UK: How to Deal With an Insolvent IT Supplier

Last Updated: 8 February 2002
Article by Lloyd Lemmon

As the slump in the technology market continues and the recession begins to affect some of the major players within the software market, companies need to start asking what will be the impact on their business if their software supplier goes bust and how best can they protect themselves?

The main problem facing a purchaser if its software supplier is made insolvent/bankrupt is that they may no longer be able to have support, error corrections or modifications carried out on the software. Generally a software licence will only grant use of the object code (i.e. that part of the software which is translated into a computer readable form) and without the source code (i.e. that part which of the computer program written in a form comprehensible to a human being) a user will be unable to correct errors or modify the software. Although an EC Directive as implemented by the Copyright (Computer Programs) Regulations 1992 allows a user of software to copy or adapt software for the purpose of correcting errors in it, this right is limited and can be excluded under the terms of the software licence granted to the user.

When purchasers procure a new software system they often conduct a fairly exhaustive investigation into the software supplier's financial strength and the suitability of the product for their purposes. As part of this they often ask to talk with existing customers before concluding an agreement. However, in the current climate a prudent purchaser should also consider other ways to reduce the risks.

There are three main questions a company should be asking a software supplier in order to safe guard against the supplier becoming insolvent, these are:

  • Have you placed a copy of your software (source code) with a third party escrow agent?
  • Have you licensed any third parties to provide support and maintenance for your software?
  • What is the likely impact upon the smooth running of your business if you replace the software with a competitor's software at short notice? (and an internal question - is there another software product which is available?)

Escrow Agreements

An escrow contract is a tripartite agreement entered into between the purchaser, the software supplier and the escrow agent. The supplier deposits the software source code and supporting technical information with an escrow agent. The agent agrees to make the source code available to the customer if the supplier breaches its contractual support and maintenance obligations or becomes insolvent.

The benefits of such an arrangement are mutual. The purchaser is happy because the confidentiality in a major asset of the company is protected. The customer has the comfort of knowing that he will have access to the source code rather than a worthless claim against an insolvent company. The escrow agent will be happy provided his fees are paid for storing and releasing the software and his instructions are unambiguous. One group of people, who will not be so happy, will be the creditors of the software supplier, since the escrow arrangement involves the release of major asset of the supplier.

Practical Steps to Take Under the Escrow Contract

Check not only that the contract has been properly drafted and signed, but also that the supplier has really carried out all its obligations.

Has the supplier deposited everything that it is required to with the escrow agent? As few software products remain static, it is important to ask whether the contract requires the supplier to deposit all updates and enhancements with the agent. Do you have the systems in place to check that this has? Most contracts require that the agent to notify the customer when material is deposited.

Is the material sufficient to enable you to understand and use the computer program, fix bugs and make enhancements? It will be near impossible to do this with only the source code, so what other technical documentation will you need to understand and make use of it? The names and contact details of the original authors and support technicians can be valuable.

When you have checked that the suppliers have signed the escrow contract and chased them up to deposit all the right material with the escrow agent, you need to know whether that material will work. Some professional escrow agents offer verification services. These range from simple integrity testing to check that the media deposited is readable and contains accessible, virus-free source code, to a full verification to test that the source code deposited can be used to create the working application of the software as licensed to the customer.

In an ideal world you would require re-verification with every modification to the software to make sure that the amended version of the source code has been deposited. However, verification is not cheap so inevitably some risk/cost compromises have to be made. Nonetheless, how comfortable do you feel unless at least one version of the software has undergone full verification?

Do Source Code Deposit Escrow Contracts Have any Value in Practice?

There are a number of areas of doubt about the effectiveness of escrow agreements upon insolvency. One problem is that a release of the escrowed material by the agent may amount to a breach of section 127 Insolvency Act 1986 and a claim would lie against the business for recovery of the escrowed materials. Section 127 provides that, in a winding up by the court, any disposition of the company's property made after the commencement of a winding up is, unless the court orders otherwise, void. The release of deposited escrow material may amount to a disposition of the company's property and therefore a court order may be required before the agent can release the escrowed material. In principle, the court would allow such a disposition because it is unlikely to result in a reduction of assets available for distribution to the unsecured creditors.

If the supplier goes into liquidation, the liquidator may disclaim onerous property which includes unprofitable contracts. Escrow agreements may amount to unprofitable contracts because they result in the disposition of potentially valuable intellectual property rights. A similar point arises if a receiver is appointed. When a company goes into administration there is a statutory moratorium which prevents steps being taken against property of that company. This would includes steps to enforce any security over the company's property. If it is accepted that the exercise of your right against a source code escrow agent is, in effect, the enforcement of a claim against the property of the supplier company, then the release of the source code may be frozen for the duration of the administration.

The above problems will only arise if the supplier is bankrupt, or enters into liquidation, receivership or the like. Escrow agreements are still useful in the event of the supplier being in breach of his contractual obligations and therefore it is still worthwhile entering into an escrow agreement.

The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.

To print this article, all you need is to be registered on Mondaq.com.

Click to Login as an existing user or Register so you can print this article.

Authors
 
In association with
Related Video
Up-coming Events Search
Tools
Print
Font Size:
Translation
Channels
Mondaq on Twitter
 
Register for Access and our Free Biweekly Alert for
This service is completely free. Access 250,000 archived articles from 100+ countries and get a personalised email twice a week covering developments (and yes, our lawyers like to think you’ve read our Disclaimer).
 
Email Address
Company Name
Password
Confirm Password
Position
Mondaq Topics -- Select your Interests
 Accounting
 Anti-trust
 Commercial
 Compliance
 Consumer
 Criminal
 Employment
 Energy
 Environment
 Family
 Finance
 Government
 Healthcare
 Immigration
 Insolvency
 Insurance
 International
 IP
 Law Performance
 Law Practice
 Litigation
 Media & IT
 Privacy
 Real Estate
 Strategy
 Tax
 Technology
 Transport
 Wealth Mgt
Regions
Africa
Asia
Asia Pacific
Australasia
Canada
Caribbean
Europe
European Union
Latin America
Middle East
U.K.
United States
Worldwide Updates
Check to state you have read and
agree to our Terms and Conditions

Terms & Conditions and Privacy Statement

Mondaq.com (the Website) is owned and managed by Mondaq Ltd and as a user you are granted a non-exclusive, revocable license to access the Website under its terms and conditions of use. Your use of the Website constitutes your agreement to the following terms and conditions of use. Mondaq Ltd may terminate your use of the Website if you are in breach of these terms and conditions or if Mondaq Ltd decides to terminate your license of use for whatever reason.

Use of www.mondaq.com

You may use the Website but are required to register as a user if you wish to read the full text of the content and articles available (the Content). You may not modify, publish, transmit, transfer or sell, reproduce, create derivative works from, distribute, perform, link, display, or in any way exploit any of the Content, in whole or in part, except as expressly permitted in these terms & conditions or with the prior written consent of Mondaq Ltd. You may not use electronic or other means to extract details or information about Mondaq.com’s content, users or contributors in order to offer them any services or products which compete directly or indirectly with Mondaq Ltd’s services and products.

Disclaimer

Mondaq Ltd and/or its respective suppliers make no representations about the suitability of the information contained in the documents and related graphics published on this server for any purpose. All such documents and related graphics are provided "as is" without warranty of any kind. Mondaq Ltd and/or its respective suppliers hereby disclaim all warranties and conditions with regard to this information, including all implied warranties and conditions of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Mondaq Ltd and/or its respective suppliers be liable for any special, indirect or consequential damages or any damages whatsoever resulting from loss of use, data or profits, whether in an action of contract, negligence or other tortious action, arising out of or in connection with the use or performance of information available from this server.

The documents and related graphics published on this server could include technical inaccuracies or typographical errors. Changes are periodically added to the information herein. Mondaq Ltd and/or its respective suppliers may make improvements and/or changes in the product(s) and/or the program(s) described herein at any time.

Registration

Mondaq Ltd requires you to register and provide information that personally identifies you, including what sort of information you are interested in, for three primary purposes:

  • To allow you to personalize the Mondaq websites you are visiting.
  • To enable features such as password reminder, newsletter alerts, email a colleague, and linking from Mondaq (and its affiliate sites) to your website.
  • To produce demographic feedback for our information providers who provide information free for your use.

Mondaq (and its affiliate sites) do not sell or provide your details to third parties other than information providers. The reason we provide our information providers with this information is so that they can measure the response their articles are receiving and provide you with information about their products and services.

If you do not want us to provide your name and email address you may opt out by clicking here .

If you do not wish to receive any future announcements of products and services offered by Mondaq by clicking here .

Information Collection and Use

We require site users to register with Mondaq (and its affiliate sites) to view the free information on the site. We also collect information from our users at several different points on the websites: this is so that we can customise the sites according to individual usage, provide 'session-aware' functionality, and ensure that content is acquired and developed appropriately. This gives us an overall picture of our user profiles, which in turn shows to our Editorial Contributors the type of person they are reaching by posting articles on Mondaq (and its affiliate sites) – meaning more free content for registered users.

We are only able to provide the material on the Mondaq (and its affiliate sites) site free to site visitors because we can pass on information about the pages that users are viewing and the personal information users provide to us (e.g. email addresses) to reputable contributing firms such as law firms who author those pages. We do not sell or rent information to anyone else other than the authors of those pages, who may change from time to time. Should you wish us not to disclose your details to any of these parties, please tick the box above or tick the box marked "Opt out of Registration Information Disclosure" on the Your Profile page. We and our author organisations may only contact you via email or other means if you allow us to do so. Users can opt out of contact when they register on the site, or send an email to unsubscribe@mondaq.com with “no disclosure” in the subject heading

Mondaq News Alerts

In order to receive Mondaq News Alerts, users have to complete a separate registration form. This is a personalised service where users choose regions and topics of interest and we send it only to those users who have requested it. Users can stop receiving these Alerts by going to the Mondaq News Alerts page and deselecting all interest areas. In the same way users can amend their personal preferences to add or remove subject areas.

Cookies

A cookie is a small text file written to a user’s hard drive that contains an identifying user number. The cookies do not contain any personal information about users. We use the cookie so users do not have to log in every time they use the service and the cookie will automatically expire if you do not visit the Mondaq website (or its affiliate sites) for 12 months. We also use the cookie to personalise a user's experience of the site (for example to show information specific to a user's region). As the Mondaq sites are fully personalised and cookies are essential to its core technology the site will function unpredictably with browsers that do not support cookies - or where cookies are disabled (in these circumstances we advise you to attempt to locate the information you require elsewhere on the web). However if you are concerned about the presence of a Mondaq cookie on your machine you can also choose to expire the cookie immediately (remove it) by selecting the 'Log Off' menu option as the last thing you do when you use the site.

Some of our business partners may use cookies on our site (for example, advertisers). However, we have no access to or control over these cookies and we are not aware of any at present that do so.

Log Files

We use IP addresses to analyse trends, administer the site, track movement, and gather broad demographic information for aggregate use. IP addresses are not linked to personally identifiable information.

Links

This web site contains links to other sites. Please be aware that Mondaq (or its affiliate sites) are not responsible for the privacy practices of such other sites. We encourage our users to be aware when they leave our site and to read the privacy statements of these third party sites. This privacy statement applies solely to information collected by this Web site.

Surveys & Contests

From time-to-time our site requests information from users via surveys or contests. Participation in these surveys or contests is completely voluntary and the user therefore has a choice whether or not to disclose any information requested. Information requested may include contact information (such as name and delivery address), and demographic information (such as postcode, age level). Contact information will be used to notify the winners and award prizes. Survey information will be used for purposes of monitoring or improving the functionality of the site.

Mail-A-Friend

If a user elects to use our referral service for informing a friend about our site, we ask them for the friend’s name and email address. Mondaq stores this information and may contact the friend to invite them to register with Mondaq, but they will not be contacted more than once. The friend may contact Mondaq to request the removal of this information from our database.

Security

This website takes every reasonable precaution to protect our users’ information. When users submit sensitive information via the website, your information is protected using firewalls and other security technology. If you have any questions about the security at our website, you can send an email to webmaster@mondaq.com.

Correcting/Updating Personal Information

If a user’s personally identifiable information changes (such as postcode), or if a user no longer desires our service, we will endeavour to provide a way to correct, update or remove that user’s personal data provided to us. This can usually be done at the “Your Profile” page or by sending an email to EditorialAdvisor@mondaq.com.

Notification of Changes

If we decide to change our Terms & Conditions or Privacy Policy, we will post those changes on our site so our users are always aware of what information we collect, how we use it, and under what circumstances, if any, we disclose it. If at any point we decide to use personally identifiable information in a manner different from that stated at the time it was collected, we will notify users by way of an email. Users will have a choice as to whether or not we use their information in this different manner. We will use information in accordance with the privacy policy under which the information was collected.

How to contact Mondaq

You can contact us with comments or queries at enquiries@mondaq.com.

If for some reason you believe Mondaq Ltd. has not adhered to these principles, please notify us by e-mail at problems@mondaq.com and we will use commercially reasonable efforts to determine and correct the problem promptly.