Outsourcing, Contract, Litigation, Court

"No-one ever sues on an outsourcing contract"

12 Dec 2006 | (Thinking Point) | Richard Hawtin

Unfortunately outsourcing relationships occasionally fail.  The increasing complexity of outsourcing agreements and the inevitable tensions between vendors wishing to preserve margins, increasing competition from cheaper offshore providers and customers seeking ever better value for their business sometimes results in irreconcilable differences. 

However, historically virtually no outsourcing disputes ended up in court.  The interdependencies common to many outsourcing relationships tended to result in very few cases where one party was clearly in the right and one party clearly in the wrong.  Most disputes come in varying shades of grey with both parties sharing a degree of culpability - and grey is never a good colour to litigate!

As a result of this the claim was often made that if an outsourcing relationship went sour then, commercially, the parties would resolve their grief in private.  They might involve their lawyers.  They might terminate the relationship.  They might re-negotiate to improve the re-tendering and exit provisions they’d compromised on the first time around.  They might even resort to a few leaks to the press to apply pressure to the other side.  But "no-one ever sues on an outsourcing contract" was still widely heard - it was too painful and the parties were seen as too interdependent.

From a narrower legal perspective there was a second similar legal statement or claim - that no-one would ever get an injunction ordering the other party to the contract to do what they were supposed to do (rather than an injunction ordering someone not to do something).  That effectively means that the English courts leave the parties to sue for damages to protect themselves against the consequences of the other party not doing something.  There are a range of reasons for this but one of the main ones is that if it did grant an injunction that a party should perform its contractual obligations and a dispute then arose over whether someone was complying with it then the court would - very rapidly - have to get very heavily involved with investigating this - and having to decide whether someone should, potentially, go to prison as being in contempt of court.  Far more serious consequences than the usual liability to pay damages could therefore arise from granting this kind of an injunction, with the court risking very rapidly ending up in trying to work out what should or should not be being done on a virtually daily basis.  The courts were happy to watch the video and decide what had happened after the game was over but didn't really want to be become the referee on the pitch.

The English case of Vertex Data Science Limited v Powergen earlier this year is therefore noteworthy for at least two reasons.  First, because the case actually ended up in court.  Secondly, because Vertex, the vendor, asked the court to order Powergen, the customer, to perform its contractual obligations. 

The background

Powergen acquired another utility company, TXU, in late 2002.  When it did it "inherited" a major outsourcing contract between TXU and Vertex.  That was a contract for various customer management services which had been entered into by TXU earlier that year and which was worth in excess of £100 million per year.  Significant re-negotiations took place in 2003 and 2005 (in 2005 against a background of alleged breach by Vertex), during which the value of the contract was sharply reduced.  It is clear from the judgment that there were widespread problems with the relationship (which is of course a different question from the question of whether or not Vertex was meeting its obligations).  By 2006 full-scale litigation had broken out.

Under the terms of the contract the earliest date for termination was 2009 - termination under that provision would trigger obligations to reimburse certain investment costs but no other termination compensation would be due.  In March 2006 a notice of termination, essentially for material breach, was issued by Powergen - and this led quite rapidly to litigation.

Vertex denied it was in breach and applied to the court, seeking an injunction prohibiting Powergen from terminating the contract or from otherwise preventing Vertex from carrying on performing the contract.  Strictly speaking the application was for an interim injunction pending a later trial, rather than for a final, indefinite, injunction (the latter would remain to be decided at a final trial).  On its face this was an application for an order prohibiting Powergen from doing something - which is traditionally easier to obtain than an injunction ordering someone to do something - but the reality of such an order would have been to require Powergen to keep the contract in place.

Curiously, and initially surprisingly, this is therefore an application by a supplier that they effectively be allowed to carry on performing the services - rather than an application by a customer that a supplier must perform services.

The court's decision

The court's conclusion was ultimately that "…it must be obvious that this is a contractual relationship of a kind which is inherently inappropriate for [the granting of an injunction]".  This seems very much in line with the traditional legal view mentioned above - that courts won't positively order someone to comply with their contractual obligations.

A critical part of the court’s decision is as follows:

"…the relationship between Vertex and Powergen created by the MSA [the outsourcing contract] requires close and continuing cooperation at an operational level on a daily basis … I find it difficult to conceive that the cooperation required for successful performance of the MSA could be achieved without mutual goodwill. The evidence also demonstrates, in my judgment, that the relationship between Vertex and Powergen has broken down at both operational and management levels."

This comment was in relation to a contract which, with schedules, ran to some 173 pages and which the court clearly considered to be a (physically) large and an (operationally) complex contract and this seems to have had influence on the court.  Those who have seen more outsourcing contracts than perhaps the individual judge had seen might be struck instead by how short this contract was compared to many contracts and might be dubious about the extent to which this factor should, apparently, have been taken into account.  On the other hand, those who may find themselves advising on comparable issues in relation to other far lengthier contracts would be well advised to remember the court's reaction to a fairly short outsourcing agreement.  They can probably form their own view on how a court would assess a comparable application in relation to a contract which is ten times the size!

Given his decision about the importance of practical co-operation and the extent to which this had broken down the judge therefore concluded that, in those circumstances "I do not consider that it is appropriate to grant injunctive relief which will have the effect of compelling the parties to work together". 

The outsourcing relationship has often been likened to a marriage.  Putting this decision in that light the judge was effectively deciding that - whilst there was an argument to be had over whether or not one half of the unhappy couple could insist upon a divorce and whilst there were going to be some difficult arguments over money - he wasn't going to insist upon the couple living together until those questions were resolved.

Conclusion - and questions for the future

Whilst there may have been more doubt over how true the statement that "no one ever sues on an outsourcing contract" would ultimately have proved to be in relation to customers suing suppliers, it would previously have been difficult to imagine a supplier suing one of its customers to insist upon a contract remaining in place.  That taboo now seems to have been broken in the UK and there is an interesting analogy to be drawn with similar litigation in the USA last year between Sears and CSC.  Combined with the decision of Cable & Wireless to sue IBM in the UK several years ago the claim that the parties would never sue on an outsourcing contract has now been thoroughly debunked.

A more interesting question which remains to be resolved is how a court would respond to the more business-critical situation of a customer seeking a comparable injunction to require a supplier to continue to provide services where a supplier intends to cease doing so.  Logically the court's reluctance to risk being drawn into monitoring compliance with the court's orders on a day to day basis would apply all the more in relation to the more complex, onerous and potentially uncertain obligations to which a supplier is subject and one would expect the answer to be the same.  However, given the potentially greater impact on a customer's business of a supplier withdrawing business-critical services it is easier to imagine that a court might order a supplier to carry on delivering services in such a situation, at least on a temporary basis pending a full hearing.

Whilst any such case would be fascinating for those involved with this field it would be truly disastrous for the parties involved and one must hope that no court will ever be called upon to provide an answer: one suspects though that it is only a matter of time.

by Richard Hawtin, Baker & McKenzie

This article is an extract from a longer article published by Baker & McKenzie which also covers the other issues raised by this case. Those issues include the criticality of clear dispute resolution procedure and some observations of the court on the way in which the parties can perform their obligations perfectly whilst the relationship still heads towards disaster.  The full article is available on request from Richard Hawtin at richard.hawtin@bakernet.com.

Richard Hawtin is a partner in Baker & McKenzie's London technology group and a member of Baker & McKenzie’s global outsourcing and offshoring practice group.  He has particular experience of major outsourcing agreements and offshoring arrangements. 

His experience includes: acting for the supplier on a BPO in the financial services sector; acting for Fujitsu on its successful bid for NHS IT contracts; acting for a major offshore bank in the negotiation of agreements for the outsourcing of its IT and telecommunications needs on a global basis; acting for Nortel Networks in relation to Cable & Wireless’ global voice over IP transaction; acting for ntl on its IT outsourcing to IBM in the UK and Ireland; and acting on a pan-European technology outsourcing for one of the largest pharmaceutical companies. 

He speaks and writes on a range of outsourcing, offshoring and technology law related issues.  

Contact: richard.hawtin@bakernet.com
DDI: +44 (0)20 7919 1597.

Author: Hawtin, Richard
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