This article is part one of a four-part series by Mayer Brown on the latest trends in digital transformation.
We are increasingly seeing a deal model that we call a “Cloud+ Strategic Partnership.” In that model, a cloud provider agrees to provide discounts to and collaborate with a company in the development of new software that will run on the provider’s cloud infrastructure or cloud platform. The company gains cost savings for a cloud migration or building a new business on the cloud and, in some cases, a commitment from the cloud provider to bring cloud migration, development and engineering resources. In return, the cloud provider secures a long-term commitment for revenue for its cloud infrastructure or platform and, in the collaboration, may have access to industry knowledge and other know-how from the company.
Companies entering into Cloud+ Strategic Partnerships face three key types of risks. First, there are risks common in cloud services agreements, such as how much the cloud provider can change the way that the cloud services work, how well they work, and the pricing. These issues are heightened because the company is making a long-term commitment to use large amounts of the cloud providers’ services (or pay a termination fee) instead of having rights to cancel on convenience. The company thus has limited ability to mitigate risk by moving to an alternative cloud provider.
Second, there are the risks of collaborations. The parties may disagree as to what should be done or how. The work may take longer or cost more than expected. The software might not work properly or may harm third parties. A party may lose interest in the collaboration. A party’s exit might destroy value.
Third, there are strategic risks. The cloud provider might use the industry knowledge it gains from the company to compete with the company. (Each of the hyper-scale cloud providers is admired and feared for its skill as an “industry hopper.”) Also, the deal is for a project that is both strategic and speculative, so expensive failure is a real possibility. Finally, because of the company’s commitment, the cloud services will go from being a peripheral part to a central component of the company’s business and digital strategy.
Negotiating a Cloud+ Strategic Partnership
We find that because of the novelty and strategic importance of a Cloud+ Strategic Partnership, the parties should first align at a term sheet level on the deal structure. Both sides should consider the end goals of the arrangement early on, including who their customers are, what products and services might be developed, whether any third parties need to be involved, and how to go to market. Moreover, the parties will need to decide up front what financial, technical, operational and other commitments should be made by each side and how the relationship is to be governed.
There are generally two agreements: a cloud services agreement and a collaboration agreement. The cloud services agreement negotiation focuses on the usual points, including commitments on services, service levels, data protection, legal compliance, fees and liability. However, a Cloud+ Strategic Partnership generally includes a commitment to purchase a large amount of cloud services over a period of time. That commitment may be large enough to effectively bind the company to purchasing all or almost all of its cloud requirements from the cloud provider. As such, companies should carefully consider their future ability to use cloud services and confirm that commitments are appropriately sized. Moreover, because the contract may be in essence exclusive and long term instead of one of many cancellable contracts, the company has fewer ways to mitigate risk operationally but may have more leverage contractually. Thus, the company will generally seek more robust protections around performance and price in a Cloud+ Strategic Partnership than in a standard cloud agreement.
In the collaboration agreement, the issues mirror those of a joint software development agreement, a joint venture agreement or a strategic alliance. These include determining which party will make what contributions, who has the rights to make which decisions, how risk and rewards will be shared, and each party’s rights to exit.
The cloud provider’s technology know-how and the customer’s industry knowledge can help develop an industry-leading product or service. Each party most often continues to own the intellectual property that it contributes or licenses to the arrangement, along with derivatives built off of that intellectual property. For newly developed intellectual property, each party will seek to own anything related to its core business. Where there is overlap, the parties each focus on the areas that provide actual competitive advantage. Joint ownership is sometimes presented as a panacea but raises complex issues in securing, maintaining, licensing and enforcing joint intellectual property rights.
Similarly, each party has access to data that the other side may not have. So, key issues include the scope of the data to be shared, the purposes for which such data may be used and the measures that will be taken to protect such data. Generally, cloud service agreements grant cloud providers limited rights in the company’s data. However, in a Cloud+ Strategic Partnership, a cloud provider might have the right to monetize some of the company’s data, for example, using it for targeting advertising or as a training data set for AI.
Finally, even if the collaboration agreement and the cloud services agreement are separate documents and may be drafted and negotiated at different times, they operate together in a Cloud+ Strategic Partnership. Both parties should carefully consider how the agreements interact, including, where appropriate, tying success and performance in one agreement with ongoing commitments in the other.
Cloud+ Strategic Partnerships offer a new avenue for cloud providers to collaborate with leading companies across industries and for companies to achieve cloud migrations and build new cloud-based businesses. With careful contracting at the start, each party can build a strong foundation for a successful long-term relationship that facilitates digital transformation, drives toward operational excellence, and helps to develop new and cutting-edge products and services.
Rohith George is a partner in the Technology Transactions practice in Mayer Brown’s Palo Alto and San Francisco offices. Rohith is also a member of the firm’s Fintech and Insurtech practices.
Brad Peterson is a partner in Mayer Brown’s Chicago office, where he leads Mayer Brown’s global Technology Transactions practice and co-leads the firm’s Supply Chain & Distribution practice and its Fintech industry group.
Adam Cusick is an associate in Mayer Brown’s Palo Alto office.
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