IT consultancies: unravelling the intellectual property provisions in your customer contracts

IT consultancy firms are commonly called upon to advise customers on the best technology solutions to meet their operational needs. Treatment of the underlying intellectual property rights (“IP”) in each solution is a key concern for IT consultancies. Customers require clarity as to whether they will be assigned the IP in a solution, so that they own the same going forward, or whether they will be granted a limited licence to use the IP (on the basis that ownership will remain with the IT consultancy, or third-party, that originally developed the solution). The contracts IT consultancies sign with their customers therefore need to be tailored to reflect the specific solution(s) found for the customer and the resulting IP ownership position and, in this blog, we’ll flag some of the key considerations that IT consultancies need to be aware of when structuring the IP provisions in their customer contracts.

IP – assignment or licence?

When structuring their customer contracts, IT consultancies must take a step back and consider which parts of the IP used in customer solutions are to be assigned to the customer and which parts are to be retained by the consultancy (or the third-party owner of the IP) and only licensed to the customer. Often, that decision is shaped by the party which owns the IP in the solution, as follows:

1. Third-party IP.

IT consultancies often recommend products and services to their customers which are owned by third parties (“Third-Party Suppliers”). As the Third-Party Supplier retains ownership of the IP in its product, it may require the customer to enter into a separate contract with it under which use of the IP in the product is licensed. Those scenarios are not the subject matter of this blog, as the IT consultancy would not be a party to the licence agreement between its customer and the Third-Party Supplier. However, the position is slightly more complex where the IT consultancy has been appointed a reseller of the Third-Party Supplier’s products.

Typically, an IT consultancy acting as a reseller of the products of a Third-Party Supplier will either:

a) Enter into a tri-partite agreement with the Third-Party Supplier and the customer under which IP in the product is licensed from the Third-Party Supplier to the customer, whereas the licence fee is payable to the consultancy. Given that the rights to use the IP in the product flow directly from the Third-Party Supplier to the customer in this scenario, arrangements of this nature are not the subject matter of this blog.

b) Be granted a licence of the IP in the Third-Party Supplier’s product which allows the product to be sub-licensed by the IT consultancy to its customers. IT consultancies need to carefully review the parameters of the sub-licensing rights granted to them by the Third-Party Supplier and ensure that each sub-license granted to a customer does not exceed those parameters. Presuming those parameters are not exceeded, the terms which may be adopted by IT consultancies in their licences to customers are considered below.

2. IP owned by the IT consultancy.

In certain cases, IT consultancies will recommend products and services to their customers which they have developed themselves and where they therefore own the underlying IP. A key consideration is whether a product is bespoke and has been developed specifically for the customer, or whether it’s a product that’s re-used by the consultancy for multiple customers. If, by way of example, the IT consultancy develops bespoke code for functionality of a software solution which is specific to a sole customer, the customer may insist that the code is assigned to them so that they own it going forwards. However, in the case of a software solution marketed by the IT consultancy as an ‘off-the-shelf’ product to all of its customers, ownership of the underlying code will need to be retained by the IT consultancy in order to grant a licence of it to each customer.

In order to reflect the various positions flagged above, framework agreements (the contracting model discussed in our earlier blog here) should specify whether the IP in the products and services provided by the IT consultancy are to be assigned or licensed to the customer and there are a number of key issues to consider when drafting and negotiating the same.

 

Assignment of IP

A well-advised customer is likely to seek warranties from the IT consultancy that it owns the IP that is to be assigned and therefore has the ability to transfer ownership to the customer. With a view to preventing unnecessary contractual negotiations, it’s imperative for an IT consultancy to therefore incorporate a reasonable and well-balanced set of warranties. It’s reasonable for the IT consultancy to include warranties which relate to its own actions, for example that it developed the IP to be assigned and is therefore the sole legal owner of it; that it hasn’t licensed or assigned the IP to a third party; and that it hasn’t mortgaged or charged the IP to be assigned. However, the IT consultancy should be wary of including (and should resist calls from the customer to include) a warranty that the IP does not infringe the rights of a third party, as that exposes the IT consultancy to the potential expense of having to cover the customer’s costs of defending proceedings from multiple third parties. Typically, a reasonable compromise is the inclusion of a warranty that the IT consultancy is not aware of its IP infringing a third party’s rights and that it hasn’t received any claims of infringement from a third party.

If a warranty is breached, a customer will be able to seek financial compensation from the IT consultancy via a breach of contract claim (i.e. a claim for damages to place the customer in the position they would have been if the warranty had been true). However, not all losses that flow from a breach of contract are recoverable and the level of damages awarded by a court are subject to tests of causation, remoteness, and whether the customer has reasonably mitigated its losses or has acted negligently in contributing to its losses. As those tests typically act to reduce the amount of damages awarded to a claimant, a well-advised customer will insist on the IT consultancy providing an indemnity in respect of all losses incurred by the customer arising out of a breach of any warranty set out above (i.e. reimbursement of such losses on a pound-for-pound basis, without being subject to the restrictive tests mentioned above). Given the importance of the warranties provided, inclusion of a corresponding indemnity is not unreasonable, however IT consultancies should ensure that their template customer contract also includes a cap on its liability, both in respect of the indemnity provided and any other liability arising under the contract. A typical starting point for an appropriate liability cap is the aggregate sum paid by the customer under the contract, thereby allowing the customer to get its money back in the event of a material breach of contract.

However, IT consultancies should be mindful that customers may seek to remove, or increase, any liability cap. It wouldn’t be prudent for an IT consultancy to be subject to unlimited liability under an indemnity and so any attempt to remove the liability cap in entirety should be resisted. In addition, IT consultancies should negotiate any increase to the liability cap with an upper limit in mind from the outset, and typically that upper limit is tied to the maximum level of coverage provided for a single claim by the insurance policy that the IT consultancy has is in place to cover the liability. As such, if appropriate intellectual property insurance isn’t already in place, it’s advisable for an IT consultancy to address that omission.            

 

IP licensing

If the IT consultancy (or a Third-Party Supplier) is to retain ownership of the IP in a product or service provided to a customer, the scope of the licence provided to the customer to allow them to use the product or service needs to be carefully considered. Well-defined licence parameters should minimise ambiguity and prevent disputes as to what constitutes an overreach of the rights granted, including, but not limited to:  

1. Exclusivity. The IP can licensed either:

a) Exclusively – the IP can only be used or exploited by the customer (and not the IT consultancy) for the duration of the licence.

b)Solely – the IP can only be used or exploited by the IT consultancy and the customer.

c)Non-exclusively – the IT consultancy can grant licences of the product or service to third parties, in addition to the licence granted to the customer.

In many cases, an IT consultancy will only be able/willing to grant a non-exclusive licence, in particular where it is sub-licensing the IP of a Third-Party Supplier. However, in cases where the IT consultancy is licensing its own IP, the nature of the product or service being licensed and the licence fee to be paid could make a sole or exclusive licence commercially viable.

2. Territory. It may be necessary for the IT consultancy to restrict use of the product or service to a specific territory. That may be relevant where the use of the product or service is a regulated activity and regulatory authorisations have only be granted in certain jurisdictions.

3. Duration. In most cases, the IT consultancy will grant the licence to use its product or service for a finite period, however perpetual licences are permissible.

4. Financial terms. Licence arrangements typically allow for creative payment provisions, such as upfront lump sums, milestone payments and ongoing royalties calculated as a percentage of the revenue the customer receives from its use of the product or solution. In particular, IT consultancies should carefully consider the inclusion of protections in respect of royalty arrangements, such as  minimum royalty payment obligations and audit rights over the customer’s financial records to ensure that the royalty payments received accord with the terms of the contract.

5. Sub-licensing. If the customer is to be granted the right to sub-license use of the product or service to third parties, it would be prudent for the IT consultancy to ringfence the scope of permitted sub-licensees, either specifically or within carefully considered categories. In addition, if royalty payments are due under the licence, customer revenue arising from sub-licensing should presumably be captured within the calculation of the royalty payments.

6. Infringements. The customer should be bound to an obligation to promptly notify the IT consultancy once it becomes aware of a scenario where the licensed IP has potentially infringed a third-party’s IP rights, or where a third party is potentially infringing the rights in the licensed IP. If the IT consultancy is the owner of the IP, it will likely want to retain the right to bring or defend third-party IP infringement proceedings and, if so, the customer contract should bind the customer to assist the IT consultancy in the conduct of such claims.

 

Conclusion

IT consultancies offering a broad range of products and services need to ensure that the IP provisions in their customer contracts are appropriate for all of those services and products. Structuring customer contracts on the basis of a framework agreement allows for IP provisions to be specifically tailored to each product and service offered by an IT consultancy, thereby ensuring that IP rights are appropriately licensed or assigned to customers.

Further information

If you would like to learn more about framework agreements or need support with a contract negotiation, then please do contact one of our specialist technology lawyers here.