An increasing number of businesses utilize “software as a service” (SaaS) providers for various business functions. Since the technology and software that SaaS companies provide are complex, the relationship between the SaaS provider and their customer can be filled with legal issues. What are the best ways to avoid overcomplicating the relationship and avoid future conflicts between a cloud computing company and the customer? The answer almost always is to carefully negotiate the key provisions in the initial client service agreement.
This article is the first in a series covering a few key provisions of SaaS Agreements. The topics covered here include:
- Advantages and Drawbacks of SaaS
- Pricing, Payments, and Refunds
- Terms, Termination, and the New Regulation around Auto-Renewal Provisions
- License Scope
- Intellectual Property (IP) Rights
- A brief intro to Representations, Warranties, and Disclaimers
Advantages of SaaS
SaaS products save the customer substantial time and money for the installation of the software, compared to on-premises software. The management of the cloud computing application is outsourced to the provider, which frees up a company’s IT department’s time to work on other important things. Since the software is operating on the SaaS provider’s system, customers can use the software immediately.
Improvements to the SaaS are also made much more quickly than traditional software, as the use of the application is supervised by the service provider versus internal IT staff. This lets the SaaS provider receive feedback right away and make improvements to the software as needed. The updates are automatically pushed to the cloud computing platform, giving instant access to the customer without the headache of installing a new version of the software.
Drawbacks of SaaS and Remedies for Business Continuation
Cloud computing apps do have limitations that need to be considered in the SaaS agreement review and negotiations. Data control is a good example of that. With a traditional on-premise license, the company controls the data. With a cloud computing license, the service provider controls the data.
Business Continuity Plan of the SaaS. The biggest challenge to SaaS customers is that a company using cloud-based software relies on the third-party provider to provide uninterrupted access in what is hopefully a secure environment. Due to the importance of SaaS products to the customer’s business operations, application continuity is crucial.
The service agreement with a cloud computing company needs to address a business continuity plan in the case there is a termination of the service by the service provider to avoid business disruption. This includes remedies explicitly spelled out in the SaaS agreement to address cases, for example, in which the cloud provider goes out of business, or a case of force majeure.
Data Compatibility issues Post Termination. The company should test and ensure that the data it obtains from the cloud (after a termination) can be used by another cloud computing provider. Data that can’t be used has no value. To prevent business dependence on a single cloud computing solution, organizations should have a provision in the technology vendor agreement that ensures their right to insource, outsource, and backup services.
Pricing Models, Payments, and Refunds
Under a software subscription-based model, SaaS providers incorporate the traditional licensing and maintenance costs into a single subscription charge. The SaaS provider offers a package of cloud computing capabilities for a set monthly or annual fee that the customer commits to for an agreed amount of time.
SaaS providers offer various payment models. Most commons are monthly per-user fees or a subscription for the customer’s entire company. Another payment structure is for the customer to pay based on how much output the software generates. Most cloud providers require the customer to pay quarterly or annually in advance, eliminating any payment risk.
Customers should carefully evaluate a software licensing agreement’s pricing model to ensure the pricing structure is clearly delineated and that the customer can independently verify any amount that is billed by the cloud provider. The details of the pricing, including the overall service fees, as well as the exact scope of services provided, should be carefully outlined in the SaaS agreement.
In client service agreements, the payment provisions should spell out whether customers need to register credit cards, debit cards, or ACH information on the service provider’s platform. The clause should also cover refund information, including what circumstances warrant a refund for the customer, if any, how to request one, and how much of the purchase price will be included in the refund.
Who is a “User” Under the License Scope and License Restrictions?
If the access is limited by the number of seats or users, the “users” definition will act as a basis for calculating the aggregate fee paid by the customer. As a result, customers should be aware of how their application will be used and who will use it.
Take, for instance, a cloud provider who defines a “user” as a named individual accessing the system. If that user’s employment is terminated and they are replaced with another employee, does the customer need to buy an entirely new license for the new worker? Or can they transfer the old license over? From the customer’s perspective, as with traditional software licenses, the price should stay fixed throughout a set period of time.
Oracle’s $7 Million Lawsuit for Breach of Software License
Whether or not the customer’s clients will be indirectly accessing the software application is also an important consideration. As an example, recent litigation initiated by Oracle is alleging intellectual property infringement and breach of contract against NEC Corporation of America for $7 million in damages plus profits for breaching the license grant in the software licensing agreement due to issuing access to users without paying the licensor.
Is the SaaS agreement silent as to whether they need a license for their customers to use the app? As illustrated by the Oracle case, the scope of who the license covers should be very explicitly spelled out in the SaaS Agreement.
Terms and Renewals
Cloud computing products typically have a set license term. Some terms can be month-to-month while other services have minimum time periods of at least one year. The agreement should always expressly state the term.
There is also typically a provision for renewals. Unless proper notice (as specified in the service agreement) is given, an evergreen renewal is often included in SaaS agreements, which means that the customer’s term will be renewed automatically at the end unless they cancel.
When it comes to the automatic renewal of the client service agreement and automatic payments, SaaS providers will want to be careful about how they charge their customers; any variation of automatic payments is highly and closely regulated. In 2021, New York became one of the latest states to pass stringent legislation regulating automatic renewal and service obligations in paid subscription or purchasing contracts with consumers (N.Y. Gen. Bus. Law §§ 527 and 527-a). Other states, including California, have similar legislation for automatic renewals in software subscription agreements. These laws add substantial legal requirements for SaaS businesses offering automatic renewal plans or continuous service plans, with significant fines per violation.
The agreement should provide for mutual termination rights which give the provider and customer the right to terminate the agreement on certain conditions. Typical master service agreements permit the provider to terminate for convenience, upon notice to the customer, if:
(1) the service is discontinued; or (2) any material change is made to the service which would make it unacceptable to the customer.
If the client fails to provide payment, or if there is a material breach (material breach can include failure to follow use policies or an allegation of intellectual property infringement), then the SaaS provider may terminate the contract.
Notice, Cure Periods, and Remedies
Prior notice and an opportunity to cure any problems should be included in the agreement, especially if you’re negotiating as the service provider. Customers are generally given standard termination rights, such as for provider breach, change of control, or infringement of intellectual property rights, in accordance with the requirements outlined above. The service agreement should contain explicit language for the prompt return of customer data upon conclusion of the contract, as well as steps for transferring personal data to a new vendor.
Intellectual Property Rights
When negotiating a SaaS agreement, you’ll find that the Intellectual Property Rights are one of the most highly negotiated provisions. That’s because securing your intellectual property rights is crucial to preventing an unwanted transfer of IP. Technology service providers will also want to limit IP usage outside the scope of services and license granted.
Your software license agreements need specific language stating that the customer understands they are getting a license to use the software in a specific way and that the provider retains ownership of its intellectual property rights in the software.
Further, the agreement should list the scope and limitations of the license and make clear that any use of the intellectual property in a manner outside of the license scope is a material breach of the agreement.
Another important consideration is if the client needs to give the SaaS company a license to use their data or content. Without permission to utilize client data, the provider might be infringing on the customer’s intellectual property. Consequently, it’s vital to have a clause regarding what can and cannot be done with user-generated content.
Representations, Warranties, and Disclaimers
Warranties and representations are what the parties, more so the SaaS providers, promise about their services and their compliance with applicable laws, among other things. This clause is important to have in a SaaS agreement as it sets out the expectations of each party and provides a course of action should any of the representations or warranties be breached. There needs to be a broad disclaimer of warranties not included in the representations and warranties clause. Keep in mind that any potential liability claims may be addressed by stating what remedies exist if the representations and warranties are violated.
Disclaimer: The information in this article is for general information purposes only. Nothing in this article should be taken as legal advice for any individual case or situation. This information is not intended to create and viewing it does not constitute an attorney-client relationship.
Gouchev Law helps technology companies seize opportunities with insightful guidance on corporate matters and intellectual property. We leverage our deep knowledge of intellectual property, emerging technology, corporate law, and commercial contracts in a way that maximizes results and minimizes costs. In an industry that changes quickly, you want a law firm that provides nimble and smart solutions to move technology businesses forward. The attorneys at Gouchev Law have the knowledge, fast turnarounds, and dynamic guidance you need.
About the Author
Jana Gouchev, Esq., Managing Partner
Jana Gouchev is a corporate and IP attorney, and the Managing Partner at Gouchev Law. Jana supports clients at all stages of the corporate life cycle, including legal advisory related to company formation, IP protection, strategic licensing, commercial agreements, venture financing to IPOs, M&A, and privacy and cybersecurity.
Her clients range for F100 technology leaders, to emerging growth companies leading their fields.