Acc Itpec Letter And Discussion Points Re Ali Principles Of The Law Of Software Contracts 5 11 09x

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This letter from the IT, Privacy & eCommerce committee of the American Corporate Counsel Association and their concerns with the new American Law Institute's Principles of the Law of Software Contracts. These Principles could dramatically alter the law of software contracts. For more information, see my blog: http://lawandlifesiliconvalley.com/blog/?p=240

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Acc Itpec Letter And Discussion Points Re Ali Principles Of The Law Of Software Contracts 5 11 09x

  1. 1. Association of Corporate Counsel IT, Privacy & eCommerce Committee May 11, 2009 Professor Robert A. Hillman Reporter Cornell Law School 220 Myron Taylor Hall Ithica, NY 14853-4901 Email: rah16@cornell.edu Dean Maureen A. O’Rourke Boston University School of Law 765 Commonwealth Avenue Room 478 Boston, MA 02215-1401 Email: morourke@bu.edu Re: ALI Principles of the Law of Software Contracts Dear Professor Hillman and Dean O’Rourke: The Association of Corporate Counsel’s IT, Privacy & eCommerce Committee1 (“ITPEC”) expresses our sincere appreciation to the American Law Institute for agreeing to schedule a call with us to discuss the ALI’s draft Principles of Software Contracts. We believe we have vital input to offer. Our in-house counsel members negotiate and adjudicate software licenses of all types and sizes on behalf of licensees and licensors. We believe that the Principles would benefit, and be more persuasive, as a result of broader involvement and comment by in-house counsel. After review of the Principles and as further described in the attached discussion topics, the ITPEC believes that the marketplace for software in the United States would suffer if many Sections of the Principles are adopted in their current form. We believe that there are helpful aspects of the Principles. Many Sections of the Principles seek to recite existing law in a convenient, single source. The ITPEC members representing software licensees and licensors are concerned, however, that many Sections would create uncertainty, introduce cost and limit flexibility for businesses and consumers without a clear benefit. The Principles also would mandate consumer- oriented protections for business licensees that would negatively impact America’s share of the competitive $221 billion market for worldwide enterprise software as well as software innovation and development in the United States. 1 The ITPEC is a Committee of over 4,000 in-house lawyers who practice IT, privacy or ecommerce law.
  2. 2. We are informed that the ALI seeks to approve the Principles on May 19th. Based on our review of the Principles and the changes they would make to existing law, we believe that this time frame is insufficient. Taking into account the magnitude and difficulty of the ALI’s stated effort “to clarify and unify the law of software transactions” and the harmful consequences of missing the mark to a key US industry, the ITPEC urges the ALI to reserve additional time to consider carefully the views of lawyers representing companies that license software. We request that the ALI extend the approval date and publish free of charge the Principles on the Internet to permit further review and comment by the ITPEC and others. We hope the ALI will consider seriously our request for additional time and greater transparency. In any event we look forward to discussing the Principles with you. Yours truly, ACC IT, Privacy & eCommerce Committee Cc: Professor Lance Liebman, Director Attachment 2
  3. 3. ACC IT, Privacy & eCommerce Committee (“ITPEC”) Discussion Topics for ALI Principles of Software Contracts The Association of Corporate Counsel’s IT, Privacy & eCommerce Committee (“ITPEC”) expresses our sincere appreciation to the ALI for agreeing to schedule a call with us to discuss the ALI’s draft Principles of Software Contracts. In particular we thank Professor Robert A. Hillman, the Reporter for the Principles, and Dean Maureen A. O’Rourke, the Associate Reporter for their willingness to schedule a call to speak with us and to receive our comments to the Principles. Although we understand that the Principles currently are set to be reviewed and potentially approved by the ALI during its annual meeting later this month on May 18, 19 and 20th, the Principles came to the attention of the ITPEC, thanks to a presentation to the ITPEC by Mark Radcliffe of DLA Piper, only in early April 2009. The ITPEC quickly mobilized a subcommittee to review the Principles (the “subcommittee”). By late April, the subcommittee reviewed the Principles and discussed a draft of this document during ITPEC’s monthly call on May 7th. Although the members of the subcommittee were able to review the Principles thanks to the generosity of the ALI, unfortunately many ITPEC members and representatives of other licensors and licensees that will be impacted by the Principles have not read the Principles and may have no knowledge of their existence. In addition, the Principles do not appear to have received sufficient public scrutiny commensurate with their significant potential impact, perhaps in part because the Principles appear not to have been widely publicized and as a result of the $40 fee to access a draft of the Principles. The ITPEC is concerned that the process by which the Principles were drafted was not sufficiently transparent to the individuals and entities that will be impacted by them. In particular, the mainstream views of in-house counsel have not been sufficiently represented. It appears that few members of the ALI team who drafted the Principles are in-house counsel representing licensees or licensors. ITPEC believes that in-house counsel who routinely negotiate software licenses of all types and sizes have critical practical input to offer that has not yet been sufficiently considered. The ITPEC urges the ALI to extend the deadline for comment. The ITPEC also urges the ALI to post the Principles on the Internet for comment and without charge. This will enable the ALI to review recommendations from a broad cross-section of licensees and licensors that have experience with these license agreements, and from the public at large. This would be consistent with recent positive trends towards transparency and public collaboration in software and information technology. Indeed, these trends are reflected throughout the Principles, which require such publication on the Internet of software licenses in various instances. The goal of the Principles to “seek to clarify and unify the law of software transactions” (on Page 2) is both ambitious and, as recent history has shown in the unsuccessful efforts 3
  4. 4. to draft UCC Article 2B or to adopt UCITA as an industry standard, challenging. ITPEC acknowledges that in an effort to achieve this goal the ALI has undertaken a significant effort in drafting the nearly 300 page Principles. In view of the magnitude and difficulty of this effort and the harmful consequences of missing the mark on a key industry within the United States, the ITPEC reiterates its hope that ALI will reserve additional time to consider the mainstream views of lawyers representing companies that license software. ITPEC believes that there are helpful aspects of the Principles. Many Sections of the Principles are recitations of existing law and it is helpful to consolidate such recitations in a single source. We also thank the ALI for clarifying, as a result of informal preliminary discussions to date we had with the ALI, that e-commerce is excluded from the scope of the Principles. We similarly thank the ALI for attempting to address our concern that the automated disablement provision, which requires among other things a court order in each case of disablement, would be onerous to apply, among others, in the ASP context or the context of sophisticated businesses which have contracted an arrangement which would allow automated disablement under carefully negotiated conditions. We remain concerned, however, that other aspects of the Principles may create uncertainty, encourage litigation, and increase costs without a significant benefit. In many areas, the Principles would impose dramatic changes to established law which thus far has enabled companies to conduct business in a predictable manner in a free market. This predictability is important to the marketplace and should not be upset unless unforeseen changes are justified by a clear and demonstrated need. Many changes proposed by the Principles, however, are overly prescriptive and mandate corrections to perceived problems in existing law where ITPEC practitioners representing both licensees and licensors believe no such problems currently exist. The Principles mandate consumer-oriented protections for sophisticated business licensees. These are unnecessary in large segments of the marketplace where some corporate licensees currently may possess more leverage than their licensors, particularly in the case of licensors which are small businesses. The Principles’ prescriptive protections for business licensees, as well as consumers, would result in higher software license fees or the costs of the protections may be internalized by licensors thereby reducing the funds available to US licensors to invest in new research and development. The ITPEC is not aware of any major call for these costly and prescriptive protections from licensees, particularly business licensees. The adjudication bound to result from disputes over these protective provisions, many of which are confusing, overly broad, and unduly burdensome, also would increase costs to licensors. The net result would be a drag on the competitiveness of the US software marketplace and industry. ITPEC practitioners representing smaller licensors assert that they do not possess leverage in negotiating against large corporate consumers and that Principles would further tip the balance of negotiations in a manner that smaller licensors are not well equipped to bear. Low barriers to entry have enabled many such small software companies to emerge in the past two decades within the United States. These small 4
  5. 5. businesses often lack negotiation leverage with many of the large corporate licensees to which they sell. These businesses may lack the resources to absorb the costs the proposed Principles will impose on them. As requested by the ALI, set forth below are more detailed written comments illustrating our concerns in greater detail and targeting roughly a dozen key Sections of the Principles to facilitate our upcoming scheduled discussion. The format is structured as questions raised by the pertinent Sections of the Principles followed by the recommendations of the ITPEC subcommittee in brackets. The subcommittee’s recommendations are approved by the broader ITPEC. 1. General Comment Should the Principles add a Section stating that courts should consider the context of an agreement before applying the Principles to override any provision agreed to by the parties? Contextual factors to be considered in such an analysis may include whether the licensee is a consumer or is a sophisticated business, the nature of the software, the amount at stake, whether the software is open source or commercial, the channel through which the software is sourced, each party’s expectations and knowledge of the other party’s expectations, and other factors that may arise. Rather than taking this approach, the Principles use the concept of a “standard form of transfer of generally available software” to distinguish situations in which extra consumer-like protection is mandated. This “standard form of transfer of generally available software” is defined as “a transfer using a standard form of (1) a small number of copies of software to an end user; or (2) the right to access software to a small number of end users if the software is generally available to the public under substantially the same standard terms” (see Section 1.01(l)). This definition thereby extends consumer like protections to both large and small businesses. [The subcommittee recommends strongly against using the “standard form” approach or imposing generally new mandatory legal protections for licensees. At a minimum, the subcommittee recommends limiting the scope of the Principles’ consumer-oriented “standard form” protections to consumers, and not businesses. The subcommittee and the ITPEC which supports the subcommittee’s recommendations are composed of in-house counsel vigorously representing businesses of different sizes. Businesses are not in need of the consumer-like protections that the Principles impose generally, or the further heightened “standard form” protections that would apply whenever, for example, businesses acquire a “small number” of copies of software. In a free and competitive market, sophisticated business licensees negotiate the important license provisions they require or, if unavailable, find alternative solutions. Consumers act collectively to reject undesirable license terms; for example, in response to consumer criticism Facebook recently rolled back changes to its terms of use and Google recently 5
  6. 6. narrowed the scope of its use of information obtained from consumers licensing its Chrome browser.2 We believe the newly protective approach of the Principles would create uncertainty, generate litigation, and impose unnecessary transaction costs and costly mandatory remedies. The unintended consequence of the revisions to existing law imposed by the Principles would be to increase the cost of software licensing in the United States, thereby weakening licensees, licensors and the competitiveness of the US market. The subcommittee urges the ALI not to create new laws to protect licensees, including in particular business licensees, and to reject the “standard form” approach. The subcommittee recommends including a Section within the Principles which advises courts to consider the context of an agreement before applying the Principles to override any provision agreed to by the parties. The subcommittee reiterates its appreciation to the Reporter for clarifying that the Principles do not apply to business to business ecommerce or ecommerce web sites such as Amazon where the primary purpose of the interaction is to enter transactions as opposed to licensing software.] 2. Section 1.14 Forum-Selection Clauses This Section provides that parties may not enter into an enforceable agreement to choose an exclusive forum that is “unfair or unreasonable.” Comment a notes that “courts should be more willing to enforce as fair and reasonable negotiated forum-selection clauses between sophisticated businesses.” Should the Principles to address choice of forum clauses at all? [The subcommittee believes that Section 1.14 is not necessary or advisable. The Principles state with respect to the Topic of the Principles in which Section 1.14 is located, “Topic 3 also raises the question dealt with throughout these Principles, namely, is there anything to add to already existing law . . . .” (page 45). There are laws that already adequately address forum selection. In addition, it is not advisable for the Principles to change the choice of forum rules, particularly in the context of commercial, non-consumer software transactions. The commercial certainty associated with forum-selection clauses in commercial contracts between businesses in a free market is important and should not be subject to post-hoc litigation arguments regarding whether the clause was “unfair” or “unreasonable.” It is not advisable for one set of forum selection rules to apply only to software transactions while all other transactions would presumably continue to be governed by longstanding forum selection laws. In a complex sale, where a corporate customer is acquiring hardware, software and associated services, the Principles would create uncertainty in the law regarding choice of forum where 2 See Rob Pegoraro, Washington Post, “Facebook Retreats on Terms of Service,” dated February 18, 2009, http://voices.washingtonpost.com/fasterforward/2009/02/facebook_retreats_on_terms_of.html; Ellen Nakashima, Washington Post, “Google Promises Privacy Fixes in Its Chrome Browser,” dated September 9, 2008, http://www.washingtonpost.com/wp-dyn/content/article/2008/09/08/AR2008090802472.html. 6
  7. 7. such uncertainty currently does not exist. The same comment applies generally to the other Sections of the Principles which would modify existing law.] 3. Section 2.02 Standard-Form Transfers of Generally Available Software; Enforcement of the Standard Form This Section provides, among others, that in order for a transfer of software to qualify as being performed pursuant to a “standard-form transfer” (see “General Comment,” Point 1 above for discussion of standard-form transfer), the software license must be accessible prior to initiation of the transfer, as in publicly posted by the licensor on the Internet (see (c)(1)). Should this be the case? Subsection (e) further places the burden of establishing the conditions for a standard-form transfer on the licensor. The effect of the transfer not qualifying as a “standard-form transfer” is unclear; clause (e) seems to imply that in such cases the agreement may not be enforceable. [The subcommittee recommends strongly against using the “standard-form transfer” approach for the reasons stated in Point 1 above. The subcommittee also reiterates that this Section is not necessary to protect business licensees, which are sophisticated customers and may possess more leverage than their licensors, as well as consumer licensees, who have shown in important cases that they are able to convince licensors to modify undesirable terms. In addition, the effect of a licensor not satisfying the requirements for a “standard-form transfer” when required is unclear. The specific requirement that businesses post license terms on the Internet or otherwise make them available is unnecessarily prescriptive of licensor business practices in both the commercial and retail contexts. The requirement should not be construed to require licensors to post pricing terms or multiple versions of the same agreement. The minimum mandatory remedy of a retail consumer licensee who obtains software and decides that the license terms are too onerous should be no more than a right to return the software for a refund within a reasonable period of time.] 4. Section 2.03 Contract Modification The licensor may not modify a standard-form agreement by notifying the transferee, even if the transferee agrees that notice alone is sufficient and no further assent is required (Clause (d)). “Fresh assent” is required in respect of each modification. Should this be the case? Is there a clear or compelling reason why in a free market parties should be prohibited from agreeing upon such an approach? What would the implication be for a large corporate licensee who does not wish to be bothered with signing serial amendments, and whose license agreement specifies that modifications are deemed accepted if the licensee pays its next year’s renewal fees after notification? What would the implications be for Internet organizations that service millions of customers? Do millions of 7
  8. 8. customers desire to click their “fresh assent” in response to every change in terms to every Internet software service to which they subscribe? [This mandatory protection is not advisable in the context of business transactions and it should not be imposed as a matter of law in the consumer context. Software by its nature evolves in ways which may require changes to license terms, which may make this requirement to get “fresh assent” onerous. The need for the “fresh assent” protection is lessened by the free market, the press, privacy advocates, bloggers and government agencies which act as a check on software providers who behave sub-optimally. Whether it is a good business practice in the case of some retail software transactions to require “opt in” responses to notice of contract changes, it should not be required by law. With the press and public and private watchdogs on their side, consumers have acted collectively to reject onerous changes to license provisions where consumers care about the revisions, such as in the examples of the Facebook terms of use and the Google browser cited above. In addition, the Principles restate many other longstanding remedies available to consumer and business licensees such as the ability to challenge contract provisions on public policy grounds (Section 1.10) and unconscionability grounds (Section 1.11) that render this overly prescriptive provision unnecessary. The subcommittee also observes that licensed software may include the software of other providers, which would put the licensor of such software in the difficult position of having to obtain “fresh assent” to any changes in such third party licenses. The “fresh assent” protection would be costly to implement, especially for the many small businesses that exist in the software industry, because the mechanism to obtain “fresh assent” would involve the development of IT and business processes.] 5. Section 3.02 Express Quality Warranties Section 3.02(b)(i) provides that an “affirmation of fact or promise made by the transferor to the transferee, including by advertising or by a record packaged with or accompanying the software, that relates to the software and on which a reasonable transferee could rely creates an express warranty that the software will conform to the affirmation of fact or promise.” This provision applies to all software contracts, not only standard-form contacts. This provision does not require reliance on a statement or a connection to the negotiation. Instead, it broadens the “basis of the bargain” test under UCC 2-313, which had provided that statements that become a “basis of the bargain” in negotiation are treated as express warranties. Is this new approach to express warranties necessary or advisable, particularly in view of Sections 3.06 (“Disclaimer of Warranties”) and 4.01 (“Contractual Modification or Limitation of Remedy”) described below? [The subcommittee believes it would be a mistake to change existing law regarding express warranties solely for software products. The “basis of the bargain” test embodied in the law of express warranties is the result of an evolution of over a hundred years of judicial experience in adjudicating disputes 8
  9. 9. to reach a just result. It enables buyers and sellers today to conduct business with confidence and predictability. The subcommittee does not believe there is any aspect unique to software, or history of unjust results in court cases involving software, that would necessitate the special express warranty rules for software products that are proposed by the Principles. The subcommittee believes the proposed warranty may encourage litigation, thereby increasing costs to licensees and licensors. Courts may struggle with the new approach to express warranties of the Principles, such as whether a reasonable transferee could have reasonably relied on particular representations. This Section 3.02 seeks to move existing law to the result that a reasonable transferee may rely on any statement made by a licensor outside the contract as if it were written into the contract as an express warranty. This result, combined with the weakening of the effect of licensor disclaimers by Sections 3.06 (“Disclaimer of Express and Implied Warranties”) and 4.01 (“Contractual Modification or Limitation of Remedy”), could enable a licensee to bootstrap an extra-contractual statement which turns out to not be the case into a breach of express warranty for which the licensor will assume anywhere from significant mandatory minimum liability to unlimited liability. The subcommittee asks what is special about software that creates a clear and compelling need to direct courts to look outside the contract in a way that is different from buying another product, such as content, computer hardware, pharmaceuticals, autos or other items? If the ALI believes that principles of contract law should be changed more broadly to benefit buyers generally, the Principles of the Law of Software Contracts are not the appropriate forum to effect such a change.] 6. Section 3.05 Other Implied Warranties Should the Principles impose a non-disclaimable warranty of no material hidden defect for all forms of software contracts, as follows?: “A transferor that receives money or a right to payment of a monetary obligation in exchange for the software warrants to any party in the normal chain of distribution that the software contains no material hidden defects of which the transferor was aware at the time of the transfer. This warranty may not be excluded. In addition, this warranty does not displace an action for misrepresentation or its remedies.” The Principles explain that “[a] defect exists if the software is not fit for its ordinary purposes” and that “[n]egligence on the part of transferors in failing to discover defects is not covered by the Section and is the subject of products- liability law.” The Principles state, “[s]oftware that requires major workaround to achieve contract-promised functionality and causes long periods of downtime or never achieves promised functionality ordinarily would constitute a material defect.” The Principles state that this new, non-disclaimable warranty does not replace a separate claim for misrepresentation. In what ways is this existing legal remedy inadequate? What does it mean for an institution to be “aware” of a 9
  10. 10. hidden defect? What does “defect” mean, particularly in the context of software in which there are tradeoffs between different legitimate development approaches that could, with the benefit of hindsight, be recast as defects?3 The need to make such design tradeoffs is present, for example, in the context of security design, design of software for handheld devices with system limitations, as well as other areas. What is unique about software licensing that it should require a non- disclaimable warranty of quality where other products in other industry have not needed such a warranty? Why are large enterprise licensees in particular incapable of negotiating for sufficient warranty protection in a free market? [The subcommittee believes that as drafted, the non-disclaimable warranty of no material hidden defects would present uncertainty for which the subcommittee does not see a clear justification. The subcommittee also is unclear as to why this new warranty is necessary in view of the availability to licensee of the remedies of misrepresentation and fraud in the inducement, and as to how the scope of this new warranty obligation would compare with such claims under existing law. The Principles do not specify a duration for this non-disclaimable, implied warranty. The Magnuson-Moss Warranty Act does not require repairs or replacements in perpetuity to protect consumers.4 Why should the law of software contracts require more than that? Why should sophisticated businesses not be allowed to disclaim this warranty through good faith bargaining in a free market? The subcommittee would like the ALI to clarify how a claim for breach of the proposed warranty of no material hidden defect compares to a claim of misrepresentation or fraud in the inducement. How does this new warranty apply in the case of development of software in which the licensee may expect there could be material defects, such as in beta or early development software, which is a key part of software innovation in the industry, or in the development of software in which there are tradeoffs between different legitimate design approaches that could, as noted above, be recast as “defects” with the benefit of hindsight? The warranty of no material hidden defect also appears to overlap with the implied warranty of merchantability because in many cases software with a material defect would not be fit for the ordinary purpose for which it is to be used. The subcommittee is concerned that this new warranty raises these and other questions which have not been sufficiently explained by the Principles. The subcommittee does not see any particular aspect of software necessitates this special, non-waivable warranty even in a business contract setting, particularly when long-standing commercial law, as reflected in the UCC, permits disclaimers of implied warranties provided sufficient notice is given. 3 Software development is often collaborative, with different pieces of a product developed by different departments located in different countries. Over time, new features and patches are added, which is why software has been compared to a “hand-woven rug,” with unavoidable and hidden imperfections. 4 It requires manufacturers to make parts and manuals available for a period of seven years from the last sale date. 10
  11. 11. The subcommittee believes that the lack of certainty or clear and compelling need for this new warranty, as drafted, will generate unnecessary costs which can be avoided by ongoing reliance on a well-developed body of law and existing remedies. We repeat the theme that if the ALI believes that principles of contract law should be changed more broadly to benefit buyers, the Principles of the Law of Software Contracts are not the appropriate forum to effect such a change.] 7. Sections 3.01 Implied Indemnification Against Infringement and 3.05 Other Implied Warranties Some of the subcommittee members noted that the scope of both of these sections is limited to agreements involving software for which the transferor receives money or the right to payment of a monetary instrument, essentially carving out software provided free-of-charge. The overview to Part 3 explains that open source software warrants a different approach, because it is created by dispersed developers coming together, who may have little control over the quality of the end product or insight into what IP rights may be infringed. Some subcommittee members support this view and the resulting treatment of open source software in the Principles. Other subcommittee members assert that this may be true for some open source software, but it is not true for large open source projects sponsored by large commercial entities who stand to benefit by charging for related support and services. [The subcommittee unanimously shares the Principles’ goals of ensuring that individuals who contribute to open source projects are not subject to these provisions. The subcommittee is split, however, as to whether these provisions should not apply to large companies. Some in the subcommittee agree with the ALI’s approach, and others disagree. Those who disagree assert that large corporate sponsors of software development projects, with substantial knowledge and control over the end product, and which distribute the software free-of-charge while seeking payment for related services, should not be able to avoid application of these provisions. Those who oppose the ALI’s treatment of open source software also believe that the net result is that commercial competitors would be treated differently under the Principles based solely on their business model. Those who support the ALI’s treatment believe that it justifiably reflects the business realities and public expectations regarding open source software, and that selectively requiring indemnification against infringement and other implied warranties by some open source licensors but not others would be unfair, impractical and disruptive to the open source community. Some subcommittee members also believe that contracts between commercial entities should be the result of good faith bargaining and terms, such as indemnification, should not be implied as a matter of law. These members of the subcommittee note that the Principles permit indemnification to be modified or deleted if done so conspicuously in writing, but that should not be necessary.] 11
  12. 12. 8. Section 3.06 Disclaimer of Express and Implied Warranties A. The Section, which applies to all forms of software contracts and not only standard form contracts, states “[a] statement intending to exclude or modify an express warranty is unenforceable if a reasonable transferee would not expect the exclusion or modification” (see clause (a)). The comments explain, “For example, a disclaimer may be unexpected notwithstanding its conspicuousness if the warranty is clear and definitive. If a contract states definitively that software is “compatible with Windows Vista,” but also disclaims all express and implied warranties, a reasonable transferee would not expect the disclaimer to apply to the statement and the disclaimer falls out of the contract” (page 200). Is this a fair summary of what the law is or should be? [Although the subcommittee has not had time to independently research this issue, case law cited by the Principles indicates that the Section overstates the scope of express warranties. Case law cited by the Principles indicates that parties to a software license can negotiate an enforceable disclaimer of express warranties and that the test of the enforceability of the disclaimer in the context of a particular statement is not whether an objective “reasonable transferee” would have expected the disclaimer to apply to a statement; rather it is whether the particular licensee at issue knowingly agreed to a comprehensive disclaimer that covers the type of statement at issue. The subcommittee found the Principles’ comments and examples to this Section to be confusing. On the one hand, they suggest courts may take into account the particular facts before them and are not simply constrained to consider what an abstract “reasonable transferee” would expect. On the other hand, some examples appear to require that a disclaimer must specifically identify each statement that may be construed as an express warranty to be enforceable. The comments to the Principles appear to incorrectly reject, or minimize the significance of, case law holding that an effective disclaimer need not specifically disclaim each and every extra-contractual statement. The subcommittee does not believe the Principles clarify the law in this area. The subcommittee expresses particular concern over this Section 3.06 in the business to business context in which licensees carefully negotiate disclaimers. The subcommittee also expresses concern in the consumer context in which there are transactions in which consumers understand their remedy will be limited. The marketplace quickly disposes of substandard software, thereby also rendering unnecessary the newly protective elements of Section 3.06.5 The subcommittee reiterates its concern stated above in the first comment that the Principles should not advise courts to override a contractual agreement between the parties based on a new theory of law without first considering the particular facts of the case.] B. The Section states that exclusions of the implied warranties of merchantability and fitness for a particular purpose must be, among others, “conspicuous” (see 5 In addition, with privacy advocates and consumer watchdogs, the press, and law enforcement on their side, consumers and businesses always have the remedy of fraud available for egregious cases. We are not aware of a rash of any such incidents that would justify the changes in law imposed by the Principles. 12
  13. 13. clauses (c) and (d)). The comments explain that the location of the disclaimer “weighs heavily” and that disclaimers that are not displayed on the “one of the first few screens” will not be enforceable (page 203). Should this be the case where the parties to the contract are sophisticated? What would the effect be on business to business ecommerce platforms? Have consumers become accustomed to such disclaimers so that whether they are placed on the third screen or sixth screen should not determine the validity of the disclaimer? [The subcommittee believes that the conspicuousness of disclaimer requirement is not necessary or advisable. Businesses understand how to interpret disclaimers. Consumers understand that disclaimers nearly always are present in lengthy legal terms and conditions. The subcommittee believes it would be preferable for courts to rely on existing law regarding the enforceability of disclaimers than to prescribe specific requirements. The subcommittee refers to its concerns above in response to this Section 3.06.] 9. Section 3.08 Integration, Ambiguity and Parol Evidence The Section provides that merger clauses in standard-form transfers of generally available software are only “probative but not conclusive on the issue” (clause (c)). As with forum selection clauses discussed in Point 2, above, what is unique about software that the body of law governing parol evidence should be changed for that area? What would the effect be on licensors that sell small numbers of copies of software to end users using a standard form license? This Section provides examples in which it would appear that misrepresentation or fraud in the inducement already may exist as adequate remedies to the licensee so that nullification of a merger clause under this Section 3.08 is not necessary. [The subcommittee believes it is not necessary to lessen the enforceability of merger clauses in the context of software licensing. The subcommittee believes the economy is best served by the uniform application of commercial laws across all products and services except where there is a clear and compelling reason to deviate. The subcommittee is concerned that the net effect of this Section 3.08 and Sections 3.02 (“Express Quality Warranties”), 3.06 (“Disclaimer of Express and Implied Warranties”) and 4.01 (“Contractual Modification or Limitation of Remedy”) could enable a “standard form” licensee to bootstrap a refusal of a licensor to repair or replace “defective” software into a claim with unlimited liability, despite a disclaimer providing for a limited remedy.] 10. Section 3.11 Breach and Material Breach The comments to this Section provide that a non-assignment clause is breached in the event of a merger (pages 243-44). This is not necessarily the case and depends on the jurisdiction and type of merger. For example, where a licensee is the receiving entity in a reverse merger an assignment of the licensee’s software agreements may not occur. Is it necessary or helpful for the Principles to address this area, overriding statutory intent in many states, where corporate statutes 13
  14. 14. provide that a merger “vests” property in the surviving corporation, in contrast to treating mergers as transfers? [The subcommittee believes this Section is unnecessary and in some cases is incorrect. There is a well developed body of law regarding non-assignment clauses that should be sufficient to address this issue without the need to specify rules that apply only to the software context.] 11. Section 4.01 Contractual Modification or Limitation of Remedy A. This Section, which applies to all forms of contracts, provides that “if Circumstances cause an exclusive or limited remedy to fail of its essential purpose, the aggrieved party may recover a remedy as provided in these Principles or applicable outside law” (clause (b)).6 The comments state that “[a] limited remedy fails of its essential purpose when the transferor is unable or unwilling to provide the transferee with conforming software within a reasonable time regardless of the transferor’s best or good-faith efforts” (page 258). Is this a fair summary of the law or what it should be? What is “conforming” versus non- conforming software? Is there any time limit on the ability of a licensee to discover software is not “conforming”? Also, the limited remedy most mentioned in the Principles is the repayment or refund of monies. Should this Section therefore exclude open source or free software? [The subcommittee believes that this provision is not necessary where the licensee would not expect a full refund, such as in the case of a sophisticated business licensee which negotiated a lesser remedy with a licensor or a consumer licensee who subscribes to one of many widely available free ASP services or buys a low cost software application. When licensors license software, they price their exposure to the customer. On a macro and often individual level, as the mandated exposure of software licensors increases as a cost of doing business, so the cost of the software to licensees increases or the costs are absorbed by licensors which have less funds available to conduct R&D. As noted, the negative impact from this and the other protective provisions of the Principles will hit the US software industry and disproportionately affect software licensors whose home market is the United States.7 If a licensee is able to use the software and derive benefit before returning it, the licensee may be unjustly enriched by a full refund and the licensor denied the benefit of its bargain. A pro-rated refund may be more appropriate in such circumstances. 6 Section 4.01(a) provides that parties may limit or alter damages, including limiting the licensee’s remedy to return the software in return for repayment. Section 4.01(a), however, is subject to Section 4.01(b). Section 4.01(b) appears to override 4.01(a) by providing that such limits may fail of their essential purpose, which the comments to 4.01 state occurs when the licensor provides “defective” software and does not cure the defect or provide a refund. 7 It would not be surprising to see certain foreign software companies avoid or scale back operations in US markets or set up thinly capitalized US entities to avoid litigation liability if the Principles were adopted by US courts. 14
  15. 15. Some in the subcommittee believe that this provision is particularly problematic in the context of open source software or freeware, while others in the subcommittee disagree for the reasons stated in Point 7 above. In any event, this provision would increase the cost of software or discourage its development and sale in US markets.] B. The Section further allows for the disclaimer of consequential damages but states in the comments that “[o]f course, a consequential-damages limitation may well be unconscionable when the limited remedy fails, such as when the transferor refuses to repair or replace defective software despite a contractual obligation to do so and with full knowledge that the transferee is suffering large consequential damages as a result. A consequential-damages provision also would be unconscionable if the limited remedy is itself unconscionable” (page 260). Is this a fair summary of the law or what it should be? Could this comment enable a licensee to bootstrap a refusal of a licensor to repair or replace software, despite a disclaimer providing for a lesser remedy, into a claim with unlimited liability? [The subcommittee believes that the Section overstates the ability of a licensee to override a consequential damages limitation, which under current law will depend on particular circumstances and will not automatically occur whenever a dissatisfied licensee facing a breach of contract is not provided a full refund. The subcommittee believes it is unnecessary to revise this law in the context of software agreements. The subcommittee is concerned that the net effect of Sections 3.02 (“Express Quality Warranties”), 3.06 (“Disclaimer of Express and Implied Warranties”), and this Section 4.01 could enable any licensee to bootstrap a refusal of a licensor to repair or replace “defective” software into a claim of unlimited liability, despite a disclaimer providing for a lesser remedy.] 12. Section 4.03 Use of Automated Disablement to Impair Use This Section restricts the use of automated disablement, defined as “electronic means to disable or materially impair the functionality of software.” The Section provides that a licensor may not use disablement in the case of a standard form transfer of generally available software (Clause (c)). The Section imposes unlimited liability on the licensor for improper disablement (Clause (e)). Should the definition of disablement include the termination of access to an ASP or web site providing software? Would this provision restrict an application service provider or web site provider from disabling a user’s password, and under what circumstances? How will courts resolve disputes when a licensor disables software after non-payment by a licensee who subsequently claims it withheld payment due to non-conformance of the software? Does this situation expose licensors to unlimited liability for non-conformance, thereby usurping otherwise enforceable liability limits for non-conformance that were the product of good faith bargaining? Will this uncertainty created by the Principles lead licensors to seek court orders before disabling software thereby increasing the cost of software to licensees and licensors and increasing the burden on our judicial system? How does this Section relate to Section 4.04 (Cancellation), and could this Section 15
  16. 16. require a licensor to continue providing access, services or support after termination? [This provision represents another departure from existing law in a manner for which the subcommittee does not see a clear or compelling justification. The provision takes away the ability of licensors to bargain for automatic disablement as a realistic, cost effective option to protect their intellectual property. This provision also would hamper licensors’ ability to protect against piracy or misuse of software. This Section 4.03 could make it difficult for a licensor in some situations to enforce its rights to terminate a contract under Section 4.04 (“Cancellation”). The subcommittee observes that if the ALI adopts Section 4.01 as drafted, against the recommendation of the subcommittee, licensees will have significant remedies thereunder which would act as a deterrent to improper disablement and render this Section 4.03 unnecessary. One effect of this Section will be that without the option of reasonable automatic disablement, some licensors will feel compelled to conduct additional due diligence on customers before licensing. These costs will increase the cost of doing business and be passed on to customers or will be absorbed by licensors which will then have less funds to invest in R&D. Without the option of automated disablement, licensors also may be unwilling to accept the exposure of dealing with some customers, hurting those customers’ and licensors’ businesses. The subcommittee expresses its appreciation that the ALI is reviewing this provision in the context of ASP access, but notes that its concerns are broader.] 13. Minor comments/typos: Page 54, lines 19 through 26, state that “[t]he original transferor generally cannot directly enforce its agreement with the original transferee against a remote transferee. The original transferor may be able to enforce rights under a third- party-beneficiary theory if the original transferee included restrictions in its agreement with the remote transferee. The availability of that theory is governed by outside law, not the Principles.” Does this statement sufficiently recognize that certain open source licenses and other similar licenses that automatically apply to a user as a contractual agreement, regardless of whether the user obtains the software at issue from the original licensor or a downstream user? Page 87, line 14, states “Comment a. resume here”. Apparently some additional text was intended. The drafters notes in Section 3.05 refer to illustrations 2, 3 and 4, but these illustrations are missing. Section 4.04(c) should provide “Except as otherwise provided in the agreement or under provisions of the agreement which by their terms survive as provided under Section 4.04(d),” [italicized language added to preserve efficacy of survival clauses, as in 4.04(d)] 16

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