Software Escrow's Increasing Importance in an Electronic World. John Gormally Matthew Houston Elizabeth Hoyle Marisa Kelly

Transcription

1 Software Escrow's Increasing Importance in an Electronic World John Gormally Matthew Houston Elizabeth Hoyle Marisa Kelly December 8, 2011

2 Software Escrow: What Does It Entail? Parties? Information going into escrow? What happens in escrow? Contracts Removing software from escrow

3 Parties in Software Escrow Basic Transaction: Who are the usual parties in a basic software escrow arrangement? Usual Parties: Programmer/Licensor Customer/Licensee Escrow Agent

4 Additional Parties Does the number of parties vary by transaction? Additional parties are frequently involved Multiple Programmers/Licensors Multiple Customers/Licensees

5 What Actually Goes Into Escrow? Source Code: This is a set of instructions that is originally written by a live person in order to make a computer program operate. Format is determined by programming language E.g. C, Java, JScript, etc.

6 What Happens in the Escrow Process? Safekeeping Escrow, at its most basic, involves utilizing a third party to safeguard an asset Here, asset = software Software Escrow Subtype of general escrow Similar to attorney escrow accounts for clients

7 Escrow Process: Parties Agreement Contract Between Parties Provides for creation of source code Provides for placement of source code in escrow Provides for a specific number of licensees and licensors

8 Escrow Process: Escrow Agent Agreement Contract Between Parties and Escrow Agent Occurs after parties reach agreement on type of software, number of licensors/licensees, and software escrow as the method of safekeeping. Goal of Contract: Ensures that the software escrow agent is prepared to assume possession of a copy of the source code Sets prices for the escrow arrangement

9 Escrow Process: Escrow Agent Agreement Cont d Maintenance Provisions Rules for testing viability of software Mandates certain frequency of updates to source code

10 Escrow Process: Escrow Agent Agreement Cont d Trigger Provisions Events that trigger the release of the source code from escrow agent to licensee Examples: Bankruptcy Breaches of contract Discontinuance of product If no trigger occurs, this means Licensee has no justification for obtaining the source code.

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12 Software Escrow Advantages Advantages for Licensees Reduce risks of licensing software. Protect access to source code. Assure existing software supports licensee s business. Advantages for Licensors Build trust with licensee. Validate licensor s ownership of technology assets.

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14 Disadvantages Don t Blindly Follow the Herd Ask: Is Software Escrow Always Appropriate? Does it Always do What it has Promised?

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16 Software Escrow Disadvantages Few Codes in Escrow are Ever Released Escrowed Source Code is Defective Third-Party Software Excluded from Escrow Licensee s Lack of Expertise Delays and Legal Battles over Release Conditions Expensive

17 Problem: Defective Source Code Released source code is: Outdated Defective Ultimately Useless Licensee s needs are not met Little incentive for licensor to maintain materials Difficult to verify necessary deposits

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20 Solution: Defective Source Code Keep source code current with software being used. Require escrow agent to: Provide notice to licensee of updates, or lack thereof Document and monitor updates Remind licensors to update

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23 Problem: Excluded Software Licensor s source code uses third-party software. Licensor does not own third-party software. Third-party software is not included in escrowed source code. Escrowed materials are incomplete.

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25 Solution: Excluded Software Licensor negotiates with third-party for the right to put third-party s source code in escrow. If third-party refuses, licensee may obtain support from third-party. Third-party s portion may be replaced with a substitute.

26 Problem: Lack of Expertise Licensee lacks resources, knowledge, or capability to utilize source code upon release. Licensee may not be in a position to: Properly implement the software; Train its employees on maintaining and supporting the software; or Purchase necessary hardware and third-party software. Consequences

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29 Solution: Lack of Expertise Require good build instructions, configuration information, other programming documentation in escrow. Require licensee to make reasonable warranties. Inspect the source code before or after it is put in escrow. Use legacy support services. Hire same programmers who developed the software.

30 Problem: Delays over Release Significant Delays and Legal Battles Often Accompany a Release Conditions to Release Usually Require Licensor Approval Licensor may Dispute Whether a Release Condition has Actually Occurred

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32 Bankruptcy and its Effect on the Software Escrow Agreement

33 Can the licensor s bankruptcy trustee interfere with the release of code? Money or property put in escrow before the filing of a bankruptcy petition is generally NOT part of the bankruptcy estate (does not fall under 11 U.S.C. 541(a)). In re Johnson, 355 B.R. 103 (Bankr. C.D. Ill. 2006), aff d, 371 B.R. 336 (C.D. Ill. 2007). In re Scanlon, 239 F.3d 1195 (11th Cir. 2001). In re Dameron, 206 B.R. 394 (Bankr. E.D. Va. 1997), aff d, 155 F. 3d 718 (4th Cir. 1998).

34 Can the licensor s bankruptcy trustee interfere with the release of code? Lubrizol Enterprises, Inc. v. Richmond Metal Finishers, Inc., 756 F.2d 1043 (4th Cir. 1985). Issue: Should the debtor-licensor, Richmond Metal Finishers, be allowed to reject the technology license agreement with licensee Lubrizol Enterprises?

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37 Bankruptcy Code Tit. 11 U.S.C. 365(n) Executory Contracts and Unexpired Leases (1) If the trustee for a licensor of intellectual property rejects an executory contract, the licensee may choose: (A) to treat the contract as terminated typically a breach of the agreement; or (B) to retain its rights to the intellectual property under the contract and any agreement supplementary to that contract.

38 Bankruptcy Code Tit. 11 U.S.C. 365(n) Executory Contracts and Unexpired Leases (3) If the licensee chooses to retain its rights, then the trustee must, on written request: (A) provide to the licensee any intellectual property held by the trustee; and (B) not interfere with the licensee s right to obtain the intellectual property from another entity such as an escrow agent. (4) And as long as the trustee has not rejected the contract, it has the same obligations.

39 Is an escrow agreement an executory contract? Case law says NO so 365(n) would not apply In re Expert South Tulsa, LLC,, 2011 WL (Bankr. D. Kan. 2011). In re TTS, Inc., 125 B.R. 411 (Bankr. D. Del. 1991), aff d 158 B.R In re Cedar Rapids Meats, Inc., 121 B.R. 562 (Bankr. N.D. Iowa 1990).

40 But is a software license agreement an executory contract? Case law says YES. In re Chapin Revenue Cycle Management, LLC, 343 B.R. 728 (Bankr. M.D. Fla. 2006). In re Fieldstone Mortg. Co., 427 B.R. 364 (Bankr. D. Md. 2010). RCC Technology Corp. v. Sunterra Corp., 287 B.R. 864 (D. Md. 2003), rev d on other grounds, 361 F.3d 257.

41 365(n) will apply A software escrow agreement is an agreement supplementary to the software license agreement (an executory contract), and the drafter may simply include a provision to that effect to ensure its status.

42 365(n) will apply Example: 7. Bankruptcy. Developer acknowledges that this Agreement is an "agreement supplementary to" each License Agreement as provided in Section 365(n).... Developer acknowledges that if Developer as a debtor in possession or a trustee in bankruptcy in a case under the Bankruptcy Code rejects a License Agreement or this Agreement, each User may elect to treat its License Agreement and this Agreement as terminated or to retain its rights under the License Agreement and this Agreement.... If a User elects to retain its rights under the License Agreement and this Agreement, then upon written request of the User to Developer or the bankruptcy trustee, Developer or such Bankruptcy Trustee shall not interfere with the rights of User as provided in the License Agreement and this Agreement, including the right to obtain the Materials from Escrow Agent.

43 What about foreign licensors? Does 365(n) apply to protect US licensees of a foreign company with an ancillary US bankruptcy that supports a foreign insolvency proceeding? One district bankruptcy court has answered yes, the provisions of 365(n) do apply to US licenses granted by a foreign corporation. In re Qimonda AG, No SSM, 2011 WL (Bankr. E.D. Va. Oct. 28, 2011).

44 Practical Application: What type of Company Should Use Software Escrow?

45 Ques0ons? Please contact us at: John Gormally Matthew Houston Elizabeth Hoyle Marisa Kelly