United States: Some Legal Considerations Regarding The Use Of Computer Software For E-commerce

Computer software is a key component of the Internet economy. Software is responsible for the operation of every Web site, and many e-commerce businesses count software among their chief assets. Despite the importance of software, companies frequently fail to take the steps required to acquire adequate rights to control and use the software that their business depends upon. This article will briefly discuss steps that can be taken to acquire rights in software in three situations: (i) when software is developed by or for a company; (ii) when a company licenses software from another ("inlicensing"); and (iii) when a company licenses software to another ("outlicensing").

Companies engaged in e-commerce or Internet activities frequently devote substantial resources to develop computer software. That software will be developed by either company employees, independent consultants/contractors, or a combination of both. Ordinarily, a company that pays to have software developed should own and possess all rights to control and use that software. Issues concerning software ownership and rights to use software frequently arise in the development context in one of two ways. Either an employee or consultant claims to have rights in the developed software, or a former employee or consultant involved in development of the software develops another software product and claims that the company has no rights in the subsequently-developed software.

Make Sure Employees Assign Their Rights. Anyone that is involved in any aspect of software development, for example, creation, design, implementation or testing, may later assert that he or she owns or has rights in the software. In the absence of a written employment agreement, an employee who participated in the development of a software product may be able to assert that he or she has rights in the software. For example, although the employer owns the copyright in any software developed by an employee within the scope of his or her employment, the employee may claim ownership of copyrights because some or all of the work was not within the scope of employment. To ensure that any rights that may later be asserted by an employee have been transferred to the company, the company should enter into a written agreement with each employee. The agreement should clearly state that the employee assigns, and the company owns, all rights (including all intellectual property rights such as copyrights, trade secret rights, and patent rights) in any software developed with the employee’s involvement or participation. The agreement should also state that the employee willingly and knowingly waives all rights in the software, including any rights of attribution and integrity. To minimize the risk of "scope of employment" issues, the agreement should state that any participation or involvement by the employee in the development of software is within the scope of employment and constitutes a "work made for hire". Be mindful, however, that "scope of employment" issues may arise despite these precautions when the agreement contains a specific job description or language that may be interpreted to define the scope of employment.

In situations where the software has already been developed but the employee signed no or an inadequate written agreement, the company should obtain a written assignment of all rights in the software as soon as practicable. In addition to the provisions described above, post hoc agreements should include a provision that assigns the right to sue to collect damages for past infringement of intellectual property rights.

Make Sure Independent Contractors and Consultants Assign Their Rights. A company should have a written agreement in place with each independent contractor or consultant who participates or is involved in software development. Like the employee agreement, the consultant agreement should assign all rights (including intellectual property rights) to the company. The assignment should also be accompanied by language stating that the consultant willingly and knowingly waives all rights in the software, including any rights of attribution and integrity. As it is uncertain whether the copyrights in computer software can be initially vested in the company instead of the consultant as a "work made for hire", the agreement should take a belt and suspenders approach and clearly state: (i) that any software that is based upon or results from the consultant's work is a "work made for hire", (ii) that all rights (including intellectual property rights) in any such software vest in the company, and (iii) that the parties' understanding that any such software is a "work made for hire" predates creation of the software.

If the software was developed using one or more consultants who did not sign or signed an inadequate written agreement, the company should obtain a written agreement from each consultant as soon as practicable. In addition to the assignment, waiver and "work made for hire" provisions discussed above, the agreement should include a provision that assigns the right to sue to collect damages for past infringement of intellectual property rights. Post hoc agreements should include additional language to increase the chances that software developed using a consultant may be deemed a "work made for hire". The agreement should indicate that it is a written agreement confirming a prior agreement between the company and the consultant that the software is a work made for hire.

Obtain Rights to Modifications, Improvements and Subsequent Developments. More frequently than perhaps is desirable, companies are confronted with a situation where a former employee or consultant who was involved in software development later develops software that modifies, improves, or performs the same or very similar functions to the software that he or she helped to develop for the company. In many situations, the company will want the right to control, or at least use, such subsequently-developed software. For example, the language assigning all rights can specifically include all rights in any "derivative work" (software based upon the previously developed software), rights in any modifications or improvements to the software, and rights in any software that performs the same or a substantially similar function. If only the right to use and license use of subsequently-developed software is desired, then the language can be modified to specify that the company has a royalty-free, transferable right to use and license use of any subsequently-developed software. Whatever choice is made, a company should make sure that sufficient rights are obtained to subsequently-developed software so that in the future the company is not faced with a competing software product or a modification or improvement of its software that it has no rights to use.

It is becoming more and more common place for e-commerce businesses to use "off-the-shelf" commercial software, for instance for powering the Web site or for backoffice and internal business operations like accounting, inventory, human resources, etc. The extent of a company's rights to use these commercial software applications will invariably be governed by the terms of a license agreement with the software provider. When inlicensing software for use in an e-commerce business or Internet activity, a company should carefully review the license terms to ensure that they permit use of the software to the full extent of the company's anticipated use. It is equally important to make sure that by licensing software a company does not relinquish rights to control and use any software that incorporates or is developed using inlicensed software. Some ways to help ensure adequate rights to inlicensed software are discussed below.

Make Sure that the Software Provider Has Adequate Rights to License the Software. Usually, the inlicensed software was developed by employees of, or independent consultants hired by, the software provider. With alarming frequency, it turns out that the software provider has not obtained adequate rights to license the software to others. For example, if an independent consultant developed the software but did not sign or signed an inadequate written agreement, the company licensing the software may not own the copyrights in the software. Further complicating matters, if the inlicensed software has integrated or otherwise used other "inlicensed" software, that company's rights to further license the software may be limited. For example, the software provider may have agreed to a license that permits internal use of a software package that includes "inlicensed" software, but does not permit the package to be used externally or licensed to others. To help minimize risks associated with the adequacy of the software provider's rights, a company that inlicenses software should make sure that the license agreement contains adequate representations and warranties that the software provider owns or has authority to grant the licensed rights. The license should also include an indemnity for any claims arising or resulting from allegations that the licensor lacked authority to grant the licensed rights.

Be Wary of Giving Away Rights in Developed Software to the Software Provider. A company that is inlicensing software should also take care to ensure that by inlicensing software it does not inadvertently give away rights in software that it is developing. Particularly when software is being inlicensed to develop another software application, or is being integrated into a software package, the license agreement must be scrutinized for terms that give the software provider rights in the software that is being developed. For example, if inlicensed software is used to develop another software application, the developed software may be a "derivative work" of the licensed software. If the license agreement with the software provider states that the software provider owns the rights in derivative works, the software provider, not the company who developed the software, could own the copyrights in the developed software. For similar reasons, license terms that purport to give the software provider rights in "improvements", "modifications", "enhancements", "adaptations" or the like should be carefully scrutinized.

Make Sure that the Scope of the License is Sufficient. When inlicensing software, the scope of the license must be at least commensurate with the anticipated use of the software. For example, the license must extend for a sufficient period of time. A license that expires right when your e-commerce business is rapidly expanding could pose a serious problem. So could a license that gives the software provider overbroad termination rights, such as an unqualified right to terminate on 90 days notice. Likewise, a license that authorizes a narrow field of use, such as internal use only, a limited number of external users, a limited geographic area or a particular operating system, can retard business growth. Before inlicensing software, the anticipated purpose and use of the software should be understood, including the anticipated duration and geographic scope of the use, and the anticipated number of users, both internally and externally. Knowing these details upfront will help to ensure that any agreement to inlicense software confers rights that are commensurate with the company's anticipated use.

Protect Against Loss of the Right to Use Software Resulting from Insolvency. Any company that inlicenses software should ensure that its rights to use the software will not be imperiled if the software provider becomes insolvent. Under US bankruptcy law, a trustee or debtor-in-possession can "reject" most types of executory agreements, which would, essentially, terminate the other party’s contract rights, 11 U.S.C. § 365(a). To protect against insolvency, it is advisable to state that the license is a license of intellectual property under section 365(n), which provides that in the event of a rejection by a trustee or debtor-in-possession in bankruptcy or insolvency proceeding, the licensee may retain its rights to certain types of intellectual property. Further, a company that is inlicensing software may want to ensure that the source code to the licensed software is escrowed, so that it has a way to maintain and service the software if the software provider becomes unable to do so.

When a company licenses software to others ("outlicensing"), the key concerns regarding ownership and rights to use are essentially the converse of the "inlicensing" scenario. A company that licenses software should be concerned about the scope of the license and its rights in any software that is subsequently developed by those that have been authorized to use the software.

Make Sure the Scope of the License Being Granted is Appropriate. Before licensing software, a company should understand the market and potential users of the software. This knowledge will dictate, in significant part, the appropriate license scope. Typical considerations regarding the scope of a license include:

• Should the license be exclusive or non-exclusive?
• Should the license be restricted to a geographic area (e.g., the US)?
• Should the license be limited to a particular number of users?
• Should the license permit use by third parties (sublicensing)?

Exclusive vs. non-exclusive. An exclusive license means that the software provider will not license its software to anyone else. Before granting an exclusive license, a company should carefully consider whether the situation is an appropriate one for an exclusive license. In the Internet environment, an exclusive license may be imprudent when the software is intended for use by a large number of users, including companies who compete with one another (e.g., Internet service providers, Web portals, etc.). Whenever an exclusive license is granted, the agreement should include appropriate safeguards that condition or dissolve exclusivity. Often, these safeguards are tied to revenue targets, for example, to maintain exclusivity a minimum annual revenue or minimum number of users must be achieved.

Restricting the license to a geographic area. Many software licenses are restricted to specific sites or to specific geographic areas. These restrictions may make sense when the software will be resident and used at an identifiable location or locations, or on a stationary computer, like a main frame. Typical examples may include software that is designed for on-site business operations, like accounting, human resources, payroll, inventory tracking or facility management software. Geographic limitations may also make sense in the distributor context, for instance where particular distributors are permitted to license the software to customers located in a defined geographic area. But for software that is designed to be used in connection with the Internet, and particularly software that is intended for a Web site that can be accessed by any Internet user, geographic restrictions may be less practical for the obvious reason that any Internet user may be using any computer located anywhere in the world.

Restricting the Number of Users or Computers. Often a company licensing software will seek to restrict the number of users of the software or the number of computers on which the software may be used. In both situations, use that exceeds the allotted number requires an additional payment to the software provider. Before including such terms in a license agreement, a company should consider whether there is both a feasible and practical way to ascertain the number of people who have used the software, or the number of computers on which the software has been used. For example, restricting the number of users or computers may not be technically feasible when the software is designed for use on the Internet by anyone using any computer located anywhere in the world. When a license includes a restriction on the number of users or computers, the license should also include provisions that enable the software provider to monitor and confirm that number. Monitoring is often done through license provisions that require the licensee to provide a periodic report detailing the number of users or computers. Confirmation is often assured by including terms that permit the software provider to audit periodically (e.g., annually) the licensee.

Third-party Use or Sublicensing. Whether to permit your licensee to authorize further use of the software by others essentially depends on the nature of the software that is being licensed. If the software is an application that is designed for individual use or for internal use only (e.g., MicroSoft Excel®, Corel WordPerfect®), there is little or no reason to permit sublicensing. In contrast, software that may ultimately be accessed by anyone using the Internet, for instance software that powers a Web site, should be licensed on terms that permit third-party use. When granting a license that permits third-party use, however, it is essential for the software provider to make sure that the software licensee: (i) enters into an enforceable agreement with any subsequent users, and (ii) that this agreement incorporates the most important terms of the initial license agreement. One way to do this is by conditioning the right to permit use by others on the existence of an enforceable agreement that includes specified terms of the initial license, for example provisions limiting liability. The software provider may also want to make sure that any subsequent users are not permitted to authorize further use of the software.

Make sure to Obtain Adequate Rights in any Modifications, Improvements or Subsequent Developments. The software provider must anticipate the possibility that an authorized user may make modifications, additions or other improvements to the software, or may even develop a new software application based on or incorporating the licensed software. Absent an agreement to the contrary, the creator of any subsequently-developed software ordinarily owns the copyrights in that software, even if it is a derivative work of the outlicensed software. In addition, suppose the software licensee develops an improvement to the licensed software and then applies for and obtains a patent on the improvement. The licensee could then use this patent to prevent the software provider from incorporating the improvement into the licensed software, or from using the improvement in connection with the licensed software. To ensure the ability to use or license any subsequently-developed software, the software provider should consider license terms that either assign all rights in any subsequently-developed software to the software provider, or at least permit royalty-free use of any subsequently-developed software by the software provider.

This article outlines some of the fundamental steps that can be taken to obtain rights to use and commercially exploit software in the development, inlicensing and outlicensing contexts. As companies that use the Internet for e-commerce or other activities will inevitably use computer software, ensuring that adequate steps have been taken to obtain rights to use and exploit this software can be critical to assuring the long term success of any e-commerce business or Internet activity.