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Infosystems Technology, Inc. v. Logical Software, Inc., 835 F.2d 874 (4th Cir. 1987) (full-text).
Factual Background Edit
In 1981, Logical Software, Inc. (LSI), a Massachusetts corporation that develops and distributes computer software, developed a database management system called “Logix.” In early 1982, LSI entered into the first of a series of agreements licensing certain rights to Logix to Infosystems Technology, Inc. (ITI), a Maryland corporation also in the business of developing and distributing computer software. Disputes about the details of this agreement arose almost immediately.
ITI filed a breach of contract action in July of 1983, and LSI filed a second in February of 1984. On July 22, 1983, the parties settled the first suit, and executed a major amendment to the licensing agreement. The parties settled the second suit on March 30, 1984, and, as part of the settlement, executed a new contract superseding all prior agreements. The Distribution Agreement of March 30, 1984, and a Settlement Agreement executed the same day comprise the current contractual arrangement between the parties.
Under the terms of the contract, LSI granted ITI “the exclusive, non-transferable right to duplicate and distribute LOGIX in binary form” on certain computer series. In paragraph 19 of the Distribution Agreement, LSI agreed “not to solicit or accept (directly or through others) any LOGIX binary licenses on any Computer Series for which ITI has EXCLUSIVE DISTRIBUTION RIGHTS.” In Paragraph 11, LSI agreed to provide ITI with “Source Code Maintenance,” which was defined to include “all enhancements to LOGIX that are made generally available by Logical Software” and “all ‘bug’ fixes.” The same paragraph, however, contained the following disclaimer: “Logical Software does not warrant that the operation of the LOGIX Software will be uninterrupted or error free, or that all bugs or software defects will be corrected.”
Shortly after executing the initial agreement with ITI, LSI began to develop a second computer software program which it originally called “Lshell” and later renamed “Softshell.” Softshell is a “full screen user interface” program that helps to guide users through the complex commands of database management systems like LOGIX. ITI learned of LSI's development of Softshell in October of 1982, but what happened then is subject to some dispute. ITI claims that it asked LSI to provide it with Softshell under the terms of the distribution agreement, and that LSI refused to do so on the ground that Softshell was not an “enhancement to LOGIX.” LSI contends that ITI made no such request. In any event, it is clear that ITI did not assert its claim to Softshell in the litigation between the parties in July of 1983 and February of 1984, and Softshell was not mentioned in the July 22, 1983 amendment to the contract or in either of the agreements executed on March 30, 1984.
Trial Court Proceedings Edit
In November of 1984, ITI filed an action, asserting five claims for relief. First, ITI claimed that LSI's refusal to provide it with Softshell was a breach of its contractual obligation to provide “all enhancements to LOGIX.” Second, ITI claimed that LSI had breached its contractual duty not to interfere with ITI's exclusive distribution rights by marketing Softshell and other LOGIX derivatives on computers for which ITI had exclusive distribution rights. Third, ITI alleged that LSI had tortiously interfered with its contract rights by marketing Softshell to ITI's exclusive customers. Fourth, ITI alleged that LSI had fraudulently induced it to enter into the LOGIX licensing agreement by misrepresenting that it would provide ITI with all enhancements to LOGIX. Finally, ITI claimed that LSI had breached its duty to fix “bugs” in the LOGIX program. LSI counterclaimed for license fees due it under the contract.
In short, this is a diversity action for breach of contract, tortious interference with contract, and fraud arising out of a software license between plaintiff and defendant. ITI sought $10.5 million in damages, plus preliminary and permanent injunctive relief, and LSI filed a counterclaim for license fees due it under the agreement. The magistrate judge found for defendant LSI on all of ITI's claims for affirmative relief and awarded LSI judgment on its counterclaim.
Appellate Court Proceedings Edit
ITI appealed the judgment against it on the breach of contract, tortious interference with contract, and fraud claims, and LSI appealed the dismissal of its post-verdict motion to alter or amend the judgment.
The issues presented by the appeal involved the interpretation of disputed contract provisions. While a magistrate's interpretation of unambiguous contract language is a ruling of law subject to de novo review on appeal, its interpretation of an ambiguous contract provision is a finding of fact that may be set aside on appeal only if clearly erroneous. Whether a particular contract provision is ambiguous, however, is a question of law that may be reviewed de novo on appeal.
The appellate court first addressed whether the program Softshell, which gave rise to this controversy, is an “enhancement to LOGIX” within the meaning of the contract. At the outset, the appellate court stated that the term “enhancement,” which is not defined anywhere in the contract and has no standard meaning in the industry, is ambiguous. The magistrate's interpretation of it is therefore a finding of fact that may be disturbed on appeal only if clearly erroneous. Upon review of the record, the Court of Appeals did not believe the magistrate was clearly in error in concluding that the term “enhancement to LOGIX” was not intended to extend to products like Softshell.
ITI argues first that Softshell should be considered an enhancement to LOGIX because it improves the use of LOGIX. The magistrate acknowledged that Softshell could improve the operation of LOGIX, when used in conjunction with it. But the court found that the parties intended the term “enhancement to LOGIX” to refer only to improvements made to the product LOGIX itself, not to products that, like Softshell, could be used and marketed quite independently from LOGIX. The record contains substantial evidence to support this conclusion. LSI's president testified that, at the time he signed the contract, he understood the term “enhancement to LOGIX” to refer only to improvements to the program LOGIX itself. Two of ITI's own experts, as well as its president and vice president, testified that whether one product is an “enhancement” of another is essentially a marketing question. Experts on both sides testified that, while Softshell did improve the operation of LOGIX, it could also be used and marketed as a separate product. Indeed, ITI itself sought Softshell for use with a product other than LOGIX — its own database management program called “RUBIX.”
ITI also argued that Softshell should be considered an enhancement to LOGIX because it contains a substantial amount of LOGIX source code. The magistrate found, however, that the amount of common code is not a decisive factor in determining whether one product is an enhancement of another. Once again, there was sufficient evidence to support this conclusion. Dr. Testa, the president of ITI, testified that a device could be an “enhancement to LOGIX” even though it did not contain any LOGIX code, and one of ITI's own experts testified that the amount of common code is not a decisive factor in determining whether one product is an enhancement of another.
The appellate court concluded, as did the magistrate, that ITI failed to mention its claim to Softshell in the pleadings filed in the July 1983 or February 1984 litigation between the parties, in the July 22, 1983 amendment to the contract, in either of the agreements executed on March 30, 1984, or in any other correspondence between the parties from the time ITI first learned of Softshell in 1982 and the time it filed this action.
The appellate court held that this silence significantly reduces the credibility of ITI's claim that the term “enhancement to LOGIX” was intended to extend to products like Softshell. ITI attempted to avoid this problem by alleging that its silence was due to LSI's false representations that Softshell contained no LOGIX code. The appellate court was not persuaded by this argument because it was undisputed that ITI was aware, as early as 1982, that Softshell would improve the operation of LOGIX. Under the interpretation of the contract advanced by ITI, this would have entitled ITI to demand Softshell even if it contained no LOGIX code. On this record, the appellate court concluded that the magistrate's finding that LOGIX is not an enhancement to LOGIX within the meaning of the contract was not clearly erroneous.
After disposing of ITI's claim for breach of the enhancements clause, the magistrate turned to ITI's claims for breach of the exclusive distribution rights provision and for tortious interference with those rights. Each of these claims was based on LSI's distribution of Softshell on computers for which ITI had exclusive distribution rights. The magistrate found for the defendant LSI on both claims, reasoning that if Softshell was not an enhancement to LOGIX, then it was not a product for which ITI had exclusive distribution rights. Implicit in this analysis was a determination that the exclusive distribution rights granted in paragraph 7 of the Distribution Agreement do not extend to all software that contains LOGIX code, but rather are limited to the program LOGIX itself and anything deemed to be an “enhancement to LOGIX.”
The appellate court concluded that the contract is again ambiguous. Paragraph 7 of the Distribution Agreement simply provided that “LOGICAL SOFTWARE grants to ITI exclusive distribution rights for the LOGIX binary code on the following Computer Series. . . .” Paragraph 3 defined “exclusive distribution rights” as “the exclusive, non-transferable right to duplicate and distribute LOGIX in binary form on a particular COMPUTER SERIES.” Thus, the Court of Appeals stated that this exclusive distribution rights provision is susceptible on its face to two reasonable interpretations — one which includes all software that contains any LOGIX code in binary form, and another which is limited to the binary form version of the program LOGIX itself. The magistrate evidently concluded that the parties intended the provision to have the latter meaning, and the appellate court held that this finding was not clearly erroneous.
The contract does contemplate that ITI will develop and distribute software derived from LOGIX source code. Paragraph 17 of the Distribution Agreement grants ITI the right “to modify the LOGIX Source Code in any manner it chooses,” and Paragraph 9 requires ITI to pay LSI a certain percentage of the revenues it derived from the license of “LOGIX or any derivative of LOGIX.” But the contract contains no provision granting ITI the exclusive right to distribute these LOGIX derivatives, and there is no evidence to suggest that the parties intended the exclusive distribution rights granted in Paragraph 7 to be interpreted so broadly. Thus, the appellate court was unable to say that the magistrate was clearly in error in holding that ITI's exclusive distribution rights did not extend to Softshell. Therefore, the Court of Appeals concluded that the magistrate erred in entering judgment for LSI on ITI's claims for breach of the exclusive distribution rights provisions and for tortious interference with those contract rights.
The magistrate next held that ITI had not made out an actionable fraud claim. Because the alleged “fraud” was LSI's representation that Softshell was not an enhancement to LOGIX — a representation which, under the magistrate's interpretation of the contract, was not false — the Court of Appeals found no error in this conclusion.
The appellate court next turned to the magistrate's conclusion that LSI did not breach its contractual duty to fix “bugs” in the LOGIX program. The appellate court stated that the relevant contract provisions are ambiguous. Paragraph 11 of the Distribution Agreement requires LSI to provide ITI with “Source Code Maintenance,” which is defined to include “all ‘bug’ fixes.” But the same paragraph provides that “Logical Software does not warrant that the operation of the LOGIX Software will be uninterrupted or error free, or that all bugs or software defects will be corrected.” Paragraph 6 of the Settlement Agreement requires LSI to provide ITI with a “full written response” to each of some 187 bugs that ITI had identified as impeding the operation of the LOGIX program.
The magistrate ruled first that the contract did not obligate LSI to fix every bug in the LOGIX code, but simply to provide ITI with those bug fixes which it did develop. Given the disclaimer in Paragraph 11, this finding seems beyond dispute. The magistrate also held that LSI had satisfied its obligation to provide “full written responses” to all bug reports. Though some of those responses did little more than acknowledge that there was indeed a bug, it is undisputed that LSI did in fact provide a written response to every bug report filed by ITI. On these facts, the appellate court could not conclude that the magistrate was clearly in error in finding that LSI satisfied its obligation to provide a “full written response” to all bug reports.
The appellate court concluded that the magistrate did not err in ruling for defendant LSI on plaintiff's claims for relief, or in dismissing LSI's motion to alter or amend the judgment. Thus, the appellate court affirmed the trial court’s decision.