Avoiding the Pitfalls of the "Unlimited" License - Four questions you should ask: The Third Question

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Let's quickly revisit the scenario we've been following through our first two installments. That is, you are a CIO faced with a decision on whether or not to enter into an "enterprise" or an "unlimited" license arrangement with a major software publisher. With the first installment, we explored the scope of the deal ("What does "enterprise" or "unlimited" really mean?"). And, with the second installment we discussed the prospect of a long-term relationship with the publisher ("Do we really want to be doing business with this publisher?").

Let's assume you've gotten yourself a little more comfortable with the idea of the deal after looking at your team's responses to the first two questions. Even so, there are additional risks to understand and address, which brings us to the third question:

"Does the deal reflect and account for the long-term nature of the arrangement and relationship with this publisher?"

There are two facets to be explored in answering this question. One facet is realizing the rightful expectation of getting better pricing than you would for a short-term relationship (or series of shorter term engagements). The other is making sure the deal is suitably structured for a long-term relationship.

The fourth installment of this series looks at the question "Am I getting a good deal?" from a price perspective. In exploring that question we will touch on some of the pricing risks specific to an enterprise and unlimited licensing arrangement. Suffice it to say, an important consideration is whether you will actually achieve the more attractive pricing rightfully expected in long term arrangement.

Now let's talk about the second facet:

It should go without saying (though, surprisingly, it is often not the case) that these business arrangements should be structured (and have terms, including pricing) that will stand the test of time. That is, they should reflect the long-term nature of the relationship and the likelihood of change.

Why so important? The short answer is things inevitably change... for you, for the publisher and in the industry in general. And the longer the term the more likely change will occur.

There are any number of changing circumstances that you ultimately may need to consider. The potential list is long and the solutions and risk mitigation measures vary. Here are just of few examples.

Publisher or Industry-Driven Changes

  • Changes in the Publisher's Business Strategy: The publisher may be acquired, may stop doing business, may sunset an application, may replace a product with a new (likely more expensive) one or may sell a product to another publisher. Your up-front due diligence (as discussed in question two) may help identify or offer opportunities to contain these risks, but in a long-term relationship this can (and often does) happen. Poison pills and "functionality" use rights can protect you to some extent, but at a minimum you must protect your continued use and support rights.
  • Changes in Support Offerings: This may include changes to the scope of the support offering or changes in the price for support. There are some protections a customer can pursue. For example:
    • Customers typically can secure the right to "not purchase" annual support for an entire license grant without losing perpetual use rights for that license grant. However, these rights are often subject to tight limitations.
    • Fee "freezes" and increase caps can be negotiated.
    • Customers also can negotiate limitations on changes to the support offering.

As a practical matter, however, these measures offer only modest protections.  The leverage proposition is tipped in favor of the publisher because the customer has few, if any, alternative sources of support. You should try to obtain as many protections as you can when you make the purchase and then, at a minimum (a) make sure you fully understand the publisher's ability to change its support offering (in the "fine print") and (b) determine whether or how these changes could impact the economics of the deal.

  • Changes in Law: A change in law has the potential to alter the method of support, the economics and even, in some cases, the efficacy of the system or product (or one of its components). The risk is even more acute given the long term nature of these engagements. As a result, customers should, at a minimum, try to build in sufficient exit rights as an ultimate back-stop for this risk.
  • Publisher Insolvency: This is a risk with in any transaction, but more acute when the product is running an important component of your business - potentially for a long time. The typical measure is a source code escrow, which may not offer the optimal solution (it can be expensive and cumbersome). If an escrow is used, the key is obtaining escrow terms and release triggers that are reasonable and offer a meaningful opportunity to secure the source code when needed.

Customer-Driven Changes (two examples)

  • Customer Changes in Control: Another entity acquires the customer or a customer business unit, or a business is divested. There are a variety of protections to consider in this area. A few examples include: (1) obtaining a pre-agreed right to assign the license (or an allocated portion thereof) to the successor enterprise; (2) addressing use rights during transition and ongoing support; and (3) avoiding or limiting poison pills and analogous terms many publishers pursue if you are acquired.
  • Price Protection: From a long-term perspective, there are two primary aspects of price that should be considered:

Growth: If your company is on a growth path, the size of an enterprise agreement must be structured to accommodate that growth. The unlimited deployment term usually lasts only three or four years. So what is the price for additional use rights that are required after the unlimited deployment term? Price holds, for example, are a typical protection. However, you should be cautious of the conditions that are attached to them, including sunset provisions and the requirement of continuous support payments.

Schedules Slip or Actual Deployment Falls Below Initial Estimates: In very simple terms, the economics of these arrangements (and the business case supporting them) are based on the customer's projected deployment volumes (use rights) and anticipated deployment schedule. However, more times than not, neither projected demand nor the anticipated schedule are certain. If you wind up deploying fewer use rights and/or deploying those rights slower than your projected schedule, the financials on which you based your investment (your business case) might never come to pass. (This topic will be discussed in more detail in the fourth installment).

So what's the takeaway from all of this? In a nutshell, customers should approach these arrangements with a laser focus on: (1) the potential rewards of the long-term relationship, (2) the risks associated with that relationship, and (3) the measures to pursue both to achieve these rewards and address these risks. When you are asked to sign off on an enterprise or unlimited arrangement, ask the question: "Does the deal reflect and account for the long-term nature and relationship with this publisher?"