Negotiating Software Contracts under EU law: Practical Tips

//Negotiating Software Contracts under EU law: Practical Tips

Negotiating Software Contracts under EU law: Practical Tips

By |2019-05-06T20:03:25+00:00April 28th, 2019|news|0 Comments

I get often asked: “Are there any red flags to be aware of before agreeing to contract under EU law?”

As a European lawyer practicing in the U.S., I get routinely asked to assist my U.S. and Canadian clients in drafting and negotiating various contracts for them with EU clients under EU law.  Because most of my clients are technology companies, these contracts typically take the form of software licenses, SaaS engagements, and various other IT-related agreements.

As a dual European and U.S. lawyer, whose professional experience includes 15 years working as an in-house lawyer for U.S. technology companies in both the EU and the U.S., I do have many years of experience reviewing, drafting and negotiating both U.S. and European forms of technology agreements, and adapting U.S. forms for use in the EU. And despite some common features to those agreements – we are dealing with software contracts for the most part, after all – there are some key differences in the way U.S. v. EU contracts are structured, but more importantly in the way that some of the more legal clauses are drafted.

These key differences are mostly due to the fact that the historical and cultural roots of legal traditions in the U.S. and continental Europe in particular are very different. Whereas the U.S. legal tradition is one that is inherited from the English common law, itself the product of unwritten law derived mainly from jurisprudence, the continental European legal tradition is a written tradition inherited (partly only) from Roman law, where the law is codified by the legislator more than the product of case law.

As a result, the rules of contract law in the EU are typically found in various provisions of the Civil Code and the Commercial Code, which codes get amended overtime as a result of various legislations being adopted, many of which as a result of a number of Directives and Regulations (two of the most common legal instruments through which legislation gets adopted in the EU) being passed at the European level. From there, despite some remaining differences country to country within the EU, the influence of EU rule making has had the effect of creating more uniformity and consistency across the 28 member states of the EU. This movement has also impacted the area of contract law, particularly in B2C contracts.

Although this article is looking at the contractual treatment of software from the perspective of French law, the underlying principles governing the warranty and liability regimes, as applied to computer programs, on the continent of the EU, i.e., excluding the UK and Ireland, are very consistent.  U.S. software vendors entering into contracts with EU-based licensees need to be aware of some key differences in the way warranties, warranty disclaimers, and limitations and exclusions of liability are drafted in the EU v. the U.S. This is particularly the case where those EU licensees are larger than their U.S. suppliers, and therefore more in a position to impose that the contract be subject to EU law, and to the jurisdiction of EU courts.

As a general introduction, a common thread to EU contracts is that they are typically much shorter in length than their U.S. counterparts, and that is to a large extent due to the fact that a number of obligations upon software vendors and licensors are implied by law and therefore rarely the subject of negotiation between the parties. As regards contracts between professionals and individual consumers (B2C), there is also a rather elaborate body of consumer laws and case law prohibiting the inclusion in contracts of unfair terms and the use of certain clauses deemed abusive in nature. As regards contracts between professionals (B2B), however, by far and large, the law recognizes the parties’ freedom in agreeing the extent of their respective obligations under the contract.

Let’s examine two of the most commonly found types of warranties on software in the EU.

1. The warranty of quiet enjoyment and non-infringement (“garantie d’éviction”).

Whether the software vendor is selling the software under Articles 1626 et seq. of the French Civil Code, or simply licensing the use of the software under Articles 1725 et seq. of the Civil Code, it is implied under law that the licensor guarantees that the software doesn’t infringe the intellectual property rights of third parties. This warranty of non-infringement arises from the obligation for the supplier to ensure the buyer or licensee’s quiet enjoyment of the software and, consequently, to abstain from taking any initiative or creating any situation in which the other party would be denied such enjoyment (“garantie du fait personnel”). It also arises from a second obligation upon the vendor to protect the licensee against any claim by a third party (“garantie du fait des tiers”).

This said, despite the implied nature of the warranty of quiet enjoyment and non-infringement, the parties in B2B transactions may contractually agree to limit its scope or to allocate their respective obligations under it, and particularly in connection with the defense or settlement of any claims, bearing in mind however that courts will always interpret restrictively any clause limiting or excluding liability.

Such clauses are nonetheless valid under law, except where their beneficiary is of bad faith, i.e., knew the risk or likelihood of such claim, the burden of proving such knowledge lying however with the plaintiff, which by definition makes it more difficult to bring a claim under this warranty than it would be under the warranty against hidden defects for which, as we’ll explain in Section 2 below, the bad faith of the professional supplier is presumed.

2. The warranty against hidden defects (“garantie des vices cachés”).

The warranty against hidden defects is the second legal ground under which the disgruntled “buyer” may bring a claim against the supplier. Although such warranty gives rise in practice to more claims than under the warranty of quiet enjoyment and non-infringement, it does raise a number of practical implementation issues in the context of software.

At the time the French legislator implemented the concept of hidden defects into law they did not consider the case of the licensing of intangible goods. The Civil Code only envisions the application of the warranty in sales (Articles 1641 et seq.) and lease/rental agreements (Articles 1721 et seq.). From there the doctrine tends to exclude computer programs from the benefit of the warranty on the ground that software isn’t a good and that the Civil Code really only applies the aforementioned articles in respect of tangible goods. This is particularly true when there is no transfer of ownership in the software and only a remote access to a software platform is granted for purposes of receiving online services, as is the case for Software-as-a-Service (SaaS) types of engagements, without an actual download of the code.

It is however important to note that a number of authors in the area of computer contract law do consider that the warranty of hidden defects does apply to contracts for the supply of intangible goods, arguing that the intangible nature of software does not prevent it from benefiting from the warranty. And French courts do agree, a number of cases having concluded that the sale or licensing of software products (as applicable) does indeed fall under the scope of Articles 1641 and 1721 et seq. of the Civil Code.

But what exactly is the warranty against hidden defects?

Under French law, a hidden defect is a defect that renders the good unfit for its normal purpose. The defects must (i) be hidden, (ii) be of certain materiality; and (iii) have been present in the good prior to the execution of the contract between the parties. In addition, under Article 1648 of the Civil Code, the claimant must bring a claim under the warranty within a period not to exceed 2 years from the discovery of the defect. If the claim satisfies the above conditions, the claimant has, under Article 1644 of the Civil Code two possible remedies:

  1. “return the good to the supplier and obtain a refund of the purchase price” (known as the “action rédhibitoire”); or
  2. “keep the good and obtain a partial refund of the purchase price (known as “action estimatoire”).

In addition, the purchaser may ask for the reimbursement of any costs they have incurred as a result of or in connection with the sale, or may claim damages.

Under Article 1642, however, the seller isn’t liable for apparent defects of which the buyer is aware. The same applies to those defects that the seller has brought to the buyer’s attention. If the buyer is aware of the defects then they cannot bring a claim for breach of the warranty against hidden defects.  In this area, though, the courts may still rule in favor of the consumer or occasional buyer, on the basis that a consumer or professional of a different specialty than the seller may not be expected to know how to detect the possible existence of a non-apparent defect. Conversely, the professional buyer is presumed from his expertise in the field to know of or at least to be able to detect the existence of defects affecting the goods.

3. The attractiveness of providing for express warranties.

Due to the uncertainty surrounding the applicability of the warranty against hidden defects to computer programs, contracts providing for the supply of software under French and most other laws in continental Europe will prefer the predictability associated with language granting express warranties to the buyer. Such warranties are generally limited in time, typically 3 to 6 months, in scope, and also specify the remedies available to the buyer in case of breach.

In addition, the same way U.S. agreements drafted in favor of the licensor will typically look to exclude every warranty other than those expressly given under the agreement, and particularly the implied warranties of merchantability, of fitness for purpose and of non-infringement, EU law-based software licenses will want to exclude all warranties other than those included in the agreement. Now, although the U.S. implied warranties, particularly those regarding merchantability or fitness for purpose, have no exact correspondents under EU law, excluding such warranties, particularly in B2C contracts, to the extent that a court may want, based on the particulars of the case, to impose such an obligation after the facts (which they technically can, although they rarely do so in B2B contracts), should not be an issue, while the licensor may also want to exclude the warranty against hidden defects.

4. How about the liability for indirect damages?

This may sound weird to U.S. licensors used to U.S. forms of contract that contain robust sections excluding in big block letters all sorts of so-called indirect and consequential damages under the contract, but typically under EU continental laws, parties aren’t liable for damages unless either party can prove that those damages are directly caused by a breach by the other party. And whereas in the U.S. such losses such as losses of profits, losses of reputation, etc. are typically considered indirect damages, there is no such typical classification in the EU. Depending on the facts of the case, a loss of profits may be considered direct or indirect, depending on whether or not the claimant is able to demonstrate that such loss is directly caused by the defendant.

Therefore, a party who wishes to exclude their liability for this type of losses should not rely on such losses being considered as indirect and consequential under a general exclusion of any direct and consequential damages, but should instead exclude those particular categories of losses for which they do not want to be liable, whether such losses are found to be directly or indirectly caused by their breach.

5. How about exclusions and limitations of liability?

The area of exclusions and limitations of liability is one that gets very regularly tested by European courts, judges typically adopting a rather narrow interpretation of such clauses, particularly in so-called “contrats d’adhésion“, or contracts of adherence, where one party wishes to impose those terms upon another without possible negotiation, as commonly found in online terms and conditions, or in contracts between professionals and individual consumers (B2C). This narrow interpretation is also commonly adopted whenever a court is asked to examine limitations or exclusions of liability in the context of contracts between professionals of different specialties, e.g. where a software vendor wishes to license the use of their software to a company with no recognized familiarity with software in general.

However, absent the above scenarios, i.e., in B2B contracts with relatively similar bargaining powers, courts will typically accept limitations and exclusions that are the result of an arm’s length transaction between the parties, unless such limitations or exclusions affect the core obligations under the contract of the party who wishes to rely upon them, or such party is found to have acted in bad faith, or in a grossly negligent manner.

These are just some of the most commonly negotiated areas of contracts in which legal traditions in the EU and the U.S. have a rather big impact in the way clauses are drafted and negotiated in the context of software contracts. More importantly, however, because the law of contracts in the EU is more based on codes and written texts than on court decisions, and because such codes and legislations are drafted using civil law principles that are not familiar to the vast majority of U.S. lawyers trained in the common law system, it is strongly advised to take the advice of EU counsel in connection with your contract negotiations under EU law.

For more context on this please read here our article on the importance of using EU counsel for advice on EU law.