A legal review of IT project delivery can help to avoid disputes

Organisations that undertake a legal review of their programme delivery will be best set to identify features that can lead to disputes and therefore well-placed to address them.

A recent ruling by the High Court in London addressed a number of 'hot topics' and practical points that commonly arise in IT programme disputes. It also reached a surprising conclusion on the treatment of wasted expenditure and the operation of exclusions of liability clauses.

CIS v IBM

The case of CIS General Insurance Limited (CIS) v IBM United Kingdom Limited (IBM) concerned a claim for wasted expenditure and damages arising out of the termination of a contract for a new IT system.

CIS entered into a 10 year contract with IBM for the supply and management of a new IT system for its insurance business. IBM was to deliver the new platform before 31 December 2017, when CIS's insurance business would be separated from the Co-op Bank. The project was delayed.

IBM submitted an invoice (AG5) to CIS seeking payment of almost £2.9 million in respect of a milestone under the contract. IBM's position was that AG5 reflected payments that were due for software licences. CIS refused to accept or pay IBM's invoice. Its position was that the payment was not due because the AG5 milestone had not been met and CIS had not authorised its payment or issued a purchase order for it.

CIS notified IBM that it intended to exercise rights of set off against any sums due in respect of the invoice. IBM then served a final notice for the invoice, which CIS still refused to pay. IBM subsequently purported to exercise a contractual right of termination based on CIS's failure to pay the invoice. CIS disputed IBM's right to terminate, treating it as a repudiatory breach of their contract that it purported to accept.

Before the High Court, CIS's primary claim against IBM was for damages of £128 million in respect of wasted expenditure arising out of the alleged wrongful termination by IBM.

In its ruling, the court held that:

• IBM was not entitled to exercise its termination rights following CIS' failure to pay invoice AG5;
• IBM's purported termination amounted to a repudiatory breach that CIS accepted;
• IBM was in breach of the contract for delays to certain milestones and for its reporting obligations in respect of those delays;
• CIS' claim for £130m wasted expenditure was excluded by the contract;
• CIS was entitled to nearly £16m in respect of pre-termination breaches;
• IBM was entitled to set-off the sum of nearly £2.9m for the unpaid AG5 invoice against the amount it otherwise owed CIS.

Practical points arising from the judgment

Commercial off-the-shelf (COTS) products

Part of CIS's claim was that it would not have entered into the contract if it had known that the IT system was not a COTS product that could meet its requirements with minimum customisation. This is an issue that is often raised in IT project disputes.

It is crucial to have clear scoping and requirement setting at the outset of a programme and clarity on the development methodology that will be used so that the customer's expectations are set correctly. This includes being clear on whether the solution is a COTS product or not and what that means in practice, as the parties may have conflicting views on what constitutes a COTS product – in particular, how much customisation will be required.

Delay

Delay is another common element to IT programme disputes. In this case, IBM argued that CIS caused the delay, but it was held that IBM was responsible for the critical delays to the project, largely due to the sub-contracted software supplied. IBM was also held to be in breach for failing to comply with its reporting obligations by not reporting on the delays.

Good contract management is vital. This includes keeping an accurate record of delay and slippage. If possible, the parties should aim to agree and record the causes of delay as and when they arise and if appropriate, to settle them. This will help to avoid a 'snowball' effect of cumulative delays and arguments down the line.

Reporting on delay should be accurate, particularly where there are contractual reporting obligations. Attempting to 'gloss over' delays from a commercial perspective is unlikely to be a viable contract management strategy, and could constitute a breach.

Disputed invoice process

The court decided that AG5 invoice was payable. However, it said IBM was not entitled to rely on the non-payment of the invoice by CIS to terminate the contract between the parties, because CIS had acted in accordance with the express contractual procedure for disputing invoices and was entitled to withhold payment.

The court's findings are a reminder that parties involved in an IT project should make sure to follow the disputed invoice process in their contract. It is also important to check whether any other issue escalation procedures and notice requirements apply.

Reasonable and best endeavours

In a given situation, there might be a number of reasonable courses of action to take to achieve a particular aim. An obligation to use "reasonable endeavours" requires a party to take only one reasonable course of action, whereas "best endeavours" requires a party to take all of the reasonable courses that that they can and may extend beyond that, to using extraordinary effort.

The court clarified that there is a distinction between an obligation to use "all reasonable endeavours" and one to use "best endeavours", although in some cases there may be no discernible difference in practice.

An obligation to use "reasonable endeavours" is a lower bar to meet than "best endeavours". It is important to bear this in mind both when agreeing to obligations and when performing them. The difference in practice may be whether a supplier is required to take only one reasonable course of action or to go the extra mile and do their utmost to fulfil the obligation.

The exclusion of wasted expenditure

The contract between CIS and IBM included a number of exclusions from liability, including certain types of losses. These included “loss of profit, revenue, savings (including anticipated savings) … (in all cases whether direct or indirect) …”

CIS claimed approximately £130m for its wasted expenditure of the project. In failed IT project claims it is not uncommon for a significant proportion of compensatory awards to be comprised of wasted expenditure, given that projects are often long-running and highly collaborative, involving considerable costs and resource.

CIS' claim for wasted expenditure was dismissed on the basis that it was excluded by the contract. The court's rationale was that although framed as wasted expenditure, it was ultimately a way of quantifying the loss of the bargain struck under the contract, being the savings, revenues and profit that CIS would have achieved if the IT solution was successfully implemented. The purpose of the contract and the benefit under it was for CIS to secure costs savings and increased revenues through the use of the IT system.  The court held that wasted expenditure ”simply represents a different method of quantifying the loss of the bargain; it does not change the characteristics of the losses for which compensation is sought”. 

Contractual exclusions of liability of this nature are common in IT contracts, and this interpretation of an exclusion for loss of profits or revenue, could have wide-reaching consequences. It is therefore a stark reminder of the importance of using clear words when drafting exclusions of liability to make it clear what losses it is intended to cover, particularly if the intention is to exclude claims for lost profits but maintain an ability to claim for wasted expenditure.

IT project warning signs

For customers of IT projects, these can range from:

• receipt of contractual notices from the supplier asserting an entitlement to compensation or relief from sanction for delay;
• threats in correspondence from suppliers about non-payment of charges tied to milestone deliverables;
• contractual variation requests from suppliers seeking to de-scope parts of the project or increasing charges for 'out of scope' services;
• a lack of up-to-date plan for the remainder of the project which takes account of what has happened to date;
• the solution or service delivered not meeting the business' needs.

For suppliers of IT projects, these can range from:

• the project is delayed but there are no corresponding contractual notices asserting an entitlement to compensation or relief from sanction for delay;
• the project requirements have changed but contract variations have not been agreed to address this;
• the customer is refusing to pay charges tied to milestone deliverables and is requesting rectification plans;
• the customer is refusing to engage in planning discussions to re-plan the remainder of the project;
• there are delivery issues, including solvency risks, attributed to the supply chain.

In each case, these symptoms point to greater problems down the line. If those problems are identified early enough, it might be possible to avoid a dispute altogether – or at least for parties to improve their position if a dispute cannot be avoided.

A legal review of programme delivery will allow parties to an IT contract to understand the delivery risk, and to identify a strategy and appropriate steps to mitigate the likelihood of the risk becoming a significant issue.

Co-written by Mastane Williamson of Pinsent Masons.