UK: Sourcing Update - Q4 2009

In the latest of our series of quarterly sourcing updates, we give an overview of recent developments in the sourcing industry in general, as well as looking at changes in financial services regulation, data protection, public sector contracts and public procurements, and considering some recent case law that could impact on the drafting of sourcing agreements.

To view the article in full, please see below:

Full Article

Industry Developments

In our last update, we reported that the economic downturn was continuing to have an impact on outsourcing, with a clear trend in the reduction in pricing of outsourced services due to the restricted budgets of customers.

A number of recent surveys have all indicated that outsourcing remains high on the agenda of many customers, who see it as a key method of reducing cost and improving efficiency. Research by Vanson Bourne has shown that 63% of IT directors in the UK said confidence in outsourcing has increased as a result of the recession, while 44% sad that "in the current climate it makes financial sense to reduce headcount and outsource". In addition, research by the Black Book of Outsourcing has shown that more than half of companies and clients polled said they expected spending to come back to the pre-recession levels by the end of the year, although clients will be looking for short-term projects of less than six months and will steer clear of complex pricing deals that were popular before the downturn.

An area of particular growth has been so-called "green" IT services, such as deploying sustainability metrics around water and power use, and tracking corporate carbon footprints. A Forrester Research survey suggests that an increasing number of enterprises are using outsourcing to help plan and implement green IT initiatives. In Europe, some 90% of enterprises have expressed an interest in such services.

Financial Services

The Payment Services Regulations 2009 (PSRs), which implement the Payment Services Directive, took effect on 1 November 2009. The PSRs apply to firms which provide electronic payment services (known as "payment service providers"). The PSRs require "payment institutions" (which are, in general terms, payment service providers that are not credit institutions, e-money issuers or expressly excluded from the PSRs) to be authorised or registered as payment institutions by the FSA, and to comply with specific conduct-of-business requirements.

Under the PSRs, the outsourcing of "important operational functions" by an authorised payment institution needs to fulfil certain specific conditions. Under the PSRs, such an outsourcing must not adversely affect the quality of internal control or the ability of the FSA to monitor the institution's compliance with the PSRs and it must not result in any delegation by the senior management of responsibility for complying with the PSRs. In addition, the relationship and obligations of the institution towards its payment service users under the PSRs must also not be substantially altered, and compliance with the conditions which the institution must observe in order to remain authorised must not be adversely affected. Finally, none of the other conditions of the institution's FSA authorisation must require removal or variation.

The Council of the European Union has recently replaced the E-Money Directive with a new E-Money Directive (EMD2), which is intended to redress the balances of European regulation of e-money. Among other things, the EMD2 amends the definition of e-money so that it no longer applies to 'limited networks' (where the service is based on an instrument such as a card that can be used to acquire goods or services only within the premises used by the issuer) or to services based on telecommunications, or digital or IT devices.

Public Sector

OGC Model Service Contracts

The Office of Government Commerce ("OGC") has published an enhanced version of the Information Communication Technology (ICT) Model Services Agreement and Guidance for major or complex ICT enabled business change projects.

The updated version includes significant improvements in the key areas of financial distress and security management. Schedule 7.4 (Financial Distress) has been revised to reflect recommendations from the multi-stakeholder Advisory Panel which was set up by OGC last year to review the fitness for purpose of the financial distress provisions. The key changes include:

• An increase in the contract value threshold for applying the full provisions from £50m to £150m;
• The introduction of a short form of the Schedule which contains only the provisions from Risk Level 1 of the full Schedule and which is expected to be used on all projects;
• Credit ratings given primacy over other 'triggers'; and
• A new obligation on key subcontractors to report and plan to mitigate the effects of Financial Distress events.

Schedule 2.5 (now named the Security Management Plan) has been revised to take into account user feedback received since the provisions were mandated. A number of other revisions have also been made to improve the contract structure and balance and to provide guidance.

Public Procurement

On 20 December 2009 a number of changes to the rules relating to public procurement will come into effect. The text of the Public Contracts (Amendment) Regulations 2009 is already available for viewing on the OPSI website. It introduces new sections into the Public Contracts Regulations 2006 to improve the effectiveness of remedies available to aggrieved bidders, by implementing the new EU procurement Remedies Directive. Similar changes to the Utilities Contracts Regulations 2006 will be published shortly.

The most important changes include:

• the introduction of a new remedy of "contractual ineffectiveness" enabling the court to set aside a contract in the first six months of its operation, if it was awarded in serious breach of the procurement rules;
• the possibility that the court could instead shorten a contract awarded in breach of the rules;
• new financial penalties;
• changes to the standstill provisions, so that bidders have a better chance of seeking remedies before the contract is awarded, and are informed of the reasons for the decision at the start of the standstill period without having to ask for them;
• the automatic suspension of a contract award procedure if legal proceedings are started; and
• a number of measures aimed at better information for bidders.

The Regulations are accompanied by an Explanatory Memorandum, which includes an impact assessment of the changes introduced. The OGC will also publish in due course detailed guidance on the practical implications of the new remedies rules.

Data Protection

The Ministry of Justice has announced proposals to give the Information Commissioner the power to impose penalties of up to £500,000 on data controllers who seriously breach the Data Protection Act 1998.

If enacted, the fines would apply to a "serious contravention", defined as one that would be likely to cause substantial damage or distress, and is either deliberate or reckless (i.e. the data controller knew or ought to have known of a risk of a serious breach but failed to take steps to prevent it.)

At present, the Information Commissioner has very limited powers to 'punish' offenders against the Data Protection Act. He can issue enforcement notices for breaches of the data principles, but these merely require a data controller to change its practice and the Government feels that this is not an adequate sanction for serious breaches of the Act. The Information Commissioner can also bring criminal proceedings for some data protection offences, but unless the data controller elects for a trial by jury, the maximum sanction is a £5,000 fine.

A Consultation is now under way on the proposals until 21 December 2009, and the Government will report its findings on 11 January 2010.

Legal Update

GB Gas v Accenture - Liability for Compensation to Customers

The case of GB Gas Holdings Ltd v Accenture (UK) Ltd centred on how the seriousness of a breach of warranty is determined, how the effect of such a breach is measured, and the damages that are payable as a result of that breach. In the case, Accenture was contracted to develop new billing software for GB Gas, in order for GB Gas to improve its customer service and to retain customers. The software Accenture produced caused a large number of billing problems, with many GB Gas customers not being billed due to a software problem. GB Gas notified Accenture of this software defect as soon as it became aware of it, and as a result of the software problems, GB Gas ended up paying out substantial sums in compensation to its clients.

The contract between the parties stipulated that neither party shall be liable to the other for loss of profits, contracts, business or revenues, whether arising directly or indirectly, or for any indirect or consequential losses, damages, costs or expenses.

The Court held that compensation paid out by GB Gas to its customers as a result of the fundamental defect was to be considered a direct loss under the rule in Hadley v Baxendale, and not indirect or consequential, and was not excluded by the exclusion of loss of profit or revenue. The Court further held that payments that GB Gas made to suppliers due to errors in the software were payments for charges, rather than a loss of revenue, and were therefore also recoverable.

CEP Holdings and CEP Claddings v Steni - All reasonable endeavours

The case of CEP Holdings Ltd and CEP Claddings Ltd v Steni AS has given a useful insight into the interpretation of an "all reasonable endeavours" clause in a distribution agreement. In the case, Steni entered into a 20-year exclusive distribution agreement with the CEP group, which contained a requirement for CEP to use all reasonable endeavours to promote and sell Steni's products. The Court held that, in such a context, the parties must have intended and understood that this obligation required CEP to do everything that a 'reasonably competent and energetic distributor' would do to promote the marketing and sales of the supplier's products, knowing that the supplier was entirely dependent upon the distributor's efforts to achieve sales over a period of many years.

The court provided guidance as to some of the lengths to which a 'reasonably competent and energetic distributor' is expected to go to to discharge an 'all reasonable endeavours' obligation:

• to prepare and utilise a detailed written marketing or promotional plan;
• to monitor, and take timely steps to improve, the quality of its sales team;
• to have a system for information flows and procedures for forecasting future sales;
• to engage in positive dialogue with the supplier, to maximise promotion and sales; and
• to make use of all materials provided by the supplier for marketing and promotion.

Lobster Group v Heidelberg Graphic - Limitations of liability

In this case, Heidelberg sought to rely on a clause in its contract that, in a single paragraph, excluded three distinct types of liability. When the Court found that the exclusion of one of the types of liability (liability for increased costs and expenses) was unreasonable, it was held that, rather than excise the offending phrase from the clause, the entire clause was to be struck out.

This is not the first time that such a decision has been reached. The High Court took a similar approach in the case of Stewart Gill v Horatio in 1992. However, that case has since been repeatedly overlooked by the courts, and the Lobster case therefore contrasts with more recent decisions in both the High Court and Court of Appeal.

The simplest solution to this problem, of course, is to avoid exclusions that risk being considered unreasonable. However, if potentially unreasonable clauses are to be included and the limits of reasonableness tested then it is important to clearly separate out the exclusions in different clauses.

This article was written for Law-Now, CMS Cameron McKenna's free online information service. To register for Law-Now, please go to www.law-now.com/law-now/mondaq

Law-Now information is for general purposes and guidance only. The information and opinions expressed in all Law-Now articles are not necessarily comprehensive and do not purport to give professional or legal advice. All Law-Now information relates to circumstances prevailing at the date of its original publication and may not have been updated to reflect subsequent developments.

The original publication date for this article was 20/11/2009.