3. Limitation of Liability

There are two general categories of damages recoverable for breach of a license agreement: consequential damages and direct damages. Consequential damages include lost profits, damage to data, data recovery costs, consulting fees, and damage to business reputation, etc. Consequential damages are sometimes called "incidental," "indirect," or "special" damages. Direct or "actual" damages are directly referable to breach of the agreement. For example, if software fails to perform, direct damages would be the license fee paid for the software while consequential damages would include the lost profits that result from the licensee's inability to use the software. Most commercial software licenses have "limitation of liability" provisions that specifically disclaim liability for consequential damages and typically limit direct damages to all or some portion of the fees paid for the software. While it is not generally possible in smaller transactions to eliminate the limitation of liability in its entirety, the following concessions can almost always be obtained:

The limitation of liability should be made applicable to both parties. The licensee should be entitled to essentially the same protections from damages that the Vendor is seeking;
The following should be excluded from all limitations of liability and damages: (i) breach of the confidentiality provision by either party; (ii) claims for which Vendor is insured; and (iii) the parties' respective indemnity obligations; and
The overall liability cap (usually limited to fees paid) should be increased to some multiple of all license and professional service fees paid (e.g., 1.5 to 3 times the total fees). The licensee should bear in mind that the overall liability cap must not apply to the exclusions set forth in the bullet point above.

From the licensee's standpoint, it is optimal for the Agreement to be silent on the issue of limitations of liability and damages. If the Agreement is silent, then each party is responsible for all damages which they are determined to have caused. That position should be acceptable to licensee because the licensee's only real obligation under the Agreement is payment. Unfortunately, virtually every licensor drafted agreement contains an extremely expansive limitation of liability provision which often limits the Licensor's liability to a fraction of the amount that it has been paid. This is neither fair nor appropriate, and the licensee must strenuously object to any broad form of limitations.

As shown in the example revision below, it is important to craft that the overall liability cap is appropriate in the early days of the agreement, when potentially only a small amount of fees will have been paid. If the cap is framed in terms of "all fees paid" and the amount of those fees early on in the agreement is small, the licensee will have little real protection if the vendor breaches. One approach to address this problem is to draft the liability cap in terms of the greater of fees paid or some defined amount (typically set at the fees to be paid during the first six months to twelve months of the agreement).

One of the most common errors made by licensees in negotiating limitation of liability provisions is the failure to ensure any exceptions from the limitation (e.g., indemnity obligations, breach of confidentiality, insured claims, etc.) are carved out of both the exclusion of consequential damages and the overall liability cap. Most limitation of liability provisions (as shown in Section 9 of the vendor form license) are divided into two parts: the exclusion of consequential damages and the overall liability cap. These two parts are generally set forth in two separate sentences within the limitation of liability clause. It is critical that the exceptions be carved out of both sentences. This is shown in the example revision below.

Example Revision:

Limitation of Liability. EXCEPT FOR BREACH OF SECTION 6 (CONFIDENTIALITY), INSURED CLAIMS, AND THE PARTIES' RESPECTIVE EXPRESS INDEMNITY OBLIGATIONS, IN NO EVENT SHALL EITHER PARTY ~~VENDOR~~ BE LIABLE TO THE OTHER PARTY~~CUSTOMER~~ OR ANY THIRD PARTY FOR ANY INCIDENTAL OR CONSEQUENTIAL DAMAGES (INCLUDING, WITHOUT LIMITATION, INDIRECT, SPECIAL, PUNITIVE, OR EXEMPLARY DAMAGES FOR LOSS OF BUSINESS, LOSS OF PROFITS, BUSINESS INTERRUPTION, LOSS OF DATA, OR LOSS OF BUSINESS INFORMATION) ARISING OUT OF THIS AGREEMENT OR CONNECTED IN ANY WAY WITH USE OF OR INABILITY TO USE THE LICENSED SOFTWARE, OR FOR ANY CLAIM BY ANY OTHER PARTY, EVEN IF THE PARTY ~~VENDOR~~ HAS BEEN ADVISED OF THE POSSIBILITY OF SUCH DAMAGES. EXCEPT FOR BREACH OF SECTION 6 (CONFIDENTIALITY), INSURED CLAIMS, AND THE PARTIES' RESPECTIVE EXPRESS INDEMNITY OBLIGATIONS, THE ~~VENDOR'S~~ TOTAL LIABILITY OF EITHER PARTY TO THE OTHER PARTY ~~TO CUSTOMER~~ FOR ALL DAMAGES, LOSSES, AND CAUSES OF ACTION (WHETHER IN CONTRACT, TORT (INCLUDING NEGLIGENCE), OR OTHERWISE) SHALL NOT EXCEED THE GREATER OF (I) TWO TIMES THE AGGREGATE FEES PAID HEREUNDER~~PURCHASE PRICE~~ OR (II) $100,000. THE LIMITATIONS PROVIDED IN THIS SECTION SHALL APPLY EVEN IF ANY OTHER REMEDIES FAIL OF THEIR ESSENTIAL PURPOSE.