On 26th January 2010 the High Court handed down its judgment in BSkyB v EDS, one of the most keenly awaited decisions in the IT industry for many years. This bulletin summarises the case and its findings, and highlights the key legal and commercial implications for both suppliers and customers.

The Project

In February 2000, Sky announced it intended to spend £50m to create a "world class" customer relationship management system at its contact centres in Scotland. One month later, Sky issued an invitation to tender for the project and then selected EDS as software supplier and systems integrator in July 2000. A contract was signed in November 2000 setting out EDS' obligations as systems integrator. The project did not start well and early delays and problems led to the parties amending their original contract in July 2001 to give EDS more favourable terms. However, poor performance continued and Sky eventually removed EDS and assumed the role of systems integrator in March 2002. The system was finally completed by Sky in March 2006 at an estimated cost of £265 million.

Sky sought compensation from EDS, ultimately leading to Sky issuing court proceedings against EDS in August 2004 for multiple claims, including fraudulent and negligent misrepresentation and breach of contract. Sky alleged that as a result of EDS’ wrongful conduct, it was fraudulently induced to award the contract to EDS. But for the misrepresentations by EDS, Sky argued that it would have contracted with one of the other bidders who would have successfully implemented the project earlier and at a lower cost overall.

The Claims

Misrepresentation and Deceit

Sky claimed EDS made a number of misrepresentations concerning their ability to deliver the system prior to entering into the contract. In particular, Sky alleged that EDS had represented that they had conducted a proper analysis of the amount of time required to complete the various stages of the project, and had reasonable grounds for believing they could and would meet the project deadlines as set out in both the tender response and the subsequent contract.

The court held that this representation was false because EDS did not carry out a "proper exercise of planning, sequencing and resourcing" to determine whether they could comply with the timeframe.

Sky also claimed that the misrepresentation constituted deceit, in other words that it was made fraudulently. In order for Sky's claim of deceit to succeed it had to demonstrate that: (i) EDS knew the representation was untrue, or was reckless as to whether it was true; (ii) EDS intended Sky to rely on the representation; and (iii) Sky relied on the representation to its detriment.

The court was satisfied that all these elements were present and found EDS liable in the tort of deceit. It held that the misrepresentation as to the time it would take to deliver the system had been made by the managing director of the relevant division of EDS, who knew it was false. EDS had intended Sky to rely on the false representation, and Sky did so and suffered losses as a result.

Deceit or fraudulent misrepresentation is rarely alleged in cases concerning breach of IT contracts, because the seriousness of such an allegation means that the claimant has to meet stringent requirements to prove its case. However, for EDS, one of the consequences of being found liable for fraudulent misrepresentation was that the contractual cap of £30 million on EDS’s liabilities in relation to the project was no longer effective.

Negligence

As an additional claim, Sky alleged that EDS made further misrepresentations prior to the parties agreeing to amend the contract in mid 2001. Sky claimed that EDS falsely represented that they "had a programme plan that was achievable and the product of proper analysis and re-planning". Sky argued that the plan was unrealistic and was not based on proper investigation and planning.

The court accepted Sky's argument and held EDS liable for negligent misstatement and under section 2(1) of the Misrepresentation Act 1967. The court also reiterated that suppliers owe customers a duty of care in relation to pre-contractual representations.

Breach of contract

Sky also contended that the project failed as a result of three breaches of contract by EDS: (i) a failure to provide sufficiently experienced personnel; (ii) a failure to deliver the services and documentation in accordance with the contract, or at all; and (iii) a failure to exercise reasonable skill and care, or to conform with good industry practice.

The court found that, having amended the original contract, EDS "failed properly to resource the project", did not adhere to contractual deadlines, and ultimately made minimal progress. The cumulative effect of these deficiencies was to "amply demonstrate" that EDS had failed to exercise reasonable skill and care or conform to good industry practice. There was no effective project management, the planning was not properly documented and there were insufficient technical and managerial resources.

Attempts to Exclude Liability

Limitation of Liability

The agreement contained provisions limiting EDS' liability for breach of contract to £30 million and the parties both accepted that these provisions applied to any liability of EDS for breach of contract or negligent misrepresentation. They could not, however, protect EDS from liability for fraudulent misrepresentation. As a result, EDS is likely to have to pay damages in excess of £200 million.

The Entire Agreement Clause

EDS sought to rely on an entire agreement clause in the original contract to avoid any liability for negligent misrepresentation. The relevant clause stated that the signed contract shall "represent the entire understanding and constitute the whole agreement between the parties in relation to its subject matter and supersede any previous discussions, correspondence, representations or agreement between the parties…"

However, Sky argued that this wording merely meant that pre-contractual representations did not form part of the contract and did not mean the representations never existed. The court agreed, and held that the wording does not mean those representations are "withdrawn, overridden or of no legal effect". Mr Justice Ramsey stated that in order to function as EDS would have liked, "the language would...have had to go further". As a result, the clause did not prevent Sky claiming for negligent misrepresentation and misstatement.

Letter of Agreement

In order to address some of the early problems which arose during the project, the parties signed a Letter of Agreement to amend the original contract. The Letter was agreed "in full and final settlement of: (a) all known claims…; and (b) all unknown claims…"

It was EDS' contention that the Letter impliedly settled "all complaints which could be advanced on the basis of breach of contract" including claims in tort for misrepresentation which, if successful, would also have amounted to a breach of various contractual warranties.

However, Sky submitted that the wording was clear and unambiguous, and if it had been intended to compromise all tortious claims, it would have expressly said so. The court held that the Letter did exclude claims for breaches of the original contract but not for "all known claims and all unknown claims", including those in tort, which Sky could advance. The court found that Sky’s interpretation of the wording was correct and that the Letter did not exclude liability for negligent pre-contractual misrepresentations.

The Implications for Supplier

Best Practice in the Tendering Process

The judgment is a striking reminder of the need for suppliers to take care in preparing tenders and making statements concerning key issues such as timing, cost and scope of solution. The case should give the supplier community a firm push in the direction of best practice in bid preparation and submission, involving careful analysis of customer requirements and the resources necessary to meet them. The case is a pertinent reminder that not everything that is said in the tender process can be said to be "just sales talk” if it may mislead and is likely to be relied upon by the customer.

Bid Review

An important component of best practice in the bid process is peer review, that is to say the internal scrutiny of bids by an appropriately qualified parallel team before the bid is submitted. This should provide a check on the quality of the draft bid. The clear lesson is that peer reviews should take place at a number of stages, including prior to the award of preferred bidder status.

Selecting and Motivating the Sales Team

The credibility of the leader of the EDS bid, who at the time was the managing director of the relevant division of EDS, was completely demolished in some colourful passages of the judgment. Although the events giving rise to the case happened many years ago, it is an important reminder that the methods for the selection and motivation of the bid team and of sales teams generally should be aligned with the long term interests of the supplier.

Systems Integrator Role

EDS took on particular responsibility for the project as systems integrator, leading a team of several suppliers. There is no generally accepted definition of a systems integrator and accordingly it is important for suppliers to look carefully at the commercial and legal structure around the systems integrator role when it is part of a proposed project. Clarification of responsibilities and expectations with both the customer and the other suppliers involved is essential, particularly in large and complex projects.

Drafting of Exemptions and Releases From Liability

One of the key points for lawyers and contract managers from the case is the need to take extra care when drafting limitation clauses in IT contracts and settlement agreements, both of which were found to be partially ineffective in this case (see 4.2 and 4.3 above). Mr Justice Ramsey made it clear in this case that it was perfectly possible to limit liability in the way EDS sought (although whether Sky would have agreed to do so is of course another matter), but that the wording needed to be explicit and unambiguous. It is important to note that this would not have affected the outcome of the case as liability for deceit cannot be excluded by agreement, but better drafted provisions may help in other circumstances.

Insurance

It is anticipated that insurers who cover suppliers for negligence will be taking a closer interest in suppliers’ sales processes and the terms of their contracts concerning misrepresentations to customers. Suppliers will be well advised to ensure that all is in good order well before renewal time.

The Implications for the Customers

Existing and Potential Claims

The Sky case will strengthen the resolve of customers who are considering potential claims of mis-selling, but it is not a ‘magic bullet’. Successful claims for deceit still have a series of hurdles to overcome and require careful analysis and presentation. There is often little that a customer, such as Sky in this case, can do in the face of outright dishonesty by its supplier, other than to remain alert to where any dishonesty may have occurred and to investigate it thoroughly. It was as a result of its detailed investigation in this case that Sky was able to assemble the factual basis for making a successful claim in deceit against its supplier.

Customers should also take reasonable steps to help minimise any loss flowing from breaches of contract or misrepresentations by their suppliers. Although EDS accused Sky of having failed to mitigate its loss, the court dismissed this suggestion and found that Sky did not act unreasonably in taking over the systems integrator role itself once EDS had been removed.

Future Contracts

Although not directly relevant to the issues in the Sky case, there are a number of points to be borne in mind generally by customers in managing complex projects in future:

Most importantly, the case underlines the importance of subjecting bids by suppliers to rigorous analysis and justification from an early stage in the bid process, through to contract signature and thereafter. Customers should ensure suppliers can thoroughly validate their claims and show how they have arrived at estimates for resources, timescales, cost and other essential features of their offering. This should not be a one-off activity: customers should continually challenge suppliers to justify their statements throughout the project, both before and after signing the contract.

Customers should also think carefully about remedies other than legal action for contracts that do not turn out as anticipated and write these into the initial contract. In addition to robust change control mechanisms, these include gain-sharing and payment for results rather than effort (“outcome based pricing”).

The drafting of exemptions from liability and limitation clauses should be subjected to renewed scrutiny. Customers should be giving careful consideration to the risks they are prepared to accept and those they want their suppliers to shoulder and make these clear from the outset.

Conclusion

The Sky judgment does not make new law, but it does serve as a forceful reminder of the potential pitfalls under existing law, in particular what constitutes a misrepresentation and the value of effective exclusion clauses and settlement agreements. It is also likely to prompt those involved in large IT and outsourcing projects to look carefully at their bidding and contracting practices and processes to address the issues arising out of the case.