BLOG POST

Tech & Sourcing @ Morgan Lewis

TECHNOLOGY, OUTSOURCING, AND COMMERCIAL TRANSACTIONS
NEWS FOR LAWYERS AND SOURCING PROFESSIONALS

In a long-term outsourcing, software as a service (SaaS), or other services agreement, the customer will typically push for a termination right relating to the service provider’s breach, and perhaps for an insolvency event or change in control of the service provider. However, the customer should also consider including the right to terminate for its convenience (without cause), which could cover any of the following situations:

  • The customer is not satisfied with the service provider’s performance under the contract even though the provider is meeting its service level and other performance requirements under the contract.
  • Many alleged breaches by the service provider are initially “black and white” in the view of the customer, but they turn “gray” when the service provider pushes back and alleges nonperformance, nonresponsiveness, lack of cooperation, and the like on the part of the customer. Adding the customer’s right to termination for convenience can avoid the potential dispute over whether the customer has the right to terminate on other grounds.
  • Things change, and the customer may no longer want the contract as a result of, among other things, (1) having been acquired since the contract signing or (2) seeing changes in the market that the service provider is not keeping pace with but having no contractual requirement to enforce in that regard.

If the customer requests the right to terminate the contract for its convenience, that right typically carries with it a termination fee. The service provider invested money to enter into the deal, and is expecting to have those costs “amortized” over the expected term of the contract. If the term is cut short due to termination for convenience, the amortization period is cut short and the service provider is not getting the expected benefits of the deal. For this reason, termination fees are often defined in a downward-sliding scale over the term of the contract, with the highest termination fees seen early in the term.

Other termination fee components that service providers may try to include are the costs of breaking any third-party contracts the service provider entered into in order to perform the contract, costs associated with the service provider’s re-deployment of personnel and assets, and some part of its anticipated profits from the unfulfilled portion of the contract term.

Other points to consider in the termination for convenience provision include the amount of time between the customer’s notice of termination and the effective date of the termination, whether there is a period of time following the signing of the contract where the customer is not allowed to exercise its right to terminate for convenience, and what, if any, termination assistance the customer is entitled to receive following its exercise of its termination right.