Look before you leap: signing an escrow agreement in the US can land you in big trouble.
Highway to the danger zone: When escrow meets an implied contract
In the last few weeks I have had a few software company clients negotiate joint ventures in the US.
Get business news first
Sign up to SmartCompany’s daily newsletter
The issue of escrowing source code – giving it to a third party for safekeeping – has come up as part of the negotiations.
US companies usually require a direct contractual relationship with the escrow agent. At first glance this seems like quite a routine, non-litigious issue. Guess again!
There has been a surge in litigation in the US over implied contracts and escrow agreements. The scenario goes a bit like this:
- Two companies (one Australian, one American) decide to either set up a joint venture for the US company to commercialise the Australian company’s software in the US, or the US company wants to license the software for its own use.
- The parties begin negotiating an exclusive license arrangement or joint venture agreement, a licensing agreement and escrow agreement.
- The negotiations around the joint venture agreement or the licensing agreement become protracted.
- The parties begin the joint venture or the licensing relationship without a signed contract, but, with an exchange of money (that is, licensing fee or initial fee of some sort) there is a signed escrow agreement, and a handshake commitment to sign the contract at some stage.
- The parties fall out, and the Australian company appoints another exclusive joint venture partner or US licensee.
- The US company sues the Australian company for breach of the implied (unsigned) contract and enforcement of the escrow agreement.
Proceeding without a signed joint venture agreement is bad enough, but one of the worst things an Australian company can do is to proceed with a business venture in the US on a handshake, without a signed contract but with a signed escrow agreement.
A signed escrow agreement gives every party a contractual right to enforce the terms of that contract.
So, if the Australian company appoints another exclusive business partner, the American company is likely to sue to enforce the terms of implied agreement as well as the escrow agreement, which undoubtedly will give the American company access to the Australian company’s software under the terms of the escrow agreement.
Joint venture partners and licensees want escrow agreements because they give comfort to them that they will have access to the intellectual property in the event the intellectual property owner cannot perform the terms of the business contract or becomes insolvent.
One way to avoid this potential nightmare, is to have an escrow agreement between the Australian company and the escrow agent, and only name business partners and licensees as beneficiaries, and not allow them to sign as a party to the agreement.
Doing business in the US can sometimes be hard yards, but, if you avoid problems with escrow situations, you will be ahead of the game.