Establishing a Year 2000 Claim

November 1, 1998

There will be no Year 2000 litigation spree in the UK. This assertion is, Ibelieve, justified by the difficulty of establishing a successful claim for Year2000 failures, with the obvious exception of cases where there has been a breachof express warranty of Year 2000 `compliance’. This article explores the extentof the questions that may be raised under the law of England and Wales before aYear 2000 plaintiff can successfully show liability for the supply of software,hardware or equipment that fails or malfunctions due to the inability to processdates in or around the Year 2000.


Clearing the Hurdles


Establishing whether a Year 2000 claim in fact could be made in particularcircumstances will involve answering a number of questions. As an indication ofwhat those could be some salient questions are set out here. Certain terms areused here for brevity: `customer’ refers to the potential plaintiff; `supplier’to the potential defendant; `system’ refers to the relevant date-sensitivesoftware, hardware or equipment with embedded software; `compliant’ and`non-compliant’ refer to the relevant system’s ability to process (or not) datesthrough the Year 2000 period.


Is the claim statute barred?


By virtue of the Limitation Act 1980, there are various time limits withinwhich claims must be brought. Failure to observe the expiry of limitationperiods will give the supplier a complete defence to the claim. Generallyspeaking, for contract claims proceedings must be brought within six years (or12 if the contract is under seal) from the date of breach, which in many caseswill be the date of supply, and therefore the accrual of the cause of action.Where a system is under a maintenance contract and the customer has beenprovided with new versions of the system that are themselves non-compliant, itmay be the case that the breach occurred at the date of supply of the latest newversion.


In tort, it is generally the case that the limitation period is six yearsfrom the date on which the cause of action accrued, but if the claim involvesdamages in respect of personal injury the claim must generally be brought withinthree years of accrual of the action or within three years of the date ofknowledge, whichever is the later.


The limitation periods may however be extended in certain circumstances, themost relevant in this context being where the action is based on fraud ormistake, or where the right of action is concealed by the defendant’s fraud ormistake. In circumstances where the system `damage’ satisfies the requirementsof the Latent Damage Act 1986, a longer period of limitation will apply.


Because of the effect of limitation periods, it may be too late if a customerwaits for the Year 2000 to pursue a claim. In order to preserve the claim, ifthe supplier (as one assumes it will be the supplier who will be the defendantin Year 2000 claims) cannot satisfy the customer that remedial action is beingor will be taken, it may be necessary to consider negotiating for a moratorium 1which in effect extends the limitation period into 2000 or beyond. As a finalresort, a customer with a real claim and prepared to accept the consequences ofthe publicity this will inevitably attract, which could include the supplieritself being obliged to wind up, may consider issuing a protective writ now, soas to preserve the ability to pursue a claim notwithstanding the limitationperiod.


What loss has the customer suffered?


Evidently, in the absence of any loss having been actually suffered so far,there may be nothing at this stage to be recovered in damages. It need not bethe case that the customer must wait for the loss to occur before taking action.Although a warranty may often be qualified by a contractual right for thesupplier to remedy, it can be argued that failure to provide a compliant systemin advance of the date actual failure would occur may entitle the customer toapply to the court for certain legal remedies.


Were there exclusion clauses in the contract?


Implied terms may be excluded in contracts between commercial (non-domesticconsumer) entities. If, however, the customer has contracted on the supplier’sstandard terms (which need not mean the contract was not negotiated) or is notan experienced purchaser of systems, the exclusions may be unenforceable if theydo not satisfy the reasonableness test in the Unfair Contract Terms Act 1997 (UCTA).


Exclusion clauses may be intended to exclude the implied terms set out in theSale of Goods Act 1979 (as amended) or the Sale of Goods and Services Act 1982.Limitation clauses are construed strictly against the supplier but can beeffective. In particular the limitation may exclude liability for consequentialloss. Whether the clauses are enforceable is a separate question.


If the Unfair Contract Terms Act applies, were the exclusionsreasonable?


Generally, in computer supply contracts, the implied conditions under theSale of Goods Act will be specifically excluded, and some suppliers will alsoinclude limited warranties for defects, and limitations of liability in anyevent. However it is not unknown for some contracts to omit any reference toimplied warranties and in this situation the implied warranties under the Saleof Goods Act 1979 (as amended) apply. It will be necessary to look at thecontact to ascertain whether UCTA applies and whether such exclusions are validunder UCTA.


UCTA provides that ss 2 to 4 of the Act do not apply in relation to copyrightlicences per se which create a right or interest in the copyright work. Thiswould tend to suggest that exclusion clauses in contracts for the supply ofsolely software under licence and without physical media (eg a disk under StAlbans) may be outside the ambit of the Act, but each case will depend uponthe particular facts and circumstances and this exclusion may not apply if onelooks at the totality of contractual terms in the licence agreement (ie it maybe considered to be more than just a copyright licence per se). Further, the Actdoes not apply to some `international’ contracts.


How was the software supplied?


If exclusions of implied terms do not exist or are ineffective, this is thenext question; detailed examination of the potential terms implied will berequired, which is outlined in this section. Although it may seem strange to beconcerned with the manner of supply of the relevant system, from a legalperspective this is important as it will affect what kind of terms will beimplied.


Prior to the Court of Appeal case of St. Albans and District Council vInternational Computers Ltd [1996] 4 All ER 481 there was no authorityspecifically determining whether or not `software’ constituted `goods’ under theSale of Goods legislation. If software were to be regarded as services, thenwholly different terms implied by statute may apply which are less helpful tothe customer.


Following St Albans, it appears that software supplied on a physicalmedium, such as disks or tapes, the title to which passes to the customer, isindeed `goods’ and so comes within the ambit of the Act. Therefore, softwaresupplied online or installed without the physical medium (such as when asupplier installs the software on site, but takes the master disks with him, orwhere the program is downloaded from the Internet) will not benefit from theimplied terms applicable to the sale of goods.


The key provisions of the Sale of Goods Act 1979 relevant to Year 2000 issuesare ss 13, 14 and 15.


Section 13 provides that there is an implied condition in a contract of salethat the goods will correspond with the description, which will apply to anysale where the customer does not see the goods before purchase. Even if thecustomer has seen the goods, there may be a sale by description if the customerhas relied upon the description.


If a system was described as compliant, but is subsequently shown not to be,the customer can claim damages or reject the system because it does not matchthe description. If the documentation infers that dates will be processed, andthe system is in fact not compliant, there will be a breach of s13.


Section 14 implies a term of satisfactory (formerly merchantable) quality andthat the system is fit for a particular purpose.


Under s14, the system will be considered to be of satisfactory quality `if[the system is] as fit for the purpose(s) for which [a system] of that kind [is]commonly bought as it is reasonable to expect, having regard to any descriptionapplied to [it], the price (if relevant) and all other relevantcircumstances’ emphasis added. It is not unreasonable to expect that asystem which is date sensitive should be capable of recognising a date after 1January 2000 (or any reasonable date before or after, including leap years) andthat, if it does not, it will not be of satisfactory quality.


The second limb of s14, relating to fitness for purpose, provides that, wherethe purchaser of a system makes known to the seller, expressly or byimplication, any particular purpose for which the system is being bought, it iswarranted to be fit for that purpose, unless it can be shown that the customerhas not relied, or it would be unreasonable for him to rely, on the supplier’sskill and judgement.


Note that if a customer has set out detailed functional requirements in adetailed specification or statement of user requirements, then it will beunlikely that this would be considered to be reliance upon the supplier’s skilland judgement. However, if the specification has been written by the supplier,or the contract for a system provides that the supplier shall be responsible forascertaining the customer’s requirements, in relation to, for example, anaccounting system, and it fails to process Year 2000 dates, then clearly thecustomer will have relied upon the skill of the supplier and accordingly thesystem will not be fit for its purpose, which is to process dates.


Section 15 of the Act deals with sales by sample. At first sight, this mayappear to be irrelevant, but has been included to cover the situation where acustomer purchased a number of systems for many sites. It may also be relevantwhere a supplier has procured parts from a number of sources, such as PCs orPCBs. In such circumstances, it may be the case that some of the items suppliedmay be compliant and some not.


Section 15 provides that there is an implied term that the bulk willcorrespond with the sample as regards quality; that the purchaser will have areasonable opportunity to compare the bulk with the sample; that the goods inquestion are free from defects rendering them unmerchantable, which on(reasonable examination of the sample) would not be readily apparent.


In each case, it will be necessary to decide whether or not the contractregarding the supply will be covered by the Act. Note that under s 14 there areno implied conditions or warranties as to quality or fitness in any contract ofsale except as provided under that section.


Was the system supplied only as a service?


If under St Albans principles the system was supplied as part of aservice, then the express terms of the contract must be considered, and theprevious two questions about exclusion clauses applied. Absent any effectiveexclusions, the Supply of Goods and Services Act 1982 will apply. The 1982 Actconcerns the provision of services, rather than the supply of goods per se, andincludes, for example, consulting, programming and maintenance services. Itcovers an installation, because this is a transaction involving the provision ofa service and therefore one which will come within the ambit of the 1982 Act.


The 1982 Act may have the effect that system integrators and consultants whohave recommended certain equipment, whether supplying it or not, could be liablein respect of non-compliant equipment. This liability may be in addition toliability under the Sale of Goods Act 1979. This may have implications not onlyfor those who produce equipment, but also for consultants recommendingparticular types of product including forms of manufacturing plant or fire andsecurity systems containing embedded chips.


Under s.13 of the 1982 Act, there is an implied condition that the servicewill be provided using reasonable care and skill. If a consultant or otherservice provider fails to use reasonable care and skill because, for example, herecommends non-Y2K equipment, he may be found not to have provided the servicewith reasonable care and skill and will therefore be liable. It should also benoted that implied terms, corresponding to those mentioned in the previoussection, may apply to the supply of parts which are supplied as part of aservice, for example in carrying out maintenance of equipment.


Was the supplier of services in breach or a negligent`professional’?


Not every error or omission which causes loss will give rise to a claim innegligence, for it must be shown that the defendant failed to meet the standardof care exercised by a reasonable person in the position of the defendant. Thisof course raises questions in relation to computers as to what is the standardexercised by a reasonable person? Clearly the standard of reasonableness will berelated to the computer industry and therefore, in relation to Year 2000compliance, the plaintiff must show that the reasonable defendant would havetaken into account the requirement that the computer (whether in terms ofhardware/software or embedded systems or a combination of all these) should havebeen able to process a date beyond the Year 2000 (or any date before that orleap years). Therefore it may be reasonable to expect a computer to be compliantif supplied in 1997, but is it reasonable to expect a legacy system purchased in1975 to recognise the year 2000? In certain circumstances it has been held thata computer consultant may be a `professional’ for legal purposes and as such ahigher standard of care will be applied. In each case it will depend on thefacts and the ability of experts in the IT field to give evidence as to industrypractice and expectations, including international standards and best practice.


Generally a manufacturer or supplier will owe a duty of care to all that comeinto contact with the goods. Therefore the duty is not constrained by acontractual relationship, but will apply to third parties that have no contractwith the manufacturer. This has implications particularly for thosemanufacturers who supply equipment containing embedded systems in safetycritical areas, such as smoke detectors, gas pipeline sensors, navigationequipment and the like. If someone is injured, or a user suffers loss as aresult of non-compliance then, if it can be shown that there was a breach ofduty, the supplier will be liable to a workman or consumer who is injured, or tothe purchaser’s customer who suffers loss as a result, even though there is nocontract. In such circumstances, not only would the manufacturer and thedistributor be liable, so would the company using the equipment, the purchaser.In each case the party subject to the initial claim would claim a contributionfrom the other(s) in the chain.


It should also be noted that a claim in tort can result from a negligentstatement or advice. For example, a company contracted to advise on compliance,which holds itself out as possessing special skill in this area, andsubsequently makes a statement which is acted upon and from which a lossresults, will be liable in negligence if the statement breached the duty of carethe company owed to the third party. In certain circumstances, liability mayattach for a statement even though there was no contract between the parties.


It may be the case that professional advisors, such as accountants andsolicitors, may be negligent in not advising ‚Äěparties about Year 2000warranties and ‚Äěliabilities in, for example, company acquisitions and mergers.


Can the software be made Year 2000 compliant?


At the time of writing, it is an important consideration to establish whetherin fact the system is capable of being made Year 2000 compliant. A number ofissues may arise from the answer: the system itself may be capable of beingcompliant only if run on an operating system or equipment that itself iscompliant. The supplier may not be or have been responsible for the operatingsystem or equipment in use by the customer. This may be relevant to the stepsthe customer has taken in mitigating its loss, because, if it is the case thatthe system will never be made compliant, the customer ought not to wait beforeadopting an alternative system, which could be put in place before any severedisruption is experienced through the non-compliant system failing. A supplierin these circumstances should note the potential advantage of informingcustomers where systems will not be made compliant.


Was the customer aware of the Year 2000 non-compliance?


It is entirely possible that a customer had knowledge of the non-complianceof the system from the beginning of its use or some date afterwards. Forexample, the customer may have had actual knowledge of the manner of operationof the software and/or the technical resources to discover date-sensitiveproblems, had it been concerned about them. In some cases the customer will haveadapted the system itself in ways that mean it clearly had knowledge of thenon-compliance of the system. This could lead to the supplier defending anyclaim by alleging the customer had acquiesced in the breach, if a breach can beestablished.


The date on which a customer became aware of non-compliance may also becomeimportant, for two reasons: if a claim is to be made in negligence (perhapsbecause a claim in contract is already statute barred), in calculating theprecise date that the limitation period expires the date of knowledge is mostimportant. Of course, delay by the customer may lend weight to the supplieralleging in its defence that the customer has waived or otherwise forfeited itsclaim through the doctrine of `laches’.


Has the customer taken any steps to mitigate its loss?


If a customer is aware that it will suffer loss as a result of breach ornegligence by the supplier, the customer must act to mitigate its loss. Delay innotifying the supplier of the actual or suspected non-compliance may lead to areduction in the amount that can be claimed by reason of the supplier’s breachor negligence actually caused. This is particularly relevant in the case of Year2000 claims, as there has been an appreciable period in which customers can takeaction to prevent, if not eliminate, loss caused by actual failure of the system(as opposed to the loss comprised in the cost of rectifying the system).


It should be noted that, for customers that themselves had or had access tothe resources with which to carry out the remedial work, the effect of the UKSoftware Regulations 1992 and the existence of an escrow agreement allowing forrelease of the source code to the customer could lead to an argument by thesupplier that the customer could itself have mitigated its loss by carrying outnecessary corrective work.


Has the customer advised the supplier of the date by which thecustomer’s installed version must be Year 2000 compliant?


The point is made above that in certain cases there will be no breach by thesupplier, either under a preventive maintenance contract or an original supplycontract `qualified remedy’ warranty, until the system’s non-compliance actuallyoccurs. In order to be able to take action in advance of the failure occurring,it may be necessary for the customer to have notified the supplier of the dateby which it must have a compliant system installed, in order to be able tocomplete the customer’s own internal Year 2000 testing. To be certain that thesupplier is in breach of its obligations in contract, the customer will need toensure any required notice to remedy the breach is served, so that the supplierhas been afforded its contractual entitlement to notice and the opportunity toremedy the breach, even if the customer may not choose to terminate the contractas a result.


Conclusion


Each of the questions we have examined here represents a hurdle to be clearedbefore establishing legal liability for Year 2000 non-compliant software andequipment. Businesses and organisations are, of course, exposed to potentialliability or legal constraint in other areas because of the potential harm thatcould result as a consequence of a Year 2000 failure, even though this may notaffect an `in-house’ system (for example an external communications networkrelied on by the business but operated by a supplier). A number of publicationsdetail the implications in the areas of product liability, trade descriptions,health and safety, financial and audit disclosure. 2


It would seem clear that establishing a Year 2000 claim that has any realprospect of success will be a considerable challenge. If there is indeed no Year2000 litigation this should be welcomed. For lawyers, understanding this mayhelp their clients and companies to move on to the important objectives thatsuppliers of IT and other date-sensitive systems must address from a legalperspective. Hopefully this article shows that defence is the best mode ofattack in addressing Year 2000 liability. Focusing on legal measures that helpto secure containment of cost and protection of business critical supplierrelationships will be more valuable than seeking to prepare claims againstsuppliers. Businesses which are natural targets, by virtue of their size orcompetitive lead, must also implement a legal strategy to be able to rebut anyspeculative Year 2000 claims.


Endnotes


1. An example of a moratorium may be found at www.tarlo-lyons.com/moratorium.


2. See, for example, `Millennium Liability Briefing’available for download from Tarlo Lyons website: www.tarlo-lyons.com.