Don’t Use License Agreements for Software-as-a-Service

Many software-as-a-service (SaaS) contracts grant a “license” to use the vendor’s software. That’s a mistake. Licenses authorize making copies of on-premise software. SaaS isn’t copied, so it doesn’t need a license. And if you’re the vendor, a license can hurt you.

SaaS Customers Don’t Copy Software

Don't type in "license"!The confusion stems from the role of “software” in software-as-a-service. You can cut through that confusion by asking what the customer will do with the software. If the customer puts a copy on a computer — if it’s on-premise software — the contract needs a license. Copyright law gives the software’s owner a monopoly on the right to copy it, so the customer needs a copyright license to make copies. The rule is the same whether the customer owns the computer receiving the copy or uses computers provided by its data center vendor. (Actually, copyright law has some confusing rules about whether the user actually needs a license to put a single copy on a single computer, but that’s not important here.)

In a SaaS deal, on the other hand, the customer does not put software on a computer — or copy it at all. The software sits on the vendor’s computers, and the customer just accesses it. With no copies, copyright plays no role in the promise of services, so the customer doesn’t need a copyright license. Rather, it needs a simple permission: “During the term of this Agreement, Customer may access and use the System.” (For more sample language, see The Tech Contracts Handbook, Chap. I.E.1, as well as the examples in our clauses archive.)

Incidentally, some would say the customer gets a service in a SaaS deal — as implied by “software-as-a-service” — not software. So a license-free clause might say, “During the term, Vendor shall provide the Service to Customer ….” The term “service,” however raises its own set of problems, leading to confusion between SaaS and professional services. [See my 202 article, “Cloud Services Are Neither Products nor Services.”) I think the language above (in green) works better. And if you want a handy name for the transaction, replacing “license” (and “service”), I like “subscription.”

Trouble for SaaS Vendors

Some pundits argue that a “license to use” SaaS just means permission to use it and does not grant a copyright license. But why take the risk, since a SaaS contract using the word “license” could hurt the vendor in at least four ways?

  1. Patent License: Contracts use “license” to grant patent rights. So a customer could argue that its SaaS “license” gives it rights under the vendor’s patents — rights to build and sell its own software similar to the SaaS system.
  2. Right to a Copy: In a dispute, a customer with “license” could demand a copy of the software itself: the remote-access software at issue in a SaaS deal. Maybe an ex-customer claims wrongful termination of its contract, for instance, and argues that it now needs a copy of the vendor’s software to manage its business and minimize losses. Licensing language, with its implied right to copy, could support that argument.
  3. Copyleft Open Source Distribution: Many SaaS systems include “copyleft” open source software (a.k.a. “viral” open source software, though the nickname is misleading). This copyleft code is provided to software companies with certain conditions, particularly a requirement that, if the company distributes its own product, it must distribute it as open source software. Generally, these copyleft rules don’t apply to SaaS vendors because they don’t distribute: they don’t give customers copies of their software. But any suggestion that customers do get copies, or that they have a right to copies, could support an argument that copyleft applies. Using the word “license” creates such a suggestion. (For more on copyleft, click here.)
  4. Bankruptcy: Intellectual property licenses generally continue even after the vendor files bankruptcy. So if the vendor goes through reorganization, customers with “license” in their contracts could argue that they keep their rights to the SaaS.

Other Differences between SaaS Contracts and On-Premise Licenses

This SaaS, not an on-premise system subject to a license.If you’re granting licenses for SaaS, you may be confused about its other key differences from on-premise software. For instance, SaaS contracts don’t need maintenance clauses, which call on the vendor to fix the customer’s copy of the software. Rather, SaaS contracts need service level agreements (SLA’s), which recognize that the vendor hosts the software and calls on it to keep the system running. SaaS contracts also don’t usually need updates and upgrades clauses. Again, the vendor hosts the software, so it provides any revisions as a matter of course.

SaaS contracts also call for much more focus on data management and security than on-premise software contracts. The customer’s data sits on the vendor’s computers, rather than on the customer’s, as with on-premise software. (For more on data clauses, see The Tech Contracts Handbook, Chap. II.H, as well as the sample terms in II-H of our clauses archive.)

Combination Deals

Of course, your deal may involve both SaaS and on-premise software. A SaaS vendor may provide its main offering online but also provide an application for customers’ computers — something that helps those machines talk to the online service. Don’t let that confuse you. What you need there is a software license covering that one installed app, wrapped in the larger SaaS subscription contract. The license addresses the installed app only, not the SaaS system on the vendor’s computers.

For a related article (noted above), see “Cloud Services are Neither Products nor Services.”

This article was updated on January 19, 2023.

Want to do tech contracts better, faster, and with more confidence? Check out our training offerings here: Tech Contracts Academy has  options to fit every need and schedule: Comprehensive Tech Contracts Master Classes™ (four on-line classes, two hours each), topical webinars (typically about an hour), customized in-house training (for just your team). David Tollen is the founder of Tech Contracts Academy and our primary trainer. An attorney and also the founder of Sycamore Legal, P.C., a boutique IT, IP, and privacy law firm in the San Francisco Bay Area, he also serves as an expert witness in litigation about software licenses, cloud computing agreements, and other IT contracts.

And, consider also the 3rd edition of David Tollen’s best-seller, The Tech Contracts Handbook, available to order (and review) from Amazon here, or purchase directly from its publisher, the American Bar Association, here.

This article is an update of an earlier version, posted in 2011.

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