How to Improve Your Company’s Forms Software License Agreement — Part 1: Disclaimer

This article is the first in our ten-part series of articles aimed at helping software licensors improve their software license agreements.

Key points to remember:

  • A typical software license agreement should contain a disclaimer of consequential damages and an aggregate liability cap in favor of the licensor (these two clauses are often referred to collectively as a “limitation of liability”).
  • Licensors should be very careful in agreeing that certain damages and liabilities are exceptions to the limitation of liability provisions and subject to unlimited liability.
  • If a Licensor agrees to allow disclaimers to limit Customer’s liability (“make them mutual”), Licensor must add certain additional exceptions to disclaimers that are subject to unlimited liability.

Contracts are, in essence, a set of legally enforceable promises. If one party breaks one of its contractual promises, the other party may be able to obtain remedies (often in the form of damages) from the party that broke its promise. Notwithstanding the foregoing, even if a licensor breaks any of its contractual promises, it is customary and “market” for a licensor to waive certain types of damages and limit its aggregate liability under the license agreement. of software. The main rationale for these provisions is that no commercial contract is worth “betting on the business” by exposing the licensor to unlimited liability.

As a starting point, the licensor’s software license agreement form should contain a waiver of “consequential damages” in favor of the licensor. This provision states that Licensor shall not be liable for any consequential, incidental, and other indirect or punitive damages – often referred to collectively as “consequential damages” – resulting from Licensor’s breach of the Software License Agreement. In general terms, consequential damages are damages suffered by one party that arise indirectly from the other party’s breach of contract. A consequential damages waiver can provide great protection to the licensor because it expressly states that many potential damages are not recoverable by the customer if the licensor breaches the software license agreement.

The software license agreement form must also contain an aggregate liability cap provision in favor of the licensor. This provision states that Licensor’s total aggregate liability for all claims relating to the Software License Agreement shall not exceed a certain amount (the “Liability Cap”). The figure for the liability cap is usually based on the royalties received by the licensor under the software license agreement, i.e. 12 month royalties. Although the concept of a liability cap sounds simple, the language can have a significant amount of nuance. For example, a licensor should ensure that its liability cap is an aggregate cap that limits the licensor’s aggregate liability in relation to all claims relating to the software license agreement, rather than a “claim-per-claim” liability cap. or other variation that limits only a subset of Licensor’s liability. Licensor should also consider its insurance coverage when determining acceptable liability limits under software license agreements.

We can use an example to demonstrate the criticality of these provisions for licensors: suppose a licensor licenses airlines a mission-critical logistics software tool for airlines to plan their flights around the world. In this example, this licensor licenses the software to an airline for $500,000 per year. Suppose further that the software delivered to the airline contains a bug in violation of the software license agreement, and the airline is forced to shut down operations for a day. Finally, we’ll assume that the airline suffers $10 million in damages from the software bug – costs to fix the bug as quickly as possible, costs to perform the same business function via another method, lost profits due to cancellations flights, costs to carry out a press campaign to combat bad publicity, costs to respond to regulatory inquiries, etc.

Without the standard limitation of liability provisions, it is possible that the licensor could be liable for the full $10 million. With a properly worded cap on aggregate liability provision, it is possible that the licensor would only be liable for amounts that would in no case exceed $500,000. Additionally, with a properly worded consequential damages waiver, the licensor’s liability could be even lower as many of the damages, costs and expenses incurred by the airline would be considered consequential damages.

Customers often modify the limitation of liability clauses so that certain damages and liabilities are exceptions to the limitation of liability clauses, which means that the licensor will not benefit from the limitation of liability and the waiver of the consequential damages clause s it violates the Software License Agreement. . Although the current trend among technology vendors is to avoid unlimited liability more aggressively than in the past, it is still common for licensors to accept unlimited liability for the following:

  1. fraud and willful misconduct;
  2. violation of confidentiality obligations; and
  3. indemnification obligations for third-party claims alleging that the software infringes third-party intellectual property rights.

Any additional exceptions to the limitation of liability provisions may be outside of “market” terms. In our example above, if the licensor agreed to broad exceptions to the limitation of liability clauses, it could be “on the hook” for most or all of the $10 million in damages suffered by the airline. Further, where Licensor accepts unlimited liability for breach of confidentiality obligations, Licensor shall ensure that it does not accept unlimited liability for breach of confidentiality or data security terms.

Sometimes customers will change disclaimers to benefit the customer as well. The limitation of liability clauses shall state that the customer shall not be liable for any consequential, incidental, or other consequential damages resulting from the customer’s breach of the software license agreement and that the customer’s total aggregate liability for all claims relating to the software license agreement will not exceed the liability cap. Generally, licensors are willing to make mutual limitation of liability provisions if the following additional exceptions are added: (1) customer’s obligations to pay license fees, (2) use or disclosure of the software by the customer outside the scope of the license grant, and (3) customer’s indemnification obligations (if any).