Information Communications & Technology

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0� Maddocks Information Communications & Technology Update

MarCh 2011

Information Communications & Technology

W h e n d i a m o n d s a r e n ’ t a contractor’s best friend

In December 2010, the Technology and Construction Court in London handed down its decision in De Beers UK Limited (Formerly: The Diamond Trading Company Limited) and ATOS Origin IT Services UK Limited 2010 EWHC 3276 (TCC), in which De Beers was awarded substantial damages in the context of a failed IT project.

The succinct and accessible judgment is commended to all IT project managers and lawyers. Many familiar themes emerge from it, as well as some salutary lessons – both for customers and suppliers. In this note we wanted to draw out some of the salient points from the customer’s point of view.

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Following a competitive tender process and a round of Best and Final offers (BAFO) De Beers Uk Limited (formerly the Diamond Trading Company Limited) (De Beers) engaged the Uk arm of an international IT outsourcing company, aToS origin IT Services Uk Limited (ATOS) to design and deliver a major IT systems upgrade. The project was intended to deliver to De Beers streamlined diamond handling processes across its international operations.

The project was an ambitious and complex undertaking which required the integration of business processes across a number of functionally independent and geographically dispersed business units. To deliver the system sought by De Beers was going to require an intimate knowledge of its business processes and practices.

The complexity of the project appears to have been a factor in a previous failed attempt to deliver an integrated stock management system. accenture was engaged to do this work but according to the judgment handed down by the court,1 after three years this earlier project “was terminated without achieving most of its objectives”.

1 Paragraph 11 of the judgement.

in this issUeWhen DIaMonDS aren’T a ConTraCTor’S BeST FrIenD

–It was a prudent strategy on the part of De Beers then, before moving to the full project contract in november 2007, to enter into a Letter of Intent with aToS under which aToS conducted a requirements analysis exercise between June and october 2007.

The laudable intent of this exercise was to clarify De Beers’ business and process requirements, to enable aToS to enter into a fixed price, fixed scope contract on an accurate basis.

however as the court remarks, this turned out to be a flawed exercise which in no small part sowed the seeds for the failure of the project a little more than six months after contract signature, with aToS staff downing tools and handing in their security passes at the end of the day on Friday 6 June 2008.

What led to this drastic situation so soon?Disputes over scope change and performance ensued soon after contract signing and quickly escalated. In March 2008 De Beers withheld a significant milestone payment. Under the terms of the project agreement, De Beers was entitled to withhold payment of disputed amounts.

aToS responded quite aggressively to this state of affairs. It wrote to De Beers stating that its conduct in withholding the milestone payment amounted to repudiation. aToS informed De Beers that it “accepted” the repudiation, bringing the contract to an end, paving (so it hoped) the way for a damages claim against De Beers.

however the court disagreed. While it doubted the contractual right to withhold the entire milestone payment had in fact crystallised, the court found that in writing to De Beers in this manner aToS had itself repudiated the agreement.

De Beers was ultimately awarded approximately £1.4 million in damages. While this award is not insignificant, it was significantly less than the £8.7 million claimed by De Beers.

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MarCh 2011


ProJeCT ManageMenT LeSSonS FroM ThIS CaSe

Managing Contract Change ProposalsMany IT Project Managers will have had the experience of receiving their first Contract Change Proposal (CCP) almost, it seems, before the ink is dry on the contract signatures. In a fixed price, fixed scope contract, this can come as something of a shock. But CCP001 is likely to be the first of many. how should a project manager respond?

obviously every contract is different. But the judgment in this case provides a very pithy and useful analysis of the question of when and whether a contractor is entitled to additional payment for scope change.2

The provisions of the contract dealing with contract change, as set out in the judgment, were fairly typical. For this reason the court’s discussion of contract change contains some useful principles that can be applied more broadly to fixed price and scope contracts.

an expert witness called by aToS distinguished between changes in scope which are changes in “breadth”, and those which are changes in “depth”.

Changes in “breadth” were “true” changes in scope, introducing new functionality. Changes in “depth”, on the other hand, were changes adding “scale or complexity” but without “extend(ing) functionality into whole new areas.” This is where the familiar danger of “scope creep” manifests itself.

The court regarded this characterisation as being a little simplistic, instead preferring to ask whether additional work was required that could not “fairly be said to fall within” the contracted specifications. If this test was satisfied, the contractor would be entitled to a CCP and to additional payment for that work.

2 See paragraphs 237 - 241 of the judgement.

In this case there were numerous change requests raised by aToS. De Beers did not consent to all of them, and the court agreed that aToS was not entitled to be paid extra under change requests unless the work truly represented a change in scope.

aToS argued that in respect of a number of change requests, it was entitled to be paid for extra work where the high level requirements phase had not revealed the full extent of detailed work required to deliver a particular aspect of the project.

The court disagreed. While there was reason to believe aToS had not fully appreciated the scope of work required as a result of the requirements phase, and De Beers may have been aware of this, the court observed that aToS should have included a contingency in its price and delivery timetable to address any such uncertainties. The court also held that the risk that detailed requirements analysis would reveal a need for more work to be done, was a risk for aToS, not De Beers.

Lesson 1: Manage change requests carefully. Reject change requests that do not address a need for a change in scope as originally contracted.

Lesson 2: Consider whether to structure your project with a pre-contract requirements analysis phase.

Customer inputsThe court felt that both parties should accept some responsibility for the failure of the project. What is clear is that in a major IT project, where the contractor requires an intimate knowledge of the customer’s business to deliver the outcomes sought, the customer simply must share the responsibility for making the project happen.

as noted at the outset, this was a relatively large, relatively risky implementation where aToS needed to undertake an extensive business analysis exercise in order to design the system for delivery. For this process to be successful, aToS needed to have relatively open access to De Beers subject matter experts, and the terms of the agreement reflected this.

a factor in the failure of this project appears to have been, at various times, the lack of De Beers staff to provide subject matter expertise, and also at times, the inability of De Beers to agree and communicate requirements and specifications.

The provisions of the agreement dealing with this issue as reported in the judgment, placed a significant but undefined obligation on De Beers to provide assistance.3

De Beers was required, for example, to “promptly provide ... accurate and complete information concerning its operations and activities ... as the Supplier may reasonably require.”

This might sound innocuous enough at first glance. however many – and perhaps most – organisations simply will not have documented their business processes and practices to the extent where these can readily be translated into system specifications. So once a project kicks off and the contractor starts asking for this information, the customer may suddenly find it does not have it on hand. What is to be done? either the customer must find the internal resources to prepare this documentation – probably without sufficient time to do the job properly - or the contractor must do the work. The contractor will not only want to be paid for this work, worse, it may also be tempted to point to this as a delay factor or as a factor otherwise excusing its non-performance.

We would recommend that as much definition as possible be given to customer obligations, by, for example:

avoiding open-ended obligations such as those described above;expressly defining “Customer Inputs” and setting them out in a Schedule; andexpressly defining what human resources the customer is to provide, at what levels, with what skills, and for how many hours or days during the project.

3 See paragraph 202 of the judgment.

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MarCh 2011


one excellent article on this case suggests “reverse kPIs” – key performance indicators that the customer signs up to, to provide some certainty around what is expected of the customer.4

Ultimately this issue did not figure significantly in the damages claim, but as a general comment, in order for a complex implementation involving a detailed business analysis/requirements gathering process to succeed, the customer must ensure that relevant resources are available, that it makes decisions in a timely manner when required to do so, and that it is able to satisfactorily define or communicate its requirements.

Lesson 3: If possible, avoid agreeing to ill-defined or open-ended requirements to provide inputs or assistance.

Lesson 4: Make sure you have adequate resources available to manage the implementation and the contractor’s performance, and to respond to requests for information or assistance.

Fixed fees, fixed scopeFixed fee, f i xed scope is a common enough commercial basis for complex IT implementations. however such arrangements carry within them an inherent pressure. If the contractor embarks on the project and finds that the job has been under-priced, they may seek to recover their position by raising change control requests. If these are resisted, the contractor may be faced with the unpalatable prospect of having to perform an uneconomic project. It may be better (financially) for them to abandon it than to continue.

4 See Bierce and Jones, “Failed Software Development - De Beers Debacle”, available at http://www.outsourcing-law.com/tag/breach-of-contract/

Lesson 5: For a fixed price contract, ensure that your requirements have been sufficiently identified to enable the supplier to price appropriately.

Lesson 6: See Lesson 4.

Repudiation

It is trite law that a party evincing an intention not to be bound by a contract which it has entered into may be taken by the other party as having abandoned or repudiated the contract. In such circumstances the aggrieved party may elect to accept the other party’s repudiation, bringing the contract to an end and (more than likely) giving rise to an entitlement to damages.

This beguilingly simple principle needs to be handled with caution however, as this case demonstrates.

as noted at the outset, aToS became repudiator rather than repudiatee because the court found that De Beers had not in fact done anything that amounted to repudiation. aToS therefore exposed itself to a claim for damages.

This in fact may have ultimately played to aToS’s advantage. The court observed that the amount of damages awarded by it may well have been “less than the additional costs that aToS would have incurred if it had continued to perform the Contract to completion”.�

This was due in no small part to a mysterious issue that could not be disclosed - even to the court - referred to cryptically in the judgement as the “blank” issue. Because of the “blank” issue, the court could not find that De Beers intended to procure a replacement system, meaning that the court could not award a substantial component of damages claimed by De Beers. Were it not for this issue, the damages award may have been significantly higher.

� See paragraph 380 of the judgment.

This illustrates that the international diamond trade is a mysterious and intriguing business, but more relevant to this article, it suggests that repudiation can be a dangerous and indiscriminate weapon, and should be treated with caution, by customer and supplier alike.

Lesson 7: Consider your position carefully before suspending or withholding payment.

Lesson 8: Be very sure of your position if you want to allege repudiation.

Lesson 9: Don’t do anything that puts you in the position of repudiating the agreement – unless you are very sure that is your strategy.

Lesson 10: Seek legal advice.

author: Sean Field, Senior associate


The material contained in this Update is of the nature of general comment only. No reader should rely on it without seeking legal advice. If you do not wish to receive further Updates from us, please email [email protected].

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