Challenging Issues in IT Equipment Purchase & Maintenance/Support Agreements 2008-08-27Challenging Issues in IT Equipment Purchase & Maintenance/Support Agreements 2008-08-27

Enterprise IT buyers face a number of legal and operational challenges when negotiating equipment purchase and maintenance/support agreements with the leading original equipment manufacturers (OEMs)--like Cisco Systems, Avaya, Nortel, Siemens, and Alcatel-Lucent-–and their resellers, such as Getronics, Dimension Data, AT&T, and Verizon Business. Many enterprises choose to buy through resellers because they can get larger discounts that way than they can by negotiating directly with the manufacturers, but buying through a reseller introduces a host of issues that might be avoided in direct sales.

This article offers a sampling of the problems that our clients have found particularly vexing. The next two installments will discuss other issues that commonly arise in enterprise equipment purchase and maintenance/support agreements.

PURCHASE COMMITMENTS AND WAIVERS

The quid pro quo for discounted prices on equipment and maintenance/support is usually some form of commitment from the customer, which may take the form of an annual volume purchase commitment, exclusivity or “preferred vendor” status, a commitment to pre-pay for a year or more of maintenance/support, and/or a commitment to buy maintenance from the vendor on equipment purchased from the vendor, among others. Purchase commitments in multi-year agreements may come with annual true-ups to adjust the discount to reflect actual purchases in the prior 12-month period.

Obviously, commitments of these types raise questions as to whether (and if so when) the customer should be excused from failing to meet a commitment without losing the associated discounts, such as for circumstances outside the customer’s control or where the vendor has defaulted on material obligations and failed to cure the failure. For example, a customer with an annual spend commitment who returns a piece of high-dollar equipment for a refund because of unremediable defects should not lose its discount if it falls short of its commitment by an amount equal to or less than the price of the returned equipment. Similarly, a customer should not be penalized by loss of discount if its commitment was in the form of a multi-year maintenance contract, but the customer terminated maintenance at one or more locations because the vendor had failed to perform its contractual obligations (for example, chronically missing SLAs) and failed to cure the problem after notice.

A thornier issue is whether the customer should be excused from its commitments (without loss of discounts) for reasons that are beyond the control of both the customer and the vendor, such as a general business downturn, a site closing, or legal/regulatory issues such as an injunction against use of a product due to a patent infringement claim.

PRICING ANOMALIES

The usual approach to pricing in equipment and maintenance/support contracts is to state discounts that will apply to the manufacturer’s or reseller’s list prices in effect at the time an order is placed, rather than to fix unit prices in the contract. This practice is less common for maintenance than equipment, but many vendors will try to price maintenance in the same way. Equipment prices can change frequently, and maintenance fees may change annually when maintenance contracts are renewed. While many enterprise customers try to avoid such uncertainty, the discount-off-list approach is so ingrained in the industry that it is virtually impossible to fix unit prices for the term of a multi-year agreement. Where the vendor is a reseller, the situation is even more uncertain, as both the list prices and the discounts stated in the contract are subject to change, depending on the relationship between the reseller and the OEM. If a customer agrees to allow the reseller to decrease discounts or raise prices as the OEM changes them, it should at least insist that the reseller also pass through increases in discounts and decreases in list prices.

Moreover, there may be a trade-off between equipment discounts and maintenance prices, as vendors tend to offer better discounts to customers who buy maintenance from them, while customers can procure the same or better maintenance from third parties for less. Another area of uncertainty is the pricing of “projects” or “professional services,” which are often set on a time-and-materials basis. It is important to define up front what is and is not a ‘project” or a “professional service” so that routine support functions are not billed as add-ons.

REMOTE MONITORING AND DATA SECURITY

Many software vendors and equipment support providers require remote access to their software and supported equipment to monitor performance, identify (and possibly diagnose and remedy) troubles, and spot breaches of software licenses. Software vendors may also reserve the right to remotely disable software or equipment features for a variety of reasons, including the customer’s breach of an applicable license or failure to renew a maintenance agreement.

Enterprise customers cannot usually avoid giving vendors remote access, but they may be able to negotiate away the vendors’ right to interfere with their use of the software or equipment, at least for long enough to allow the customer to cure an alleged breach or non-payment. Giving a third party access to equipment through which a customer transmits confidential and proprietary data raises numerous confidentiality, privacy, and data security issues. A customer who is negotiating an agreement through which a third party will gain access to company data should involve the company’s security or privacy group, as well as the legal department, early in the process.

Taking steps to protect the security of the company’s (and its employees’ and customers’) confidential information is important to all enterprises, but particularly to government agencies; financial institutions subject to the Gramm-Leach-Bliley Act; health care institutions, insurers, and providers subject to the Health Insurance Portability and Accountability Act; and merchants who accept credit or debit cards and are subject to the Payment Card Industry Data Security Standard. These issues are among the most challenging to negotiate and are often among the last to be resolved.

ACCEPTANCE TESTING

Vendors will want to limit the types of equipment that will be subject to acceptance testing, as testing imposes additional obligations on them and delays the due date for final payment. The customer’s IT staff does not have time to test every item of new equipment upon installation, but wants some role in selecting the equipment that the vendor must test after installation and before the equipment is deemed accepted by the customer.

One approach is to agree on a purchase price threshold above which equipment is subject to acceptance testing, and below which the equipment will not be subject to testing unless the customer specifically requests otherwise. SLAs and warranties should be required, of course, but they cannot offset the disruption that may occur if important equipment does not perform as promised.

THIRD-PARTY PRODUCTS

OEMs are eager to sell third-party products to be used in conjunction with their own lines of equipment, but they resist taking responsibility for those products. For example, they may not agree to provide interface specifications for such equipment or may charge the customer for such specifications, even though the customer needs them to combine third-party equipment with the manufacturer’s own products.

OEMs may also disclaim any responsibility for the performance or non-performance of combinations of their equipment with products manufactured by others, even if they sell those third-party products. In addition, such combinations frequently void any indemnification by an OEM for intellectual property infringement claims arising from such combinations -- again, even where the OEM sold the products that the customer combined, leading to the infringement claim.

UNIQUE ISSUES IN RESELLER AGREEMENTS

In addition to creating complications with respect to pricing and discounts, interposing a middleman between the customer and the OEM can lead to operational hurdles for the customer. For example, a customer’s right to cancel or modify orders or to return products will likely be subject to the policies and charges imposed by the OEMs, not the reseller. The agreement between the customer and the reseller seldom articulates those policies and fees, which creates uncertainty. Moreover, the OEM may change its policies and fees without notice to the customer.

Sophisticated large customers may be able to negotiate these matters directly with the manufacturer--in our experience the manufacturers prefer to exclude the reseller from those side discussions or agreements.

As noted at the top of this piece, this is just a sample of the challenges enterprise customers face in negotiating equipment purchase and maintenance agreements. In the next two installments, we will discuss other issues of concern, including unique issues in global procurements, end-of-life support, exclusivity of remedies for breach, maintenance provider and coverage options, software licenses and warranties, and intellectual property indemnities.

Kevin DiLallo is a partner with the Washington-based law firm of Levine, Blaszak, Block & Boothby, LLP (LB3), which specializes in the representation of enterprise users in connection with their procurement of network-related services; before the FCC and other telecom regulatory bodies; and in disputes with service providers. LB3 and its consulting affiliate, TechCaliber, represent scores of large users, including about half the Fortune 100.