if, under the Agreement, responsibility for installing and servicing such equipment rests with the Vendor.

Where the parties have agreed to indemnities in favour of both the Vendor and the Customer, the Customer should try to negotiate that:

(a) the Customer should not have to incur expenses or make any payment before enforcing a right of indemnity conferred by the Agreement

(b) the Vendor must pay the Customer any sum claimed by the Customer pursuant to an indemnity on demand from the Customer without any deduction or set-off

(c) the Vendor waives any right of subrogation it may have in respect of any indemnity given by it under the Agreement.

22.Ring fencing of liability

Issue: Where the parties propose to enter into a framework or master services agreement (i.e. an overarching set of terms and conditions that govern the provision of products and services from time to time, such as on a project-by-project basis), consider the status of statements of work entered into under that agreement.

Where it is necessary or desirable for each statement of work to constitute a separate binding contract between the parties, rather than simply an amendment or ‘add-on’ to the original agreement, consider the impact this will have on the limitation of liability regime. An inadvertent result from this approach is it generally results in the Vendor’s liability being ring-fenced on a statement of work by statement of work basis. Be aware also of the software licensor that presents the Customer with separate agreements, one of which contains a licence and the other of which is for support services. The Vendor will usually justify this approach on ‘revenue recognition’ grounds, but it also has the effect of ring-fencing the Vendor’s liability.

Preferred Position: In the circumstances described above, the preference would be for a single Agreement.

minimum Position: Where the Vendor insists on multiple agreements, consider the liability regime. It may also be desirable to make related agreements co-terminus.

23.IP indemnity

Issue: An intellectual property rights (IPR) indemnity provided by a Vendor indemnifies the Customer in respect of any loss suffered by it due to a third party claim that the products/services infringe the rights of any third party. An IP indemnity is standard where a Customer is acquiring or receiving a licence to technology, software or products from a Vendor. An IP indemnity is not a guarantee that the products/services will not infringe third party rights, but rather a promise to compensate the Customer for any loss suffered if the products/services do infringe those rights.

minimum Position: In the case of a technology supply agreement, the Vendor should always indemnify the Customer in respect of any third party claims of IPR infringement. It should be made clear that the IP indemnity is not subject to any liability cap (see Section 20) or carve-out for consequential loss (see Section 19). Ensure that the IP indemnity is not restricted to loss suffered in a particular territory. In exchange, the Vendor will often insist on taking carriage of any resulting litigation as well as requiring the reasonable assistance of the Customer.

24.Price

Issue: The Customer will require price certainty in order to run its business. The fees payable by the Customer should be clearly ascertainable.

minimum Position: Always ensure that the price that the Customer is required to pay for the products is clearly ascertainable from the terms and conditions of the Agreement.

25.Price variations

Issue: It is common to see clauses whereby the Vendor is permitted to unilaterally vary prices. If a Customer permits a Vendor to do this, it will have no certainty around pricing.

Preferred Position: Generally, fees should be fixed for the length of the term. The Customer should not accept any provisions that permit the Vendor to unilaterally vary the fees.

minimum Position: Where the Vendor insists on mid-term price variation, provide that any variation of the fees is in line with a pre-agreed mechanism (such as annual percentage or CPI increase) and not at the Vendor’s sole discretion.

Any annual increase should be restricted to once per year. Pricing certainty will be best achieved by fixing a pre-agreed percentage (e.g. 2% or ‘no more than 2%’) as a published index (such as CPI) is unpredictable. If the Vendor insists on calculating increases against CPI, it should be required to substantiate the CPI increase based on evidence.


number/Issue Position26.Interest rate

Issue: In many cases where the Customer’s major obligation is to pay the Vendor for products/services, a Vendor may seek a suspension right if the Customer has failed to pay on time and/or interest rate penalties on late payments.

Preferred Position: If an interest rate penalty is not included for late payment by the Customer, do not include one.

minimum Position: Do not permit the Vendor to have a right to suspend delivery of the products/services. Offer an interest rate penalty instead. If a late payment penalty is included, set the interest rate at a reasonable amount. For example, an annual rate equal to 3% above the then current base rate of the Reserve Bank of Australia.

27.Payment terms

Issue: The Customer’s major obligation is to pay the Vendor for products/services. Vendors often require payment within 30 days of the date of the invoice, or even less.

Preferred Position: The Customer should seek to align the payment terms with its standard position e.g. 90 days after receipt (not issue) of an invoice sent in accordance with the notices clause.

minimum Position: Where strict payment terms apply, the Agreement should reflect those terms and payment by the Customer should always be subject to receipt (not issue) of a validly rendered GST tax invoice from the Vendor.

28.Tax

Issue: Vendors often insert clauses which state that the Customer is responsible for all taxes and other duties. Avoid such clauses as they create uncertainty regarding the final price payable by the Customer. Ask the Vendor to provide an ‘all inclusive’ price to ensure certainty.

Preferred Position: Provide that any amounts payable under the Agreement are ‘all inclusive’ and that no other fees, charges, taxes, duties or levies are payable by the Customer (except for GST, and only then when the relevant prices are expressly stated as being ‘GST exclusive’).

29.withholding tax

Issue: Where the Customer is dealing with an overseas Vendor, the Customer may be required by tax laws to withhold an amount of the fees payable to the Vendor. Vendors often draft clauses which state that, if applicable law requires the Customer to withhold any taxes levied on payments to be made to the Vendor, prices shall be adjusted to compensate the Vendor for such withholding tax.

In such circumstances, the Customer should not be liable for withholding tax as the Customer should not be penalised because the Vendor is not registered for tax in Australia.

minimum Position: Do not agree to the Customer accepting liability to compensate the Vendor for amounts deducted for withholding tax. Payment by the Customer to the Vendor and to the relevant tax authority of the withholding tax should constitute complete settlement of the relevant sums due under the Agreement to the Vendor. The Customer is able to cooperate with the Vendor in supplying necessary documentary evidence in respect of withholding tax.

30.audit and reporting by the Vendor

Issue: In some circumstances, the Vendor may request a right to audit the Customer’s books, records and premises. In limited circumstances this may be appropriate (e.g. where the Customer is licensing software it is common for a Vendor to have a right to audit to confirm compliance with the Agreement).

Preferred Position: Do not agree to an audit right.

minimum Position: Where the Vendor insists on an audit right and where it is reasonable for the Vendor to have one, ensure that the Vendor must first give notice to the Customer and that any audit must be conducted during normal business hours and by an independant party if the Customer is concerned about Vendor personnel having access to its records (e.g. if the parties are competitors or if the Customer has particular sensitivities around confidentiality). The Customer should not pay the costs of the audit unless it is found that the Customer is in material breach of the Agreement.

31.audit and reporting by the Customer

Issue: In certain circumstances, it is appropriate for the Customer to request a right to audit the systems and processes of a Vendor in order to ensure compliance with the Agreement. This generally includes a right to inspect the Vendor’s premises and records.

Preferred Position: The Vendor must make and keep accurate records of its activities, including records as to progress of the work, diary records of daily tasks, time records, all consultants’ reports and opinions obtained by the Vendor for whatever reason and all necessary supporting documents, invoices, records and related financial statements, whether in writing or stored on any other medium. The Customer should have the right to inspect and to copy at any time.

Include broad obligations on the Vendor to provide the Customer with all relevant reports and, ideally, to allow access to the Vendor’s premises, systems, books, etc., to monitor and check the Vendor’s provision of the products and services.

(Look out for a Vendor that agrees to a service level/service credit regime, but is under no obligation to monitor and report on its performance. It will generally be very difficult for the Customer to monitor a Vendor’s performance to the extent necessary to show that the Vendor has failed to comply with any pre-agreed service levels.)




number/Issue Position32.Title

Issue: Vendors will often state that title to products passes on payment by the Customer. This can pose problems, depending on the nature of the products and the payment structure.

In some circumstances, it may be important for title of goods to pass on delivery of the products, so that the Customer can immediately deal with the products as it requires. If a Vendor is concerned about payment for products, it should be noted that the Vendor’s protection is its ability to recover any outstanding amount as a debt due and payable (i.e. it is not absolutely necessary for the Vendor to seek return of the products).

Preferred Position: Legal and beneficial title in the products and any physical medium on which software or deliverables are stored should pass to the Customer on the earlier of:

(a) delivery of such items to the Customer (regardless of whether or not the Customer has paid for the products)

(b) payment by the Customer for such items (i.e. if the Customer pays for products prior to delivery, then title should pass at the time of payment).

minimum Position: Legal and beneficial title in the products and any physical medium on which software or deliverables are stored should pass to the Customer by no later than the date of go-live.

33.Risk

Issue: Vendors will often state that risk in products passes to the Customer once the product has left the Vendors’ possession. However, the Customer has no control over the product until it is delivered to it.

minimum Position: Risk in the products should only pass to the Customer after the Customer has had a chance to inspect/test and accept such items (as applicable) i.e. the Vendor bears all risk in the products prior to go-live.

Further, the Vendor should bear all risk after go-live, attributable to an omission of the Vendor.

34.assignment by/change of control of the Customer

Issue: In order to manage a sale of business, the Customer needs the flexibility to assign, novate, transfer, or otherwise dispose of any or all of its rights and/or obligations under the Agreement with the consent of the Vendor (not to be unreasonably withheld). Do not agree to any change of control (i.e. change of ownership) prohibitions or termination rights. If the Customer is a publicly listed company, the Customer cannot control this.

Preferred Position: The Customer should have the right to assign, novate, transfer or otherwise dispose of any or all of its rights and/or obligations under the Agreement to any person, including an acquirer of the Customer’s business, either on notice (i.e. without having to obtain consent) or with the prior written consent of the Vendor (not to be unreasonably withheld).

The Customer should have the right to assign, novate, transfer or otherwise dispose of any or all of its rights and/or obligations under the Agreement on notice (i.e. without having to obtain consent) to an affiliate or as a result of an intra-group restructure.

Ensure that there is no prohibition on, or right for the Vendor to terminate for, change of control of the Customer.

35.assignment by/change of control of the Vendor

Issue: If the Customer has entered into an Agreement with a Vendor, it does not want to find that it is doing business with another unrelated party as the result of an assignment or novation of the Agreement or the change of control of the Vendor.

minimum Position: The Vendor should not have a right to assign, novate, transfer, sub-contract or otherwise dispose of any or all of its rights and/or obligations under the Agreement without the prior written consent of the Customer (not to be unreasonably withheld).

36.sub-contracting by Vendor

Issue: The key issue with sub-contracting is liability. As there is no privity of contract between the Customer and the Vendor’s sub-contractors, the Vendor must be liable for the acts and omissions of any sub-contractors it uses.

minimum Position: Always ensure that any right to sub-contract does not excuse the Vendor from performing its obligations under the Agreement and the Vendor is liable for the acts and omissions of any sub-contractor as if such acts and omissions were those of the Vendor itself.

37.Force majeure

Issue: This clause should be limited to events which are strictly outside the control of the Vendor. Be aware of the force majeure clause that completely undermines the Vendor’s primary performance obligations. If, for example, the Customer is paying for robust back-up and disaster recovery services, the primary purpose of which is to negate or minimise the effects of ‘acts of God’, then it is nonsense to suggest that the Vendor should be excused from performing where it is impacted by flood, fire or storm. Keep in mind that many Vendors in the information technology and telecommunications industries are re-sellers and, therefore, failures by the Vendor’s suppliers and sub-contractors should not fall within the definition of a force majeure event.

minimum Position: Always ensure that a force majeure clause is limited to issues which are genuinely outside of the reasonable control of the Vendor.

38.agency and power of attorney

Issue: Occasionally the Vendor will include an agency or power of attorney clause which permits the Vendor to undertake tasks on behalf of the Customer (e.g. completing order forms, etc.). This is unacceptable. Note that agency clauses are often included in financing agreements.

minimum Position: As a matter of policy, under no circumstances should the Customer agree to appoint third parties to act as its agent or attorney (under a power of attorney). Note that agency/power of attorney clauses are often included in financing agreements.


number/Issue Position39.excused performance/delay by the Customer

Issue: Vendors often express obligations, such as ‘providing information in a timely manner’, as warranties. If the Customer was in breach of this provision it would be liable for damages.

Preferred Position: The Customer should not be liable to the Vendor for contractual damages in the event of delays caused by the Customer (for example the Customer failing to provide information to the Vendor).

minimum Position: Despite the above, in the event of a delay by the Customer, the only thing the Customer should agree to is an excused performance clause, whereby the Vendor will be excused from performance of its obligations to the extent that the Vendor’s delay is caused by the Customer’s delay.

40.Confidentiality

Issue: If the Customer is disclosing confidential information, then a robust confidentiality clause should be included.

If a confidentiality clause is only included in favour of the Vendor, then make it mutual.

Remember that changes made to any confidentiality provisions will generally be asked to be reciprocated by the other side.

If a confidentiality clause has been included, as the Customer is a listed company, include a carve-out for the Customer to disclose information to the ASX.

minimum Position: A basic short form mutual confidentiality clause should be included. Even if the Vendor is providing the most basic services, the Vendor may become privy to confidential and commercially sensitive information. Accordingly, the Vendor should always be bound by a simple confidentiality clause.

Where the Vendor has engaged permitted sub-contractors, ensure that the permitted sub-contractors are bound by confidentiality obligations which are no less stringent than those binding the Vendor.

Sometimes Vendors draft clauses which state that the Customer’s employees must enter into separate confidentiality agreements. Do not agree to this.

41.Termination by the Customer

Preferred Position: In addition to the minimum position set out below, the Customer should have a right to terminate if the Vendor:

(a) is in persistent breach

(b) acts in a manner to bring the Customer into disrepute

(c) undergoes a change of control.

In some cases it may be appropriate to include a termination for convenience right.

minimum Position: As a general rule, the Customer should have an immediate right to terminate the Agreement in whole or in part if the Vendor:

(a) is in breach which is incapable of remedy

(b) has failed to remedy a breach after reasonable notice from the Customer (e.g. 30 days)

(c) experiences an insolvency event.

42.Termination by Vendor

Possible Position: Circumstances that might trigger the Vendor’s termination rights should be limited to:

(a) breach by the Customer (ensure a reasonable notice period is inserted to allow the Customer to cure the breach)

(b) an insolvency event.

minimum Position: Do not agree to give the Vendor a termination right as a result of a change of control in the ownership of the Customer. If the Customer is a publicly listed company, it will not be able to control when such a change might occur. Hence such a termination trigger is not appropriate.

43.Variation of the agreement

Issue: Avoid clauses which permit the Vendor to unilaterally impose or vary terms of an Agreement. Any variation or imposition of new terms must be by written agreement between the parties. In particular, be aware of clauses which permit a Vendor to vary standard terms and conditions which may form part of the Agreement.

minimum Position: Any variations to the Agreement should only be made by written agreement between the parties.

44.Privacy act compliance

Issue: Privacy relates to personal information, such as names, phone numbers and email addresses. Where a Vendor is dealing with personal information relating to the Customer’s employees, customers, etc., consider whether the Agreement enables the Customer to comply with its obligations under the Privacy Act.

In particular, ask where the Vendor is hosting the data, as it is now relatively common for Vendors to: have computer servers, including data storage and back-up facilities, located off-site; have websites hosted and managed by third parties; and acquire software as a service, where the Customer’s data resides on the Vendor’s servers, which could be located anywhere in the world.

minimum Position: Include provisions which prohibit exporting data off-shore and enable the Customer to comply with its obligations under the Privacy Act.



| Maddocks Technology Procurement Handbook 24Service Levels

1. Service levels – an overview

Service level regimes are a commonly used tool within commercial agreements, particularly in connection with technology service agreements. Such regimes can provide the Customer with in-built contractual remedies to address a failure by the Vendor to perform in accordance with the Customer’s required performance standards.

Equally important steps in establishing an effective service level regime are:

• identifying and negotiating appropriate service levels

• drafting a service level agreement which reflects those agreed service levels

• objectively monitoring the Vendor’s compliance with that service level agreement.

The success (or failure) of a service level regime will depend on the effectiveness of each of these three steps.

2. Establishing an effective service level regime

A successful service level regime should have the following separate, but interlinked, features:

• agreed service levels, or performance standards

• objective tools for measuring and reporting on the Vendor’s performance

• agreed contractual consequences of the Vendor’s failure to perform in accordance with the agreed service credits.

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This paper examines the use of service level regimes, and the application of service level rebates or credits (referred to herein as ‘service credits’) within commercial contracts. It provides an overview of the core principles and objectives, and an analysis of the suggested minimum requirements, for an effective service level regime.

This paper also outlines some common pitfalls regarding service level regimes in a commercial context.


2.1 Agreeing service levels

Incorporating agreed service levels within a contract formally acknowledges the performance standards against which the Vendor’s performance will be benchmarked.

For this reason, meaningful service level regimes cannot be implemented without careful consideration of the specific aspects of the services which should be measured. Failure to correctly identify the ‘right’ aspects for measurement may shift the Vendor’s focus away from areas of key importance and, ultimately, incentivise performance in areas which are irrelevant to the Customer’s requirements.

It is therefore essential that stakeholders with direct knowledge and understanding of the products or services being acquired, as well as stakeholders within the Customer’s business who will rely on the products or services in order to perform their functions, are involved in identifying and prioritising appropriate service levels for inclusion in a service level agreement. While lawyers can assist with careful legal drafting to ensure that contractual provisions accurately reflect the intentions of the parties, technical and business stakeholders with the relevant expertise will usually be best placed to identify appropriate service levels.

As a starting position in determining negotiating parameters in the context of the relevant agreement, the parties may have regard to best practice industry ‘standards’, preferably in circumstances where Vendors face genuine competition. For example, service levels which are commonly applicable in technology contracts include availability targets, number and duration of outages, response and resolution times. Many technology supply and outsourcing agreements now commonly impose service levels for system availability of close to (if not equal to) 100% each month for critical IT systems.

Ultimately, however, the Customer must ensure that the agreed service levels align to its actual business needs – which may be higher (or lower) than an industry ‘standard’ position. Imposing higher service levels than necessary may ultimately translate to an increase in the fees payable by the Customer.

There are also inherent risks associated with focusing on service levels that are easy to measure but which have limited relevance to the Customer. For example, an agreed service level which relates to response times in relation to logging of system defects or faults will be easily measured. However unless the parties also agree meaningful measurements for resolution times this service level may prove useless to the Customer (while being easily met by the Vendor).

2.2 Objective measurement of service levels

Once appropriate service levels have been agreed, measurement and reporting mechanisms that enable the Vendor’s performance to be objectively assessed must be identified.

An inability to objectively assess performance against service levels will increase the risk of disputes about whether performance benchmarks have been achieved. Consideration should be given to the method by which service levels will be measured and the extent (if at all) to which the process of measurement and reporting can be automated. Electronic tools can provide greater accuracy, assurance and objectivity than reliance on the Customer’s or Vendor’s own notification of any ‘downtime’. Where the Vendor is best placed to monitor its own compliance, the Customer must consider how that measurement will be reported and, if necessary, objectively assessed or audited by the Customer. The level of monitoring and reporting which is required to be undertaken by the Vendor will ultimately be reflected in the fees payable, so care should be taken to avoid unnecessarily complex or detailed regimes. For example, it may be unnecessary to record performance statistics at each step of a service delivery process if it is possible to simply measure achievement of the ultimate outcome.

2.3 Failure to meet agreed service levels

The consequences of the Vendor’s failure to meet agreed service levels will vary depending on the commercial requirements of the Customer.

Ideally, any failure to meet service levels 100% of the time will be a clear breach of the contract. Depending on the severity, or impact, of the failure on the Customer’s business, the failure may also be linked to pre-determined contractual remedies. In particular, the contract may provide the Customer with an express right of termination in relation to serious breaches of agreed service levels. Such a right would usually be reserved for circumstances where the Vendor commits repeated or significant breaches of key service levels.

In relation to less significant breaches, agreed service credits offer an alternative to suing for damages or terminating for the breach, in circumstances where litigation may be costly and time-consuming or where the parties have (and wish to maintain) an ongoing commercial relationship.

Service credits are pre-determined financial remedies, which provide the Customer with a contractual mechanism for obtaining compensation when the Vendor has failed to perform its obligations as agreed. In addition to providing the Customer with compensation for the Vendor’s failure, if appropriately calculated and structured, service credits will also motivate the Vendor to meet the agreed service levels. Indeed, this will often be their primary function from the Customer’s perspective.

Service Levels

| Maddocks Technology Procurement Handbook 26Service Levels

3. Calculating appropriate service credits

Service credits are imposed to ensure compliance by the Vendor with its contractual obligations (such as to ensure that the Vendor delivers the services in accordance with the agreed service levels).

There is therefore, a risk that they will be viewed by a court as financial penalties, and consequently unenforceable, unless they represent a genuine pre-estimate of the Customer’s likely losses in the event of the Vendor’s failure to perform in accordance with the service levels. Accordingly, it is essential that service credits are calculated with reference to the Customer’s actual or anticipated losses as a consequence of the Vendor’s failure.

Although it may be difficult to realistically estimate the likely losses which will flow from a breach of agreed service levels, service credits should generally not be calculated using a ‘one size fits all’ model. Rather, they should be tailored to match the service level to which they relate. For example, percentage rebates may be calculated on an incremental basis (depending on how far, or for how long, the service provided by the Vendor falls below the agreed level) or by the use of allocated ‘points’ which are determined against a range of service level criteria, and regularly credited against amounts otherwise payable by the Customer.

To operate as an effective incentive, service credits must reflect the severity or significance of the performance failure to the Customer’s business, and the length of time for which (or frequency with which) the failure occurs. A minor failure that occurs repeatedly may be as disruptive as a major failure that occurs only once (and potentially even more so). Accordingly, escalating service credits may be warranted for repeated or more significant service level breaches by the Vendor.

Many service credit regimes incorporate sliding scales, or escalation mechanisms, to ensure that minor breaches and the associated service credits are not simply ‘factored in’ by the Vendor as a ‘business-as-usual’ cost.

3.1 Service credits or liquidated damages?

Where parties agree that specific financial compensation is payable in relation to a breach of service levels, there is also a risk that those service credits may be considered by a court to represent agreed liquidated damages payable in relation to the breach. If so, the amount recoverable by the Customer in relation to the Vendor’s breach will be limited to the amount of the ‘liquidated damage’ that has been agreed.

Therefore, the agreement should expressly provide that damages for a breach of contract will also apply/be available in addition to any service credits payable (particularly as service credits will nearly always be calculated as a reasonable pre-estimate of the loss or, most likely, a portion of the loss the Customer is likely to suffer, and are therefore unlikely to capture the Customer’s actual losses flowing from the Vendor’s breach). Courts will generally take into account any service credits paid by the Vendor when determining the damages payable in relation to a breach, so there will be no ‘double-dipping’ by the Customer (i.e. the Vendor will not have to pay twice to compensate the Customer for the same loss).

Participation in the service level regime ideally should not be predicated on the Customer’s agreement to waive other contractual or legal rights, particularly by accepting the payment of service credits as a sole and exclusive remedy in relation to breach of the service levels. Customers should always seek to retain the right to sue for damages at law and to terminate the contract in relation to a material breach. In practice, however, it may be difficult for the Customer to negotiate this position, particularly where the Vendor is negotiating from a stronger position. An alternative position is for agreement to provide for an ‘election’ by the Customer, who may choose to: claim service credits and

waive the right to also sue for damages; or waive the right to service credits and choose to sue for damages. The former is administratively convenient, the latter more appropriate where the losses suffered are significant, because, for example, the project has gone ‘off the rails’.

3.2 Capping rebates

It is relatively common for the Vendor to seek to cap the service credits payable under a contract. Where the Customer agrees to such a cap it becomes even more important for the Customer to ensure that it has some recourse to additional contractual remedies in relation to breaches of agreed service levels. Otherwise, once the Vendor has reached the cap on applicable rebates or credits, there will be no ongoing incentive available to motivate the Vendor’s performance under the contract and no requirement for the Vendor to otherwise compensate the Customer for its losses.

4. Summary of key tips and common pitfalls in service level regimes

Outlined below are some common pitfalls which may be encountered in connection with service level regimes.

4.1 Failure to identify the correct performance measures

To implement an effective service level regime, the parties must first identify appropriate service levels for measurement. Adequate attention should be given to the characteristics of performance which have the greatest commercial relevance to the Customer. For example, the fact of delivery should not be sufficient to satisfy the Vendor’s obligations under the service level regime if the quality or accuracy of the goods or services is deficient.

4.2 Failure to identify the correct service credits

Service credits payable should scale with the severity of the Vendor’s non-compliance, and must represent a genuine pre-estimate of the Customer’s losses in relation to the Vendor’s failure to perform.

4.3 Failure to incorporate an agreed mechanism to measure performance

Incorporating effective mechanisms to measure and report on performance is essential to the operation of an effective service level regime. Mechanisms by which performance against agreed service levels will be objectively measured and reported on must be agreed in advance.

In some cases, it will be most effective or efficient for the Vendor to monitor its own compliance with a service level (for example, response times). However, careful consideration should be given by the Customer as to appropriate oversight, including reporting and auditing requirements.


4.4 A service level regime with extensive carve-outs or exemptions

Any carve-outs from the service level regime should be objectively justifiable and narrowly defined, and ideally should be commercially negotiated.

A service level regime which is subject to excessive carve-outs, or other limitations, or is qualified by reference to the service the Vendor itself receives, is unlikely to have the desired outcome for the Customer. It is important to ensure that carve-outs or limitations do not have the effect of weakening the proposed regime such that it loses commercial value from the Customer’s perspective.

4.5 Failure to appropriately incentivise performance

A service level regime is not intended to penalise non-performance, but rather is intended to protect the interests of the Customer by incentivising performance in accordance with the terms of the agreement between the parties. In circumstances where the Customer has a limited or a single choice of Vendor, the ability of the agreed service level regime to incentivise performance is highly important.

The appropriate service levels and applicable service credits will therefore be specific to the commercial agreement and it is inadvisable to simply ‘recycle’ previously agreed service level agreements from other sources.

Any service credits payable by the Vendor must also be adequate to act as an incentive. To be effective service credits should therefore generally match accepted market practice and the actual commercial risk or cost to the Customer.

4.6 Over-reliance on the service level regime

Even where a service level regime is well drafted to incentivise performance, it should not be the sole mechanism available to the Customer in relation to a failure by the Vendor to perform in accordance with agreed service levels.

A well drafted contract should provide the Customer with a range of options if the Vendor breaches agreed service levels, potentially including an entitlement to service credits, but without impacting on the Customer’s underlying rights to terminate, or sue for damages.

4.7 Negotiating with a monopoly supplier

Where the Customer has no alternative supplier with whom to negotiate, recourse to standard contractual remedies (such as termination) will not be commercially viable. In such circumstances a significantly enhanced, ‘pro-customer’ service level regime is justified, and should be carefully negotiated between the parties to appropriately incentivise performance.

5. Worked example

The following simplified example illustrates the key features of an effective service level regime.

Supplier A agrees to supply ten widgets a day to customer B, for a six month term.

During contract negotiations, A guarantees to supply to B at levels at or above 90% calculated on a daily basis1, in other words no fewer than nine widgets per day2.

The price for supply is agreed by A and B based on their understanding of the service level required. It is likely that B would be willing to pay considerably less to a supplier that was unable to guarantee the required daily supply of widgets.

In this example, an effective service level regime must:

(a) specify the service level which has been agreed and include an agreed mechanism by which it will be measured. For example, the widgets delivered must be suitable for use by the customer – daily delivery of 10 defective widgets will not suffice

(b) incentivise A to supply, and continue to supply, at the agreed level by imposing a service credit regime which applies in relation to failure to supply at the agreed level and which takes account of the commercial realities of B’s business. For example, failure to supply as required over a period of three consecutive days may result in a halt in production and should therefore result in a more significant service credit than failure to supply on three non-continuous days over the course of a month

(c) avoid consistent failure. Although delivery of nine widgets every day would be within the agreed service levels, B might consider it necessary to impose an additional service credit which would apply when there was a consistent failure by A to supply at the agreed level, i.e. if only nine widgets were delivered every day for a week

(d) not incentivise ongoing breach. There should not be a cap on service credits payable – otherwise, if A fails to supply in accordance with the agreed levels once the service credits payable have reached the maximum financial cap for the month, A will no longer have any incentive to remedy the ongoing failure. Alternatively, if a cap does apply, service credits should be payable in addition to B’s other rights to sue for A’s breach of the contract and for losses it has suffered as a result of A’s failure to supply, or ultimately terminate the contract for material breach

(e) represent a genuine pre-estimate of loss. That might include, for example, cost of employing idle workers, cost of sourcing widgets from an alternative supplier, cost of B’s losses due to an inability to comply with its own supply contracts, etc.

Service Levels

1 B requires a guaranteed daily supply of widgets. A service level of 90% which is calculated monthly could result in B having no supply at all on three days per month.

2 For ease of reference in this simple example a service level of 90% has been adopted. For most services agreements, in particular IT service agreements, current market practice would suggest a service level of ≥99%.

| Maddocks Technology Procurement Handbook 28Exclusion Clauses

Contents:

1. Exclusion clauses as risk allocation tools.

2. How are exclusion clauses construed and applied?

3. Different ways of limiting and excluding liability.

4. Limiting the impact of exclusion clauses.

5. Other considerations.

Exclusion clauses are just one way of allocating risk between contracting parties. Indemnities, which are another commonly used contractual tool for risk allocation, are discussed in the following chapter. Disclaimers and releases are outside the scope of this chapter, and are only touched on briefly.

1. Exclusion clauses as risk allocation tools

The following types of clauses are commonly used to manage a party’s risk under a contract. Even though all of the following provisions will not be relevant to every scenario, you should at least turn your mind to each of them for every contract:

Warranties Releases

Exclusion clauses Disclaimers

Indemnities Force majeure provisions

Liquidated damages provisions

Entire agreement clauses

Obligations to obtain insurance

Choice of law and jurisdiction clauses

Disclaimers, releases, indemnities and exclusions are all used to different effect in contracts, to limit a party’s duties and liabilities. When choosing between using a disclaimer, release, indemnity or exclusion clause, apply the following rules:

Disclaimer – used to prevent a particular duty arising.

Release – used to deal with a pre-existing established or alleged liability.

Indemnity – (mostly) used to protect a party against claims by third parties.

Exclusion – used in all other cases.

Exclusion clauses can be used to:

(a) completely exclude liability for particular conduct, or types of loss or damage

(b) limit or restrict liability for particular conduct, or types of loss or damage – e.g. applying a monetary cap to any claims

(c) qualify rights and remedies for breach of contract – e.g. by requiring claims to be made within, say, 12 months.

exClusIOn Clauses

CHaPTeR 5


2. How are exclusion clauses construed and applied?

In general, exclusion clauses provide defences to a claim for breach of contract, and their effect will depend on both the construction of the contract as a whole, and the particular wording of the exclusion clause.

2.1 Construing exclusion clauses

As held by the High Court in Darlington, exclusion clauses must be given their natural and ordinary meaning, construed in light of the contract as a whole, with any ambiguity resolved against the party seeking to rely on the clause.

“[T]he interpretation of an exclusion clause is to be determined by construing the clause according to its natural and ordinary meaning, read in the light of the contract as a whole, thereby giving due weight to the context in which the clause appears, including the nature and object of the contract, and, where appropriate, construing the clause contra proferentem in case of ambiguity.” Darlington Futures Limited v Delco Australia Pty Ltd (1986) 161 CLR 500 at 510

An exclusion clause will not always have broad application. In some circumstances, certain breaches may fall outside the scope of the exclusion clause, for example where the breach:

(a) is of a fundamental or essential term

(b) is wilful

(c) takes the performance of the party alleged to be in breach outside the ‘four corners’ of the contract.

It is always a question of construction. Further, there is no rule of law that an exclusion clause can never exclude liability for breaches, such as fundamental or wilful breaches, if the intention of the parties is clear.

2.2 Public policy and statute – excluding liability for negligence and other acts

An exclusion clause may exclude or limit liability for any kind of conduct, unless doing so would be contrary to public policy or statute. For example:

(a) for public policy reasons an exclusion clause will generally not be enforced in respect of fraud involving actual deceit or dishonesty (compared with the concept of ‘equitable fraud’)

(b) it is not possible to limit or exclude liability for a breach of s 18 of Australian Consumer Law 2010 (Cth) (aCl) (misleading or deceptive conduct, discussed below in ‘Consider the impact of legislation’).

Courts have generally said that the relevant exclusion clause must state a clear intention to exclude negligence. Historically:

(a) ‘any loss’ has not been broad enough

(b) ‘whatever its cause’ or ‘howsoever caused’ have been treated as sufficient to exclude negligence.

The better approach is always to expressly exclude liability for negligence.

Excluding liability for negligence and acts outside the scope of the contract (suggested drafting):

‘... neither party will be liable, whether in contract, tort (including negligence), breach of statutory duty, or otherwise, under or in connection with this Agreement (including for acts and omissions not authorised, required or contemplated by this Agreement) for ... ’

Case sTudYIn Photo Production Ltd v Securicor Transport Ltd [1980] AC 827, the relevant clause excluded liability for losses attributable to:

‘... negligence of [Securicor’s] employees acting within the course of their employment ...’

The Court found that the exclusion clause did not apply to limit Securicor’s liability for losses caused by the lighting of a fire by one of Securicor’s security guards as such conduct was outside the course of employment. This can be contrasted with the exclusion clause in the Darlington case, referred to above, which was found to be effective, even though the relevant share trading was unauthorised.

The words ‘acting within the course of their employment’ limited the extent to which Securicor was able to rely on the clause to limit its liability for its employee’s negligent conduct.

2.3 Assessing damages

A court will take the following factors into consideration when assessing damages.

Causation

Remoteness

• Contract - arising naturally/in the contemplation of the parties

• Tort/Negligence - reasonably foreseeable

• Mitigation

Exclusion clauses seek to vary the rules established by common law, under which parties to a contract have the right to claim damages for breach of contract. From a contract law perspective, such a right is effectively an implied term of the contract and therefore if a contract is silent on liability, then each party’s liability under that contract is said to be ‘unlimited’. This is of course subject to the usual common law requirement that the damage be:

(a) caused by the breach

(b) not too remote.

The general rule for assessing damages for:

(a) breach of contract, is to place the non-breaching party in the position it would have been in had the contract been performed in accordance with its terms

(b) tort, is to place the non-breaching party in the position it would have been in had the tort not occurred.

There is no implied obligation to mitigate. However, a plaintiff cannot recover those damages that it would not have suffered had it taken steps to mitigate its losses.

Exclusion Clauses


2.4 Remoteness

In contract, the test for remoteness was laid down in the English case of Hadley v Baxendale (1854) 9 Exch 341 at 354, which is generally considered to be a single rule, with two limbs, namely:

(a) damages ‘... arising naturally, that is according to the usual course of things from such breach of contract itself ...’ (referred to as ‘general’ or ‘direct’ damages)

(b) damages ‘... as may reasonably be supposed to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it’ (referred to as ‘special’ or ‘indirect’ damages).

Case sTudYHadley v Baxendale:

Hadley owned a milling business. A crankshaft for the steam engine at Hadley’s mill broke. Hadley engaged Baxendale to deliver the crankshaft to engineers for repair by a certain date. Baxendale failed to deliver the crankshaft on time, causing Hadley to lose business. Hadley sued Baxendale for lost profits. Court did not award Hadley lost profits, as Hadley failed to mention these special circumstances at the time they entered into their contract.

It is generally accepted that, historically, references to:

(a) ‘direct loss’ meant the first limb of Hadley v Baxendale

(b) ‘special loss’ meant the second limb of Hadley v Baxendale,

however, the meaning of these terms is no longer certain.

There is an increasing body of case law and commentary on the meaning of the phrase ‘consequential loss’.

What is now uncertain under Australian law is the meaning of phrases such as ‘consequential loss’ or ‘indirect and consequential loss’, when used to express exclusion or limitation of liability clauses. It is clear that ‘consequential loss’ can no longer be said to mean the second limb of Hadley v Baxendale. Some commentators argue that the phrase ‘consequential loss’ was never a term of art under Australian law and therefore should never have been used by lawyers as short hand for referring to the second limb of Hadley v Baxendale.

3. Different ways of limiting and excluding liability

3.1 Carving out consequential loss/losses other than direct loss

Although it is often said that there are two categories of loss arising from a breach of contract, being direct and indirect, it is probably more correct to say that there are three categories of loss when it comes to remoteness, namely:

(a) direct (i.e. Hadley v Baxendale first limb)

(b) special/indirect (i.e. Hadley v Baxendale second limb)

(c) losses that are too remote to be recoverable at law.

It is generally accepted that, in most commercial transactions, losses other than direct losses will be carved-out (i.e. many contracts will generally contain a complete exclusion of such losses).

This is often referred to as a carve-out of ‘consequential loss’, a term that is now highly problematic under Australia law, particularly if you are acting for the promisee, and not the promisor seeking to rely on the exclusion clause. Despite a carve-out of ‘consequential loss’ being a reasonably standard inclusion in contracts, it is very important to carefully review clauses purporting to exclude such losses in their totality, because they often have much broader application than the clause heading suggests.

There is no need to carve out the third category of losses, as these are not recoverable at law anyway.

Meaning of ‘consequential loss’:

• Environmental Systems Pty Ltd v Peerless Holdings Pty Ltd [2008] VSCA 26 (Peerless)

• Allianz Australia Insurance Ltd v Waterbrook at Yowie Bay Pty Ltd [2009] NSWCA 224 (waterbrook)

• Alstom Ltd v Yokogawa Australia Pty Ltd and Anor (No 7) [2012] SASC 49 (alstom)

• Regional Power Corporation v Pacific Hydro Group Two Pty Ltd (No 2) [2013] WASC 356 (Regional Power)

• Macmahon Mining Services v Cobar Management [2014] NSWSC 502 and [2014] NSWSC 731 (macmahon).

Clauses are often very broadly drafted, including providing a complete exclusion of certain types of loss (e.g. loss of data).

Carve-in certain losses.

3.1.1 Peerless (Environmental Systems Pty Ltd v Peerless Holdings Pty Ltd [2008] VSCA 26)

In Peerless, the Victorian Court of Appeal considered the meaning of the phrase ‘consequential loss’ (as opposed to the rule of remoteness of damages in relation to breach of contract claims).

The Court’s decision broadened the meaning of the term ‘consequential loss’ beyond its historically accepted definition to include some losses falling within the first limb of Hadley v Baxendale.

THe FaCTs• Peerless Holdings had purchased a system from

Environmental Systems for reducing odour emissions at its animal rendering plant and to replace Peerless’ existing afterburner. The system did not work.

• Relevant clause from contract:

‘8.9 LIQUIDATED DAMAGES AND/OR CONSEQUENTIAL LOSS

As a matter of policy, Environmental Systems does not accept liquidated damages or consequential loss.’


Lawyers have commonly equated the phrase ‘consequential losses’ with losses under the second limb of Hadley v Baxendale, and this view accords with a body of English authority which had been followed by judges at first instance (also known as the Croudace view, from a 1978 UK case Croudace Construction Ltd v Cawoods Concrete Products Ltd [1978] 2 Lloyd’s Rep 55). Indeed, this was the approach taken by the primary judge.

However, the Court rejected the existing position, finding that “... the English authority appears to be flawed”. Citing Darlington, the Court held that the phrase ‘consequential loss’ should be given its ‘ordinary and natural meaning’, namely, ‘everything beyond the normal measure of damages, such as profits lost or expenses incurred through breach’. The Court held that:

(a) ‘consequential losses’ are those losses that are ‘beyond the normal measure, such as profits lost or expenses incurred through breach’

(b) such losses are not the same as losses under the second limb of Hadley v Baxendale

(c) a carve-out of ‘consequential losses’ is (most likely) always an effective carve-out of lost profits.

Peerless was able to recover:

• the cost of purchasing, installing and commissioning the system, attempting to make the system functional and repairing the existing afterburner.

Peerless was unable to recover:

• the cost to Peerless of its employees being involved in attempting to make the system functional

• additional energy costs.

As the decision was not appealed there is still no High Court authority on the meaning of ‘consequential losses’.

The Peerless formulation was based on the views expressed in McGregor on Damages, where McGregor defines normal loss as loss that every claimant in a like situation will suffer, but then goes on to say that (‘McGregor on Damages’, 17th ed. Sweet & Maxwell, London, 2003, s 1-036 to 1-039):

“In contract the normal loss can generally be stated as the market value of the property, money or services that the claimant should have received under the contract, less either the market value of what he does receive or the market value of what he would have transferred but for the breach.”

So, adopting this approach and applying it to the case of the supply of defective goods, a clause excluding liability for consequential loss would result in the purchaser being entitled to damages equal to the difference between the value of the goods had they not been defective and the value (if any) of the defective goods, but no expenses incurred or profit lost as a result of the breach.

Subsequent cases supporting Peerless

Allianz Australia Insurance Ltd v Waterbrook at Yowie Bay Pty Ltd [2009] nswCa 224 (waterbrook)

Waterbrook acquired a retirement village from Yowie Bay Pty Ltd Ltd, a developer. Some of the builder’s work was defective, so Waterbrook claimed through the builder’s insurance issued by Allianz. The policy excluded liability for ‘consequential loss’. NSWCA agreed with first instance judge that ‘consequential loss’ may include damages in the first limb of Hadley v Baxendale.

The Court adopted the approach taken in Peerless, affirming that ‘consequential loss’ may fall within the first limb of Hadley v Baxendale, as it could be considered loss which is a direct and natural consequence of the breach.

Alstom Ltd v Yokogawa Australia Pty Ltd and Anor (no 7) [2012] sasC 49 (alstom)

The case concerned a construction dispute, regarding project delays. Alstom argued that Yokogawa caused most of the delay and completion issues, and claimed liquidated damages and other amounts under the relevant subcontract.

The relevant clause from the contract was: “Notwithstanding any other Article of the [subcontract], the Subcontractor shall not be liable for any indirect, economic or consequential loss whatsoever”.

Justice Bleby rejected the equation of ‘consequential loss’ with losses covered by the second limb of Hadley v Baxendale, preferring the Peerless approach of relying on the natural and ordinary meaning of the words based on their context. His Honour held that the term ‘consequential loss’, unless otherwise qualified, would extend “to all damages suffered as a consequence of a breach of contract”.

In the context of the relevant subcontract, his Honour held that the exclusion clause operated to limit Alstom’s remedies to those specifically contemplated by the express terms of the subcontract and excluded all others. On one view, Justice Bleby’s decision in Alstom takes an even broader approach to the concept of ‘consequential loss’ than was taken in Peerless.

3.1.2 Regional Power (Regional Power Corporation v Pacific Hydro Group Two Pty Ltd (No 2) [2013] WASC 356)

Late in 2013 the Western Australian Supreme Court rejected the approach taken by both the UK courts (aka the Croudace view) and the Australian courts (aka the McGregor or Peerless view) in relation to the meaning of ‘consequential loss’.

After a flooding incident, Pacific Hydro Group’s power station became inoperative for two months. Regional Power Corporation claimed $4 million in damages for breach of contract for its cost of hiring diesel generators and purchasing fuel to generate replacement electricity. Pacific Hydro argued that, at the time the contract was entered into (1994), it was accepted that the meaning of consequential loss was to be determined by reference to the second limb of Hadley v Baxendale (that is, damages ‘as may reasonably be supposed to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it’) and such loss would have included the damages claimed, which were therefore unrecoverable.

Exclusion Clauses


Relevant clause 26.1 from the Power Purchase Agreement (PPa):

“Neither the Project Entity nor SECWA shall be liable to the other party in contract, tort, warranty, strict liability, or any other legal theory for any indirect, consequential, incidental, punitive or exemplary damages or loss of profits.”

Regional Power Corporation v Pacific Hydro Group Two Pty Ltd (No 2) [2013] WASC 356

The relevant sections of the judgment are set out below:

‘96. To reject the rigid construction approach towards the term ‘consequential loss’ predicated upon a conceptual inappropriateness of invoking the Hadley v Baxendale dichotomy as to remoteness of loss, only then to replace that approach by a rigid touchstone of the ‘normal measure of damages’ and which always automatically eliminates profits lost and expenses incurred, would pose equivalent conceptual difficulties. Accordingly, I doubt whether the observations in Environmental Systems were intended to carry any general applicability towards establishing a rigid new construction principle for limitation clauses going much beyond the presenting circumstances of that case.

97. The natural and ordinary meaning of the words of clause 26.1 ... “assessed in their place within the context of the PPA as a whole ... is the correct approach Darlington Futures Ltd v Delco Australia Pty Ltd ...”’

In making its findings, the Court referred with approval to a 2009 article by Professor John Carter attacking both the Croudace view and the Peerless/McGregor view (at [95]):

“The observations by Professor Carter in that article concerning the unhelpfulness of a rigid application of the Croudace view, or of the McGregor view, in the construction of bespoken exclusion or limitation clauses found in contracts, on my assessment, are compelling.”

Some relevant extracts from that article, are as follows (Carter, ‘Exclusion of liability for consequential loss’ (2009) 25 JCL 118):

“If the modern cases on the interpretation of contracts stand for anything, it is that the meaning of the words in a contractual document vary according to the context in which they are used.”

“The meaning of the expression [‘consequential loss’] must depend on the intention of the parties and can only be determined by reference to the contract in which the expression is used, read as a whole and considered in light of admissible background material.”

“... the problem with the opposing views [that is, Croudace and McGregor] is that each adopts a technical – term of art – approach to the meaning of ‘consequential loss’.”

“... both views are artificial. Each relies on a conceptual approach under which the expression ‘consequential loss’ is associated with a particular legal effect. Both are wrong because they approach the expression ‘consequential loss’ from particular legal perspectives rather than a commercial perspective which will vary from case to case. Neither view has been adopted by the highest tribunals.”

“It is not the function of a court called upon to construe a contract to determine meanings on a ‘once and for all’ basis. Nor is it the function of a court to determine all the possible applications of a clause. The function is to resolve the particular dispute that has arisen. ‘Meaning’ need only be determined so far as it is necessary to do so, and the only ‘application’ which has to be determined is the application of the clause to the particular facts which have arisen.”

In allowing the amounts claimed by Regional Power, the Court said (at [111]) that the clause was not intended to exclude those amounts, which it considered to be ‘fully direct damages or losses’. In concluding that the amounts claimed were ‘fully direct damages or losses’, the Court pointed out that:

(a) the contract:

(i) was founded on stated assumptions as to ‘reliable operation’

(ii) recognised that Regional Power may need to generate its own, or otherwise obtain replacement, electricity in the event of a shortfall

(iii) recognised that Regional Power would have to maintain a reliable supply of electricity to customers during any period in which ‘reliable operation’ was lost

(iv) contained provisions acknowledging that Regional Power’s obligations ran deeper than returning profits, as it was relied on by the people of the region for their electricity supply

(b) it would therefore have been understood by the contracting parties, which were sophisticated commercial entities, that Regional Power may be required to deliver a replacement electrical supply if the power station failed.

3.1.3 Macmahon (Macmahon Mining Services v Cobar Management [2014] NSWSC 502 and [2014] NSWSC 731)

In these two related cases, the New South Wales Supreme Court was required to consider, among other things, the exclusion of liability for consequential loss in the context of a defined term of ‘consequential loss’.

THe FaCTs• In 2011, Cobar (as principal) and Macmahon (as

contractor) entered into a contract for the design and construction of certain works by Macmahon in relation to the development of Cobar’s copier mine at Cobar, NSW.

• On 4 June 2014, Cobar wrote to Macmahon terminating the contract. Macmahon argued that the purported termination was invalid and constituted a repudiation of the contract by Cobar, which Macmahon accepted as discharging the contract.

• Macmahon sued Cobar for loss of profits arising from the alleged repudiation.

• Relevant clauses from contract: ‘18.5 Consequential Loss. Despite anything else in this contract, neither party will be liable to the other for any Consequential Loss.’ ‘1.1 Definitions Consequential Loss means: (a) any special or indirect loss or damage (b) any loss or [sic] profits, loss or [sic] production, loss or [sic] revenue, loss of use, loss of contract, loss of goodwill, loss of opportunity or wasted overheads, whatsoever, whether direct or indirect.’


In the first case, Cobar brought a notice of motion for summary dismissal of Macmahon’s claim for “loss of opportunity to earn profit”, on the basis that loss of profits were excluded by clause 18.5. The court found in favour of Cobar, because the wording of the contract made it clear that such losses were unrecoverable. The court found that the drafting of the defined term “Consequential Loss” made it clear that those categories of loss in limb (b) were intended to be excluded, regardless of whether they were direct or indirect.

Following the first decision, Macmahon sought to have certain counter claims made by Cobar for damages flowing from various breaches of the contract by Macmahon summarily dismissed. Here the court found against Macmahon, because it was not able to show that the relevant categories of damages being sought by the Principal (including loss caused by a failure to exercise due care and skill arising from an obligation on Macmahon to employ “Good Industry Practice” in the performance of its obligations) fell within the broad catch-all definition of “special and indirect loss” in limb (a) of the definition of “Consequential Loss”. The court noted that the question of what is direct or indirect requires an analysis of the proper construction of the contract.

Both cases confirm that it is generally in the best interests of both the promisor and promisee to ensure that contracts are drafted as clearly and as prescriptively as the circumstances permit at the relevant time, and that relying on short-hand generic phrases in exclusion and limitation of liability clauses is an inherently uncertain and risky approach.

3.2 Expressly carving-out certain losses

Given the varied approach and uncertainty arising from various judgments discussed above, the ‘best practice’ approach is to be specific about the kinds of loss that a provision will cover, and the kinds of loss that are excluded.

express carve-out of certain losses

Absolute carve-out (pro-supplier drafting):

“The supplier will not be liable ... for any:

(a) loss of profits, loss of sales, loss of goodwill or loss of anticipated savings

(b) [special] loss or damage.”

Defective carve-out (pro-customer drafting):

“Neither party will be liable ... for any [special] loss or damage, including any loss of profits, loss of sales, loss of goodwill or loss of anticipated savings.”

The above drafting assumes that ‘special’ will be interpreted to mean the second limb of Hadley v Baxendale.

Carefully consider whether you are trying to carve out certain losses absolutely (regardless of whether they are direct, indirect or otherwise) or only where they are found to be ‘special’ loss or damage.

If the intention is to exclude liability for losses falling within the second limb of Hadley v Baxendale, then consider using the actual words from the judgment, being something along the lines of ‘the Supplier is only liable for direct losses arising naturally and is not liable for any other losses, even if the Supplier has been advised of the possibility of such losses or such losses were otherwise in the contemplation of the parties at the time they entered into the contract’.

3.3 Expressly carving-in certain losses

express carve-in of certain losses

‘Notwithstanding any other provision of this Agreement, but subject to clause [liability cap], the Customer is entitled to recover any direct loss or damage and any:

(a) costs of repairing or replacing the Technology, including the cost of procuring replacement technology from a third party

(b) costs of replacing the Services, including the cost of providing replacement services internally and the cost of procuring replacement services from a third party

(c) costs of implementing any reasonably necessary temporary workaround in relation to the Technology or Services

(d) costs arising from the loss or corruption of data (in whatever format), including the cost and expense of rectifying and reloading the relevant data

(e) administrative costs and expenses, including for management and staff time, sustained, incurred or suffered by the Customer, which is caused by or arises from any wrongful act, tort (including negligence) or breach of this Agreement by the Supplier or the Customer’s termination of this Agreement pursuant to clause [termination for cause].’

Express carve-ins can also help to bring more certainty and clarity to the liability position in an Agreement. If there are particular heads of damage that you want to ensure are recoverable, regardless of whether such losses are direct, indirect or otherwise, then you should state this expressly in the contract, and not assume that such damages are ‘direct losses’ that will be recoverable.

Also consider carving-in (or out, as applicable) recovery of:

(a) consultant’s fees

(b) mitigation costs and expenses

(c) out-of-pocket costs and expenses

(d) loss or damage to existing business

(e) expenditure on preserving or restoring goodwill.

Exclusion Clauses


example 1: nsw dFs – Procure IT

“Consequential Loss means any loss, damage or expense recoverable at law:

(a) other than a loss, damage or expense that would be suffered or incurred by any person in a similar situation to the person suffering or incurring the loss, damage or expense

(b) which is a loss of:

(i) opportunity or goodwill

(ii) profits, anticipated savings or business

(iii) data

(iv) value of any equipment,

and any costs or expenses incurred in connection with the foregoing.”

The language in limb (a) above attempts to replicate the concept of ‘normal loss’ in Peerless, that is,

“loss that every plaintiff in a like position will suffer”.

Limb (b) is an absolute carve-out of certain heads of loss.

In certain circumstances, this definition may be too broad (for example the losses referred to in (b)(iii) and (b)(iv) are excluded whether they are direct or indirect, which would not be appropriate for all contracts (e.g. a contract where a key component of the Supplier’s performance obligations relates to the storage of data)). Accordingly, the application of this carve-out should be considered on a case by case basis.

example 2:

‘(a) Subject to (b) Consequential Loss:

(i) means any loss, not arising naturally, that is according to the usual course of things, from the relevant breach act or omission, whether or not such loss may reasonably be supposed to have been in the contemplation of the parties, at the time they entered the Agreement, as the probable result of the relevant breach

(ii) includes loss of profit or loss of anticipated savings.

(b) Consequential Loss does not include:

(i) additional internal administrative and management costs and expenses

(ii) expenditure or fees rendered unnecessary

(iii) costs of procuring replacement Services and Deliverables

(iv) additional costs to maintain the Maintained Items

(v) legal fees which are recoverable on a full indemnity basis’.

This drafting follows that used in Hadley v Baxendale, which, from the recent Australian case law, is a narrower carve-out than using the language from the judgments in Peerless, Waterbrook, Alstom or Regional Power, or using generic terms such as ‘indirect’ or ‘consequential’ loss of damage.

This example is arguably a much better approach (from the Customer’s/promisee’s perspective because it ensures that the specifically identified losses are not carved out.

3.4 Liability caps

Caps generally low (1 x contract value).

Heads of damage with unlimited liability:

• death and personal injury

• property damage (real and personal)

• breach of confidentiality

• third Party IPR claims indemnity

• reckless conduct and wilful misconduct

• ‘gross negligence’.

Liability caps should not automatically be set at the contract value. The value/quantum of the cap should be carefully considered by the relevant business and commercial stakeholders in the overall context of the subject matter of the contract.

Expressly carve-out heads of damage where liability is agreed to be totally uncapped (i.e. damages to which the express limitation of liability regime will not apply). If acting for a Customer, such heads should be as broad as possible. If acting for a Supplier, the opposite applies.

Don’t mistake the phrase ‘unlimited liability’ with the idea that the Defendant will be liable for all loss and damage suffered by the Plaintiff. Principles of causation, remoteness and mitigation will still apply to limit the Defendant’s liability.

If you are looking to expand on the losses recoverable to something akin to unlimited, or at least more than what might be recoverable for a breach of contract or negligence claim, consider using a well drafted indemnity to extend the other party’s liability.

‘Gross negligence’ is not a term of art under Australian or English law. This is a US law concept.

Therefore, if such phrase is used in a contract governed by Australian law, it should be expressly defined, for example:

“Gross Negligence means a negligent act or omission that arises as a result of a significant departure from the standard of care that would ordinarily be expected from a highly skilled and experienced person engaged in the same type of undertaking under the same or similar circumstances as the negligent person.”


4. Limiting the impact of exclusion clauses

4.1 Contribution

The concept of ‘contributory negligence’ in tort does not apply to a breach of an express or implied duty of care under a contract, where the action is brought in contract rather than tort: Astley v Austrust Ltd (1999) 161 ALR 155; 73 ALJR 403.

As such, if acting for a Supplier, you should consider including a clause similar to that below in the limitation of liability section of the contract.

suggested drafting:

“Any liability of the Supplier for loss or damage, however caused (including by the negligence of the Supplier), suffered by the Customer in connection with this Agreement is reduced to the extent that the Customer or its employees or agents contribute to the loss or damage.”

An alternative or complementary way to deal with this issue is through the use of an ‘Excused Performance’ clause, discussed below.

4.2 Excused performance

From a Supplier’s perspective, every contract should contain a detailed list of items, information or activities that the Customer must ensure are provided or occur, in order to enable the Supplier to perform its obligations. These are often referred to as ‘Customer dependencies’. However, in the absence of a detailed list, a generic clause such as the one set out below is a good start.

excused Performance

“Notwithstanding any other provision of this Agreement, the Supplier shall not be deemed to be in breach of this Agreement or otherwise liable to the Customer as a result of any delay or other failure in the performance of its obligations under this Agreement if and to the extent that such delay or other failure is caused by or arises from:

(a) the Customer’s non-performance, delayed performance or other breach of its obligations under this Agreement

(b) the delayed arrival or non-arrival of information or data from the Customer

(c) information or data supplied by the Customer being faulty, damaged or incorrectly prepared

(d) errors in programs, coding information or operating instructions supplied by the Customer, including any failure of or defects in the Customer’s systems

(e) any failure by the Customer to obtain all necessary rights and licences in relation to the IP rights of third parties

(f) any act or omission of the Customer Group that has an adverse effect upon the performance by the Supplier of its obligations under this Agreement.”

Obviously, Customers should not be suggesting the inclusion of such a clause in a contract. Where it is proposed by a Supplier, the Customer should ensure that it is drafted as narrowly as possible and expressly and specifically identifies those matters that are the responsibility of the Customer.

4.3 Consider the impact of legislation

Consumer law and other regulatory requirements

• s 18 of the ACL

• ‘consumer’ guarantees provided by the ACL

• use drafting such as “save to the extent permitted by applicable law”

• regulatory responsibility cannot be outsourced.

Contracts do not exist in a vacuum. You should always consider the impact of any relevant legislation on the particular contract at hand. For example, it is not possible to exclude liability for a breach of s 18 of the ACL, which provides:

18 Misleading or deceptive conduct

(1) A person must not, in trade or commerce, engage in conduct that is misleading or deceptive or is likely to mislead or deceive.

There are also sometimes limitations about the ways in which contracts can limit liability (e.g. for breach of a consumer guarantee under the ACL). Where those limitations apply, it is important to ensure that the exclusion clause:

(a) takes advantage of what is permitted under the relevant legislation (e.g. s 64A of ACL)

(b) does not breach the legislation.

Proportionate liability regimes

Relevant legislation includes:

• Civil Liability Act 2002 (NSW)

• Wrongs Act 1958 (Vic) Part IVAA

• Civil Law (Wrongs) Act 2002 (ACT)

• Civil Liability Act 2003 (Qld).

Following the collapse of HIH and the so-called ‘insurance crisis’, calls for legal reform resulted in a shift in the liability regime.

Common law joint and several liability of concurrent wrongdoers was replaced with a statutory proportionate liability regime.

Under common law, a claim was generally made only against the defendant with the deepest pockets/best insurance cover. This defendant would then have to join others from whom it might be able to seek a contribution.

The proportionate liability legislation generally applies in circumstances where the relevant claim:

(a) includes a claim for damages, whether in contract, tort or otherwise

(b) arises from a failure to take reasonable care,

but does not concern personal injury i.e.claims in relation to death and personal injury are generally not covered by the statutory regime, and the common law position continues to apply.

Under the legislation, wrongdoers are liable to the plaintiff proportionately to the extent of their contribution to the loss or damage suffered and, importantly, the plaintiff bears the:

Exclusion Clauses


(a) onus of joining all concurrent wrongdoers to any action in which it hopes to recover 100% of its loss or damage

(b) risk of non-recovery from wrongdoers who have since become insolvent or are not able to be located.

example drafting:

“To the extent permitted by law, the operation of any legislative proportionate liability regime is excluded in relation to any claim against any Supplier Group Member under or in connection with this Agreement.”

The basics of the legislation are:

(a) the defendant must be a ‘concurrent wrongdoer’ in respect of an ‘apportionable claim’

(b) liability is apportioned between eligible defendants, who are liable to pay their proportion and no more

(c) a defendant cannot call on another concurrent wrongdoer to indemnify him or her for his or her share of the liability

(d) the position on contracting out of legislative proportionate liability regimes varies across jurisdictions:

(i) expressly permitted under NSW, Tasmania and WA legislation

(ii) not addressed in Victoria, ACT and NT legislation

(iii) expressly prohibited in Queensland legislation.

4.4 Force majeure

Force majeure should not be treated as just another ‘boilerplate’ clause that does not require much attention. Force majeure clauses have the potential to completely undermine the Supplier’s obligations and, therefore, the Customer’s rights and remedies under a contract.

Force majeure

Example clause

“Notwithstanding any other provision of this Agreement, neither Party will be in breach of this Agreement or otherwise liable to the other Party as a result of any delay or other failure in the performance of its obligations under this Agreement if and to the extent that such delay or other failure is caused by or arises from any event or circumstance not within the reasonable control of the Party concerned, and the time for performance of the relevant obligation(s) is extended accordingly.”

Consider in light of relevant obligations.

If acting for a Customer, should not apply to acts and omissions of the Supplier’s suppliers/sub-contractors.

Do not automatically include a force majeure clause in a contract if you are acting for the Customer (i.e. a party that is unlikely to ever need to rely on such a clause). It is a matter for the Supplier (and its lawyers) to request the inclusion of such a clause.

Consider, particularly where a Supplier is a re-seller of certain products and services, references to ‘suppliers’ and/or ‘sub-contractors’ acts and omissions in a Supplier’s proposed force majeure clause. Such references should be deleted, as the onus should be on the Supplier to ensure that it has appropriate and robust back-to-back arrangements in place to ensure continuity of supply. Non-performance or breach by a sub-contractor is a risk that the Supplier is able to manage (as opposed to a true ‘act of God’) and such matters should remain its responsibility.

In the context of a contract for technology services, where the vendor is obligated to provide business continuity or disaster recovery services, query the relevance of a force majeure relief clause at all. At most, relief should only be given where the primary site and the disaster recovery site are both simultaneously affected by force majeure events.

5. Other considerations

5.1 Ability to recover against a party

defendant’s (not so) deep pockets

• company of substance

• assets in Australia

• guarantees

• insurance.

Unless the counterparty is a ‘company of substance’, there will be little to gain from negotiating a strong liability position in an agreement. It is important that the other party has assets, preferably in Australia, against which a judgment can be attached, in the event of a breach of contract or other wrongful act.

Most global companies contract through local subsidiaries. Be mindful that such subsidiaries will be of varying financial standing. For instance, IP (a software company’s key and possibly only asset) often will be held in an offshore tax advantageous jurisdiction, such as the Cayman Islands or Luxembourg.

There are a number of legal and practical solutions to this issue, including:

(a) entering into a contract with the parent company instead

(b) obtaining performance (e.g. parent company guarantees) and financial guarantees (e.g. from a bank)

(c) including certain obligations in relation to insurances (naming the Customer as co-insured, etc.).


5.2 Insurance

Insurance (pro-Customer drafting)

“The Supplier’s total maximum liability to the Customer for all claims, actions, proceedings, losses, liabilities or costs (including legal expenses) sustained, incurred or suffered by the Customer (a Customer Claim) arising under or in connection with this Agreement, whether in contract, tort (including negligence), breach of statutory duty, or otherwise, shall be limited for all Customer Claims in aggregate to an amount equal to the greater of:

(a) an amount equal to 100% of the total Fees paid or payable by the Customer to the Supplier under this Agreement

(b) one million dollars ($1,000,000).

save and except where such liability exceeds this amount and is covered by the insurance policies of the supplier, in which case the supplier’s liability shall reflect the additional insured amounts contained in such insurance policies.”

It is important to note the difference between a liability cap and the amount of cover provided by any relevant insurance policy including, for example, a policy that a Supplier may expressly be required to obtain and maintain under the terms of a contract.

A common mistake is to confuse the amount of an insurance cover a party is required to carry with the potential liability of that party. Liability is governed by legal principles relating to the recovery of damages, whether for breach of contract, tort, or otherwise, including any express exclusion clauses or other relevant provisions agreed between the parties. Insurance cover goes to whether or not the relevant party will have the ability to meet any claim made against it.

It is possible, however, to expressly include recourse to the Supplier’s insurances, where the claim exceeds the liability cap, but is covered by a relevant insurance policy, as per the example drafting shown above.

Exclusion Clauses


5.3 Related third parties

Related third parties

• add them as joint promisees

• contract as agent for third parties

• establish a trust:

“In entering into and obtaining the benefits of the exclusions and limitations of liability in this Agreement, including this clause [##], the Supplier acts on its own behalf and as trustee for each of the Supplier Group Members and each of the Supplier’s Personnel.”

“In entering into this Agreement and obtaining the rights granted to it and the benefit of the Supplier’s obligations, the Customer acts on its own behalf and as trustee for each of the members of the Customer Group.”

• covenant not to sue.

If acting for a Customer, it may be necessary to ensure that any entities that are not party to the Agreement, but who are receiving the benefit of the technology and services provided under the Agreement, such as the Customer’s affiliate companies, have the right to claim and recover any damages that they may suffer.

If acting for a Supplier, it is necessary to consider what may happen if a Customer is prevented from recovering damages from the defaulting counter-party (i.e. Supplier) due to an express exclusion or limitation of liability clause. The Customer may, for example, decide to take action against the holding company or subsidiary companies to the contracting party, or its officers or employees. Accordingly, it is necessary to consider whether such entities and persons need to be protected.

Generally, because of the rules of privity of contract, it is not sufficient to protect such third parties by simply referring to them within the contract, such as within the scope of the relevant exclusion or limitation of liability clause. It will be necessary to use one of the legal constructions mentioned above to ensure that they have the necessary rights and/or protection in relation to the particular contract.

The privity of contract issue is overcome by legislation in certain jurisdictions, but not NSW.

39 Maddocks Technology Procurement Handbook | Exclusion Clauses

5.4 Ring-fencing of liability

Ring-fencing of liability

• split contracts (e.g. separate Licence Agreement and Support Agreement)

• Framework Agreement (e.g. MSA)/Statements of Work.

‘Ring-fencing’ is where a party attempts to limit its liability in relation to certain aspects of a project to only the fees and charges payable for that aspect of the project. Ring-fencing is also sometimes used by a Supplier to limit the other party’s termination rights.

By way of example, software vendors will generally attempt to limit their liability for the defective provision of software support services to only the fees payable for such services. Suppliers will generally justify this approach on ‘revenue recognition’ (i.e. financial accounting) grounds. Under this approach, a Customer who has paid substantial amounts for the licensing of software, implementation services and hosting services, will have recourse against the Supplier capped at the lesser amount of the fees payable for software support services alone.

The issue of ‘ring-fencing’ generally arises from the use of multiple contracts for a project or deal, rather than the drafting of an exclusion clause. However, ‘ring-fencing’ can be achieved by Suppliers using both mechanisms.

Customers should:

(a) insist on a combined/aggregate liability cap, which reflects the value/fees payable across the entire project

(b) consider co-termination rights, where there are multiple contracts in relation to a particular project (either with multiple vendors or with the same vendor (e.g. separate software licence and software maintenance and support Agreements)). Ask the question: is it worth having part of the solution without the other part(s)?

5.5 Principal performance obligations

Important to define:

(a) what, how and where (e.g. services description)

(b) quality (e.g. service level agreement)

(c) when (e.g. project timetable)

(d) price (e.g. fees schedule).

Despite the important legal and commercial principles discussed, properly describing the nature and scope of each party’s rights and obligations under an Agreement is nearly always the most important risk allocation tool, and generally more effective than ‘fiddling’ with exclusion and limitation of liability clauses.

Contract schedules always seem to be someone else’s responsibility. However, without them, query the value of having a contract at all.

Uncertainty works both ways, but generally helps the promisor, because a promisee cannot claim damages unless it can show that the promisor is in breach. It is generally best for both parties to have as much certainty under every contract as is possible in the circumstances.

This is a particular issue when contracting on a Supplier’s standard terms – these are often more about what the Supplier is not going to do, excluding the Supplier’s liability and what the Customer must or must not do, rather than describing the Services in any level of detail or certainty.

This issue needs to be well understood and made crystal clear to the relevant business and commercial stakeholders in relation to every contract.

| Maddocks Technology Procurement Handbook 40Indemnities Revisited

Introduction

Indemnities play a significant role in the voluntary allocation of risk between contracting parties and, when used correctly, are powerful tools for transferring risk.

Requests for broad indemnity protection have become increasingly common over the past five to ten years and arise frequently in negotiations relating to licensing, technology and outsourcing contracts.

This is arguably due, in part, to the globalisation of businesses and the use in Australia of standard contracts prepared by lawyers admitted in other jurisdictions (e.g. continental Europe civil law jurisdictions and the US). However, it should be remembered that the customs,

practices and, more importantly, laws in relation to indemnities in those jurisdictions may differ from those in Australia.

While it may be appropriate in certain circumstances for contracting parties to agree on certain indemnities, they should fully consider the consequences. Ill-considered indemnities could, quite literally, lead to financial ruin for the party giving them. On the other hand, as indemnities are likely to be narrowly construed, care must be taken when drafting them to achieve the effect intended by the parties. It is also always worth considering whether adequate protection is provided at law generally (through existing remedies for breach of contract, tort and statutory claims), without having to resort to indemnities, especially given the animosity that can result from a party’s dogged pursuit of extensive indemnity protection.

IndemnITIes ReVIsITed

CHaPTeR 6


What is an indemnity?

The High Court has defined an indemnity as: “…the obligation imposed by contract or by the relation of the parties to save and keep harmless from loss” (Victorian Workcover Authority and Another v Esso Australia Ltd (2001) 182 ALR 321, at [16]); and as including, in its widest sense “a contract obliging one person to make good the loss suffered by another”, such as a contract of guarantee or insurance (Bofinger v Kingsway Group Ltd (2009) 239 CLR 269 at [7]).

Most indemnities are triggered by a particular event, described in the indemnity, and they generally fall into one of the following five categories:

1. General indemnity (no fault)

These are indemnities by which one party agrees to hold another ‘harmless’ or ‘make good’ the other party (i.e. compensate them) upon the occurrence of a particular event:

A must indemnify B against any loss arising in connection with [Event].

2. Guarantor indemnity

Under such an indemnity, one party agrees to hold another harmless in relation to certain conduct of a third party:

A must indemnify B against any loss arising from B’s contract with [Third Party].

Such indemnities resemble guarantees of the third party’s performance, protecting the indemnified party against losses that may arise as a result of entering into an arrangement with the third party. They may be used, for example, to overcome some of the doctrinal limitations associated with the enforcement of a guarantee by a creditor, and are commonly used in banking and other financial transactions, generally paired with a guarantee.

3. Third party claims indemnity

A ‘third party claims indemnity’ is a commitment that one party will hold the other harmless against any loss or damage arising from a claim by a third party, whether connected with a breach or not:

A must indemnify B against any claim by a third party against B in connection with [Event].

A common example is that of a licensor of software indemnifying the licensee against any actions from third parties claiming that the use of the software by the licensee infringes the third party’s IP rights.

4. Party-party indemnity

A ‘party-party indemnity’ is a method of defining the extent of liability of the indemnifying party for breach of that agreement, as where a contract between A and B includes a provision

that the breaching party will hold the innocent party harmless against any loss or damage arising from the breach:

A must indemnify B against any breach of this Agreement by A.

The object of such an indemnity is usually to augment the indemnified (and non-defaulting) party’s right to recover for loss arising from a breach of contract.

5. Reverse indemnity

A ‘reverse indemnity’ is an indemnity which provides that one party to a contract will hold the other party harmless from any loss or damage suffered under the contract, even where the person entitled to be indemnified is the party in breach:

A must indemnify B against any breach of this Agreement by B.

This type of indemnity necessarily operates in a manner analogous to an exclusion clause, as any liability that the party in breach would otherwise have is cancelled out by the indemnity to which it is entitled. Such indemnities may be commonly found in settlement agreements, where they are intended to prevent further claims being made by the parties against one another.

Construing indemnities

At present, a court is likely to construe an indemnity by reference to the ordinary meaning of the language used (absent any technical expressions) and in the context of the contract as a whole (Erect Safe Scaffolding (Australia) Pty Ltd v Sutton [2008] NSWCA 114, at [5] and [88]).

In 2004, the High Court held that indemnity clauses are special provisions with particular interpretation rules (Andar Transport Pty Ltd v Brambles Ltd (2004) 217 CLR 424). They are likely to be narrowly construed, in favour of the indemnifying party (Ankar Pty Limited v National Westminster Finance (Australia) Limited (1987) 162 CLR 549 at 561).

As such, a party seeking an indemnity should draft it carefully, clearly and unambiguously, so as to minimise the risk of it being read down in favour of the indemnifying party, and keep the following in mind:

(a) indemnities are likely to be strictly construed, and it is likely to be difficult to determine whether or not an indemnity is applicable in any given factual situation

(b) be as specific as possible when drafting to reduce the risk of the indemnity being read down, although you should generally always assume the worst when reviewing and negotiating broad indemnities

c) expressly refer to negligence if you wish the indemnity to apply in circumstances in which the indemnified party is negligent (i.e. a reference merely to ‘tort’ may not necessarily be sufficient, in and of itself).

Indemnities Revisited


Key principles

Causation

In simple terms, an indemnity is a commitment by one party (the indemnifying party) to make good all of the loss or damage suffered by another party (the indemnified party) on the occurrence of the event to which the indemnity relates.

Often there is no requirement for the indemnified party to show that the indemnifying party caused the relevant event to occur or that the loss or damage flowed from the indemnifying party’s acts or omissions.

On the other hand, damages in relation to breach of contract and tort (e.g. negligence) claims are subject to a requirement of causation (i.e. a plaintiff may only recover loss or damage that is actually caused by the defendant).

Remoteness

An indemnity generally covers all loss and damage suffered by the indemnified party, no matter how remote.

Damages in relation to breach of contract and tort claims, however, are subject to the relevant rules of remoteness.

The test for remoteness in relation to breach of contract claims is laid down in the old English case of Hadley v Baxendale (1854) 9 Exch 341 at 354, which is generally considered to be a single rule, with two limbs, with:

(a) damages under the first limb (i.e. those damages “... arising naturally, that is according to the usual course of things from such breach of contract itself ...”) being referred to as ‘general’ or ‘direct’ damages

(b) damages under the second limb (i.e. those damages “... as may reasonably be supposed to have been in the contemplation of both parties, at the time they made the contract, as the probable result of the breach of it”) being referred to as ‘special’ or ‘indirect’ damages (and sometimes ‘consequential’ damages).

The rule in Hadley v Baxendale sets out the two categories of damages (i.e. ‘direct’ and ‘indirect’) that are ordinarily recoverable (in the absence of an express limitation of liability regime that may, for example, cap liability for direct losses and carve out liability for indirect losses altogether). There are, however, actually three categories of losses that may be suffered by a plaintiff, namely: direct; indirect; and those losses that are too remote to be recovered from the defendant under a breach of contract claim.

The test for remoteness in relation to tort claims is that damages must be ‘reasonably foreseeable’ to be recoverable. In relation to tort claims there are actually two categories of losses that may be suffered by a plaintiff, namely: losses that are reasonably foreseeable and, therefore, recoverable; and those losses that are too remote to be recovered from the defendant under a tort claim.

It is the additional category of losses (i.e. those losses that are too remote to be recovered under breach of contract or tort claims), which often are not properly considered or event contemplated by the indemnifying party, that may also be recoverable under an indemnity. Such additional losses could be significant.

Mitigation

There is generally no requirement for an indemnified party to mitigate its losses in the case of an indemnity. As such, an indemnified party could, in effect, ‘sit on its hands’ and allow losses to accrue unnecessarily and at the expense of the indemnifying party. Whereas a plaintiff wishing to recover damages for breach of contract will, absent any indemnities, ordinarily have to show that it took steps to mitigate its losses and will not be able to recover the additional losses that accrued due to its failure to take such steps.

Notwithstanding the foregoing, it is arguable that an indemnified party is expected to act ‘reasonably’, and that this implied limitation will operate to preclude recovery of losses to the extent that they were incurred for a unreasonable amount or by acting in an unreasonable manner by refusing to mitigate (see Courtney and Carter, ‘Indemnified Against Breach and Settlement of Third Party Claims’ (2011) 27 JCL 265 (and UK authorities cited therein)).

Liability caps

Unless a contract expressly states that an indemnity is subject to a liability cap, an indemnifying party’s liability under an indemnity will generally be uncapped, notwithstanding the existence of a limitation of liability clause in a contract.

This is because a claim for payment under an indemnity is likely to be treated as a claim for the payment of a debt, which will be couched as a claim for specific performance (i.e. that the relevant payment be made by the indemnifying party), as distinguished from a claim for damages. Exclusion and limitation of liability clauses do not necessarily apply to claims for liquidated sums.

Assignment

A claim under an indemnity (which, as noted above, is normally a debt claim) will generally be freely assignable to third parties.

Whereas, the assignment of a claim to contractual or tortious damages may result in the commission of the torts of maintenance or champerty, and is generally prohibited.

Limitation periods

Indemnities may be used to effectively extend or circumvent statutory limitation periods that ordinarily apply to breach of contract and tort claims (generally being six years).

This is because a cause of action in relation to an indemnity generally does not arise until the time of actual loss or, in the case of an indemnity expressed to be an obligation to indemnify ‘on demand’, until a demand has actually been made, and, in both cases, provided that the extent of the loss had been ascertained.

This is in contrast to a cause of action in relation to a breach of contract claim, which arises at the time the event giving rise to the claim occurs and in respect of which nominal damages are recoverable, even though no loss is proved.

Insurance

Indemnities are often agreed between parties on the assumption that all liability under such indemnities will be covered off against the indemnifying party’s insurance policies. This is a risky approach for both parties, however, as insurance policies often contain terms stipulating that insurance will not be provided for excessively onerous contractual terms agreed to by the insured or for contractual indemnities that increase liability beyond that imposed generally at law.

43 Maddocks Technology Procurement Handbook | Indemnities Revisited

Tips for the indemnified party Tips for the indemnifying partyEnsure indemnities are drafted precisely and unambiguously.

Pay attention to the wording. Any ambiguity is likely to be resolved in favour of the indemnifying party.

Do not agree to give one.

Depending on the circumstances, you might argue that the indemnified party should insure against the types of loss about which it is concerned, or that liability is not accepted on an indemnity basis (i.e. the indemnified party can sue for breach of the agreement without the benefit of an indemnity).

If an indemnity is to be given, pay close attention to the drafting and consider ways to limit the scope of the indemnity. For instance:

• do not agree to cover all loss ‘in connection with’ an event. Instead, frame the indemnity around loss ‘caused directly by’ a party or particular occurrence

• limit third party claims indemnities so that they cover amounts awarded by a court, so that the indemnity is only triggered once a court has agreed that damages are in fact payable.

Consider your insurance policies.

If the negotiations are at an impasse, consider whether any current (or readily available) insurance coverage would provide similar protection (and the cost of such coverage).

Only indemnify regarding of events within your organisation’s control. Obtain consent from insurers – do not assume that your organisation’s insurance policies will save it.

Only insurers should offer indemnities regarding of events outside of their control. Argue that it is not commercially reasonably to accept responsibility for matters that are outside of your organisation’s control.

Be aware that some insurance policies may not extend to: (i) excessively onerous contractual terms accepted by the insured; or (ii) contractual indemnities that increase liability beyond that imposed generally at law.

Do not concede to requests that the indemnities be made subject to provisions carving out consequential loss or capping liability.

argue that such a limitation or cap is inconsistent with how indemnities are conceptually intended to operate.

Clarify the application of exclusion clauses.

As the indemnifying party, assume that any exclusion or limitation clause will generally not apply, and expressly state that: (i) the liability cap applies to indemnities (as well as contractual damages); and (ii) the indemnity only relates to direct and reasonably foreseeable loss and damage, or is subject to the carve-out of indirect/consequential loss.

Do not concede to requests that the indemnities be made subject to an obligation to mitigate your losses or a contribution clause.

argue that such obligations or contributions are inconsistent with how indemnities are conceptually intended to operate.

Require the indemnified party to mitigate its losses. Exclude losses caused by the indemnified party.

Include an express obligation to mitigate losses and to provide prompt notification of any events that are relevant to, or may trigger, the indemnity. Include an express carve-out of loss caused by the indemnified party’s own acts and omissions.

Ensure that the indemnity is expressed to survive termination of the Agreement.

Limit timing of claims.

Check the survival clause to see whether the indemnity survives termination of the Agreement.

Be wary in particular of an indemnity that is drafted to operate on an ‘on demand’ basis and expressed to survive termination of the Agreement. Arguably, liability under such an indemnity could arise at any time in the future (on receipt of notice of demand from the indemnified party), regardless of when the loss actually arose.

Consider subrogation rights.

Ensure your organisation has a degree of control over the subrogation right, including being informed of the progress of any defence. Request that any settlement must require your organisation’s consent, including, for example, that any settlement take into account the possible impact on your organisation’s reputation (in which case it may be appropriate that the settlement be kept confidential).

Consider subrogation rights.

Provide an express right of subrogation (notwithstanding that such a right is likely to be implied). Make the indemnity conditional upon the indemnified party promptly notifying your organisation of the relevant claim(s). Ensure that your organisation may take control of the defence of any claim against the indemnified party, particularly where the indemnity covers the other party’s legal costs. Require the indemnified party to provide reasonable assistance to help defend any claim (at your organisation’s expense, if necessary).

useFul TIPs


Tips for the indemnified party Tips for the indemnifying partyProtection of third party beneficiaries.

If it is intended that third parties (such as related bodies corporate) should benefit from the indemnity, ensure this is given proper effect in the agreement. This requires careful legal consideration. In jurisdictions where such rights are not dealt with under statute, structures that may be effective may include the creation of a trust in favour of the third party beneficiary or the use of a deed.

Consider third party beneficiaries.

Be aware that, where an indemnity is expressed to be in favour of a third party, this will only be effective if the agreement and relevant provisions are correctly structured. This is obviously a matter for the indemnified party, but you may wish to seek further advice from your legal representative on this point.

Reciprocity is not a panacea.

If you have sought an indemnity, be wary of requests from the indemnifying party for it to apply mutually. This will seldom be appropriate, taking into account the different responsibilities and risk profiles of the parties.

Reciprocity is not a panacea.

Do not agree to accept an indemnity simply on the ground that it is mutual or reciprocal. There is likely to be a significant difference, for example, between a Supplier giving a party-party indemnity for breach and a Customer giving a party-party indemnity for breach. A similar analysis commonly applies when considering potential exclusions of particular types of loss or damage.

Consult the policy.

Consider whether your organisation dictates a position that must be taken when negotiating indemnities.

Consult the policy.

Consider whether your organisation dictates a position that must be taken when granting indemnities (and see above, regarding insurance). Sometimes a firm claim that it is against company policy to give a particular indemnity can be a useful negotiation technique.

45 Maddocks Technology Procurement Handbook | Indemnities Revisited

Key principles

Conclusion

As discussed above, indemnities can confer significant benefits on the indemnified party. An indemnity can be said to effectively ‘turbo-charge’ the relevant obligations of the indemnifying party, as the consequences of an indemnity being triggered may well exceed the damages that a court would ordinarily award.

However, the indemnified party should avoid conceding that the required ‘indemnities’ will be subject to, for example: a carve-out of losses other than direct losses; an obligation on the indemnified party to mitigate its losses; a cap on liability; and/or a contribution clause reducing the indemnifying party’s liability under the indemnity to the extent that the indemnified party contributed to its losses. Arguably such an approach effectively erodes the relevant ‘indemnity’ to the point where it no longer operates as an indemnity, as understood under Australia law.

Any requests for indemnities should be carefully considered by both parties, and any indemnities precisely drafted to ensure they have the intended effect.

Reference material

This chapter should be considered a high level summary and discussion of commonly arising matters, and does not cover a number of more complex issues. For a deeper look at indemnities, including a look at the different schools of academic thought regarding the nature of a claim under an indemnity (and the implications of different classifications of claims), we commend the following source materials to you:

Courtney and Carter, ‘Debts, Liquidated Sums and the Enforcement of Claims Under Guarantees and Indemnities’ (2013) 30 Journal of Contract Law, 70; (April 2, 2014) Sydney Law School Research Paper No. 14/35. Available at SSRN: http://ssrn.com/abstract=2419356.

Courtney, ‘The Nature of Contractual Indemnities’ (2011) 27 Journal of Contract Law 1.

Courtney and Carter, ‘Indemnities Against Breach and Settlement of Third Party Claims’ (2011) 27 Journal of Contract Law 265.

Furmston and Carter, ‘Indemnities for the Benefit of Others’ (2011) 27 Journal of Contract Law 82.

Zakrzewski, ‘The Nature of a Claim on an Indemnity’ (2006) 22 Journal of Contract Law 1.

| Maddocks Technology Procurement Handbook 46Technology Cases

Ipex ITG Pty Ltd (in liq) v Melbourne Water Corporation (No 5) [2009] VSC 383 (11 September 2009)

Following the issuance of an Invitation to Tender and Request for Proposal (RFP), Ipex was the successful tenderer for the provision of help desk services to Melbourne Water Corporation (mwC). The RFP provided tenderers with substantial documentation and data which outlined the types and volume of help desk calls over the preceding six months, which ranged from 364 to 527 calls per month.

The successful tender submitted by Ipex included terms for a fixed price. However, Ipex encountered a much higher than expected average of 675 help desk calls a month. Ipex contended that it relied upon the representations made by MWC in its RFP when determining the resources and costs of providing its help desk services and, as a consequence of servicing the higher call rates, had suffered a loss.

Relevantly, Ipex contended that the RFP disclosed an average monthly figure for calls, but in fact the RFP disclosed a figure for each of the preceding six months and Ipex went on to calculate the average.

Claim

• damages for breach of s 51A of the Trade Practices Act (TPa) (now s 4c of the aCl)

• damages for breach of s 52 of the TPA (now section 18 of the ACL).

Finding

The Court rejected MWC’s assertions that, as the data was collected by MWC’s previous help desk service provider, MWC was merely passing on that information, and that no monthly average was stated in the RFP.

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However, the Court held that, as the call data was found to be mostly accurate, the representations were not misleading.

In finding that the representations were not misleading or deceptive, the Court held that:

(a) the alleged representations in question had not in fact been made

(b) if they had been made, they were not proven by Ipex to be false, because Ipex was unable to produce sufficient satisfactory evidence that any of the statements were misleading

(c) Ipex did not rely upon the representations (Ipex was found to rely on some representations but not all)

(d) had the Court found the statements to have been made, relied on by Ipex and misleading, MWC would have been unable to rely upon a broad and general disclaimer in regard to the substantial materials provided to tenderers. Importantly, the Court was clear on the point that a party cannot on the one hand provide information that tenderers are intended to rely on and then remove themselves from responsibility by including a broad disclaimer as to accuracy.

Lessons for Customers

• The decision highlights the importance of ensuring the accuracy and completeness of information provided to tenderers during the tender process, including information contained in request for tender documents and other documents provided during a tender process, and extending to oral representations made during that process.

• Awareness of the necessity not to mislead or deceive a prospective customer is generally well understood by tenderers, even if that is not always the case. However, a Customer must also be vigilant in ensuring the information it provides to tenderers at the pre-contract stage and during the tendering process is not misleading in any way.

• It is reasonable to conclude that a tenderer will rely upon all the information provided to it in connection with the tender process, when preparing its tender and, in particular, the tendered price. General disclaimers as to the accuracy of information in a bid document will not be sufficient to overcome a misleading or deceptive conduct claim by a tenderer against the Customer, where that conduct has occurred.

Unisys Australia Ltd v RACV Insurance Pty Ltd [2004] VSCA 81

Facts

In 1993, RACV Insurance Pty Ltd (RaCV) decided to automate its paper-based insurance handling procedures, and issued a Request for Information (RFI) and subsequently a Request for Proposal (RFP). The RFI and RFP detailed the criteria to be met by any proposed solution. Relevantly, the criteria included a mandatory response time of 2-4 seconds for document image retrieval for open claims or claims closed within the previous three months and a response time of 20 seconds otherwise.

Unisys Australia Ltd (unisys) was chosen as the supplier after proposing to adapt its own product, InfoImage, to the needs of RACV and the two parties entered into a contract at the end of 1994. The contract did not contain system response times.

Unisys delivered the system in March 1995 and it passed acceptance testing. However, the system failed in operation. Unisys unsuccessfully attempted to rectify the problems.

Claim

• damages for misleading or deceptive conduct

• damages for breach of contract

• damages for negligent misstatement.

Finding

The Court found that RACV had been induced to enter the contract by Unisys’ misrepresentations as to the system’s performance. The technical basis of the failure was Unisys configuring the system with insufficient memory. The Court found that, contrary to its representations, Unisys did not intend to configure the system adequately by having all current claims online. Accordingly there had been a representation as to a future matter for which there were no reasonable grounds.

RACV successfully claimed damages for misleading or deceptive conduct, breach of contract and negligent misstatement.

An appeal from the findings at first instance was rejected.


• It is prudent to include a draft contract in the RFP and to seek a detailed response to the terms of that contract.

• The Customer should establish a form of response to the RFP that requires tenderers to respond to the specifications required by the Customer. This aids the Customer in comparing the feasibility of the tenders, as each tender should be drafted in a standard form.

• It is prudent to include specifications in the schedules to the contract rather than relying on pre-contractual negotiations and the RFP. Fortunately, in this case the Court had regard to the RFP and relevant response and found in favour of the Customer.

Technology Cases


GEC Marconi Systems Pty Limited v BHP Information Technology Pty Limited [2003] FCA 50

Facts

The Department of Foreign Affairs and Trade (dFaT), the customer, had commenced a phased project to upgrade the Australian Diplomatic Communications Network (adCneT). Subsequently, in late 1989, DFAT sought expressions of interest for upgrades and enhancements to ADCNET. In March 1990, BHP Information Technology Pty Limited and EASAMS (Australia) Ltd, a predecessor of GEC Marconi Systems Pty Limited, entered into a teaming arrangement in preparation of a joint tender. That tender, which was submitted in July 1990, was successful. On 13 and 14 December 1990 the Commonwealth and BHP-IT, and BHP-IT and EASAMS, entered into back-to-back time and material contracts. The object of these contracts, as expressed in the recitals of the EASMAS contract, was to ‘specify, design, develop and implement Stage 1 of ADCNET’. The project would only be successful if an effective security baseline was integrated into ADCNET. The security baseline involved boundary devices which prevent classified data being sent from ADCNET to less secure networks, either due to errors in the software or equipment of the ADCNET computers or to a successful attack on the ADCNET computers.

In mid-1992, DFAT was informed by the Defence Signals Directorate (dsd) that the Defence Science and Technology Organisation had built a prototype version of a boundary security device called STUBS. STUBS was cited as the most effective security device for ADCNET. DFAT was then informed that AWA Defence Industries Pty Ltd (awadI) was licensed to commercially exploit STUBS. DFAT advised BHP-IT and EASMAS that the STUBS devices were the preferred choice for boundary security. The 1994 contracts were prepared on the basis that the Commonwealth would supply and be responsible for the functionality of STUBS related hardware and software and that BHP-IT’s (and therefore EASMAS’) responsibility would be to integrate the STUBS devices with ADCNET.

On 14 September 1994, DFAT and BHP-IT, and BHP-IT and EASMAS (later assumed by GEC), executed back-to-back contracts, the Head Contract and Sub-Contract respectively, which was the subject of the dispute. The back-to-back contracts included a schedule which timetabled DFAT’s delivery of STUBS related items, the first element of which was to be provided to BHP-IT by 1 December 1994. However, despite execution of the Head Contract and Sub-Contract, DFAT had not concluded its contract with AWADI for the supply of STUBS, though negotiations were ongoing. In any event, DFAT was obliged to provide STUBS to BHP-IT, and in turn, BHP-IT would then supply STUBS to GEC in a ‘fair and reasonable manner’ and ‘within the time prescribed’ under the Sub-Contract. In return, GEC was obliged to supply software development services and to integrate the system in accordance with the provisions of the Sub-Contract, which included meeting certain milestones for the delivery of the project deliverables.

DFAT failed to deliver the first contractually scheduled component of STUBS to BHP-IT, which in turn failed to deliver the STUBS component to GEC. Consequently, GEC found itself unable to meet the contracted milestone dates. By April 1995, the project schedule slippage reached some 17 weeks. This resulted in a series of correspondence between the parties which suggested alternatives to STUBS. DFAT then made inquiries of GEC about its capacity to design and develop an emulator for STUBS. GEC confirmed its capacity to do so by a letter dated 3 August 1995. Consequently, on 1 November 1995, the Head Contract was varied (the Emulation Variation Agreement) for the development of STUBS emulation software. Although no such amendment was formally signed for the Sub-Contract, BHP-IT notified GEC the same day that DFAT had given formal approval for GEC to

develop the STUBS emulation software. Throughout November, a series of other change requests were made to remove references to STUBS from the Head Contract and to add references to the STUBS emulation software.

The failure of DFAT to deliver STUBS resulted in alleged breaches of both contracts. This was further complicated as the contractual claims arising out of one contract had flow-on effects into the other contract. On 28 March 1996, GEC wrote to BHP-IT proposing that the contract be concluded on payment of Milestone 4000. The GEC letter enclosed an invoice for its work which BHP-IT did not pay. Subsequently, GEC served BHP-IT with a notice of breach on 3 April 1996 and this notice was forwarded by BHP-IT to DFAT and served as BHP-IT’s notice under the Head Contract. On 17 April 1996, both DFAT and BHP-IT responded to the respective notices where they denied any breach. On 10 December 1996, GEC served a notice of termination of the Sub-Contract on BHP-IT.

Claim

• claim by GEC against BHP-IT seeking pecuniary damages to recover reasonable costs of performing its work and for breach of the Sub-Contract for failing to provide STUBS

• cross-claim by BHP-IT against GEC for repudiating the Sub-Contract whereby BHP-IT sought damages for lost profits of the Head Contract, project costs incurred, third party liability costs as against the Commonwealth, dispute management costs and incurred personnel costs

• cross-claim by BHP-IT against the Commonwealth for breach of contract in respect of express terms requiring DFAT to report on, and identify the risks which might have a significant effect on the implementation of the project and to act in a fair and reasonable manner in discharging its obligations under the Head Contract

• cross-claim by BHP-IT against the Commonwealth pursuant to s 52 of the TPA for misleading or deceptive conduct

• cross-claim by the Commonwealth against BHP-IT for breaches of contract in respect of losses incurred as a result of the late delivery of the software under the Head Contract.


Finding

The Court held that GEC had no valid ground for terminating the Sub-Contract and had therefore repudiated the contract. The Court also held that GEC was not entitled to pecuniary damages in respect of payment for reaching the project milestone (Milestone 4000), as the milestone payments were only due and payable when all the requirements of that milestone had been met. In this case, GEC was not entitled to receive payment until BHP-IT had concluded a review of the deliverable, which had not been completed. Therefore BHP-IT’s refusal to pay the invoice did not amount to a breach of the Sub-Contract. In respect of BHP-IT’s failure to provide GEC with STUBS, the Court held that although the Sub-Contract was not varied to accommodate the STUBS emulation software, the ‘communications made and actions taken’ indicated that GEC had agreed to the variation by its conduct. As such, BHP-IT was not obliged under the Sub-Contract to provide GEC with STUBS.

In respect of BHP-IT’s cross-claim against GEC, the Court awarded BHP-IT damages for lost benefit of the Head Contract, project costs incurred following GEC’s misrepresentations and third party liability costs as against the Commonwealth, but were refused damages for dispute management costs and incurred personnel costs. In addition, the Court upheld BHP-IT’s cross-claim against the Commonwealth.

The Head Contract expressly required the Commonwealth to: report on, and, identify the risks that might have a significant effect on the implementation of the project; and act in a fair and reasonable manner in discharging its obligations under the Head Contract. The Court held that although it was not unfair or unreasonable for the Commonwealth to move from STUBS to the STUBS emulation software, it had failed to notify BHP-IT that there may be significant issues procuring STUBS from AWADI which was likely to have a significant impact on the implementation of the project. The Court swiftly dismissed BHP-IT’s misleading or deceptive conduct claim against the Commonwealth. Although the Commonwealth had engaged in misleading or deceptive conduct by representing to BHP-IT that it was willing and able to supply STUBS, it was not in the course of trade or commerce.

Finally, the Court had no difficulties in finding that BHP-IT had breached its obligations to the Commonwealth under the Head Agreement in respect of providing the deliverables in accordance with the contractually scheduled timetable. The Court limited the damages to project management costs and rental and relocation expenses following the breach.


• A Customer should consider the risks involved for all parties when committing to complex IT contracts.

• When acting as a head contractor, a Customer should be mindful of the risks it accepts in the event that either or both the upstream-customer and a sub-contractor fail to perform.

• A Customer should strive to be proactive in project management, so as to identify risks in the implementation of the project. Effective project management includes: ensuring that any variations to a head contract are mirrored in the respective sub contract; communicating potential non-delivery or late delivery of the key deliverables; and ensuring the parties are made aware of the true state of affairs so as to avoid any claims for misleading or deceptive conduct.

• Everyday interactions with contactors can result in variations to the contract, even if they are not formally documented as such. A Customer should carefully consider how such interactions may impact on its rights and remedies under the relevant contract.

Ateco Automotive Pty Ltd v Business Bytes Pty Ltd [2003] NSWSC 197

Facts

Ateco Automotive Pty Ltd (ateco), the customer, contracted Business Bytes Pty Ltd (Business Bytes) to advise and install a new computerised inventory control system. The project included the supply of computer hardware, software and services. Ateco’s business activities during the relevant period included the sale and distribution of cars, car parts and related products and the operation of a warehouse facility. Ateco required a computerised inventory control system that allowed it to identify its inventory and thereby minimise stock levels.

Prior to and after the contract was entered into, Business Bytes asked Ateco to provide a detailed analysis of its requirements. That analysis was never undertaken but Business Bytes and Ateco proceeded nevertheless. Ateco experienced rapid growth as well as significant changes to its business between the date of the contract and the commencement of the new system.

After the system was installed and commissioned Ateco alleged that it was not fully operational and that the cost was greatly in excess of the sum it had agreed to pay.

Claim


• damages for negligence

• damages for misleading or deceptive conduct.

Finding

The Court held that the ultimate cost was well in excess of the original price, but found that the figure had been exceeded because Ateco had failed to provide adequate instructions to Business Bytes, to undergo necessary training and to provide resources required for the implementation. Ateco’s claims were dismissed.


• The Customer needs to be very clear with its specifications and system requirements.

• The Customer should respond to requests by the Supplier regarding specification requirements.

• The Customer should consider outlining potential future structural or operational changes to the business in an effort to future-proof the project

Technology Cases


Memorex Telex Pty Ltd v National Databank Ltd [2002] NSWSC 1111 (2 December 2002)

Facts

National Databank Ltd (national databank), the customer, engaged Memorex Telex Pty Ltd (memorex) to supply computer equipment, ancillary items and services by entering into a Consultancy Agreement and Systems Integration Agreement.

Memorex claimed an outstanding amount for the original installation of the system of $336,444. National Databank cross-claimed for damages of $2,376,620, which included $2.2 million in estimated lost revenue.

It should be noted that National Databank was a start-up business at the time.

Claim

• claim by Memorex for amounts due and owing

• claim by National Databank for liquidated damages for late and incomplete delivery of the system

• claim by National Databank for additional expenses incurred in rectifying the system

• claim by National Databank for loss of revenue and loss of opportunity.

Finding

The Court found that Memorex failed to discharge its contractual obligations in regards to completion dates and had a responsibility to correctly perform testing procedures. National Databank provided insufficient evidence to satisfy the Court that the relevant technical issues were anything more than minor. And so, while it was awarded some damages, the amounts awarded were significantly less than what it had claimed.

Given the Court’s finding that the technical breaches were minor, the Court entered judgment for Memorex for the outstanding amount. Judgment was also awarded in favour of National Databank’s claim for liquidated damages of $57,787 for the delivery delay. A further $50,700 was awarded to National Databank for reasonable costs to rectify the system and a further $20,000 as an entitlement resulting from the loss of some users. National Databank’s claim for loss of revenue was disallowed.


• A Customer should exercise great caution when engaging suppliers for the delivery of IT systems, to avoid expending the time and costs associated with disputes, in particular where the Customer is a start-up business (as was National Databank).

• A Customer should be vigilant and expressly state in the contract which technical breaches it considers to be a serious or material, to alleviate the evidentiary burden of proving that a particular breach is a ‘material breach’ if a dispute arises.

• A Customer should consider expressly including the heads of damages it wishes to have recourse to in order to ‘fix’ its risk position and minimise the issues contended at dispute.

Hughes Aircraft Systems International v Airservices Australia [1997] FCA 558 (30 June 1997)

Facts

The customer, Airservices Australia, then known as The Civil Aviation Authority (Caa), commenced a two party tender process for the acquisition of an Air Traffic Control System as part of a project known as The Australian Advanced Air Traffic System (TaaaTs). After considerable formal meetings and correspondence, the CAA sought formal acceptance of the proposed tender evaluation criteria and processes from the two prospective tenderers, Hughes Aircraft Systems International (Hughes) and Thomson. Both Hughes and Thomson accepted the evaluation criteria and processes by signing a CAA letter dated 9 March 1993. Subsequently, the CAA issued a Request for Tender (RFT) to both tenderers which further detailed the evaluation criteria and tender process and required tenders to be submitted by a certain date. Relevantly, the evaluation criteria contained four major elements which were prioritised in order of importance. ‘Price and other Financial Issues’ was ranked second and ‘Australian Industry Involvement’ was ranked fourth.

The tender submitted by Hughes was approximately $37 million lower in price than the tender submitted by Thomson. Consequently, the Tender Evaluation Committee recommended that the Hughes tender be accepted by the CAA. However, the Board rejected this recommendation after considering the Australian Industry Involvement submissions of both tenderers and as a result, the project was awarded to Thomson. In doing so, the Board took into consideration price reductions and substantial improvements to the Australian Industry Involvement component of the tender, which were made by Thomson after the date for best and final offers. This was confirmed in a letter dated 24 December 1993 which stated that the price reductions as outlined in the 14 December letter would be accepted in calculating the contract price. Hughes was not made aware of this.

The CAA debriefed Hughes on 12 January 1994 on its tender and represented to Hughes that the price difference between the two tenders was only ‘a few percentage points’ in favour of Hughes, although at hearing it became apparent that the price difference was more substantial.

Hughes, the unsuccessful tenderer, commenced proceedings against the CAA, citing seven complaints, which were as follows:

(a) the CAA failed to evaluate the tenders in accordance with the methodology and priorities as set out in the 9 March letter and the RFT

(b) the CAA considered communications made by the Minister and treated those communications as directions to the Board

(c) the CAA failed to contract an independent auditor to verify that the tender process procedures were followed and that the evaluation was conducted fairly

(d) the CAA and other parties involved in the decision-making process had improper interests in, or affiliations with, Thomson or the Thomson bid

(e) the CAA failed to adhere to its confidentiality obligations and permitted disclosure of Hughes’ tender information to Thomson, and of both tenderers information to a government department and Ministers

(f) the CAA took account of the Thomson price reduction and Australian Industry Involvement variations submitted after the final submission of tender materials

(g) the CAA failed to conduct the tender evaluation fairly and in a manner that would ensure equal opportunity to Hughes and Thomson. The facts relied upon in establishing this were all of the facts relied upon to establish the other six complaints.


Claim

• damages for breaches of contract (or contracts)

• damages claim based on s 82 of the TPA in respect of contraventions of s 52 (misleading or deceptive conduct)

• damages for negligence

• equitable estoppel.

Finding

The Court held that there was a process contract between the CAA and each of the tenderers, the terms of which were contained in the RFT. The Court conceded that the starting point is that a ‘simple uncomplicated request for bids will generally be no more than an invitation to treat’ which does not give rise to any contractual obligations. However, the Court held that the prescriptive nature of the RFT document effectively gave rise to an expectation that the process contract would lead in defined circumstances to a principal contract. The Court qualified this finding by expressing that process contracts will arise on a case-by-case basis.

The terms of the process contract as expressed in the RFT governed the conduct of the tender before award in respect of the priorities and methodologies by which the CAA would award the project. The Court went further to state that the CAA had breached that contract, the principal breach being that CAA had ‘failed to evaluate the tenders in accordance with the priorities and methodology prescribed in the RFT’. The Court also held that the CAA had breached the process contract by failing to adhere to its confidentiality obligations and by accepting the late variation to Thomson’s successful tender.

Importantly, the Court also held that there were terms implied into the process contract. The Court held that there was an implied term, as a matter of fact, that the CAA would conduct its tender evaluation fairly, and that as a matter of law, a term should be implied into a tender process contract with a public body that the body would deal fairly with tenderers in the performance of the process contract. Given that the CAA breached the express terms of the process contract in respect of the tender evaluation criteria and methodology, the Court did not examine whether or not the CAA had breached these implied terms.

Finally, the Court held that the CAA had breached s 52 of the TPA by engaging in misleading or deceptive conduct. The CAA made representations to Hughes and Thomson regarding the tender evaluation criteria and methodology. Subsequently, the CAA failed to inform Hughes of its departure from those processes, which falsified the representations and thus amounted to misleading or deceptive conduct.


• If a Customer does not wish to be bound contractually in respect of the tender process, it should consider expressly stating in an RFT that no contractual relationship arises. A Customer should supplement such an express statement by carefully drafting tender documents to avoid the interpretation that a contract exists in relation to the tender process.

• A Customer should consider that it is possible to exclude specific contractual obligations for a process contract by expressly stating so. For example, a Customer may expressly state that it gives no undertaking that late or non-compliant tenders will or will not be considered.

• If a Customer is bound contractually in respect of the tender process, then it must ensure that all tenderers are treated fairly and in accordance with the process contract.

Technology Cases


Tradebanc International Pty Limited v Robert Ian Balsdon and Trade Winds Express Card Company Pty Limited [1996] FCA 1583 (25 June 1996)

Facts

Robert Ian Balsdon (Balsdon), the supplier, made an oral contract with Tradebanc International Pty Limited (Tradebanc), the customer in or about January 1993, whereby Balsdon agreed to write a computer program for Tradebanc. The supplier prepared a form of program but it was not in accordance with the specified requirements and was so totally inadequate as to be of no substantial use to the customer.

The customer paid $25,000 to the supplier for the software programme. This sum was paid in or about February 1994. The deficient copy of the computer program was delivered a short time after.

The software was examined by BizCare Australia Pty Limited (BizCare) and was found to be so inadequate that it was necessary to completely replace it with another system. BizCare concluded that the software supplied had such fundamental deficiencies that the most effective way to rectify the problem was to write a new program to meet the customer’s requirements.

Claim

• the customer sought restitution on the basis that there has been a total failure of consideration.

Finding

The computer program supplied was for all practical purposes useless to the customer. As such, the court found that a case was made out on restitutionary principles for repayment of the sum of $25,000 paid to the supplier.


• Payments should ideally be tied to milestones such as acceptance testing.

• A Customer should ensure that the contract provides that the Customer is not required to pay any fees or charges until the relevant supply has been completed in full by the Supplier (including, for example, having passed acceptance testing). That is, any payment plan should be ‘rear loaded’ as much as possible, with minimal payments required to be made by the Customer up front or in advance.

Westsub Discounts Pty Ltd v IDAPS Australia Ltd (1990) 17 IPR 185

Facts

Westsub Discounts Pty Ltd (westsub), the customer, engaged IDAPS Australia Ltd (IdaPs) to supply a system to record the hiring of video cassettes and perform accounting functions. In pre-contractual negotiations, Westsub highlighted its requirements that the system cater for up to 15 computer terminals and that there be a response time of no more than five seconds.

IDAPS submitted a contract which did not refer to Westsub’s requirements and purported to exclude reliance on representations and warranties which were not contained in the contract by including an ‘entire agreement’ clause. Although Westsub queried the omission of its requirements and IDAPS refused to modify the contract, Westsub entered into the contract nevertheless.

Westsub’s business grew substantially during the implementation period. IDAPS failed to implement the system required by Westsub, including by failing to provide the required response time with capacity for up to 15 computer terminals. Westsub also lost information during the process.

Claim


• damages for misleading or deceptive conduct.

Finding

The court rejected IDAPS’ assertion that the inadequate response time was a result of the growth of Westsub, citing that Westsub had informed IDAPS of expected growth but IDAPS had failed to inquire what the growth might be.

The claim for breach of contract failed because of the operation of the ‘entire agreement’ clause.

However, the court held that IDAPS’ statements amounted to misrepresentation in breach of s 52 of the TPA (misleading or deceptive conduct), and that the ‘entire agreement’ clause did not exclude the operation of that provision.


• Include all required specifications in the schedules to the contract, so as to avoid complex and expensive fact-finding expeditions that will be necessary to substantiate any claim based on pre-contractual negotiations.


Chippendale Printing Co Pty Limited v Spunaline Pty Limited & Anor [1985] FCA 345 (20 September 1985)

Facts

Chippendale Printing Co Pty Limited (Chippendale Printing), the customer, engaged Spunaline Pty Limited (spunaline) to design and supply a fully integrated computerised system which would furnish quotations for commercial print jobs. Mr Mealing, a director of Spunaline, who was known to Mr Gardiner, the Managing Director of Chippendale Printing, to be an expert in costing in the printing trade, made a representation that he possessed the expertise not only in commercial printing but also in computers. Additionally, Mr Mealing made a series of representations regarding the capabilities and functionality of the system.

Mr Gardiner made it expressly clear during a meeting that he was relying entirely on Mr Mealing to advise him as to the capacity and suitability of the proposed computer system, since Mr Gardiner’s relevant knowledge was limited to printing and he knew nothing about computers.

Following the provision of the hardware and software it became apparent that it was producing anomalous and incorrect answers.

Claim

• damages for breach of s 52 of TPA (now s 18 of the ACL)

• damages for breach of s 53 of TPA (now s 29 of the ACL).

Finding

The Court held that the supplied hardware and software failed to provide the capabilities that Spunaline had claimed it would.


• The Customer should consider expressly including in the contract any representations that a Supplier has made in respect of its expertise and resources.

GB Gas Holdings Limited v Accenture & Ors [2010] EWCA Civ 912 (Centrica v Accenture)

Facts

Accenture was engaged by GB, a subsidiary of Centrica, to design, supply, install and maintain a new IT system (the Jupiter System) which would deliver an automated billing system. The contract included a set of warranties, where in the event of a breach by Accenture, Accenture was obliged to take steps to endeavour to fix or alternatively to fund the necessary remedial work, up to a specified cap.

The contract required that in the event of such a breach, Centrica had to serve notice giving ‘such analysis and detail as reasonably practicable’ in relation to the alleged defects constituting the breach of warranty.

Following implementation of the Jupiter System, Centrica experienced significant problems with the billing system. Subsequently, Centrica issued the relevant notice to Accenture claiming there were breaches of warranty and requiring the defects to be remedied by Accenture. Accenture responded by denying that there were ‘fundamental defects’ (as was required) in the billing system and that in any event, the notice given by Centrica was ineffective to trigger Accenture’s obligations to remedy the defects. Consequently, Centrica brought the claim for damages.

Claim

Centrica claimed damages for breach of contract under multiple heads, including:

(a) excess charges that it had to pay to its gas suppliers, Centrica was required to pay its gas suppliers on an estimated basis as the billing system did not produce precise information regarding gas consumption by customers and therefore it was required to over-estimate

b) compensation paid to customers for the inconvenience and disruption caused by the problems with the billing system

(c) additional borrowing charges to deal with cash flow shortages caused by the problems with the billing system

(d) costs of wrongly chasing customer debts which were not actually due

(e) additional stationery costs related to correspondence with customers.

This case (and its appeal) was a preliminary hearing to determine whether the above losses could be claimed in principle, meaning such losses would still need to be established as a matter of fact at the full hearing. In order to fully appreciate the magnitude of the claim, the above losses were to be accompanied by several other heads of damage at the full hearing:

(a) employment of additional staff to try to deal with the rising volumes of complaining and dissatisfied customers

(b) writing-off of millions of pounds unbilled or late-billed gas and/or electricity

(c) cost of investigating and rectifying the problems with the billing system, including the cost of purchasing significantly more powerful hardware and third party software.

Technology Cases


Finding

The Court held that the losses listed on the previous page were likely consequences of the breach or losses flowing naturally and in the ordinary course of events as a result of the breach. Therefore, the Court held that the losses were neither indirect nor consequential, but direct damage and therefore recoverable given the context.

The Court interpreted the exclusion of liability clause quite narrowly and showed discomfort with the broad categories of loss, particularly indirect and consequential loss. This approach is entirely consistent with a number of other previous cases in the United Kingdom.

Accenture contended that there was no single ‘fundamental breach’ as defined and therefore it was not liable. Centrica on the other hand contended that a series of material breaches could be aggregated to form a ‘fundamental breach’. The original preliminary hearing agreed with Centrica’s contention and this view was supported by Longmore LJ upon appeal of the preliminary hearing.


• A Customer should bear in mind that the financial cap on exclusion of liability clauses may often be of more importance than the specific types of losses which are excluded, as the Court will be left to interpret the ambit of the excluded types of losses.

• As that is the case, a Customer should expressly state the types of losses which it wishes to be able to recover in the event of a breach of the contract.

• A Customer should come to a well-considered position on the financial cap, so as to understand how much risk it is willing to assume.

• A Customer should consider expressly defining what constitutes a fundamental breach of the contract and whether or not a series of material breaches will aggregate to form a fundamental breach of the contract.

BMS Computer Solutions v AB Agri [2010] EWHC 464 (Ch)

Facts

BMS Computer Solutions Limited (Bms) and AB Agri Limited (aB) entered into a licence agreement and a separate support agreement for packaged software. Both contracts were subsequently amended by a variation agreement which included a provision that the program licence will be extended to a UK-wide perpetual licence.

AB later terminated the support agreement, but asserted that its licence to use the software under the licence agreement was ‘perpetual’ and so should continue to be effective. BMS on the other hand argued that termination of the support agreement automatically terminated the licence agreement, which was consistent with the termination provisions in the licence agreement.

Claim

• BMS applied for summary judgment on the meaning of the contractual terms.

Finding

The Court held that by terminating the support agreement, AB had also terminated the licence agreement and therefore AB had no right to use the software.

The Court noted that the word ‘perpetual’ can carry different shades of meaning, including ‘never ending’ or ‘operating without limit of time’ (a licence of indefinite duration, but subject to any contractual provisions governing termination of the licence). In this case the Court found that it was the latter interpretation which applied.


• A Customer needs to carefully review and consider all of the terms and conditions of a proposed contract and familiarise itself with the practical ramifications of such provisions.

• A Customer should bear in mind that separate contracts complicate matters and give the Supplier an opportunity to ‘ring-fence’ its liability on an agreement-by-agreement basis.

• If a Customer decides to use a perpetual software licence and wishes for it to survive termination, this should be specified in the contract (generally in the ‘survival’ boilerplate provision).


St Albans City and District Council v International Computers Limited [1995] FSR 686; [1997] FSR 251

Facts

St Albans City and District Council (Council), the customer, required a computer system that would enable it to fix the community charge figures by the end of February 1990, before the community charge legislation began on 1 April 1990. Following the Invitation to Tender, International Computers Limited was engaged. One item which was to be delivered well in advance of February 1990 was software designed to create a register of charge-payers. The Council used this software in December 1989 to provide population figures on which it then based the community charge rates. The software was faulty, which caused the population figures to be overstated and caused the community charge to be set too low. This led to a shortfall in the Council’s income for 1990 of £484,000 (receipts shortfall). The Council had to pay its local county council, by way of precept, an additional £1,795,000, which with various adjustments came to £685,000 (unfunded payments).

The contract included a clause in the supplier’s favour disclaiming its liability for ‘any indirect or consequential loss or loss of business, or loss of profits sustained by the customer’ and also limiting its liability to losses not within those categories to £100,000.

Claim


• liability limitation unreasonable under Unfair Contract Terms Act 1977.

Finding

At first instance, after allowing for interest for two years and a slight arithmetical error, the total damages awarded by the Court came to £1,314,846. The Court made no allowance for the fact that the receipts shortfall was recouped the following year.

The Court of Appeal decided that such allowance should have been made and only awarded the unfunded payments, although interest on the receipts shortfall for one year was allowed. The Council’s damages were therefore reduced to £758,509.

As to the exclusion of liability clause, it was held that the cap failed the reasonableness test which was applicable under the Unfair Contract Terms Act 1977. Based on the Court’s reasoning, it seems as though it treated the loss as direct loss, as the Court’s concern was with the cap (which applied to direct losses) as opposed to categorising or attempting to categorise the loss as either consequential or direct.


• A Customer should consider expressly stating in a contract the types of losses which it wishes to be able to recover in the event of a breach by the Supplier.

• This will avoid a silent contract where reliance is on the Court to determine the types of losses which the Customer will be able to recover, in accordance with the principles of Hadley v Baxendale.

• A Customer should carefully review the scope of consequential losses which are excluded from recovery as well as any relevant financial cap, so it is aware of the level of risk it is assuming.

The Salvage Association v CAP Financial Services Ltd [1995] FSR 654

Facts

The Salvage Association, a not for profit marine surveying company, engaged CAP Financial Services Ltd (CaP), a software developer, to computerise the Salvage Association’s accounting system.

The development and implementation of the system led to several errors and inadequacies of functionality of the system.

Relevantly, the contract included an exclusion of liability clause which excluded CAP’s liability for any ‘indirect or consequential losses, damage, injury, costs, expense or loss of any kind whatsoever, including economic loss such as loss of production, loss of profits, or of contracts’.

The Salvage Association terminated the contract and engaged another organisation to design and implement a replacement system from scratch.

Claim

• damages for breach of contract.

Finding

The Court drew a distinction between damages for wasted expenditure and damages for loss of profits and held that the plaintiff could recover damages for wasted expenditure but not for loss of profits. The Court justified this on the basis that a plaintiff must elect between the two heads of damage, namely damages for wasted expenditure and damages for loss of profit. In this case, The Salvage Association had elected damages for wasted expenditure as it incurred further expenses engaging CAP’s replacement.

The Court did not deal with the exclusion of liability clause and whether damages for loss of profits came within the exclusion. However, the wording of the clause indicates the damages for loss of profit is merely an example of a type of consequential loss and does not necessarily preclude all loss of profits from being some form of a direct loss.


• A Customer who requests extra work to be done under the contract should consider the effect this will have on time delays. A Customer may lose the right to insist upon strict adherence to the time frame stipulated in the contract where it has asked for more work than was stipulated in the contract.

• A Customer may consider pursuing commercial terms where loss of profits is expressly stated in the contract as being recoverable by the Customer in the event of a breach by the Supplier.

• A Customer should carefully review the scope of consequential losses which are excluded from recovery as well as any relevant financial cap, so that it is aware of the level of risk it is assuming.

• A Customer should also consider whether pursuing one remedy will preclude another.

Technology Cases

| Maddocks Technology Procurement Handbook 56


michael argy | Special Counsel

Tel 61 2 9291 6309 | [email protected]

Michael is a Special Counsel in the firm’s TMT team. He has more than 10 years’ experience as a commercial lawyer, providing highly specialised advice to clients on intellectual property issues (with particular emphasis on issues arising from digital exploitation of copyright materials), content acquisition and distribution (particularly for online and mobile content services), and information and communications technology transactions. Before joining Maddocks, Michael worked with Gilbert + Tobin for more than seven years (including the last two years as Special Counsel), then ran his own practice for two years. He has also worked as a senior in-house lawyer for Nine Network Australia and as a senior legal policy adviser to the then Federal Attorney-General, Daryl Williams AM QC.

Jeff Goodall | Partner


Jeff is a partner in Maddocks’ Commercial Group. He has more than 15 years’ experience, gained working at several well-respected firms in Sydney (Freehills and Mallesons) and London.

Jeff specialises in and advises on technology and business process outsourcings, hardware procurement and support, software licensing and support, telecommunications services, e-commerce, data protection and privacy, digital advertising and marketing, commercial intellectual property issues, general procurement matters (including tendering processes) and general commercial contracts.

As well as his legal qualifications, Jeff holds a Bachelor of Electrical Engineering from the University of New South Wales and accordingly has a deep technical understanding of the information technology and telecommunications industries.

Jeff is widely recognised by clients and his peers as one of Australia’s leading IT, Telecommunications and Outsourcing lawyers, having been ranked in all of the following trusted legal directories: Chambers Asia Pacific (as published in The Australian), PLC Which Lawyer, Legal 500 Asia Pacific, Who’s Who Legal and Best Lawyers (as published in the Australian Financial Review). Clients praise Jeff’s ‘very strong commercial focus’ – Chambers Asia Pacific 2012 Edition TMT section (Technology, Media, Telecoms).

Brendan Coady | Partner


Brendan has more than 15 years’ experience as a commercial lawyer with a particular focus on technology, telecommunications and intellectual property. Brendan has advised telecommunications companies, technology developers, communications infrastructure companies and government agencies on a wide variety of commercial and regulatory matters. Prior to joining Maddocks, Brendan was a partner at Gilbert + Tobin for eight years.

Brendan was named as the winner of the Telecommunications Award for Australia at the International Law Office Client Choice Awards for 2012 and 2013. He is also recognised as a leading lawyer in the areas of TMT and intellectual property by legal directories, including Legal 500 Asia Pacific and Chambers Asia Pacific. Chambers Asia Pacific 2012 describes him as a ‘key player’ in the IP market. Brendan is praised for his ability to ‘think outside the square and come up with unique approaches’ – Legal 500 Asia Pacific, 2015. He is ‘incredibly pragmatic, and can guide us through the commercial side of transactions whilst getting the legal side correct’ – Chambers Asia Pacific, 2012. ‘He understood the overall direction of our company’ – Chambers Asia, 2011 edition.

aBOuT THe auTHORs

About The Authors

| Maddocks Technology Procurement Handbook 58

scott mannix | Special Counsel


Scott is a Special Counsel in the Commercial team, with particular experience in commercial transactions for government bodies. Scott has more than 20 years’ experience, including 12 years’ in-house experience within government. He has acted on numerous complex government procurements and divestments, in private practice as well as in-house, providing both legal and probity advice on transactions. From his government in-house experience, Scott has a deep understanding of procurement guidelines and policy, the interface between legal and probity risks and the implementation issues that regularly impact major transactions.

Ooma khurana | Senior Associate


Ooma has extensive experience advising both public and private sector clients over many years, including four years working in-house at the Australian Securities and Investments Commission. Ooma specialises in technology procurements, including technology and services outsourcing, hardware procurement, software licensing, support and hosting arrangements, as well as general commercial contracting. Her areas of expertise also include corporate governance, regulatory compliance, statutory interpretation and administrative law and she regularly advises on competition and consumer law issues.

Ooma has particular familiarity with the regulatory framework that governs public sector procurement in NSW, including the ICT Services Scheme and the Procure IT framework. She regularly advises NSW State Government departments on all aspects of their procurement of large-scale technology and technology solutions.

sonia sharma | Senior Associate


Sonia is a Senior Associate who specialises in telecommunications, intellectual property, technology, outsourcing and general commercial matters. Sonia has acted for a number of well-known clients in the TMT sector. She has also undertaken secondments to several TMT sector clients, giving her valuable first-hand knowledge of client needs. She was shortlisted as a finalist in the Young Achiever category at the 2011 Communications Alliance and CommsDay Awards for being proactive and delivering tangible benefits to the communications industry.

emilie williams | Senior Associate


Emilie advises on a broad range of commercial, technology, telecommunications and intellectual property matters. She has advised clients from the telecommunications, film and television sectors. She has spent time on secondment at Samsung, where she advised on general commercial issues, and at Telstra, where she advised on the application of legislative instruments, prepared responses and submissions to the Telecommunications Industry Ombudsman and undertook compliance work. Prior to joining Maddocks, Emilie worked as a lawyer at Gilbert + Tobin for three years.

will shiel | Senior Associate


Will is a Senior Associate in Maddocks’ Commercial Group. He advises on a broad range of commercial and technology matters, with a particular focus on the provision of highly specialised intellectual property advice. His clients have included governmental agencies and blue chip private companies. After graduating from the University of Cambridge, Will trained at Allens Linklaters prior to moving to Gilbert + Tobin in Sydney. Before joining Maddocks, Will worked at Clifford Chance in London.

About The Authors


Brendan CoadyPartner61 2 9291 [email protected]

Peter FrancisPartner61 3 9258 [email protected]

Jeff GoodallPartner61 2 9291 [email protected]

Robert GregoryPartner61 3 9258 [email protected]

kevin PhelanPartner61 3 9258 [email protected]

simonetta astolfiPartner61 2 6120 [email protected]

Jeff derixPartner61 2 6120 [email protected]

James smartPartner61 3 9258 [email protected]

michael argyspecial Counsel61 2 9291 [email protected]

Philippa Horespecial Counsel61 3 9258 [email protected]

dominic keeganspecial Counsel61 3 9258 [email protected]

michelle mcCorkellsenior associate61 3 9258 [email protected]

sean Fieldsenior associate61 3 9258 [email protected]

Ooma khuranasenior associate61 2 9291 [email protected]

sonia sharmasenior associate61 2 9291 [email protected]

andrew whitesidespecial Counsel61 3 9258 [email protected]

emilie williamssenior associate61 2 9291 [email protected]

will shielsenior associate61 2 9291 [email protected]

maddOCks TeCHnOlOGY, medIa & TeleCOmmunICaTIOns Team

Maddocks Technology, Media & Telecommunications Team

Melbourne140 William StreetMelbourne VIC 3000Telephone 61 3 9258 3555Facsimile 61 3 9258 3666

www.maddocks.com.au

SydneyAngel Place | 123 Pitt StreetSydney NSW 2000Telephone 61 2 9291 6100Facsimile 61 2 9221 0872

Canberra40 Macquarie StreetBarton ACT 2600Telephone 61 2 6120 4800Facsimile 61 2 6230 1479

[email protected]

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