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SaaS: Key Pricing Considerations (Part 2)

By Jeffrey D. Hutchings

This is the second of two postings that discuss SaaS pricing.  In the earlier posting, we discussed the underlying economics of SaaS solutions and their implications for how SaaS services are priced.  This posting identifies some key considerations in negotiating pricing for SaaS services that can help lower total subscription costs.

Committed Growth vs. Incremental Purchases

As a general matter, the higher the volume you commit upfront to a SaaS provider over the contract term, the higher the discount you can negotiate.  However, this carries a risk that your projected growth may not materialize and you'll wind up paying for a higher volume of service than you need.  As a result, it is important to use the negotiation process to assess the level of upfront commitment to future growth that achieves the optimal balance between high discount levels and the risk of paying for more than you need. 

In addressing this issue, you will want to:

·         Spread the committed growth over the contract term based on when you expect it to materialize; that is, do not set volumes for contract year 1 based on where you expect to be in contract year 5.

·         Lock in unit rates for incremental purchases over the contract term.  Some SaaS providers take the position that the price of additional volumes will be negotiated at the time of purchase.  This should be a non-starter since you may not have as much leverage to negotiate price during the middle of the contract term.

·         Avoid large minimum purchase commitments on incremental purchases.  SaaS providers often require a minimum block of units be purchased.  In concept, this is reasonable in that it allows the supplier to avoid numerous tiny incremental purchases throughout the year and thereby more effectively manage administrative costs.  In practice, however, SaaS providers sometimes propose minimum purchase requirements that are excessive in relation to the size of the deal.  For example, in a recent transaction, a SaaS provider proposed minimum purchase increments of 500 units, which represented a 20% increase in the size of the deal.  Any minimum purchase requirements should make sense in light of the size of the deal. 

Timing Considerations

As noted in Part 1 of this posting, SaaS providers typically require that the full subscription fee start at the time the service is first made available to commence configuration and implementation efforts.  There are some approaches that can help mitigate the impact:

·         If subscribing to multiple modules that will be implemented at different times, stagger the subscription start dates to coincide with the commencement of implementation efforts for those modules.

·         If the go-live date for a SaaS service is expected to occur in a later subscription period than the commencement of implementation efforts, SaaS providers will sometimes agree to a nominal volume in the subscription metric (e.g., users) during the subscription period preceding the go-live date.

Swap Rights

If your are subscribing to multiple SaaS modules with different metrics or the volume of usage may vary by module, you should consider negotiating swap rights. Swap rights permit you to trade in unused units of one module for additional units of another module.  This can help optimize the value received for your subscription fees.

Subscription Metrics

You should pay close attention and understand how the SaaS provider defines the volume metrics used to price the services.  This will be important in developing the projections used for pricing purposes.  Lack of clarity on the metric definitions can result in unpleasant surprises once you're in the deal.

In particular, you should be alert to metrics that are not tied directly to the number of users you specifically authorize to use the service.  For example, the total number of employees in your organization may be used to measure the volume of usage for some SaaS services (e.g., recruiting or onboarding products in the HR space).  This can be difficult to monitor on an ongoing basis and may fluctuate throughout the year. 

Therefore, you may want to try to limit pricing adjustments to the number of employees at the commencement of each subscription year without any adjustments during the year.  In addition, you may want to negotiate the flexibility to carve out any subsidiaries or divisions of the enterprise that will not be using the SaaS service.  This can helpful in reducing costs in connection with mergers and acquisitions by being able to avoid being tagged with the employee count of the acquired company until you've moved it onto the SaaS service.

Support Plans

Many SaaS providers offer different levels of support (e.g., standard, premium, platinum).  While it may make sense to purchase the highest level of support in the first couple years as you come up the learning curve on the SaaS service, you may find that you do not need (and do not want to pay for) such a high level of support thereafter.  You should therefore consider negotiating an option to change support plans at any time (or at least at the beginning of each annual subscription period) with a corresponding adjustment in annual support fees.


As long as the transition to an alternate solution is not unusually difficult or costly, you will likely have leverage in negotiating favorable pricing for renewal terms because of the strong incentive SaaS providers have in retaining existing customers (rather than the bear the high cost of attracting a new customer to offset the attrition).  That said, it is still advisable to negotiate renewal options upfront with caps on any price increases during the renewal terms

SaaS: Key Pricing Considerations (Part 1)

By Jeffrey D. Hutchings

Software as a Service (SaaS) is growing rapidly as an alternative to licensing on-premises software for corporate customers.  As reported by Forbes earlier this year, analysts are forecasting that global SaaS revenues will reach $10.6B in 2016, representing a 21% increase over projected 2015 spending levels.  By 2018, 27.8% of the worldwide enterprise applications market is projected to be SaaS based.

SaaS solutions are attractive to customers because they substantially reduce the upfront investment and risk associated with licensing and implementing on-premises software and avoid the ongoing costs of maintaining the infrastructure and implementing upgrades for the licensed software.  In a SaaS solution, those costs and risks are transferred to the supplier.

SaaS combines elements of software licensing, outsourcing and hosting into an integrated solution.   The pricing models for SaaS solutions have certain distinct characteristics that are driven by the economics of those solutions and differentiate SaaS pricing from pricing models for software licensing, outsourcing and hosting services.

This is the first of two postings that addresses some of the key considerations relating to SaaS pricing.  This posting discusses the underlying supplier-side economics of SaaS services and their implications for how SaaS services are priced.  The second posting will identify some key considerations in negotiating pricing for SaaS services that can help lower subscription costs.

SaaS Economics

From a supplier standpoint, the economics of SaaS solutions are very different than software licensing.  In a typical software license, the supplier receives a large upfront payment in the form of one-time license fees that help offset investments in sales,  marketing and product development.  In contrast, under a SaaS model those fees are spread over the contract term (typically 1 - 5 years for SaaS offerings to corporate customers). 

This explains why established software licensors are taking significant hits to earnings as their on-premises software revenue is being replaced by SaaS subscription fees.  For example, the Wall Street Journal reported recently that SAP's first quarter net profit in 2015 fell 23% even though overall revenue increased by 22% and cloud subscriptions and support jumped by more than 100%.

From a supplier standpoint, the economics of SaaS solutions are also very different than outsourcing and hosting services.  Outsourcing or hosting is typically a "one-to-one" service that is customized to meet the specific needs of a customer and in which the direct cost of delivering service represents a substantial portion of, and is directly correlated with, the supplier's charges for the service.  In contrast, SaaS is a "one-to-many" service that is not customized for individual clients and in which the direct cost of service delivery represents only a modest portion of the supplier's fees.

To understand the economics of SaaS solutions, it's helpful to look at the income statements of some of the leading SaaS providers.  The lion's share of costs is for sales and marketing to acquire new customers.  As reflected in their 10-Ks, sales and marketing as a percentage of revenue for, Workday and Netsuite ranged from 40 to 53%.  Combined costs for product development (R&D) and general and administrative (G&A) expenses accounted for somewhere between 30 to 53% of revenue for these companies.  The direct cost of delivering the SaaS service is relatively low in relation to revenues, ranging from 17 to 19% of subscription revenue. 

Each of these companies had gross profit margins of over 80% on subscription revenue, but had substantial net operating losses due to sales and marketing, R&D and G&A costs.  This is a reflection of the high growth trajectory of these companies and the time it takes to recover their investments in customer acquisition, R&D and the assets required to deliver the service.  The road to profitability depends on high customer retention rates and expansion of business with existing customers.

Pricing Implications

These economics have several implications for how SaaS services are priced:

·         Size Matters (a lot) - while large customers can always expect to receive higher discounts for IT services than small customers, this dynamic is magnified for SaaS services.  The lifetime value (LTV) of a customer in relation to the cost to acquire a customer (CAC) is much higher for large customers than small customers.  At 80%+ gross profit margins on subscription revenue, the revenue stream from a large customer has a much greater impact on the supplier's earnings than, say, a large outsourcing or hosting customer (where gross profit margins are lower due to higher direct costs of service delivery in relation to revenue).  Even though it typically costs more to acquire a large customer, these are one-time costs that are more than offset over time by the revenue stream of a large customer.  Large customers also have longer retention rates for SaaS services.  Therefore, large customers should expect to receive substantially higher discounts on subscription fees and considerably more flexibility on other pricing and non-pricing related terms.  In this respect, SaaS pricing is analogous to pricing on software licenses where a large client may pay half of what a small client pays on a per unit basis.

·         Minimum Revenue Commitment - the payback on the supplier's investment in acquiring a SaaS customer can take many months (in some cases over a year) of subscription fees to break even.  Therefore, minimum revenue commitments are particularly important for SaaS providers.  A typical SaaS agreement will obligate the customer to purchase a specified volume of SaaS services for a committed single or multi-year term.  Suppliers normally attempt to avoid or limit termination for convenience rights and the ability of customers to reduce volumes below baseline levels.  Since the cost of service delivery is relatively low in relation to subscription fee revenue (e.g., only 17 to 19% for, Workday and NetSuite), there is very little opportunity for the supplier to shed costs when a customer terminates or reduces volumes.  As a result, the traditional outsourcing or hosting services model - which generally provides a high degree of flexibility for customers with respect to termination and volume reductions - does not translate well to SaaS service offerings.

·         Payments Start When the Service is Made Available (not at "Go Live") - SaaS providers normally insist that the full subscription fee commence on the date that the service is turned on for a customer (i.e. made available to a customer to begin the configuration and implementation work to be able to use the service).  Customers often argue that they should not have to pay the full subscription fee prior to their "go live" date in production since the customer will be consuming fewer resources of the supplier prior to that date.  This is a legitimate point.  However, given the relatively low cost of service delivery in relation to the subscription fee (e.g., typically under 20%) with a substantial portion of those service delivery costs being fixed infrastructure investments, there is likely only a modest amount of savings to be achieved in pursuing this line of argument.

·         Payments in Advance (not arrears) - many SaaS providers insist on payment in advance, either annually or quarterly.  This is to help the supplier with cash flow issues associated with the upfront investments in customer acquisition, R&D and service delivery infrastructure - which can be particularly important for suppliers with rapid growth trajectories.  In addition, payment in advance tends to make customers more invested in actually using the SaaS products they purchased and working to overcome initial transition challenges.

Although SaaS pricing can be inflexible in some respects, one benefit to customers of the economics of the SaaS model is that suppliers have a particularly strong incentive to maintain competitiveness in pricing their products even after the customer has subscribed to the service.  Retention and expansion of business with existing customers is critical to SaaS providers in generating returns on their upfront investments.  Since it is generally easier for customers to change SaaS solutions than on-premises software (in which the customer may have made substantial capital investments) or even outsourcing or hosting solutions, SaaS providers cannot necessarily count on their customers becoming "captive" to them in the same way that customers become captive to their major software licensors or outsourcing providers.  This can provide leverage to customers in negotiating favorable pricing for expanded business and renewals.

Contract Issues to Consider if Offshore Services are in your Software as a Service (SAAS) or Cloud Agreement

By Benjamin M. Dean

Customers increasingly are taking advantage of Software as a Service (SAAS) and other cloud-based solutions available in the marketplace. There are of course many legal and commercial issues that customers should consider when evaluating contracts provided by suppliers of these solutions. This post focuses specifically on issues arising when SAAS or other cloud solutions will be provided from an offshore location. For example, data hosting, help desk/service desk, implementation, and disaster recovery services are often provided from India, the Philippines and other offshore locations in support of solutions that are delivered in North America and Europe.

  • Transfer of Customer Data Offshore. Customers should consider whether there must be restrictions on the transfer of data offshore (whether due to internal security policies, industry standards, obligations within downstream customer contracts, or applicable laws and regulations). If the data contains personally identifiable information (PII), protected health information (PHI) or similar types of data covered by data privacy laws, the data most likely should remain onshore. A customer may decide that other data may be transferred offshore, but only if additional safeguards, contract restrictions or liability provisions are added to the contract with its service provider.

  • Access to Customer Data or Systems from Offshore. This issue turns the item above on its head, a bit: even when customer data and systems remain onshore, customers should consider whether personnel from the SAAS or cloud service provider should have access to such data or systems from offshore. For example, offshore personnel who are accessing service desk records or performing break-fix services may request the ability to access a customer's onshore systems. This may or may not be acceptable in any case, or it may be acceptable only if certain agreed-upon restrictions are followed.

  • Security Concerns. Customers should ensure that they understand the physical and logical security applicable to the offshore component of the SAAS or cloud solution that they are buying, and confirm that it complies with their overall network, application and data security standards. For example, customers may want to ensure that they can (i) inspect the service provider's policies and procedures related to security and (ii) perform site audits of locations where offshore services are provided. They also may want to prohibit or restrict offshore employees from working from home.

  • Flash Drives/Printing. Customers should consider restricting the ability of offshore personnel from using computers that allow the customer's data to be downloaded. Restrictions on the ability to print, prohibitions against the use of flash drives, and prohibitions against the use of both internal and external hard drives by offshore personnel are not uncommon.

  • Permissions of Offshore Governments. Customers should consider which party (the customer or the service provider) should be responsible for obtaining any government authorizations that are necessary to provide services from offshore, whether those are onshore or offshore governments. Related to who must take responsibility for obtaining any authorization is the issue of which party is responsible to pay any associated costs.

  • Encryption. If data is being sent offshore, customers may have certain encryption standards that they want their service providers to meet or particular encryption software that they want their service providers to use. It is important to note that the use of encryption technology is restricted with respect to the transmission of data to certain countries worldwide, so customers should coordinate with legal counsel to confirm that the use of encryption technology is in compliance with applicable law.

  • Personnel Matters. Customers should inquire as to how high the turnover rate is among the offshore workforces of their potential service providers. In some cases, customers may want to ensure that (i) there are turnover restrictions or service levels in place; (ii) incentives to avoid turnover are implemented; or (iii) at a minimum, the customer receives reports as to the turnover rates so that the customer will be aware if turnover becomes an issue. Additionally, customers will want to ensure that their contract makes clear that the service provider is responsible for compliance with applicable laws and customer policies relating to personnel. This may involve not only employment screening, reference checks and hiring issues, but also compliance with any applicable immigration laws (including visa status) and employee benefits requirements.

If SAAS or other cloud solutions will involve any offshore services, customers should carefully consider these issues and ensure that they have the necessary contract terms in place in order to protect themselves from potential risks related to the offshore services. Taking this a step further, we recommend that customers have a set of pre-prepared terms that they can include in contracts that will involve offshore services (these terms can be included in a stand-alone contract schedule or incorporated into the main body of the contract). If a customer is negotiating with a large service provider that offers a standard SAAS offering or other public cloud solution, the service provider may not be open to considering the customer's standard offshore terms, but instead may have its own data security "fact sheet" or similar contract attachment. In that case, customers will want to review and attempt to supplement the service provider's data security terms to make sure they adequately address the issues described above.

Subcontracting in the Cloud

By Vipul Nishawala

The rise of cloud computing services and the privacy/security issues involved have been much discussed (see, for example, our prior blog posts here). But when customers procure cloud-based services, a critical "behind the scenes" issue is often overlooked: is the cloud provider itself relying on third party subcontractors to perform critical functions? When these subcontractors are added to the mix, things become a bit more complicated.

Cloud computing offers a wide variety of services:

  • IaaS: infrastructure as a service to replace a customer's data center or testing environment;
  • PaaS: platform as a service to replace a customer's applications development environment; and
  • SaaS: software as a service to replace a customer's need to install and operate software.
Each of these services share the key characteristics of cloud computing (resourcing pooling, rapid deployment, location independence, high scalability) that are appealing to customers. It's little wonder that Gartner forecasts that the public cloud computing market will grow 18.5% this year to $131 billion worldwide.

When customers think about obtaining cloud services, they should keep in mind that a number of these services can be layered on top of each other with different providers to create a cloud "supply chain". This makes the customer-facing service more efficient and less costly.

Take, for example, an end user customer that has procured a SaaS solution. This end user customer uses the application but doesn't control the operating system, hardware or network infrastructure on which it's running. This is the trade-off that all end user customers make when implementing a cloud solution.

But it may be the case that the SaaS provider itself doesn't control all of these delivery elements. The SaaS provider, in turn, could be the customer of an IaaS solution. Under this model, the SaaS provider is hosting its application on a third party's IaaS cloud. The SaaS provider may control some of the delivery elements (e.g., the operating system and storage applications) but it would have no control over the cloud-based infrastructure that supports the application. As with the end user customer, the SaaS provider trades off operational control for scalability and efficiency. The SaaS provider's use of an IaaS solution makes the SaaS provider's solution ultimately more "cloudy" and therefore more appealing to the end user customer.


What's Missing from My Software as a Service (SAAS) Agreement? (Part 2)

By Benjamin M. Dean

As customers continue to embrace Software as a Service (SAAS) solutions that are hosted in the cloud, rather than traditional software solutions that are loaded onto and hosted on the customer's own environment, they should closely review the contract that will govern their relationship with their SAAS provider. Frequently, we see SAAS contracts that are missing certain basic (and key) requirements that serve to protect SAAS customers.

In Part 2 of our two-part series, we continue our list from Part 1 of the critical contract protections that SAAS customers should keep in mind, before signing any SAAS agreement. Alternatively, if a customer already has a SAAS agreement that omits any of the following terms, the customer should explore amending its current agreement to include these protections, during its next contract renegotiation.


What's Missing from My Software as a Service (SAAS) Agreement? (Part 1)

By Benjamin M. Dean

As customers continue to embrace Software as a Service (SAAS) solutions that are hosted in the cloud, rather than traditional software solutions that are loaded onto and hosted on the customer's own environment, they should closely review the contract that will govern their relationship with their SAAS provider. Frequently, we see SAAS contracts that are missing certain basic (and key) requirements that serve to protect SAAS customers.

In the first of a two-part series, we offer the following critical contract protections that SAAS customers should keep in mind, before signing any SAAS agreement. Alternatively, if a customer already has a SAAS agreement that omits any of the following terms, the customer should explore amending its current agreement to include these protections, during its next contract renegotiation.


Processing personal data in Europe? New Binding Corporate Rules for data processors since 1 January 2013

By Steven P. Farmer

On 1 January 2013, over 4 years after the idea was first discussed, new Binding Corporate Rules (BCRs) for data processors were launched following a meeting of European data protection authorities.

BCRs are internal codes of conduct which companies within a group can "sign up to" regarding data privacy and security to ensure that transfers of personal data outside of Europe will meet European rules on data protection. Whilst BCRs have been an option for data controllers to ensure compliant transfers from Europe for some time, the introduction of BCRs for processors have been welcomed with open arms by both data controllers and data processors alike.

As a result of this change, processors, such as IT outsourcing providers, cloud providers and data centre providers, who implement BCRs will be able to receive data in Europe from their controller clients and then transfer that data within their group, outside of Europe, whilst complying with European privacy rules. For processors who choose BCRs to ensure compliance, this development could significantly reduce managerial time (and paper) spent negotiating often complicated, data protection safeguards for each and every data processing activity they carry out, whilst also doing away with the supervision associated with such contracts once they are up and running. At the same time, this development offers controllers' clients comfort in the sense that controllers will be able to more simply demonstrate that their processing activities comply with European laws by pointing to an approved set of BCRs.

Whilst the use of BCRs for processors is not obligatory, it is expected that they will be widely utilised, particularly because processors will be able to take advantage of the mutual recognition application procedure, applying to one lead data protection authority in Europe to approve their BCR application.

In short, if you are processing data in Europe (or controlling and processing such data), this new, "hot of the press" development may offer the opportunity for considerable cost savings for your business, reduce managerial headaches and help you position yourself as a more attractive option to potential clients in a competitive marketplace.

A Break in the Clouds - What's Trending in Cloud Computing?

By Tim Wright

I recently attended the UK Society for Computers and Law's Annual Conference where Cloud Computing was one of the 'IT Law Hot Topics' under discussion. The others, in case you are interested, were Big Data, Apps and Mobile Payments. The event was sold out which goes to show how 'hot' these topics really are!

One of the speakers was Christopher Millard, Professor of Privacy and Information Law at Queen Mary, University of London where he leads the Cloud Legal Project - a three-year Microsoft funded academic project undertaken by the Queen Mary Centre for Commercial Law Studies. Started in October 2009, its mission is to reduce uncertainty regarding legal and regulatory status of essential aspects of cloud computing by "the production and dissemination of a series of scholarly yet practical research papers to address various legal and regulatory issues that will be fundamental to the successful development of cloud computing... [which will] demonstrate thought leadership in several complex and difficult areas of law and regulation that are of vital importance to governments and businesses globally."

The Cloud Legal Project website contains a rich source of content and is recommended reading for IT law practitioners whether in house or in private practice. Topics covered include an analysis of Cloud service provider's standard legal terms; data protection issues in cloud computing; law enforcement access in a cloud environment; and the role of competition law in the cloud; as well as a report on some of the differing legal issues in cloud computing as compared with conventional outsourcing or hosting contracts.


Revisiting Outsourcing in the Cloud

By Sean Williamson

In April, we wrote about what we were seeing in the cloud space, including the impact of cloud computing on the CIO agenda. Since then, Savvis published an independent survey of 550 CIOs and Senior IT personnel from large global enterprises concerning their IT outsourcing strategies, including those around cloud computing. We decided to take a look at how some of our personal experiences with cloud computing compared with the survey's results. Spoiler alert: we weren't far off.


Due Diligence in a Cloud Environment

By Tania L. Williams

Want to learn more about the key areas customers should consider as part of their cloud computing due diligence exercise? Read my recent article on the topic here.

Clouds in the Forecast

By Joseph E. Nash

Not too long ago a major supplier asked us what we are seeing in the cloud space. We thought the interchange might be of interest to readers of the blog -- so here are some selected questions and our responses.


Accounting for Cyber Security Part Four - Auditing Cloud Providers' Security

By John L. Nicholson

Because evaluating a service provider's security posture is more challenging in the cloud, in Part Three of this article we looked at ways to evaluate a cloud service provider's security prior to signing the contract and some of the issues between customers and suppliers created by the SEC Guidance. In Part Four we'll look at ways to monitor the provider's security during the term of the agreement.


Accounting for Cyber Security Part Three - Cloud Service Providers and ISO 27001

By John L. Nicholson

In Parts One and Two of this article we discussed the new Guidance issued by the Securities and Exchange Commission (SEC) Division of Corporation Finance that provides guidance to companies with regard to whether and how a company should disclose the impact of the risk and cost of cybersecurity incidents (both malicious and accidental) on a company.

In particular, the Guidance suggests that companies need to evaluate cyber-related risks including:

  • prior cyber incidents and the severity and frequency of those incidents;

  • the probability of cyber incidents occurring;

  • the quantitative and qualitative magnitude of those risks, including potential costs and other consequences resulting from misappropriation of assets or sensitive information, corruption of data or operational disruption; and

  • the adequacy of preventative actions taken to reduce cyber-related risks in the context of the industry in which they operate and risks to that security.

The Guidance specifically states that if a company outsources functions that have material cybersecurity risks, the company should provide a description of those functions and how the company addresses those risks. The Guidance also appears to recommend that companies use secure logging, which becomes challenging when functions are outsourced to the cloud.

Since researchers recently found flaws in Amazon Web Services that they believe exist in many cloud architectures and enable attackers to gain administrative rights and to gain access to all user data, in this Part Three and in Four of this article we'll discuss how you can evaluate the security of a cloud service and the contractual terms you should consider (or try to insert) into your cloud contracts.


Clouds : Behind the Scenes

By Douglas S. Parker

With cloud services now obtaining as much press as the fallout from Kim Kardashian's wedding, it seems safe to say that clouds are likely to be in the business forecast for the foreseeable future.

A strong answer to every IT infrastructure manager's prayers, cloud computing can provide both a scalable on-demand combination of hardware, software and services, as well as helping fulfill corporate/social mandates for becoming greener.

The people over at Carbon Disclosure Project decided to commission a study into the potential impact of cloud computing on large US businesses. Released in July 2011, the report was independently produced by Verdantix and sponsored by AT&T.

Not surprisingly, the study shows "that by 2020, large U.S. companies that use cloud computing can achieve annual energy savings of $12.3 billion and annual carbon reductions equivalent to 200 million barrels of oil - enough to power 5.7 million cars for one year."

What is surprising is the incredibly thoughtful nature of the free, 23-page report (aptly named "Cloud Computing - The IT Solution for the 21st Century"). Not only is it an easy read, but it offers:

  • Terrific insight into the characteristics, types of services and deployment models of clouds
  • A crisp explanation of the differences between dedicated IT, private clouds and public clouds
  • Analysis that is based on at least 10 name-brand, multi-national companies (e.g., Aviva, Boeing, Novartis, State Street) that have invested in cloud computing
  • The logic as to why adopting a cloud model makes sense
  • A financial analysis of the costs of the various models in response to a hypothetical (but realistic) loss of operational support for an HR application within one year
  • The green benefits of clouds, including a carbon emissions model for CO2 reductions
  • A glossary of cloudy and cloud-related terms
While not a silver bullet, for the right applications, cloud computing can offer dramatic savings of both time (think in terms of multiple weeks for new servers to be provisioned to minutes) and money (think in terms of limited or no upfront capital costs and a pay-for-what-you-use billing model).

To the Cloud! Anticipating the Legal Issues in Cloud-Based Gaming

By John L. Nicholson

Given the great interest in "the cloud" from a business perspective, as well as Microsoft's popularization of the concept with its "To the Cloud!" advertising campaign, it's no wonder that many game providers are looking to the cloud as the next viable and profitable gaming platform. The cloud movement not only provides economic incentives through various subscription and pay-to-play models, but also helps defeat piracy by locking down game code and other intellectual property from potential thieves.

Cloud game providers have a lot to gain from virtualization, but moving to a cloud-based framework raises potential legal issues that should be considered.

LatencyThe first big issue for gaming providers considering moving to the cloud is both a practical one and a legal one - latency. Unlike digital downloads, streaming games require both down and upstream communications. Further, gaming often demands instant, real-time action, so any material latency will be noticed, especially for multi-player, FPS-type or other real-time games. Currently, some game providers have tried to satisfy gamers' demand for real-time, low-latency play by operating in data centers that are physically close to the gamer. From a technical perspective, cloud gaming may present an issue because it could involve moving the game servers much farther away from the gamer, thus having the potential to lead to increased, or even significant latency. Another technical fix may be to use "tricks" similar to those used in non-cloud gaming to compensate for latency issues.

From a legal perspective, however, the move to the cloud could bring such "tricks" into the realm of patents held by the gaming company OnLive--patents which cover "twitch gameplay" over a cloud-based system. When porting a game from client-server or mobile-based platforms to a cloud-based platform, game providers should be sure to investigate whether the conversion will expose them to potential infringement liability, including the OnLive patent portfolio. This is especially important because most game providers are not the actual game developer, so game providers should also review their agreements with the game developer to understand whether indemnification or re-development are options. Further, if the agreement is with a small game developer, the developer may not have the financial resources to indemnify the game provider, and thus the game provider should be aware of the potential risks before embarking on a cloud-based venture.

To read this publication by John Nicholson and Jenna Leavitt in its entirety, click here.

This is also posted Pillsbury's Virtual World Law Blog.