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How to License Customized Software

By Jay Hollander

Jay Hollander, Esq. is the principal of Hollander and Company LLC,, a New York City law firm concentrating its efforts in the protection and development of property interests relating to real property, intellectual property and commercial interests, as well as related litigation.

The content of this article is intended to provide general information relating to its subject matter. Providing it does not establish any attorney-client relationship and does not constitute legal advice. Personal advice in the context of a mutually agreed attorney-client relationship should be sought about your specific circumstances.

Summary: When you've outgrown "off-the-shelf" software and need a customized solution, what do you need to do to get the best deal? This article provides 10 of the most important tips for licensing software, from intellectual property protection to payment to confidentiality.

Contents: This article contains the following headings:

  • Introduction Ownership Issues How Long is the License? The Importance of Source Code Payment, Acceptance and Maintenance Warranties and Y2K Confidentiality and Trade Secrets

  • A Long Relationship


So you've outgrown your Access or Paradox database. Your "off-the-shelf" software solutions don't do the job anymore. Your business is growing and you want or need something just for you.

Welcome to the world of customized software. More particularly, welcome to the world of customized software licensing.While you've probably gotten some experience in software licensing via the "shrink wrap" contracts contained on store-bought programs (those non-negotiable agreements contained underneath the shrink wrap packaging of the software box), licensing of customized software presents a whole new dynamic -- namely, you can actually negotiate the terms of this license!But with this freedom come choices -- and traps -- for the unwary. Thus, there will be a significant contract negotiation where having a knowledgeable attorney to represent you is vital to protect your interests. For now, though, let's review the top ten concerns you should have as a licensee of customized software.

Ownership Issues

First, you need to focus on who will own the customized software product and exactly what kind of a license you are getting. Customized software is usually a collaborative effort between a programmer/developer, and a client with specific needs. The ultimate software product may have started as a shell to which customization specifics may be added or removed, or it may be developed from scratch. Either way, your company often adds as much to the enterprise as it is getting.So, the first order of business is deciding who will own the software when it's completed and who will own its copyright. It could be the licensor (the person or company creating the customized software), who will license the product to you. It could be you, in which case the programmer will merely be paid for his or its programming services. Or, it could be jointly owned.Obviously, this is a decision that will have far-reaching ramifications for the future, so your preference should be for one of the last two choices -- that is, ownership by you or joint ownership. But, if the software you seek has been developed by a larger company that customizes similar software for other companies, the odds are, you will be negotiating a license to use the product, rather than buying it outright.

How Long is the License?

That brings us to our second concern. If you're licensing the software, there are a number of variables to consider. For example, how long is the license? Is it for a fixed term or is it "perpetual," that is, forever? Are you the only one who will have the right to use this software, or can variations or duplicates of it be licensed to other companies, like your competitors? How many licenses will you need to obtain permission to allow all those people who need to work with the software to do so? The devil always being in the details, what other restrictions has the licensor tried to place on your use of the software?Because software is a significant expense, you should almost always want a software license that (1) has a perpetual term; (2) covers everyone who may need to use it; and (3) allows your personnel to use the software everywhere they will need to do so, either at the main office or otherwise. You will also want to negotiate exclusivity of use (so the licensor cannot provide the same software to others), or, if the software gives you a competitive advantage, certain restrictions on its license to your competitors.

The Importance of Source Code

Third, you need to negotiate either a "full-blown" license or, at least, access to the software's "source code," in addition to its "object code." "Object code" is the technical term for the "executable code" or machine-readable code that the computer reads when you press the right key on your computer. "Source code" is a human-readable text version of this code, which programmers can read and understand.Without the source code, you will be up the creek if the licensor fails or refuses to maintain the program or goes out of business. It is vital to negotiate either a full-blown license to the source code or, as described in more detail in the next paragraph, access to it under certain agreed-upon conditions.Fourth, if you can't get a license to the source code, insist that you be assured of its availability through the use of a "software escrow." A software escrow is a separate contract entered into among the licensor, the licensee (you) and an independent, third-party escrow agent. Under a standard source-code escrow contract, the licensor deposits true copies of the software, including its object and source code and pertinent documentation, with the escrow agent, who will verify its receipt in good order and release it to the you or your agents under certain designated circumstances, commonly, a failure to maintain the software or the bankruptcy or other dissolution of the licensor's company.

Payment, Acceptance and Maintenance

Fifth, because customized software takes time to develop and usually contains several modules or functional areas to it, insist on progress payments in exchange for specific milestones. Be sure to negotiate clear, objective, verifiable conditions, including demonstrations that any modules developed in progress actually work, both independently and with the rest of the system.Sixth, and related to milestones, is a negotiation of final acceptance conditions, under which the licensor will be entitled to its full payment. As in the milestones area, final acceptance criteria must be careful to clearly and comprehensively lay out performance standards as well as a certain test period for bug fixes before the software will be considered accepted.Seventh, because any customized software will need to be maintained and upgraded over time, be sure to negotiate an affordable guaranteed maintenance contract, as well as access to any upgrades that either the licensor or you may wish to incorporate into the software.

Warranties and Y2K

Eighth, the vital issue of warranties. Warranties are the promises that licensors make about how the software will perform and what will be done if it doesn't live up to those promises. The hot button issues here are the availability of refunds for software that doesn't work as promised and the speed and lengths to which the licensor will go to repair or enhance the software in a timely manner. There are also issues about the licensor's responsibility for business damages sustained by you as a result of non-functional software. Above all else, this is one of the issues that you and your attorney should be careful to spend sufficient time thinking about and negotiating with the licensor.Ninth, but not in order of importance, is the now ubiquitously discussed issue of Y2K compliance. Suffice to say, you better have it. Since you are reading this article after January 1, 2000, there is a real chance you already know what I mean. For those of you who haven't yet come across a Y2K problem in your software, Y2K compliance basically means that your software will correctly calculate dates and times by properly interpreting two-digit-year date entries beginning with "00" or higher to refer to the year 2000 and higher, rather than 1900 and higher. All this while still correctly distinguishing, say, "1960" from "2060." Compliance would include recognizing dates programmed or entered directly into the software, as well as dates read by the software from other programs or input sources.Y2K warranties essentially promise this ability and also describe what the licensor will do if the software doesn't perform as promised. Since repeated or even isolated failures in this regard can seriously damage your business, such a warranty is vital to have in your contract. Also, don't be fooled into thinking that such a problem will only surface on January 1, 2000. These problems will likely be around for some time and it is, therefore, important that your warranty extend sufficiently into the future.

Confidentiality and Trade Secrets

Last, but not least, is an issue that I focus on a great deal in negotiations with my client's licensors: the issue of confidentiality and trade secrets. Remember that, in customized software situations, you and your company are really co-creators of the software with the licensor. The software may reflect your company's proprietary methods, terminology, concepts, etc. Also, the software may contain proprietary algorithms and other techniques and expressions of ideas developed by the licensor.Each of you is entitled to have assurances that the other will not reveal your trade secrets and confidential information, and this must be an important part of any software license.

A Long Relationship

So, there you have my top ten considerations for licensees negotiating a customized software license agreement. To be sure, there are a myriad of other issues that can -- and must -- be explored and resolved in such contracts, but if the ones mentioned here are left out, the agreement will likely be doomed to failure.

Keep in mind that joint development of this kind requires a certain amount of trust and disclosure if the ultimate project is to succeed. A software license agreement is also often the beginning of what will be a long relationship between companies. Ensuring that both sides' interests are protected is of fundamental importance to the continued prosperity of all concerned and must be adequately considered and implemented in any customized software license agreement.

Copyright © Jay Hollander, 2007. All Rights Reserved.

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