Contracts and Penalty

A couple of years back, I was given a contract to read, understand and memorize if possible. The contracts that I came across till then were simple. It was as simple as “an email would be sent in 4 hours for a major issue which will be followed up with regular updates”. How stressful can that be? But this contract was not as simple as the earlier ones! The contract was to govern the outsourcing of a mission critical application to the vendor. In this case, the vendor was my employer who was in the software services sphere and the customer was a major player in Europe.

As I read through the contract, panic besieged me. At the same time, I was in awe. There are many pitfalls while shipping a piece of software. The creators of the contract had taken most of these pitfalls into consideration while drawing up this contract.

  • Delivery slippage, the bane of the services industry. There is a penalty that will be levied per day of the slippage.
  • Failure to installation, another bane which results in finger pointing. There is a penalty clause for this too. From the third unsuccessful attempt onwards, you are charged a penalty per attempt!
  • High number of defects in the deliverable. If you are pressed for time, releasing software with defects is an easy way out. But, here The defect density is calculated based on the efforts behind the deliverable. If the defects goes beyond this number, you pay penalty per additional defect.
  • High turnaround time for fixing defects. So if you cleared all of the above hurdles, you can still fail if you do not give a defect fix within the prescribed time. For this category, the penalty is calculated per day of slippage.

The penalties were calculated per day of delay. This will put all of us under tremendous pressure to turn around. Turning things around was not enough. There should be a proper closure lest these open up days later; raising the total amount of penalty.

After reading the contract carefully, I finally found a loop hole.  I went back to my colleagues with my grandiose plan. “There is a 20% cap on the penalty. So, if the deal is worth 100 Euros, the penalty cannot exceed 20 Euros.”, I said. Everybody nodded. There were already aware of this clause. Then, I suggested, “Simple. Set aside 20% for penalty every time we embark on a new project under this customer. This way, we can at least work in peace!”.

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Tags: Musings,Contract,Penalty


  1. It doesn't seem to be a clean contract.

  2. @Jithu - :D

    @BKC - This is how most of the contracts are written! :(


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