& CLEPA Conference: "Warranty in a Digital World" Legal aspects of warranty contracts in the automotive industry Dr. Christian Kessel Bird & Bird LLP Frankfurt am Main, 19 September 2018
Agenda 1. Setting the Scene: Some introductory and background remarks 2. Incorporation of Software into Hardware 3. Connectivity 4. Service Contracts and Service Level Agreements 5. Digitalisation of European and German Law Slide 2
1. Setting the Scene: Some introductory and background remarks
Warranty contracts in the Automotive industry Traditionally to provide remedies for defective serial products (hardware): Replacement of defective part by a newly manufactured and delivered part, Provide for compensation for damages incurred, Provide for recourse along the supply chain, Relevant provisions continuously written forth by OEMs in Purchase Terms, Warranty Agreements, or other ancillary documents (e.g. MBST). This traditional concept is changing due to the impact of the digital world: Incorporation of the software in the hardware Driver assistance systems Autonomous Driving Connectivity Over-the-air ( OTA ) updates via internet/mobile telecommunication Infotainment Predictive Maintenance (remote diagnostics enabled by telematics) Function on Demand Slide 4
The traditional supply chain Warranty rights (contractual recourse in the supply chain) Consumer Dealer OEM Tier 1 Tier 2 Supply Consumer Product liability Tort liability Chain "Innocent Bystander" Slide 5
The new supply chain Services Provider Software Cloud Control software Consumer Dealer OEM Tier 1 Tier 2 - Contractual claims (warranty rights etc.) - Tort claims/ Product liability claims Slide 6
The complexity increases. Legend Data Data Hardware (sold data) Contract Vehicle 2 n Cloud Provider Provider Infrastructure Map producer Environment Cloud Provider OEM Output Vehicle 1 Computing unit Sensor Tier 2 Tier 1 Sales Cloud Provider Input Outdoor signals Slide 7
Definition of a Quality Defect (e.g. Sec. 434 BGB) 1. Primarily decisive: agreed quality 2. In the absence of an agreement: suitability for the use intended under the contract = "fit for purpose" 3. In the absence of an agreement or intended use: suitability for customary use, its quality is usual in things of the same kind and buyer may expect this quality in news of the type of the good This means: No. 2. and No. 3. are only relevant, if the parties did not agree upon the quality Slide 8
Warranty Rights (e.g. under German Law) Sec. 437 BGB If the product is defective, the Buyer may demand " supplementary performance (Sec. 439 BGB) o repair or o replacement of the defective product Fault not required withdrawal from the contract (Sec. 440, 323 and 326 para. 5 BGB), reduction of purchase price (Sec. 441 BGB) Fault not required damages (Sec. 440, 280, 281, 283 and 311 a BGB), reimbursement of futile expenditure (Sec. 284 BGB) Fault-based liability Slide 9
2. Incorporation of software in the hardware
Incorporation of software in the hardware (1) Supply agreements for parts (Tier2 Tier1 or Tier1->OEM) include clauses providing rights of use/ a license for the software incorporated in the hardware (serial parts), or provided separately Such license may follow a development instructed by the customer or in cooperation with the customer. It may, however, also be based on the supplier's own R&D activities. Typical software issues need to be adressed, e.g. adjusting the parameters of the software once installed in the hardware Slide 11
Incorporation of the software in the hardware (2) Warranty issues Hardware: no changes Software: i. correction of defects; ii. adaptation of the software; iii. further development of the software. - all of it is often part of so-called "software maintenance" - For the correction of defects/malfunctions of the Software Service Level Agreements (SLAs) OTA (Over-The-Air) updates Severity of the defects categorized in SLAs: 1) Critical (blocking); 2) Major; 3) Minor; 4) Trivial HERE we have a "new" feature not relevant for the traditional serial supply of parts (hardware). Slide 12
3. Connectivity
Connectivity: Autonomous Driving An autonomous vehicle requires Data from sensors, radars, cameras etc. from C2X from maps Processes and functionalities, for their on board processing cloud-based processing (cloud platform) OEM's backend processing (OEM's platform) Internet access to reach the backends/cloud via telecoms connections (telecoms platform) Mobility Services (as part of Connectivity) Slide 14
Connectivity Infotainment: The car has its own mobile telecoms connection that provides a combination of information and entertainment It consist of: Hardware units OEM driven application services Mobile telecoms applications The entire electronic system of the vehicle is connected via the internet to the OEM's server Mobile telecoms operators offer a machine-to-machine (M2M) solution to the OEMs. Electronic functionalities of the vehicle can be checked, maintained, updated E-Call. Car2Car/Car2 Infrastructure ("Car2X") vehicles communicate directly with each other via WLAN-like technologies Navigation Updates on maps, Information via Car2X. Telecoms standard 5G required Slide 15
Connectivity Thus the notion of Connectivity combines a number of different functions (navigation, infotainment, autonomous driving) and technologies. They have in common that they connect the vehicle to a network via mobile communications, WLAN or similar technologies. "Connected Cars" result from the integration of information technology and telecommunication services and applications in a vehicle allowing for an exchange of data via the mobile telecoms network. The various technical components and sensors in driver assistance systems and in functionalities for autonomous vehicles (e.g. LiDAR, RADAR, and cameras) generate data. Built-in computing units process the data and communicate via wireless connections with the OEM's backend (M2M (machine-to-machine) connection) or other platforms (e.g. of third party providers) Together they form an embedded system (technical components and computing units) The embedded system and the communication network form Cyber-Physical Systems (CPS) they extend the mechanical and electronic features of the vehicle by virtual telematics functionalities. Connectivity and the CPS - infrastructure are two sides of the same coin. Slide 16
Connectivity an Illustration Source: Ethik-Kommission Automatisiertes und Vernetztes Fahren (Eingesetzt durch den Bundesminister für Verkehr und digitale Infrastruktur), Bericht Juni 2017, p. 27. 1. Human 2. Car 3. Traffic infrastructure 4. C2X communication infrastructure 5. C2C communication infrastructure 6. OEM Backend 7. Backend traffic management 8. Backend supplier 9. Backend scenario catalogue 10. Neutral server Others Slide 17
Connectivity - Necessary Infrastructure Telecommunication services M2M (machine-to-machine) Technical components and processing connected via the internet to the OEM's backend. C2C (car-to-car) Communication via WLAN-like technology. C2I (car-to-infrastructure) Communication via WLAN-like technology with intelligent traffic infrastructures. C2X (car-to-other system) Car to traffic infrastructure. Car to platform (OEM based, cloud based). Platform to traffic infrastructure. Platform to backend (OEM based, cloud based, provided by the government). Platforms Traffic management systems. OEM's backend (at OEM or cloud based) Cloud operator s infrastructure Cyber-Physical System (CPS) Hardware Software Slide 18
Connectivity Necessary Platforms Connected Car Platforms of the OEMs Frontend: display in the cockpit/head Unit, smartphone applications etc. Backend: complex IT-infrastructure for the provision of services, communications of the vehicle, data management, interfaces, etc. Supporting IT Platforms for the operation of the backend Connected Car Platform as Service offered by third parties (e.g. suppliers) services directly visible and usable by the end customer (driver) Cloud services Slide 19
Connectivity - Relevant types of contracts Telecommunication Data transfer Internet access Platforms Customized platforms or software Physical components of the CPS Service contracts Rental contracts Contracts for works Purchase Contracts There is only one typical purchase contract left with which a traditional supplier would be familiar from its day-to-day business. Cloud Computing Various technically independent players offer a complex Cloud-Internet-infrastructure and bundles of service via a platform for a customer's bespoke requirements; the customers chooses not a complete offer but among the variety of services available according to its need. Service Contracts(regularly) SLAs cover risks of the quality of the internet (access) contracts Private Clouds (Backend) Contract for works Slide 20
4. Service Contracts and Service Level Agreements (SLAs)
Types of Contracts Importance of the classification of the types of contracts for connectivity services To know what "the law" already provides for: Statutory provisions in European contractual legal systems, China and Japan. Case-law in Common Law countries (England, Wales, Northern Ireland, USA, Canada (excluding Quebec), Australia, New Zealand, Bangladesh, India (excluding Goa), Pakistan, South Africa and Hong Kong). If the type of contract is unclear, there is also uncertainty about what type of specific contract regulations a court would base a judgement on in case of a dispute. To know what needs to be addressed/provided for in the contractual documents. In Germany, with its very strict law on general terms and conditions, clauses are invalid where they deviate from the (mandatory) statutory legal provisions for a specific type of contract or the underlying statutory concept ("gesetzliches Leitbild") of a contract. It is, therefore, important to have a precise idea of the type of contract applicable to the services. to keep in mind which regulations are mandatory for which kind of contract. Slide 22
(Telecommunication) Service Contracts (Telecommunication) Service Contracts apply to: The enabling of a connection for the exchange of language or data. Calls and access to the Internet. The German Federal Court of Justice (Bundesgerichtshof) ( BGH ) classifies telecommunication contracts as service contracts for continuing obligations: see BGH NJW 2002,361. Reason: The focus of the service is on the transport of data and not on the use of a thing (i.e. no rental contract). Connecting to a network cannot be guaranteed as a success (i.e. no contract for works). Note: The distinction between two different kinds of contracts for the provision of services (contracts for works and contracts for services) only apply in some jurisdictions (e.g. Germany). Slide 23
Service Contracts Challenges for Warranty and Damages claims The service contract is regulated in Germany by Section 611 et seq. of the German Civil Code (BGB). This statutory regime does not provide for warranty rights. The only statutory remedies for a breach of contract of the service contract are (faultbased) claims for damages (according to 280 para. 1 BGB). Damages are often not what the customer wants in the first place rather a customer requires the remediation of the service as quickly as possible. This function is fulfilled by Service Level Agreements ( SLAs ). Slide 24
Service Level Agreements (SLAs) Service Level Agreements are a phenomenon of contract drafting derived from the Anglo- American legal system and practice. Under the German civil law system they cannot be clearly classified. Even though the underlying (statutory or case-law based) liability regime of the type of contract in question applies, the SLAs serve to: More specifically define the performance level and type of service provided (including security, quality, availability and responsibilities) Provide for ongoing monitoring systems/processes and service level reporting Define the steps for reporting issues with the service Define the scope and timing of the remedies in case of breach of contact (bad performance) Provide for applicable financial compensation, if these remedies are not provided as specified in the SLAs. SLAs, thus, influence three aspects of a contract: Specification of services Warranty Liability Slide 25
Service Level Agreements Availability (1) Important aspects to be addressed by the SLAs are security, quality and particularly the availability of the service. The availability of a technical system is the probability that the system meets certain requirements at a certain point in time or within an agreed timeframe. Measures to consider: Concerning availability, it must be defined whether partial availability of the individual components or overall availability is at issue. Connectivity service providers must be able to offer an overall availability of almost 100 percent (see next slide). Operating times, maintenance work, business continuity, disaster recovery, backups or system updates must be addressed. Over-the-air software updates (updates installed via an internet connection) can be used to eliminate errors quickly and with little effort for the end customer. Security Response time: Elapsed time between an inquiry on a system and the response to that enquiry (especially for platforms/the cloud) Slide 26
Service Level Agreements Availability (2) Level of availability The availability of - wireless internet connections - the relevant platforms (backend, cloud etc.) is crucial for autonomous driving. For smooth autonomous driving, connectivity service providers must be able to offer an overall availability of almost 100 percent (availabilities of up to 99.9 percent are technically possible). It should be defined whether partial availability of the individual components or overall availability is at issue. Example clause "The Service Provider undertakes to provide a monthly system availability of its (internet access) services of 99,0 % (subject to the provisions in subsequent clause [x])" Slide 27
Sanctions for breach of SLAs (1) Why should the Contracting Parties provide for sanctions? In the event of a breach of SLA requirements, damages for breach of contract could be claimed (if this was not contractually excluded). The customer may also have a right to terminate the contract. However, this does not solve the problem of demonstrating and proving the actual damage incurred. Solution: The contracting parties agree on their own sanction regime to ensure performance standards. Possible instruments of regulation: Fixed reduction rates of the agreed remuneration Lump-sum/ liquidation damages Contractual penalties (not legally possible in Common Law countries) SLA credits In Germany, SLAs should not be worded in such a way that they can be understood as a limitation of liability or exclusion of liability, as this could lead to their invalidity according to the very strict German law on general terms and conditions. Slide 28
Sanctions for breach of SLAs (2) Contractual penalties, where legally admissible (not in Common Law countries), have a distinct advantage. The customer does not have to prove that the customer has incurred loss at all, or the amount of damages. It must be regulated whether a contractual penalty is forfeited dependent on fault or strict liability. Strict liability is common, but in Germany can only be used in individual clauses, not in general terms and conditions. The parties shall agree on how these provisions are to be incorporated into the warranty regime of the entire contract. For example, whether the amounts paid as a contractual penalty are to be set off against a (possible) claim for damages. Service credits: If the SLAs are not met, the parties pre-dertermine a reduction of the consideration. If the SLA are not met for a certain number of times, the customer has the right to terminate the agreement. Slide 29
Internet Platform Contract Still open whether to be classified as a rental contract The CPS of a car needs to be connected to a platform to have access to updates, roadmaps and traffic management. The Platform Service Provider provides the platform and keeps it in an operational condition and makes the platform available to the End Users to the agreed extent. There is no Bundesgerichtshof ( BGH ) (German Federal Court of Justice) decision on the subject of how to classify the operation of an Internet platform according to contract type. Contracts for works or for services, rental contracts or a sui generis contract are under discussion. Arguments for classifying platform contracts as a rental agreement: For Application Service Providing ( ASP ), the BGH has ruled that the ASP-contract is a rental contract, since the granting of online use of software for a limited period of time is the focus of the contractual obligations as a typical service in the ASP contract. Software-as-a-Service contracts, for which no BGH decision has yet been issued, are also classified as a rental contract by the prevailing opinion in legal literature. Slide 30
5. Digitalisation of European and German Law
Digitalisation of European and German Law On EU Level initiatives have been made to regulate on digital content as a new contract type. In 2015, the European Commission presented a draft directive on "certain contractual aspects of the provision of digital content". This proposal remains contract type neutral, but contains a special warranty regime for digital content contracts. The German legislator has not yet reacted. The Commission's proposal was judged too abstract and undifferentiated in German literature, since, for example, it is not clear which circumstances should be covered by the term "digital content" at all. The German literature sees problems with the classification into the different contract types, since the provisions of warranty law often do not fit the concrete circumstances to be regulated
Thank you Dr. Christian Kessel Bird & Bird LLP, Frankfurt christian.kessel@twobirds.com +49 (0)69 742226223 twobirds.com Bird & Bird is an international legal practice comprising Bird & Bird LLP and its affiliated and associated businesses. Bird & Bird LLP is a limited liability partnership, registered in England and Wales with registered number OC340318 and is authorised and regulated by the Solicitors Regulation Authority. Its registered office and principal place of business is at 12 New Fetter Lane, London EC4A 1JP. A list of members of Bird & Bird LLP and of any non-members who are designated as partners, and of their respective professional qualifications, is open to inspection at that address.