WHEN SOFTWARE FAILS: WHY YOUR RECOVERY MAY BE LIMITED TO THE COST OF THE SOFTWARE
Consumers and businesses increasingly rely upon proprietary software for accounting, communications, medical records, logistics, and financial operations. Many are surprised to learn that when software fails and causes substantial losses, recovery may be limited to little more than the amount paid for the software itself.
The reason is usually found in the End User License Agreement (“EULA”), Terms of Service, or software licensing agreement. These contracts commonly contain limitation-of-liability clauses and disclaimers of consequential damages that courts frequently enforce.
Typical Limitation Language
Many software agreements contain provisions similar to the following:
“In no event shall the company be liable for indirect, incidental, special, or consequential damages, and total liability shall not exceed the amount paid for the software.”
These clauses are designed to prevent exposure to massive claims arising from software bugs, data corruption, operational failures, or business interruption.
Thus, a business that suffers $500,000 in losses from defective software may discover that the contract limits recovery to a refund of the software purchase price.
Important Case Law
One of the leading cases is:
M.A. Mortenson Co. v. Timberline Software Corp.
In that case, a construction contractor alleged that estimating software produced erroneous bids causing substantial financial losses. The software license agreement limited liability and excluded consequential damages.
The Washington Supreme Court enforced the contractual limitations and held that the parties were free to allocate risk by contract. The court refused to allow recovery of consequential damages beyond the agreed limitations.
Another frequently cited decision is:
ProCD, Inc. v. Zeidenberg
In this case, the United States Court of Appeals for the Seventh Circuit upheld the enforceability of “shrinkwrap” software license agreements. The decision became highly influential in validating modern software license agreements and click-through terms.
Consequential Damages
Consequential damages often include:
● Lost profits
● Business interruption losses
● Lost business opportunities
● Data corruption losses
● Loss of customer goodwill
● Project delays
Software companies routinely disclaim liability for these categories of damages because the potential exposure could otherwise be enormous.
Why Courts Often Enforce These Clauses
Courts commonly uphold these provisions based upon:
● Freedom of contract
● Commercial predictability
● Recognition that software is inherently complex
● The user’s acceptance of the license agreement
This is particularly true in commercial settings involving businesses rather than individual
consumers.
Exceptions Exist
These clauses are not always enforceable. Courts may refuse enforcement where there is:
● Fraud
● Intentional misconduct
● Gross negligence in some jurisdictions
● Unconscionability
● Statutory consumer protection violations
● Failure of the contractual remedy’s essential purpose
However, these exceptions can be difficult and expensive to prove.
The Practical Reality
People often assume that a serious software malfunction automatically creates a large lawsuit. Frequently, after reviewing the governing license agreement, the legal analysis changes dramatically.
Even where the software plainly failed, the contract may cap damages at the purchase price of the software and bar claims for lost profits or other indirect losses.
For that reason, businesses should carefully review software agreements before relying upon mission-critical systems and understand what remedies may actually exist if the software fails.
