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Out-Law Analysis | 27 May 2014 | 9:58 am | 8 min. read
Use of the model contract is encouraged when government departments and other public bodies enter into IT and business processing outsourcing (BPO) agreements.
Watchdogs such as the UK parliament's Public Accounts Committee and the National Audit Office have heavily scrutinised public sector IT deals in recent years in a bid to ensure value for taxpayers' money following a number of high-profile project failures.
The government's IT strategy, outlined in 2011, set out aims to reduce the risk of IT project failures, stimulate economic growth and strengthen governance. The development of a new model services contract represents significant investment by the government in the clarification of the commercial and contractual relationship it wants with its major service providers.
The new model services contract has been drafted to be more accessible and user-friendly than the OGC model ICT contract it has replaced, which was thought of as draconian by industry, and it is set out in a new and more accessible structure. The new contract reflects recent developments in law, such as the introduction of the new Bribery Act, and some other more practical matters, such as outlining a process for updating 'dead' hyperlinks where these are used to provide information on policies or other details.
The model services contract is first and foremost an IT contract, although it can be used in the context of BPO deals too. Although many provisions are reasonably generic, the absence of provisions directed toward the operation of BPO services does mean that any authority using the model services contract as a BPO services contract will likely need to spend a reasonable amount of time amending it.
Commercial aspects of the model services contract
Post-contract verification process
The new contract allows for 'allowable assumptions' to be made about aspects of the contract that suppliers can only verify after a contract has been signed. This reflects the practical reality that, in some cases, it is not possible to conduct full due diligence prior to signing a contract and where it is not appropriate for this risk to be borne fully by the supplier.
Where this is the case, authorities will be keen to ensure that any allowable assumptions and associated consequences are tightly defined in the contract.
'Target cost' pricing mechanism.
The model services contract also includes a 'menu' of different pricing methodologies which can be used or combined as considered suitable by the procuring authority. One of the new and more complex systems is the 'guaranteed maximum price with target cost' payment mechanism. This requires the setting of a guaranteed maximum price, and a target cost.
The aim is to incentivise the parties to reduce the total cost, principally by enabling the supplier to earn increased margin as the cost to the authority reduces below the stated target. Conversely, the supplier earns reduced margin if the cost exceeds the target threshold. Clearly each mechanism is better suited to use in different scenarios, and procuring authorities will need to consider the options carefully. 'Target cost' pricing mechanisms are not new – they are in place in existing public sector projects. Authorities should therefore seek to take advantage of relevant knowledge
No excessive profits
The contract includes an acknowledgement that the supplier's profit margin over the term will not exceed the "maximum permitted profit margin". That is, the profit margin identified in the supplier's financial model plus 5%.
This mechanism gives the contracting authority the ability to renegotiate the charges should this point be reached, or, if suitable adjustments to the charges cannot be agreed, terminate for convenience. In principle this provides a reasonably straightforward mechanism to minimise the risk of paying excessive or unanticipated profits – however, as the mechanism operates across the entirety of the contract and its term, contracting authorities may need to be able to interrogate financial models in some detail to operate the mechanism effectively.
Performance aspects of the model services contract
The supplier's performance must adhere to relevant standards and policies. This includes a requirement that the supplier "adopt the applicable elements of" the government’s technology code of practice and comply, to the extent within its control, with the government’s open standards principles in relation to "software interoperability, data and document formats". Negotiations between authorities and suppliers will likely focus on identifying the 'applicable elements'.
Changes to performance indicators and service credits
The model services contract includes a mechanism that enables the contracting authority to 'recalibrate' performance indicators and service credits annually and removes the supplier's ability to object to this recalibration where this is done within stated parameters.
Although flexibility of this nature can certainly be beneficial to authorities in contract delivery, it will be interesting to see whether this requirement has cost and other impacts. The mechanism requires the supplier's solution to be designed, delivered and operated with a high degree of in-built flexibility, i.e so as to be able to meet any recalibrated service levels. As this may not represent best value for money, procuring authorities may want to consider whether and to what extent such recalibration will actually be necessary.
The contract includes revised confidentiality provisions that enable the sharing of certain information by the authority in line with the government's transparency agenda. It also includes simplified open-book arrangements, including the use of summary financial reports and balanced scorecards.
Clarified intellectual property requirements
A major development for the supplier community is the recognition that the authority does not, in general, need to own specially-written or project-specific intellectual property rights (IPR) but that a perpetual, royalty free licence, and the right to sub-licence, will suffice in most cases.
In relation to any commercial 'off-the-shelf' (COTS) software to be used in the supplier's solution, the contract recognises that the terms on which this software is typically provided are often not negotiable. However, it nevertheless requires that the authority have certain rights to sub-license, assign and novate any COTS software that is owned by the supplier.
Using these points as a starting position is likely to reduce the level of negotiations and could provide a better value for money position if the supplier is able to derive benefit from the IPR. However this is something to be tested in the negotiations.
Modified supply chain rights
The new contract requires suppliers to transfer warranties and indemnities afforded in its supply chain to the contracting authority. The authority must also be appointed as the supplier's 'agent and attorney' to enable it to enforce those obligations directly. The provisions also include more typical supply chain rights, such as the requirement to ensure sub-contractors are subject to key conditions of the contract.
Although reasonably extensive, the authority's supply chain rights under the contract reflect the need for contracting authorities to be aware of and manage risks in suppliers' supply chains.
Remedies and liability aspects of the model services contract
Rationalised rectification process
The rights the authority has in relation to performance failures, delays and defaults have been rationalised and consolidated into what is largely a single rectification process, and the supplier is required to follow the process even if it disputes that it is responsible for the default. Many of the timeframes for the operation of this process are now ‘hard-wired’. Termination rights have been similarly consolidated.
New 'remedial advisor' process
Certain delay/breach trigger events give the authority the option to invoke a new 'remedial adviser' process which in essence involves the appointment of an independent body by the authority to monitor the suppliers' performance.
Although authority step-in rights remain they are little used in practice, so the remedial advisor process is intended to provide a more practicable and constructive alternative. The remedial adviser’s objective is to reduce the effects of an underperforming supplier on the authority, find a fix and avoid the occurrence of similar circumstances in the future. If the process is invoked, it will usually suspend authority's right to terminate for 60 working days.
Much as with the OGC model contract, authorities are entitled to liquidated damages previously agreed between it and its supplier should the supplier fail to achieve a 'key milestone' by the target date.
Such damages are the authority's exclusive remedy for such a delay, unless it is also entitled to terminate the contract or unless the supplier's delay in achieving the set target exceeds the 'delay deduction period', which is 100 days by default.
The dispute resolution procedure sets out the stages through which the parties are to resolve issues in dispute related to the contract. The stages begin with an attempt at “good faith” resolution by the parties’ representatives, failing which the parties must use “reasonable endeavours” to resolve through “commercial negotiation”. Failing this, either party may opt for mediation conducted in accordance with the CEDR model mediation agreement.
If the parties agree that a matter remaining unresolved relates to “the technology underlying the provision of the Services or otherwise relates to a matter of an IT technical, financial technical or other technical nature”, they may obtain a binding decision by a single expert chosen either by the parties or, failing agreement, by the president of certain stated bodies. Unresolved disputes otherwise fall to be resolved in the courts of England and Wales, which have exclusive jurisdiction for all contractual and non-contractual disputes, unless the authority elects for resolution by arbitration, utilising the Rules of the London Court of International Arbitration.
These steps need not be followed if a party requires certain forms of urgent relief, such as the seeking of interim or interlocutory remedies, or matters relating to either infringement of intellectual property rights, or the expiry of a limitation period, in which case that party may apply directly to the relevant court or tribunal.
Importantly, the new contract sets out standard exclusions and limits for the supplier's liability in many of the scenarios that were previously left to the procuring authority to determine on a case-by-case basis. This approach should be welcomed by the market, as the new positions will establish market norms and ultimately save time and money in procurement processes.
Under these provisions, indemnified claims are uncapped, as are liabilities that cannot legally be limited or excluded.
Liability for property damage caused in any contract year is capped at £10 million. By contrast, and perhaps unusually, losses arising from data- or confidentiality-related breaches by either party are subject to general liability caps, and not a higher or uncapped amount.
Liability for service failures caused in any rolling 12 months is capped at the 'service credit cap', to be calculated as a percentage of the relevant charges.
Liability for all other losses caused by supplier defaults are capped at 150% of the relevant year's charges estimated, due or paid, increasing to 200% in the cases of abandonment, wilful default, wilful breach of a fundamental term, or wilful repudiatory breach.
The authority's liability for default is generally limited to 100% of the relevant year's charges estimated, due or paid. This is except where there are to be payments by the authority in relation to certain termination scenarios, for example, termination by the authority for convenience.
The authority's liability in relation to the employee-transfer related indemnities is not capped.
Liability of either party for indirect/consequential losses, or for any "loss of profits, turnover, business opportunities or damage to goodwill", is excluded. However, this does not apply to losses that are recoverable by the authority where they can be linked to a default by the supplier.
The precise losses that authorities can claim in those circumstances include "any additional operational and/or administrative costs and expenses", including costs relating to time, incurred by the authority in "dealing with the consequences of the default". Additional costs authorities incur in procuring replacement services can also be claimed, amongst other losses stated under clause 25.8 of the new contract.
In addition, authorities can recover any anticipated savings that are lost as a result of a supplier default if these are stated in the contract. An example may be a reduction in service charges authorities expect to pay as service delivery becomes more efficient and effective.
It remains best practice to state that these types of losses will not be irrecoverable by virtue of being classified as indirect.
Christopher Mann is an IT contracts expert at Pinsent Masons, the law firm behind Out-Law.com
Out-Law Legal Update
Individuals advised to check whether they can still claim entrepreneurs' relief