New Jersey Law Review Commission

Digital Commerce Coalition 114 E. Maple Street Alexandria, VA 22301

October 11, 2000

New Jersey Law Review Commission 153 Halsey Street 7th Floor Newark, NJ 07101

Re: Uniform Computer Information Transactions Act Staff Memorandum dated 9/5/00 Staff Draft Tentative Report dated 9/1/00

Dear Commissioners:

The Digital Commerce Coalition (“DCC”) 1 submits these comments in response to the amendments proposed by the staff of the New Jersey Law Review Commission (“Staff”) to Uniform Computer Information Transactions Act (“UCITA”) as set forth in the above materials. DCC strongly opposes the suggestions made by staff, since they not only will upset the careful balance that the National Conference of Commissioners on Uniform State Laws (“NCCUSL”) created, but also tread dangerously into areas of federal law or other commercial law statutes that would threaten the viability of UCITA.

The amendments suggested by the Staff create a product that goes far beyond crafting limited changes to UCITA to conform with New Jersey variances in commercial or consumer law. If accepted, the staff amendments would force fundamental changes in current and sanctioned market practices for computer information that would be detrimental to both producers and consumers.

DCC believes the changes to the statute suggested by the Staff would create a situation worse than the existing legal chaos in which computer information industries currently operate. If adopted by the Commission, DCC would have no choice but to vigorously oppose them. Unintended chaos is preferable to a law that intentionally creates harm and implements the agenda of private constituencies seeking advantage – a situation that would come into effect in New Jersey if the amendments suggested by Staff are adopted in law.

1 DCC members include: America Online, Inc.; American Electronics Association; Adobe Systems; Autodesk, Inc.; Business Software Alliance; Intel; Information Technology Association of America; Lotus/IBM; Microsoft; National Association of Securities Dealers; Novell; Reed Elsevier Inc.; SilverPlatter, Inc.; Software & Information Industry Association; and Symantec. New Jersey Law Review Commission October ___, 2000 Page 2

DCC supports strongly the efforts of NCCUSL to create a uniform law governing transactions for computer information. UCITA, including the new uniform amendments recently approved by NCCUSL, accomplishes that task superbly. It is a uniform legal infrastructure that recognizes the special nature of transactions for intangible computer information, that retains traditional principles of freedom of contract and of commercial codes, and that appropriately balances the interests of all parties.

Without UCITA, states and state courts would be forced to try and adapt concepts from Article 2 of the Uniform Commercial Code (“UCC”) to today’s electronic commerce. UCC Atricle 2 was written over 50 years ago for a fundamentally different subject matter (goods) and before computer information even existed. While some concepts from that long-standing law are adopted and referenced consistently throughout UCITA, without this new statute, there is no uniform contract code for computer information transactions.

Like all commercial sectors, the computer information industries require uniformity in law, so that greater stability and certainty can govern transactions in their products and services. Currently, there are only sporadic and non-uniform court decisions that have sought to delineate the types of default rules that UCITA provides in toto, and this disparate set of decisions leave in limbo both producers and consumers – regardless of the size of their operation – when commercial contract law issues arise for computer information transactions.

The Staff acknowledges that it focused its review on the objections raised by groups who proposed changes to the statute and whose suggestions were often incorporated as compromise language during the NCCUSL drafting process. Without benefit of participating in the debate and therefore without knowledge of the general and specific compromises reached during the drafting process, however, the Staff now rejects the balance struck in UCITA and proposes substantive changes through the legislative process.

Unfortunately, the changes suggested by staff accept almost exclusively the view of those parties whose fundamental stance has been, and to a large extent remains, opposing enactment of UCITA. Moreover, in many instances, the changes are not only ones already rejected by NCCUSL but would alter traditional principles of commercial law.

Attached you will find a copy of the lengthy comments submitted to the Commission by DCC earlier this year. We urge again your careful consideration of that filing. For the purposes of this letter, we will speak generally to the problems that would arise should the suggestions made by Staff in its latest recommendations to the Commission become law.

1. The Staff amendments destroy uniformity and the result is not UCITA. The point of a uniform commercial code is uniformity. Practitioners, businesses, commerce and the well-being of consumers is enhanced when contracting rules are clear and uniform in all 50 states. Industries flourish, costs are decreased, consumers benefit from jobs and increased competition, and economic progress for all is facilitated. That is the point of a commercial code New Jersey Law Review Commission October ___, 2000 Page 3 as expressed in UCC Article 1-102(2) and UCITA Section 106(a). The Staff’s amendments would destroy that uniformity in regard to UCITA.

2. The Staff's amendments do active harm to the computer information industries and the economy. The Staff amendments are contrary to the very goal of UCITA: namely to distinguish, where appropriate, the rules governing licenses of intangibles and those for hard goods. For example, the amendment to Section 103 states that UCITA does not apply when a transaction involves a good and computer information, and the information is not the predominant purpose of the transaction. Thus if a consumer buys a computer (a good) and receives a code to download tax return software, the software will not be governed by UCITA. Why? Because the predominant purpose of the transaction is not for tax software that will be used only once a year. The Staff prefers to treat the software under law written for goods.2 This is a position rejected more than ten years ago in the report by the American Bar Association that led to the decade-long process of creating UCITA.

3. The Staff believes state law is best written unilaterally and in conflict with other uniform laws. Despite legal authorities and court decisions to the contrary, the Staff concludes that Article 2 applies to computer information and amends UCITA to preserve that alleged status quo. The Staff fails to mention the disparity among cases in several states applying Article 2, and does not acknowledge that Article 2 is itself being revised by NCCUSL and the American Law Institute (“ALI”) to make it crystal clear that goods do not include general intangibles such as computer information. Article 2 is also being revised to make it clear that Article 2's "predominant purpose" test should not be applied to bring computer information in transactions involving both goods and information. Similarly, Article 9 of the UCC regarding secured financing has already been revised to make clear that computer information is not a good and numerous states have adopted revised Article 9. The ALI also approved the revisions to Article 9.

4. The Staff accepts the balances built into UCITA and then unbalances them. As mentioned previously and by other commentators before the Commission, UCITA is the result of years of debate and compromise. As with all deliberative bodies, NCCUSL could satisfy no one completely so it sought to keep all parties in rough balance, sometimes by including innovative concepts based in traditional commercial law but adapted to the computer information marketplace. While acknowledging that balances were achieved, the Staff nevertheless suggests additional changes that will more than tip the scales against the interests of computer information providers.

2 See e.g., Brennan, Lorin, Why Article 2 Cannot Apply to Software Transactions, 38 DUQ. L. REV. -- (2000) (explaining the errors made by courts that have concluded that Article 2 applies to software, explaining that in many cases litigants or courts have simply assumed coverage of Article 2 or have effectively opted into coverage, and explaining that use of Article 2 as a comprehensive code for software is virtually impossible if only because of the number of contrary rules in federal copyright law). New Jersey Law Review Commission October ___, 2000 Page 4

Example: an innovation of UCITA is its creation of consumer protections for all businesses, particularly small businesses, through the concept of "mass-market transaction." Any mass-market licensee, business or consumer, is given special protections. Federal and state consumer and other laws, including the UCC, overwhelmingly do not provide consumer protections to businesses and do not use a mass-market concept. The Staff accepts UCITA's “mass-market” extension of consumer protection to businesses and then takes it to the extreme. In several amendments, the Staff takes the protections intentionally and traditionally confined to "consumers" and broadens it to apply to the "mass-market," a term in UCITA that can include businesses. Every such change takes UCITA further from traditional law and significantly increases – without any compensating balance – the risks and costs for licensors.

5. Many of the Staff amendments confuse federal and state policy roles. The Staff makes several recommendations that go far beyond the purpose of UCITA and tread dangerously into the area of federal copyright law. NCCUSL determined early that there is a clear linkage between licensing default rules under the provenance of the states and intellectual property laws exclusively reserved for federal authority. UCITA notes the pre-eminence of such federal law and states specifically that federal law preempts and that fundamental public policies will override any contrary licensing terms and conditions.

The Staff's report contains three specific copyright-related amendments: that no uniform contract law for computer information shall apply to libraries and archives; that contracts cannot preclude “reverse engineering;” and that "first sales" under the Copyright Act (see amendment to Section 501) apply to intangible computer information. These amendments tread dangerously into an area of law that the Constitution and Congress have reserved for federal authority. For example, several sections of the Copyright Act of 1976 specifically reference the ability and need to conclude licensing agreements, even when such agreements may alter some of the fair use exceptions to the copyright rights established under that law. The Act now allows for a very limited use of reverse engineering in relation to tests for compatibility, and many federal courts have heard and determined the extent to which the first sale doctrine applies to computer information.

6. The Staff amendments alter and extend consumer protections far beyond current practice to the particular detriment of small computer information providers The Clinton administration has described the Internet as a place where a small business can become the corner drugstore to the world. Under the Staff amendments, that corner store would find electronic commerce both burdensome and expensive. For example, the Staff amendments would force computer information providers – unlike any other business sector operating under current commercial law – to comply with all laws affecting consumers in every country of the world and in each of the 50 states, even if those laws may be varied by contract and even if those transactions were business-to-business sales under the mass marketing concept. Such a rule serves no one, including consumers, although it does provide an unjustified and discriminatory advantage to business licensees. It will instead decrease potential consumer choice in providers and products. It may likely lead to increased costs for computer information, since those providers who can afford to do so will have to anticipate and offset numerous potential liabilities. New Jersey Law Review Commission October ___, 2000 Page 5

UCITA takes a more even-handed approach: it allows that corner store to survive by contracting in good faith with consumers and businesses for application to their contract of an appropriate law. That contract term must be conscionable and may not violate a fundamental public policy or a non-variable consumer protection established under state law.

Another example of altering current law is the Staff's amendment concerning choice of forum clauses. The Staff disagrees with the Supreme Court of the United States and a long line of cases that set the UCITA rule. The Staff dismisses such cases as pertaining only to maritime law. They are not so limited. The Staff also seeks to overrule legislatively, a decision of the New Jersey judiciary in Caspi v. The Microsoft Network L.L.C. Rather than allowing parties to agree that all disputes will be heard in one forum and thereby making commerce practical for small businesses (which constitute the majority of licensors) and affordable for consumers, the Staff makes its own rule. That is bad for New Jersey commerce and consumers.

7. The Staff ignores years of debate in and outside of UCITA. Notwithstanding years of debate and testimony before the UCITA drafting committee and the drafting committee for proposed revisions to Article 2, the Staff proposes rules that ignore that debate and the considered solutions crafted by NCCUSL and/or the ALI.

Example: the Staff's amendment to Section 201 eliminate the statute of frauds. Some of the early drafts of revised Article 2 also eliminated it. But after years of debate, NCCUSL and ALI reinserted the statute of frauds into revised Article 2. NCCUSL also incorporated the statue of frauds into UCITA. The Staff justifies its proposed elimination of the statute of frauds by the Staff’s sustained study, which would appear to conflict with the almost 10 years of debate and consideration of the issue by both NCCUSL and ALI. Again, their determination was to include the statute of frauds in both revised Article 2 and UCITA – taking into consideration the needs and views of all states, including New Jersey.

8. Some of the amendments appear misguided. The Staff’s recommends removing UCITA's electronic contracting provisions on the basis that they either parallel the federal Electronic Signatures in Global and National Commerce Act (“E-SIGN”) or the Uniform Electronic Transactions Act (“UETA”). This change would be unfortunate and counter- productive, in that it would create several gaps. For example, the federal statute does not apply to intrastate commerce; UCITA does. Moreover, UETA states that its provisions do not apply to UCITA transactions. If the Staff removes the UCITA electronic contracting provisions, then those provisions would have to be addressed elsewhere in New Jersey law, most likely through amendment of UETA, which may cause further problems because of the provisions of the E- SIGN bill which favor strongly uniformity.

Another example of a flawed analysis is provided by the Staff's proposed deletion of Section 216 regarding idea submissions. The Staff concludes that the only reason for inclusion of Section 216 in UCITA is to benefit the movie industry. That section was included in numerous drafts of UCITA and was supported by numerous industries, among them the motion picture industry. NCCUSL voted in 1999 to remove that section because of a misperception that New Jersey Law Review Commission October ___, 2000 Page 6 the section was only relevant to the movie industry, which at that time vigorously opposed the law. That misperception and the illogic of not addressing idea submission issues was corrected and NCCUSL adopted Section 216 this past July. UCITA now adopts a rule that is important to all of the computer information industries and that is reflected in cases from New York and a majority of other states.

9. Some of the Staff's amendments create harm to the very persons the Staff seeks to favor. The Staff has eliminated Section 816 regarding self-help. DCC members sit on both sides of the Section 816 fence. As licensors, we welcome the staff’s deletion because Section 816 creates harsh penalties for exercising self-help that do not exist under current law and that discriminate against licensors. For example, a secured lender, or a lessor or goods seller (but not a licensor) may now exercise self-help free of all restrictions in Section 816 except for the requirement to avoid breach of the peace. A lender or lessor may do this simply by turning off the software in computers or on an assembly line.

However, as licensees we favor retaining Section 816 for the same reason that the Federal Reserve Bank of New York supported Section 816 during the NCCUSL drafting process. It provides protections to licensees that do not exist in current law and that most licensees could not achieve through negotiations. As licensees of computer information, we feel that the Staff's amendment will do us harm in terms of the licenses we negotiate. Elimination of Section 816 would be even more detrimental to small businesses that do not negotiate licenses and to consumers. The recent uniform amendments approved by NCCUSL state clearly, for example, that self-help cannot be employed in mass-market transactions. Striking Section 816 from UCITA would give no guarantees to consumers that computer information providers could not use self-help to cure contract disputes.

10. The Staff provides an incomplete picture. The Staff sets great store by the fact that the American Law Institute allegedly would not have approved UCITA. In fact, many members of the ALI actively support UCITA. The official announcement made by the ALI regarding promulgation of UCITA as a uniform act does not support the statements made by the Staff. A copy of that announcement can be found at the website referenced in our attached April letter to the Commission.

It is true that several vocal members of the ALI do not support UCITA, just as it is true that several vocal members of NCCUSL do support it. It is also true that the ALI has taken official action in recent years to support legislation that seeks to change fundamental concepts of commercial law, even in such established areas of the law as Article 2. It is inappropriate to characterize the views of some ALI members as the view of the ALI generally, just as it is inappropriate to characterize the apparent difference in views between the ALI and NCCUSL over the future of commercial law as something that is unique to UCITA or that reflects badly upon it. That debate can be seen in many arenas and cannot be solved in UCITA.

11. The Staff prefers federal legislation. The Staff correctly notes that computer information transactions are heavily influenced by federal intellectual property laws. That is one New Jersey Law Review Commission October ___, 2000 Page 7 of the reasons NCCUSL wrote UCITA – no other state contract code takes into account the requirements of intellectual property laws. This intellectual property impact leads the Staff to conclude, however, that Congress is the only appropriate vehicle for creating uniform contract law. However, as noted above, the federal Copyright Act already anticipates and sanctions licensing for computer information, as have several federal courts. The intersection between the general protections granted under federal copyright law and state contract law governing agreements between private parties is not only a long-standing principle of U.S. law, it is preserved in UCITA.

However, the federal government has been reluctant to craft laws that interfere in traditional areas of state authority. It is unclear whether Congress may feel the need to intervene in order to assure effective and uniform electronic commerce rules, if the states cannot accomplish the task. That is, however, precisely the reason why Congress recently enacted the Electronic Signatures in Global and National Commerce Act: when the states started making non-uniform amendments to NCCUSL's Uniform Electronic Transactions Act, the federal government stepped in to halt the unilateral harm being created by states.

Contract law has traditionally been the province of state law and we believe that before states cede this critical area of commerce to the federal government, they should first give careful consideration to UCITA. As a product of almost 10 years of work by NCCUSL, UCITA is a fine and balanced product worthy of support not only as an intellectual matter, but also as a matter of preserving states rights.

Conclusion

As reported by the Staff, the Commission concluded that any significant alteration of the "core" provisions of UCITA would result in a product so inconsistent with the official version of UCITA that it could not be regarded as a "uniform" enactment. We agree. That is precisely what the Staff amendments do and precisely why they should be rejected by the Commission.

The Staff has concluded that every state need not provide a uniform legal structure that supports computer information transactions. We disagree most strongly and urge that the Commission reject the Staff recommendations.

Respectfully submitted,

Daniel C. Duncan Executive Director DIGITAL COMMERCE COALITION

Attachment April 26, 2000

Commissioners New Jersey Law Revision Commission 153 Halsey Street 7th Floor Newark, NJ 07101 Email: [email protected]

Dear Commissioner:

The undersigned organizations, known as the Digital Commerce Coalition, are pleased to comment on the memoranda written by the staff of the New Jersey Law Revision Commission (“Staff”) regarding the Uniform Computer Information Transactions Act (“UCITA” or “the Act”). We are both producers and users of computer information, which includes software and electronic data products and services. Many of us have been involved for a number of years in the debate over UCITA through the various meetings of the Drafting Committee established by the National Conference of Commissioners on Uniform State Laws (“NCCUSL”), as well as the debates about UCITA at both NCCUSL and the American Law Institute (“ALI”). Our position as producers and users of computer information has led us to help craft and strongly endorse the many compromises contained in the statute that are to the benefit of all parties involved in the many forms of transactions for the production and use of computer information. It is in that spirit of experience and compromise that we offer comments on the opinions expressed thus far by the Staff.

The Staff effort is considerable in the scope of the subject matter covered, analyzing to some degree many of the numerous legal disciplines that converge in computer information transactions. Indeed, enactment of UCITA is essential precisely because so many legal concepts need to be addressed comprehensively for commercial law to accommodate successfully the production and use of computer information.

In short, we agree with the Staff’s conclusion stated in its memorandum of March 13, 2000, namely that UCITA is an integrated product and that New Jersey should adopt UCITA in its entirety or with only modest amendments of the type adopted in Virginia.

UCITA is a uniform act in the finest tradition of NCCUSL and of the Uniform Commercial Code. It reflects and adapts the guiding principles of the UCC and common law, respects the freedom to contract, and avoids unnecessary "top-down" regulation. Adapting these traditional principles to the new world of electronic commerce (“e-commerce”) has been the subject of vigorous debate and thorough consideration over many years of both the UCITA drafting project and the NCCUSL project to revise Article 2. The result is a carefully balanced Act that not only will enhance electronic commerce but also will provide new protections to consumers and others in computer information transactions.

Enclosed is a detailed memorandum addressing some of the specific observations made by the Staff for the Commission, as well as other questions on which the Commission has requested input. In addition, we offer the following general observations:

1. All Staff concerns enumerated in the memoranda to the Commission have already been fully debated and considered during the UCITA drafting process. None of the issues selected by the Staff for review is new: each was thoroughly and publicly debated over a period of almost 10 years with input from all affected constituencies, including representatives of national consumer groups and all the individual commenters cited in the Staff memoranda.

Even those who continue to criticize UCITA acknowledge that the meetings of the NCCUSL Drafting Committee were extraordinarily open. The Chair and the Reporter for the Drafting Committee were unusually interested in reaching out to potentially interested parties and generous in offering all attendees the opportunity to comment at length on every proposed provision. Indeed, several of the issues raised by the Staff are among those that the Drafting Committee debated, sometimes for hours and over the course of several meetings. As with all legislation, however, there must come a conclusion to the debate and preparation for enactment, and UCITA represents the typical series of compromises and policy choices that characterizes any innovative and crucial statute. By definition, not all will agree with the compromises reached – and both computer information producers and users have expressed dissatisfaction with certain choices made by the Drafting Committee and endorsed overwhelmingly by NCCUSL.

Nevertheless, continued dissent does not mean that the choices contained in the statute are inappropriate or that they do not improve the law immensely. Indeed, when considering UCITA, the Commission may wish to recall the words of Karl Lewellyn, the author of Article 2 of the Uniform Commercial Code, when characterizing the final version of that law sent by NCCUSL to the states for enactment:

A wide body of opinion has worked the law into some sort of compromise after debate and after exhaustive work. However, when you compare it with anything that there is, it is an infinite improvement.

We are writing at this juncture precisely because we are concerned that nearly any of the changes suggested by the Staff in its various memoranda would destroy the careful balance created in UCITA through almost 10 years of effort.

To cite just one example, in its December 6, 1999, memorandum, the Staff accepts the "mass market transaction" concept that, uniquely in UCITA, extends some consumer protections to businesses. Although the Staff applauds this provision as an advance over current UCC Article 2, the memorandum does not point out that this very concept was rejected by the NCCUSL committee that is revising Article 2, since that committee thought the mass-market concept created too great of a divergence with traditional commercial law (which generally does

2 not extend any consumer protections to businesses). Based on the staff analysis, it might seem reasonable to accept the memorandum’s suggestion that the New Jersey version of UCITA be amended to broaden application of the mass market concept. A more logical alternative – one consistent with commercial law today and one that would take into account the marketplace reality that most computer information licensors are small companies – would be to eliminate the mass-market concept entirely.

It would naturally be to the advantage of computer information producers to insist that UCITA be amended by the various states to retain this strong dichotomy between consumers and businesses; however, in the spirit of compromise, we are abiding by the text endorsed by NCCUSL. Again, UCITA is a balanced measure, and the mass market concept is just one of the many points hotly debated and eventually reconciled in the statute. To now re-open that debate only on certain provisions where some participants in the Drafting Committee process did not prevail would undermine the innovative compromise that this important legislation represents.

2. There is a need for UCITA, even if it is not felt in New Jersey. Article 2 of the UCC cannot serve as a coherent legal infrastructure for a computer information economy. That simple fact was recognized over a decade ago by NCCUSL and ALI. The need for a new uniform law for computer information has become even more apparent as courts across the country have acted inconsistently when considering whether to apply Article 2 to such transactions. Some courts have chosen to apply it. Many others have recognized the vast differences between goods transactions and computer information transactions and have refused to apply it. The proposed revisions to Article 2 highlight these problems. One commentator has expressed the problems created by attempting to apply Article 2 to computer information transactions as follows:

The Courts apply Article 2 by analogy to the licensing of information because no suitable alternative paradigms exist. The concepts of Article 2 are adapted to information contracts through “legal fictions.” Judges must ‘pretend’ that a law constructed for the sale of tangibles also accommodates the licensing of information…. The courts’ strained efforts of applying the law of sales to the licensing of intangibles is like the television commercial in which two mechanics are trying to fit an oversized automobile battery into a car too small to accommodate it. The car owner looks on with horror as the mechanics hit the battery with mallets, trying to drive it into place.3

The Staff memoranda reflect a viewpoint with this comment and complete comfort with applying Article 2, which was written for sales of goods at a time when computer information did not even exist. In the attached memorandum, we supply further information regarding the problems with applying Article 2 to computer information transactions.

Approximately ten years ago NCCUSL and ALI formally charged a study group with examining whether Article 2 was inadequate to apply to computer information transactions. The answer was yes. UCITA is the result of the ensuing decade-long debate to define and adapt

3 Rustad, Michael L., “Commercial Law Infrastructure For The Age of Information,” MARSHALL J. COMPUTER & INFO. L. 255 at 270 (1997).

3 Article 2 and the common law to account for the differences between sales of goods and computer information and should not be easily dismissed as ill-considered and untimely. 3. ALI has not taken a position in opposition to UCITA. In early 1999, the ALI Council decided that ALI would withdraw from the effort to promulgate what was then known as UCC Article 2B. There was no vote on this action by the full ALI membership (such actions are within the authority of the Council) and thus it is not possible to know whether it would have been supported by the membership.

NCCUSL, which continued to strongly believe that there was an urgent need for a law to govern computer information transactions, decided to continue with the project as a uniform act and entitled it “UCITA.” A joint press release was issued by NCCUSL and ALI regarding the new structure – in that release, which is the only official statement issued by ALI, the Institute did not object to proceeding with the project as a uniform act (see: http://www.nccusl.org/pressreleases/pr4-7-99.htm).

Moreover, NCCUSL has made unusual efforts to maintain a close working relationship with ALI on UCITA. Several meetings of the Drafting Committee were held following the ALI withdrawal and the Drafting Committee continued to address all issues, including several which had been raised by ALI representatives or the Council. As often happens in such cases, a handful of vociferous opponents who happen to be ALI members have rushed in to fill the void created by ALI’s official silence, and often have left the impression that their personal views reflect the views of the organization as a whole. Of course, this is not true, and while these critics clearly are entitled to express their opinions, their collective voice does not equate to that of ALI.

In this regard, it is only fair to state that many individual ALI members do support UCITA, including notably several NCCUSL commissioners who were members of the UCITA Drafting Committee and who enthusiastically support the Committee’s work product. Their views should not be given any less weight than those of critics who also happen to be members of ALI.

UCITA reflects the traditional principles and policy choices of commercial law. In the eyes of those who seek fundamental changes in commercial law or who seek to alter federal precepts of intellectual property protection under the guise of state contract law, UCITA misses the mark. That does not mean, however, that it is not a worthy product. It does mean that there are differences in views regarding the proper role of commercial law in our society, and we believe from reading the various Staff memoranda that the Staff shares the views of those who seek to change significantly the traditions and practices of US commercial law.

Conclusion

The Staff papers tend to reveal a view of the law that clearly is sincere but which is not typical for commercial law. To the contrary, if New Jersey has adopted the uniform version of UCC Article 2, then the Staff views do not reflect existing legislative polices of New Jersey. UCITA, however, does reflect those traditional commercial law policies, as adapted for computer information transactions.

4 We agree, then, with the Staff's conclusion that New Jersey should either adopt UCITA in its entirety or not adopt it at all. We hope that New Jersey will adopt UCITA in its entirety, for it will aid both businesses and consumers in the state as an effective means of furthering e-commerce in particular. In any case, however, we appreciate the Staff's recognition of the fact that material amendment of a uniform act would be a disservice to the uniform law process.

Sincerely,

America Online, inc. American Electronics Association Adobe Systems Autodesk, Inc. Business Software Alliance Intel Information Technology Association of America Lotus/IBM Microsoft National Association of Securities Dealers Reed Elsevier Inc. SilverPlatter, Inc. Software & Information Industry Association Symantec

Enclosure cc: Commission Staff

5 MEMOR ANDUM TO: New Jersey Law Revision Commission

FROM: Dan Duncan, Executive Director, Digital Commerce Coalition

DATE: April 26, 2000

SUBJEC T: Uniform Computer Information Transactions Act

This memorandum addresses issues raised in memoranda prepared by the Staff of the New Jersey Law Revision Commission (“Staff”) regarding the Uniform Computer Information Transactions Act (“UCITA”), as well as additional questions about which the Staff seeks input.

1. Why is there a need for UCITA? Several factors create a need for UCITA. Among these are the need: (a) to apply to computer information transactions law that contemplates that subject matter; (b) to enable electronic commerce as a substantive as well as a procedural matter; and (c) to establish a uniform law governing Internet access contracts.

Taking these in inverse order, the need for uniform rules for Internet access contracts is explained, by analogy, as follows:

The unique nature of the Internet highlights the likelihood that a single actor might be subject to haphazard, uncoordinated, and even outright inconsistent regulation by states…. Typically, states’ jurisdictional limits are related to geography; geography, however, is a virtually meaningless construct on the Internet. The menace of inconsistent state regulation invites analysis under the Commerce Clause of the Constitution, because that clause represented the framers’ reaction to overreaching by the individual states that might jeopardize the growth of the nation – of communications and trade – as a whole. . . . the Internet is one of those areas of commerce that must be marked off as a national preserve to protect users from inconsistent legislation that, taken to its most extreme, could paralyze development of the Internet altogether.4

The need with respect to electronic commerce is explained in a government white paper:

The law dealing with electronic commerce is not clear -- especially for totally paperless transactions. On-line contracting and licensing raise a number of concerns about the validity and enforceability of such transactions. The NII [National Information Infrastructure] will not be used to its fullest commercial

4 American Libraries Association v. Pataki, 969 F.Supp. 160, 168-69, (S.D. N.Y., 1997). potential if providers and consumers cannot be confident that their electronic agreements are valid and enforceable.

. . . [A] threshold question is whether an electronic message or offer or acceptance or the simple use of the "accept" or "return" key in response to a provider's offer or consumer's request is assent.

. . . [Another] issue involves writing and signature requirements for certain contracts. In the NII, where transactions may be entirely paperless, it may be unclear whether electronic messages are written and what will be considered an adequate signature.5

Finally, the need for a comprehensive body of laws contemplating information instead of goods, i.e., the need for a uniform contract law other than Article 2 of the UCC, has been explained in other contexts:

Applying the present libel laws to cyberspace or computer networks entails rewriting statutes that were written to manage physical, printed objects, not computer networks or services. . . . A uniform system . . . is needed to cope with the impact of the information age. It is the responsibility of the legislature to manage this technology and to change or amend the statutes as needed.6

This need to rewrite law to reflect new economies is an old problem. Karl Llewellyn, the author of UCC Article 2, described the need at that time to “unhorse” a sales law that was based on economies existing before the mercantile or industrial ages, i.e., the need to divorce sales law from laws written for real estate, horses and haystacks.7 Llewellyn noted that thinking in terms of real estate law developed in judges a rigid attitude that could lead to “pretty awful results.” Lewlellyn also believed that all sales law could not be lumped into a single class and that sales of mercantile goods needed to be thought of and treated differently from sales of farms and horses.

The same problem arises with respect to the differences between information and goods. For the very reason that Llewellyn believed mercantile sales should not be thrown into a “single intellectual bin,” licenses of information should not be thrown into a single intellectual bin with sales of goods. Llewellyn also believed that courts should be encouraged to understand the purposes and reasons behind statutes to allow construction in light of that purpose. He thus wrote lengthy comments to each provision of Article 2. UCITA proceeds on the same premises and provides thorough comments to explain the workings of, and the policy choices behind, the black-letter provisions. In a world of converging legal disciplines, this will be particularly helpful to practitioners and courts.

Lawyers and courts used to a world of goods think in images of goods instead of images of contract rights or information, and this leads to wrong results:

5 See Bruce A. Lehman, Intellectual Property and the National Information Infrastructure, The Report of the Working Group on Intellectual Property Rights at 54-55. 6 It’s In The Cards inc. v. Fuschetto, 535 N.W.2d 11 at 14-15 (1995). 7 See generally, Llewellyn, Karl, The First Struggle To Unhorse Sales, 52 Harvard law Review 873 and 875 (1939).

2 Assume that Licensee acquires a copy of copyrighted word processing software subject to a license from Licensor. The license permits Licensee to copy the software into its network and to use the software so long as there are not more than ten simultaneous users. The license prohibits any transfer of the licensed software without Licensor’s written permission and provides that the license will terminate if any of its provisions are breached. Despite the terms of the contract, Licensee transfers the software to X for $10,000. The relevant question for our purposes is whether this transfer of the licensed software is valid.

Under current law, the answer . . .is likely to be controlled by federal law, which prohibits a transfer of a non-exclusive license without the consent of the licensor. Putting the preemption issues aside . . . [O]ne way of addressing the problem reflects a sale of goods model, while the other refers to a model centered on the information (the software) and the attempted transfer of a contract right to use that software. The sale of goods approach yields an image that the key transfer is a transfer of the disk containing the software and that the enforceability of a restriction on this transfer faces up against ‘traditional’ doctrines against restraints on alienation, precluding the enforcement of an anti-transfer clause in the sale of an item of goods. This doctrine, as applied to personal property, argues that a seller cannot sell an item to a buyer and also restrict the buyer’s ability to resell it. Yet, it is highly unlikely that Licensor would be concerned about Licensee’s transfer of the disk (the goods) electronically cleansed of the software. Licensor is concerned, instead, about the transfer of the right to use the software . . . .

Thus, the alternative view of the transaction is that it entailed a transfer of information (the software) subject to a contractual license, and that the transaction deals with the information, not primarily the diskette. As to restrictions on the transfer of copyrighted information and of contract rights, the common law applies a much different approach than with respect to resale of goods. This different approach is described in part in the Restatement (Second) of Contracts:

In the absence of a statute or other contrary public policy, the parties to a contract have power to limit the rights created by their agreement. The policy against restraints on the alienation of property has limited application to contractual rights . . . . A term in a contract prohibiting assignment of the rights created may resolve doubts as to whether assignment would materially change the obligor’s duty or whether he has a substantial interest in personal performance by the obligee; or it may serve to protect the obligor against conflicting claims and the hazard of double liability.

. . . In this case, then, failing to shed an inappropriate sale-of-goods centered model yields a wrong analysis or, at least, an analysis that misstates the underlying principles pertinent to a contractual transfer of a license agreement.8

8 Raymond T. Nimmer, Images and Contract Law—What Law Applies to Transactions In Information, 36 HOUS. L. REV. 1, 22-23 (1999).

3 The Staff memorandum of January 18, 2000, illustrates the above point that thinking in images of “goods” can lead to wrong results for other subject matter. For example, at page 9 the Staff assumes that, per Article 2 and under a sales-of-goods analysis, the “very essence of the transaction is the passage of title from the seller to the buyer.” Of course that is wrong in a computer information transaction. Software and electronic database publishers never pass title to their copyright when licensing use of their information, nor do they typically pass title to the copy. This does not affect the “essence” of the transaction because as explained in the quotation. The essence of a computer information transaction is the ability to use the computer information, not the title and not the tangible copy.

Finally, the concept that Article 2 is not the proper legal model for computer information transactions has been validated independently by a study committee appointed by the National Conference of Commissioners on Uniform State Laws (“NCCUSL”) and the American Law In- stitute (“ALI”), which concluded over 10 years ago that a separate law was needed for computer information transactions. Proposed revisions to Article 2 are consistent with that conclusion.

2. Why is information licensed instead of sold? Computer information and copies of it typically are licensed, not sold. An informative discussion of why licenses are used in the production and distribution of information for the benefit of both licensors and licensees, can be found at http://www.publishers.org/home/abouta/copy/plicens.htm (see “Contractual Licensing, Technological Measures and Copyright Law (Association of American Publishers, Inc). It is important to note that licensing is used by all members of the computer information community, not just commercial publishers. For example, the open source code community uses license contracts to ensure that source code will remain open and warranty free so that all may adapt and use it without inappropriate liability:

When we speak of free software, we are referring to freedom of use, not price. Our General Public Licenses are designed to make sure that you have the freedom to distribute copies of free software (and charge for this service if you wish); that you receive source code or can get it if you want it; that you can change the software and use pieces of it in new free programs; and that you are informed that you can do these things.

To protect your rights, we need to make restrictions that forbid distributors to deny you these rights or to ask you to surrender these rights. These restrictions translate to certain responsibilities for you if you distribute copies of the library or if you modify it.

For example, if you distribute copies of the library, whether gratis or for a fee, you must give the recipients all the rights that we gave you. You must make sure that they, too, receive or can get the source code. If you link other code with the library, you must provide complete object files to the recipients, so that they can relink them with the library after making changes to the library and recompiling it. And you must show them these terms so they know their rights.

4 We protect your rights with a two-step method: (1) we copyright the library, and (2) we offer you this license, which gives you legal permission to copy, distribute and/or modify the library.

To protect each distributor, we want to make it very clear that there is no warranty for the free library.

See GNU Lesser General Public License, http://www.gnu.org/copyleft/lesser.es.html#SEC2>.

Another explanation of why software publishers have tended to use licenses is provided by counsel to a small developer in her response to criticism of UCITA (f/k/a “Article 2B”) made by Cem Kaner, one of the critics cited by the Staff. This discussion is also helpful in understand- ing some of the differences between computer information and goods (the Staff assumes in its December 6, 1999, memorandum that computer information is no different than a book – the quotation addresses some of the actual differences):

Copyright law forbids copying a literary work without permission, except for "fair use," which permits limited copying, as for example, copying limited portions of a book as part of a book review. Because software must be copied in order to be useful (computers copy software in order to use it), permission to copy must be granted in order to commercialize literary works in the form of software. In some cases, e.g. commercial software code libraries, meaningful commercialization requires that the literary work be copied many times.

Early developers who wished to commercialize their software were, therefore, faced with the challenge of making it possible to permit people to use the software without requiring the developer to give up his copyrights. Developers (whether they undertook to publish and distribute their own software or arranged to have a publisher distribute it for a royalty or on some other basis) were aware that copying software is inexpensive and easy. Reprinting an entire book may well cost more than purchasing a second copy from the author or publisher. Not so software. Making a copy takes little time, and is substantially less trouble and less costly than licensing another copy. Mass market license agreements advise the licensee of the circumstances under which copying is unauthorized, and therefore "unfair" because unauthorized copying violates the licensee’s obligations to the licensor.

Developers were also aware (if only after talking with their lawyers) that if they did not make some effort to limit copying, their software might become "public domain." If this occurred, commercial potential would be destroyed.

Developers wanted to be able to provide their creations to a mass market. To do so, developers had to enable their customers to use the applications the developers created, while assuring the developers’ ability to obtain income from their creative efforts. In other words, the developers’ challenge was to find a way

5 to facilitate intended use of software applications without sacrificing the possibility of commercial gain. The solution which the industry devised was licensing. The use of a contract between developer (whether directly, or through a publisher who would undertake to distribute the software for the developer) made it possible to tailor arrangements to particular applications, and to make changes quickly - an important element in the rapidly developing world of technology.9

See also, Gomulkiewicz and Williamson, A Brief Defense of Mass Market Software License Agreements, 22 Rutgers Computer & Tech. L.J. 335 (1996) (explanation of why contracts are necessary to information licensing).

3. Why isn’t UCITA a federal statute? Contract law both traditionally and constitutionally has been within the province of state governments, not the federal government. This is a simple issue of federalism. It may be unconstitutional for federal law to try to regulate contracts in detail. Contract law issues involve question about warranties, how an agreement is created, what state law applies, how deliveries are made, what performance is required, what uses are permitted or restricted, what risk of loss exists, and a wide variety of other issues that have always been central to state governance. The fact that UCITA deals with intangible property does not change that. There is no reason why UCITA should be federal law any more than there was reason for Congress to consider or enact UCC Article 2 regarding sales of goods, UCC Article 2A regarding leasing of goods or UCC Article 9 regarding security agreements.

In contrast, intellectual property concerns cited by Staff are traditionally and constitutionally the province of federal law. Unfortunately, critics of UCITA who are not satisfied with the panoply of rights and exceptions provided under federal law have seized on modifying UCITA as an opportunity to attain what they have not been able to achieve through federal legislation. This, of course, is not legally appropriate within the context of a state contract law. While there may be more need to debate federal copyright, patent and trademark protections beyond the numerous considerations Congress has given to these issues in the last decade, the place for those arguments is properly the halls of Congress, not the New Jersey legislature.

4. Why is UCITA’s “mass-market transaction” concept not broadly defined and is it accurate to say that UCITA “narrows” the definition of consumer? In its December 6, 1999, memorandum, the Staff criticizes UCITA for not using a broader definition of mass-market transaction and for not extending certain consumer protections to mass-market customers in addition to consumers. In order to understand the policy choices of UCITA, it helps to step back and look at the place from which the UCITA Drafting Committee started: traditional commercial law. Under traditional commercial law, no “consumer-like” protections are afforded to businesses. The choice of the UCITA Drafting Committee to extend any “consumer-like” protections to businesses under UCITA’s mass-market concept is unique and a major benefit of UCITA to business customers. The same protections are not afforded to business customers under UCC Article 2.

9 Micalyn S. Harris, Is Article 2B Really Anti-Competitive? 3 CYBERSPACE LAWYER No. 8, Nov., 1998 (footnotes omitted) (http://www.winpro.com/articles/anti-competitive.htm).

6 To illustrate, consider Federal Regulation Z, which implements the federal Truth in Lending Act, a consumer protection statute. Its protections only apply to consumers, natural persons who obtain credit primarily for personal, family or household purposes.10 It does not apply to corporations or other businesses,11 and expressly excludes credit extended “primarily for a business, commercial or agricultural purpose” or to government agencies or instrumentalities. As do many consumer statutes, it also excludes high-dollar transactions.12

UCITA parallels this typical definition of consumer but also expands it in two respects. First, UCITA does not limit the dollar amount of a consumer contract. Second, it expands the definition to include management of the individual’s personal or family investments. Both of these expansions significantly broaden the traditional definition of consumer used in consumer protection statutes.

The Staff discussion of “consumer” statutes ignores this traditional definition and erroneously states that UCITA narrows the definition. While we are not familiar with all aspects of New Jersey law, the statutes cited by Staff would appear to be statutes in which “consumer” is used as a synonym for “customer,” such as an unfair acts and practices statute. While such statutes exist in many states, they are not usually considered to be “consumer protection” statutes: what is usually meant by such a reference is a statute that affords special protections to consumers that are not afforded to non-consumers, i.e., businesses.

To understand the typical application of consumer protection statutes, consider two transactions by an accountant who purchases, on installment, credit from a retailer, (1) a computer and telephone for an office in the accountant’s home, and (2) the same thing for the family room. Both items are also commonly used by the accountant’s children, although the

10 12 C.F.R. § 226.2 (11) and (12) (1999). 11 See 12 C.F.R. § 226.3(a) (1999) (this regulation does not apply to business, commercial, agricultural or organizational credit or an extension of credit to other than a natural person, including credit to government agencies or instrumentalities). See also 12 C.F.R. 213.2(e)(1) (1999) (Regulation M, consumer leases) and UCC Article 2A§ 103(1)(e) (consumer leases), both of which exclude entities or businesses from their definition of “consumer”; Uniform Consumer Credit Code § 2.104 (the UCC covers consumer credit sales which are defined to protect only buyers who are not organizations and who purchase primarily for personal or family purposes; agricultural purposes are also protected) (copy available, Consumer Credit Guide at ¶ 5044 (Commerce Clearing House Inc.); FTC Telemarketing Sales Rule, 16 C.F.R. § 310.6(g) (1999) (although this telemarketing sales rule literally applies to all “customers” of telemarketers, exempted from the rule are telephone calls between a telemarketer and any business, except calls involving the retail sale of certain cleaning supplies). There are a few minor exceptions: see 12 C.F.R. § 226.12(a) and (c) (1999) (extending the protection of selected credit card issuance and liability rules to businesses); and see federal Magnuson-Moss Warranty Act, 15 U.S.C. § 2301et.seq. (1994) (protecting all buyers as to certain aspects of the statute, but only if the buyer purchases a consumer product). “Consumer products” means any “tangible personal property which is distributed in commerce and which is normally used for personal, family, or household purposes.” Id. at (1). 12 See e.g., 12 CFR § 226.3(b) (Regulation Z exempts credit over $25,000 unless secured by real property or a dwelling). $25,000 is also the limit under NCCUSL’s Uniform Consumer Credit Code. See also UCCC at § 2.104. Under both acts, the financing of high-priced products, like an airplane, is not covered even if purchased by a consumer. Similarly, the definition of “consumer lease” in UCC Article 2A-103(e) contains an option for states to impose a dollar limit, and a dollar limit is imposed in federal Regulation M regarding leasing (“consumer lease” is defined as not exceeding $25,000). 12 C.F.R. § 213.2(e)(1) (1999). Under federal Regulation Z, the Federal Reserve Board is further empowered essentially to eliminate consumer protections for individuals who have net assets in excess of $1,000,000 or an annual income of more than $200,000. See 15 U.S.C. 1604(g)(1) (1996).

7 primary purpose of the first purchase is to equip the home office. Do the consumer protection provisions of federal and state laws, including usury laws, apply to both transactions? No.

To implement the dividing line between consumer protections laws and commercial laws, and to confine consumer protections to consumers, the home office transaction is viewed as a business transaction and the accountant is expected, in the pursuit of her business or commercial goals, to conduct herself as a businessperson. The purchases she made for the family room were consumer transactions under existing consumer protection laws, i.e., they were primarily for personal, family or household purposes, and her creditor would have to comply the Truth in Lending Act with respect to the credit extended for those purchases. In sharp contrast, the purchases for the home office are viewed as business transactions and the Truth in Lending Act does not apply to those purchases.

Article 2 intentionally makes this same distinction:

Llewellyn believed the policies and considerations involved in a mercantile situation differed from those in a nonmercantile situation, and that a unitary approach to sales rules would inevitably muddle policies and rationales. This result would jeopardize the predictability he so wanted to create for businessmen. Under a single rule, governing both businessmen and nonbusinessmen, a court trying to protect Aunt Tilly might manipulate, distort, or misconstrue the rule, making uncertain its later interpretation or application to Tilly, Inc. Rules fashioned specifically for a commercial setting, and insulated from nonmercantile considerations, would thus protect the rules’ predictability for businessmen. One set of sales rules for businessmen and another for Aunt Tilly would eliminate the possibility of undermining the commercial rule to do justice to Aunt Tilly.13

Accordingly, Llewellyn classified certain Article 2 rules by a party’s status as a merchant or nonmerchant. There is no indication that U.S. law will generally shift away from this traditional dividing line between business and consumer transactions:

In seeking to protect consumers online, we will keep in mind the distinctions between business-to-business and business-to-consumer transaction[s] in discussions at both domestic and international levels.14

UCITA does make such a shift, however, to deal with certain market characteristics.15 Even though this shift is limited, i.e., only a limited range of consumer protections are extended to businesses, any application of consumer protections to businesses represents a dramatic shift in commercial law.

13 See Ingrid Michelsen Hillinger, The Article 2 Merchant Rules: Karl Llewellyn’s Attempt to Achieve The Good, The True, The Beautiful in Commercial Law, 73 GEO. L.J. 1141, 1148-49 (1985) (footnotes omitted). 14 See U.S. Government Working Group on Electronic Commerce First Annual Report at 27 (Nov. 1998) . 15 The mass market concept is used in two ways: (1) to treat the marketplace as a surrogate for consumer protection, thereby extending consumer protections to business transactions, or (2) to use the concept as a marketplace identifier which allows definition of various expectations about the nature of transactions in that market. Preface to Article 2B, Nov. 1, 1997 draft at 17.

8 This shift is not countenanced by all bodies that are examining commercial law. As noted in our cover letter, the Drafting Committee for proposed revisions to UCC Article 2 rejected the extension of “consumer” protections to certain business when it chose not to include mass- market concept in the current Proposed Revisions of Article 2. Presumably, it feared what Lewellyn feared and what opponents of the concept in UCITA feared: if the same rules apply to Aunt Tilly and a Fortune 500 company, courts may be tempted to manipulate, distort, or misconstrue the rules in order to provide protections to Aunt Tilly that are not necessary for, nor traditionally applied to, the Fortune 500 company (because of the merchant/non-merchant distinction).

In short, the mass-market concept recreates the same problems that were solved by the party-status rules created in original Article 2 and later-developed consumer protection laws, the substance of which are preserved in UCITA.16 Licensor critics of the concept also objected to the disparity inherent in it: large businesses are afforded protections as licensees that may harm the smaller licensor,17 even though one of the assumptions of the mass-market concept is that limited extension of protection to small businesses is desirable or at least not harmful. To avoid these kinds of problems licensors argued for elimination of the mass-market concept from UCITA.

They did not prevail, however, and the mass-market concept remains. The concept has been carefully crafted, however, to attempt to balance all of the competing needs while extending

16 See Hillinger, supra at 1184 (arguing that the proliferation of consumer legislation in the 1980s indicated “the perceived need to create different rules for different classes of people”). Professor Hillinger also notes that the original UCC was criticized for not containing more consumer protection rules. See id. at 1184 & n.271. Given the proliferation of state and federal consumer protection laws after the UCC’s passage, the same issue is not present today. See id. at 1184 (noting a “proliferation” in federal consumer protection statutes). UCITA leaves all of those consumer protection statutes in place except for a few aspects of electronic commerce, such as writing requirements. See UCITA §105. For a discussion of the treatment of consumers under the UCC or UCITA, see Mary Jo Howard Dively & Donald A. Cohn, Treatment of Consumers Under Proposed U.C.C. Article 2B Licenses, 16 J. MARSHALL J. COMPUTER & INFO. L. 315 (1997) (concluding that Article 2B has treated consumers fairly); Gail Hillebrand, The Uniform Commercial Code Drafting Process: Will Articles 2, 2B and 9 be Fair to Consumers?, 75 WASH. U. L.Q. 69, 73 (1997) (summarizing Article 2B and the Revised Articles 2 and 9 drafts and arguing that the drafters “have a special responsibility to weigh the fairness of uniform law drafts on consumers”); Fred H. Miller, Consumers and the Code: The Search for the Proper Formula, 75 WASH. U. L.Q. 187 (1997) (describing the tensions, problems, and incentives created through inclusion of consumer protections in a commercial code). For a debate regarding requests made by an attorney for Consumers Union, see generally Gail Hillebrand & Holly K. Towle, A Debate on Proposed Article 2B’s Effect on Consumers (pt. 1), UCC BULL., Sept. 1997, at 1; and Gail Hillebrand & Holly K. Towle, A Debate on Proposed Article 2B’s Effect on Consumers (pt. 2), UCC BULL., Oct. 1997, at 1. 17 In the information industry, the licensor or vendor is more often than not smaller than the licensee or buyer and, as with information law generally, it is dangerous to premise laws on inaccurate images, such as an image that all buyers are smaller than all sellers. See Raymond T. Nimmer, Images and Contract LawWhat Law Applies To Transactions in Information, 36 HOUS. L. REV. 1 (1999): an image of routinely subservient purchasers (licensees or buyers) does not accurately reflect practice. The nature of the information marketplace accentuates the degree to which the inaccuracy exists. Most vendors of information who provide works to publishers are individual authors dealing with relatively large corporate purchasers. Although there are large companies in the modern computer software industry, the average size of a computer software provider is fewer than twelve employees. These small companies routinely deal with large corporate clients (purchasers). For example, Walt Disney Corp. is seldom the … unsophisticated party, especially in the many contracts in which it acquires services from small software development companies. Id. at 25 (citations omitted).

9 more protection to businesses than is typically extended. The Staff would like a further extension. Others will argue for a complete elimination of the mass-market concept, if the subject is re-opened. UCITA appropriately creates a balance that should not be disturbed.

5. Warranties.

A. Federal Magnuson-Moss Warranty Act. In its memorandum dated February 14, 2000, the Staff notes that no court has held that the Magnuson-Moss Warranty Act (“Act”) applies to licenses of software. As noted by the Staff, there is good reason for this: that Act expressly applies only to tangible consumer products that are sold. Thus not only is it unclear whether the Act applies, it is very likely that it does not. What is unclear from the Staff’s discussion is why the answer matters to UCITA: § 105(a) of UCITA expressly states that any provision of UCITA which is preempted by federal law is unenforceable to the extent of the preemption. Thus if a court ever concludes that the Magnuson-Moss Act does apply to any computer information transaction, then the federal Act will control as appropriate. Answering that question is not within the province of UCITA or state legislatures.

Lest we have missed the point of the Staff’s discussion, correction of a few omissions from that discussion may be helpful. The Staff notes that the Act affords protections to commercial parties purchasing consumer products, but neglects to note two important qualifications to that coverage. First, the products must be consumer products, i.e., they must normally be used for consumer purposes and thus do not include products that are not normally used by consumers, i.e., commercial products. While that point is not relevant to the Staff’s discussion of the Act, it is relevant to the Staff’s conclusion in the December 6, 1999, memorandum that the definition of “mass-market transaction” should be expanded to include commercial products regardless of whether they are normally used by consumers. Even the one federal consumer protection statute that does afford consumer protections to businesses does not go that far, i.e., it only affords protection as to consumer, not business, products. Second, the Staff’s discussion of the Act’s presale disclosure of warranty terms omits the fact that such disclosures do not apply to business customers and that for purposes of those disclosures, “consumer product” is redefined expressly to exclude commercial products. 16 CFR § 702.1(b).

The fact that the federal Act might or might not apply to UCITA does not mean that any change should be made to UCITA. Common law does not provide that software manufacturers give implied warranties. Such warranties are a creature of Article 2 of the UCC, which also allows disclaimer of them. A parallel structure is employed in UCITA: because UCITA deviates from the common law by imposing implied warranties (as Article 2 did when it first imposed implied warranties in connection with sales of goods), it also must clarify whether and how they can be disclaimed (as Article 2 is); that is the province of state law. This is important regardless of the federal Act, which as acknowledged by the Staff, only applies, if at all, to a subset of transactions covered by state law.

B. Warranty of Merchantability. In its March 13, 2000, memorandum, the Staff states that it has been suggested that “common law concepts of implied warranties of merchantabilty” do not address the peculiarities of software which has some problems in operation. The Staff questions whether UCITA should have provided both a new standard designed to be appropriate

10 for software products and guidance as to whether a program with the “ordinary number of bugs” is merchantable.

There are two problems with the Staff’s analysis. First, as discussed above, there is no common law concept of an implied warranty of merchantability. That concept is unique to Article 2 regarding sales of goods; under the common law, no warranties are implied by law. In states which do not apply Article 2 to software, UCITA will accomplish a major change which is beneficial to licensees: the imposition of an implied warranty of merchantability on licenses of computer information.

Second, the Staff erroneously assumes that no effort was made in UCITA to adapt the implied warranty used in Article 2 to computer information. In fact, extreme efforts were made and many drafts had one of two other versions that were better tailored to computer programs. But those versions were opposed by licensee representatives who preferred an adaptation of the Article 2 formulation, including some consumer representatives. In short, the merchantability warranty is a result of lengthy public debates and compromises and is the best that anyone, including New Jersey, likely can do given all of the competing interests.

As for the Staff’s question whether a computer program with “the ordinary number of bugs” is merchantable, the answer is clearly yes under existing New Jersey law (if one looks to Article 2 by analogy) and under UCITA. Article 2-314 requires products to meet the middle range of quality – it does not require them to be perfect. If a computer program contains the “ordinary number of bugs,” then by definition it meets the ordinary or middle range of quality.

C. Other Warranties. In addition to the Implied Warranty of Merchantability, UCITA provides licensees with three other implied warranties: (i) the Implied Warranty of Noninfringement, Exclusivity and Enjoyment; (ii) the Implied Warranty of Informational Content; and (iii) the Implied Warranty of Fitness for Licensee’s Purpose and System Integration. All of these provide new benefits to licensees of computer information not afforded to them by the common law. Some of these warranties, such as the system integration warranty, do not exist under Article 2; no implied warranties exist under the common law.

11 6. Choice of Law. One of the most critical issues in modern commerce is what law applies to a given transaction:

In order to protect consumers online, the global community must address complex issues involving choice of law and jurisdiction – how to decide where a virtual transaction takes place and what consumer protection laws apply.

U.S. Government Working Group on Electronic Commerce, First Annual Report, 27 (Nov. 1998) .

Yet choice-of-law jurisprudence is chaotic. While the Staff suggests in its memorandum dated February 14, 2000, that this issue can simply be left to Article 1 of the UCC, that suggestion ignores the failure of Article 1 to provide clear guidance in this area. One commentator provides an illustration of this failure:

Determining what law applies in a given situation is a problem that anyone can understand but only a lawyer can solve. Suppose, for example, the buyer lives in state A, the seller in state B, and the goods are destined for delivery in state C . . . The basic Code rule . . . provides that ‘when a transaction bears a reasonable relationship to this state and also to another state or nation, the parties may agree that the law either of this state or of such other state or nation shall govern. . . . So the parties can pick and choose the law they prefer. . . . That is the general idea. But suppose they opt for the law of state D? It happens. A recent illustration of that occurred in New Hampshire. Result: The agreement as to the law of state D failed to work. . . . Now what? That was easy to decide, too, since the Code goes on to provide that ‘failing such agreement this Act applies to transactions bearing an appropriate relation to this state.’ Meaning what? Meaning that since the case was being tried in New Hampshire and since New Hampshire was “reasonably related” to the transaction, the law of New Hampshire applied. But a number of other states were also “reasonably related” to the transaction. True enough . . . . Anyone for a quiet game of Russian roulette?18

Why would parties choose “state D’s” law to apply? Assume parties in Sweden and California: each does not know the other’s law but they do know that law in New York is well-developed

18 Thomas Quinn, QUINN’S UNIFORM COMMERCIAL CODE COMMENTARY AND LAW DIGEST at 1-16 and 1-17 (2nd ed. 1991). Also, compare, for example, the varying rules (and cases interpreting them) in UCC Article 1-105 (“when a transaction bears a reasonable relation to this state and also to another state or nation the parties may agree that the law either of this state or of such other state or nation shall govern their rights and duties”) with revised UCC Article 5-116 (parties may choose applicable law or letter of credit may state it, and it “need not bear any relation to the transaction”) and RESTATEMENT (SECOND) CONFLICT OF LAWS § 187 (1971) (parties may contract for the law to govern their contractual rights and duties without restriction if the issue can be resolved by contract; if it cannot, the contractual choice will nevertheless be honored unless either (1) the chosen state has no substantial relationship to the parties or the transaction and there is no other reasonable basis for the parties’ choice, or (2) application of the chosen law would be contrary to a fundamental policy of a state with a materially greater interest ) (emphasis added).

12 regarding the subject matter of their contract. Accordingly, they choose New York law. In the alternative, assume that the same parties know nothing about New York law but seek a generally respected jurisdiction in which neither party will have a knowledge advantage. This kind of compromise, which involves choosing a law with which neither party is fully familiar but which puts both parties on an equal footing, will become increasingly necessary in a global economy.

Choice-of-law clauses are enforced more often than not, including in standard form contracts.19 UCITA Section 109(a) makes a very important contribution by stating a clear rule for contracts between commercial parties: they may agree on the applicable law, subject, of course, to UCITA Section 105 which allows invalidation of unconscionable terms or terms that violate a fundamental public policy, and UCITA Section 114, which imposes on every contract a duty of good faith and fair dealing.

UCITA separates and protects consumer contracts from this general rule. For consumer contracts, a choice of law clause is not enforceable to the extent it would vary a rule that is non- variable under the law of the jurisdiction whose law would apply under the default rules (which apply in the absence of an agreement). This is a beneficial consumer rule, but one that at least one federal authority, the U.S. Comptroller of the Currency, would view as too protective of the consumer.20 There is merit to the Comptroller’s view, especially when balanced against the competing policy of maintaining the Internet as a place where small companies may compete with large companies on a level playing field. As explained by the Clinton Administration:

In this emerging digital marketplace, anyone with a good idea and a little software can set up shop, and become the corner store for the entire planet. This capability promises to unleash a revolution in entrepreneurship and innovation – a cascade of new products and services that today we can scarcely imagine. 21

19 See, e.g., RESTATEMENT (SECOND) CONFLICT OF LAWS, §187 cmt. b (1971). Standard form contracts can sometimes fall into the category of “adhesion” contracts. In discussing adhesion contracts, the Restatement comment notes: “Choice-of-law provisions contained in such contracts are usually respected. Nevertheless, the forum will scrutinize such contracts with care . . . .” . 20 See e.g., OCC Letter dated 1/12/98 re Operating Subsidiary Application by Zions First National Bank, Salt Lake City, Utah, Application Control N. 97-WO-08-0006, signed by Julie Williams, Chief Counsel. Utah is one of the few states that licenses certification authorities to issue certificates regarding digital signatures that require and rely on public-private key encryption technology. The letter recognizes the “new risks that arise from a new use of technology,” and as does UCITA, the Comptroller recognizes that settling the question of what law will apply to a contract is critical for handling these new risks. The Comptroller included as one of the “legal devices to control and limit [the subsidiary’s] risk of liability,” use by the subsidiary of a choice of Utah law in all of its contracts. While most of the initial contracts were to be between commercial parties, the Comptroller recognized that the subsidiary would eventually do business with consumers and required inclusion of choice-of-law provisions in the consumer contracts as well. The Comptroller acknowledges the uncertainty of existing law regarding the enforceability of choice-of-law clauses, but takes the position that choice-of-law provisions have long been enforced by state courts even as to consumer issues as important as usury. See OCC Letter dated 2/17/98 to Jeremy T. Rosenblum (regarding the ability of interstate national bank to charge the rate of interest allowed in the bank’s home state under federal and state law). 21 U.S. Government Working Group on Electronic Commerce, First Annual Report at i (Nov. 1998) . In keeping with this insight, the Clinton Administration has included in its five issues for focus in 1999, “facilitating small business and entrepreneurial use of the Internet and electronic commerce.” Id. at v.

13 In contrast to the arguments made by the Staff for an even more restrictive consumer rule, a good argument can be made that the UCITA consumer rule may prove to be too protective in terms of the compliance costs it will add to the provision of computer information and services, or its ad- verse impact on small businesses and, ultimately consumers. While acceptance of the UCITA policy decision is reasonable, changes to that decision are not.

7. Choice of forum. UCITA allows parties to choose an exclusive judicial forum unless the choice is unreasonable and unjust. This is the same rule adopted by the U.S. Supreme Court in a series of decisions, one of which is Carnival Cruise Lines, Inc. v. Shute, 499 U.S. 585, 111 S.Ct. 1522, 113 L.Ed. 2d 622 (1991). There, the Court considered a claim by a Washington resident that the choice of a Florida forum in a standard form cruise contract should not be enforced. The Court’s comments are instructive as to that contract and also address questions raised by the Staff in its January 18, 2000, memorandum. First, the Staff asked why a licensor should not simply be required always to bring suit in the licensee’s jurisdiction. The Carnival case explains (emphasis added):

[It would] be entirely unreasonable to assume that a cruise passenger would or could negotiate the terms of a forum clause in a routine commercial cruise ticket form. Nevertheless, including a reasonable forum clause in such a form well may be permissible for several reasons. Because it is not unlikely that a mishap in a cruise could subject a cruise line to litigation in several different fora, the line has a special interest in limiting such fora. Moreover, a clause establishing [the forum] has the salutary effect of dispelling confusion as to where suits may be brought…. Furthermore, it is likely that passengers purchasing tickets containing a forum clause … benefit in the form of reduced fares reflecting the savings that the cruise line enjoys….

Second, the Staff concluded that New Jersey courts appear to have never directly considered the issue of whether New Jersey would follow Carnival if presented with an individual action, as opposed to a class action. In fact, New Jersey courts have already determined that question:

Generally, forum selection clauses are prima facie valid and enforceable in New Jersey. [citations omitted]. . . . [The lower court judge] correctly discerned that New Jersey follows the logic of the United States Supreme Court decision in Carnival Cruise Lines v. Shute . . . .

Caspi v. Microsoft Network, L.L.C., 732 A.2d 528 (N.J. Super. 1999). That determination was made in a class action, but the proclamation that New Jersey follows Carnival, a case involving an individual action, was not qualified in any manner that would support the interpretation suggested by the Staff.

While the Staff would appear to prefer to alter both Carnival and Caspi legislatively, it is doubtful that legislative action by New Jersey will be successful in altering the Supreme Court rule. When an indirect attempt was made in proposed revisions to UCC Article 2 to avoid that

14 rule,22 Professor Barnett, Austin B. Fletcher Professor, Boston University School of Law, commented as follows:23

As you well know . . . the Supreme Court in Carnival Cruise Lines, Inc. v. Shute, 499 U.S. 585 (1991), [has] spoken to these issues and, while some aspects of the Carnival Cruise line case rubbed some professors the wrong way, surreptitious Congressional action to reverse the forum selection portion of that case were quickly reversed by a later Congress. See Compagno. v. Commodore Cruise Line, Limited, 1994 WL 4629997 (E.D. La. 1994).24

As for the Caspi decision, the New Jersey court did not have any of the trouble that seems to be reflected in the Staff’s discussion of forum selection clauses. This is what the New Jersey appellate court said about an online contract that included an exclusive choice-of–forum clause:

The clause enforced in Carnival was very similar in nature to the clause in question here, the primary difference being that the Carnival clause was placed in small print in a travel contract while the clause in the case sub judice was placed on-line on scrolled computer screens.

The trial court opinion went on to analyze plaintiffs’ contentions:

. . . plaintiffs were not subject to overweening bargaining power in dealing with Microsoft and MSN. The Supreme Court has held that a corporate vendor’s inclusion of a forum selection clause in a consumer contract does not in itself constitute overweening bargaining power. . . .plaintiffs and the class which they purport to represent were given ample opportunity to affirmatively assent to the forum selection clauses. Like Carnival, plaintiffs here “retained the option of re- jecting the contract with impunity.” [citation of Carnival omitted]. In such a case, this court finds it impossible to perceive an overwhelming bargain situation.

[The lower court judge] opined that application of MSN’s forum selection clause did not contravene public policy. . . . Finally, [he] held that enforcement of the forum selection clause would not inconvenience a trial. . . .

22 Various drafts of proposed Article 2 contained various tests proposed for determining when a conscionable term of a contract should nevertheless be made unenforceable. Proposed Section 2-206 contained one version of that test. When asked at the February, 1999 Drafting Committee meeting for an example of egregious judicial decisions Section 2-206 was intended to overrule or cure, the Drafting Committee could not provide any examples. However, with respect to the kinds of clauses Section 2-206 was intended to prohibit, one member of the Committee gave two examples, arbitration clauses and choice of forum clauses. Professor Barnett commented on that effort as set forth in the text accompanying the next footnote. 23 See Letter from Professor Randy E. Barnett to Lawrence J. Bugge, Chairman, Article 2 Drafting Committee. Professor Barnett, who was retained by Gateway 2000 to examine the 1999 of draft Sections 2-206 and 2-207(d) of revised Article 2, stated: “I must say that, upon reading these two provisions, I was very pleased to have been given this opportunity to do so since both are quite unwise.” 24 Id. Barnett letter at 2-3.

15 After reviewing the record . . . we are in substantial agreement with the reasons for decision articulated by [the lower court judge]. . . .The meaning of the clause is plain and its effect as a limiting provision is clear. Furthermore, New Jersey’s interest in assuring consumer fraud protection will not be frustrated by requiring plaintiffs to proceed with a lawsuit in Washington as prescribed by the plain language of the forum selection clause.

. . . Also, it seems clear that there was nothing extraordinary about the size or placement of the forum selection clause text. By every indication we have, the clause was presented in exactly the same format as most other provisions of the contract. . . .To conclude that plaintiffs are not bound by that clause would be equivalent to holding that they were bound by no other clause either, since all provisions were identically presented. Plaintiffs must be taken to have known that they were entering into a contract; and no good purpose, consonant with the dic- tates of reasonable reliability in commerce, would be served by permitting them to disavow particular provisions or the contracts as a whole.

We do not doubt the sincerity of the Staff’s dislike of the U.S. Supreme Court rule, but that does not mean that the rule is inappropriate in or out of UCITA. To the contrary, it also reflects existing state laws25 and common practice. Indeed, even Consumers Union, a national organization which exists for the purpose of protecting consumers, and whose representatives strongly argued against including choice of law and forum provisions in UCITA, has chosen in its membership agreement for Consumer Reports Online, as follows (emphasis added):

General. This Agreement constitutes the entire agreement between you and CU with respect to the Site and, if applicable, the Fee-Based Services and supersedes all prior agreements between you and CU. Failure by CU to enforce any provision of this agreement shall not be construed as a waiver of any provision or right. Interpretation and enforcement of this agreement shall be governed by the laws of the state of New York (excluding its choice of law rules). You consent irrevocably to personal jurisdiction in the federal and state courts of New York County, New York for any action arising out of or relating to your use of the Site or Fee-Based Services. The federal and state courts of New York County, New York shall have exclusive jurisdiction over all such actions. In any such action, the prevailing party shall be entitled to recover all legal expenses incurred in connection with the action . . . . 26

25 See e.g., Voicelink Data v. Datapulse, 937 P.2d 1158, 1160-61 (Wash. App. 1997) (Nevada, like Washington, requires enforcement of forum selection clauses unless they are ‘unreasonable and unjust.’ . . . This is consistent with the test set forth by the U.S. Supreme Court). See also Burger King Corp. v. Rudzewicz, 471 U.S. 462, 472 n.14 (1985); M/S Bremen v. Zapata Off-Shore Co., 407 U.S. 1, 10 (1972) . 26 While the clause speaks in terms of exclusive jurisdiction, parties generally cannot deprive courts of jurisdiction although they can contract that the forum of any action will be in a particular place; accordingly, it is presumed that the quoted clause is intended to select New York as the exclusive forum. See Consumers Union User Agreement for Consumer Reports Online, clause 21 (visited 4/3/00).

16 Finally, it is important to note that UCITA does add protection desired by the Staff. In the January 18th memorandum, the Staff cites the New Jersey Franchise Act as specifically prohibiting forum designations in a motor vehicle franchise, and explains that such is a strong public policy of New Jersey. UCITA § 105(b) allows a court to declare unenforceable contract clauses that violate any fundamental public policy of New Jersey, including that franchise statute (and the insurance contracts referenced by the Staff) if, indeed, they reflect such policies.

8. Transferability of Licenses. The Staff memorandum dated December 6, 1999, states that Section 503 of UCITA is one of the most criticized sections of UCITA because it allows a contract to prohibit the transfer of a piece of software from one user to another, even if the first user does not retain any copy of the software and even in a consumer transaction. The Staff discussion omits several critical points:

A. Under the common law, contractual prohibitions on transfers of contract rights are allowed:

In the absence of a statute or other contrary public policy, the parties to a contract have power to limit the rights created by their agreement. The policy against restraints on the alienation of property has limited application to contractual rights . . . . A term in a contract prohibiting assignment of the rights created may resolve doubts as to whether assignment would materially change the obligor’s duty or whether he has a substantial interest in personal performance by the obligee; or it may serve to protect the obligor against conflicting claims and the hazard of double liability.27

An airline ticket, i.e. the contractual right to fly at a particular time, is illustrative — contract restrictions preventing transfer are routine even though customers do not like them and see no reason for them.

B. UCITA is more liberal about transfer than the common law and pushes the envelope regarding federal law, by creating a default rule that allows transfer unless the license provides otherwise. UCITA says:

(1) A party’s contractual interest may be transferred unless the transfer: (A) is prohibited by other law; or (B) except as otherwise provided in paragraph (3), would materially change the duty of the other party, materially increase the burden or risk imposed on the other party, or materially impair the other party’s property or its likelihood or expectation of obtaining return performance. (2) Except as otherwise provided in paragraph (3) and Section 508(a)(1)(B), a term prohibiting transfer of a party’s contractual interest is enforceable, and a transfer made in violation of that term is a breach of contract and is ineffective to create contractual rights in the transferee against the nontransferring party, except to the extent that . . . .

27 RESTATEMENT (SECOND) OF CONTRACTS § 322 cmt. a (1981) (emphasis added).

17 Subsection (1)(B) is standard UCC fare.28 The UCITA rule, however, i.e. that a party’s contract rights may be transferred unless a contrary contract is made, does not reflect licensing law for patents or copyright licenses:

Ownership is the sine qua non of the right to transfer, and the copyright law distinguishes between exclusive and nonexclusive licenses . . . the licensee under an exclusive license may freely transfer his rights . . . . By contract, the nonexclusive license does not transfer any rights of ownership; ownership remains in the licensor. . . . the nonexclusive licensee does not acquire a property interest in the licensed rights . . . . Accordingly, the nonexclusive license is personal to the transferee . . . and the licensee cannot assign it to a third party without the consent of the copyright owner.29

The reason for this willingness to honor clauses restricting transfers stems from the protections accorded innovators under intellectual property law:

Allowing free assignability – or, more accurately, allowing states to allow free assignability – in a nonexclusive patent license would undermine the reward that encourages invention because a party seeking to use the patented invention could either seek a license from the patent holder or seek an assignment of an existing patent license from a licensee. In essence, every licensee would become a potential competitor with the licensor-patent holder in the market for licenses under the patents. And while the patent holder could presumably control the absolute number of licenses in existence under a free-assignability regime, it would lose the very important ability to control the identity of its licensees. Thus, any license a patent holder granted – even to the smallest firm in the product market most remote from its own, - would be fraught with the danger that the licensee would assign it to the patent holder’s most serious competitor, a party whom the patent holder itself might be absolutely unwilling to license. As a practical matter, free assignability of patent licenses might spell the end to paid- up licenses such as the one involved in this case. Few patent holders would be willing to grant a license in return for a one-time lump-sum payment, rather than for per-use royalties, if the license could be assigned to a completely different company which might make far greater use of the patented invention than could the original licensee.

. . . Federal law holds a nonexclusive patent license to be personal and nonassignable and therefore would excuse Cadtrak from accepting performance from, or rendering it to, anyone other than CFLC.30

28 See, e.g., UCC §2-210. 29 In re Patient Educ. Media, Inc., 210 B.R. 237 240 (Bankr. S.D.N.Y. 1997). See also Everex Sys., Inc v. Cadtrak Corp. (In re CFLC, Inc), 89 F.3d 673 (9th Cir.,1996). 30 Id..

18 The point that contractual rights, including nonexclusive licenses, are different from property, and the point that federal intellectual property policy enforces prohibitions on transfer notwithstanding contrary state law, was made in a California decision wherein a transfer in a corporate reorganization of a non-exclusive license was treated as a breach of the contractual prohibition on transfer:

SQL’s reliance on several California cases which allowed assignment without invoking the Trubowitch test [see below] is similarly misplaced. These cases all involve real estate leases [citations omitted]. Courts have recognized that due to the strong presumption against restraints on alienation of property, real estate leases constitute a discrete exception to the general rule that the passage of a contractual right which occurs by operation of law is a transfer. [citations omitted]. . . . Federal copyright law provides a bright line prohibition against transfer of copyright license rights. By contrast, under California’s Trubowitch rule, if a transfer of rights occurs through change in the legal form of a business, such a transfer is permissible if it does not adversely impact the party benefited by the prohibition against assignment. The court need not decide whether Oracle has been impacted adversely because it finds that federal copyright law is applicable to the transfer of the copyright license right which occurred in this case. State law is preempted by federal law in question of copyright law or policy.31

C. Honoring restrictions on transfers is critical to the computer information industries, even in mass market transactions. The quotation taken from In re Patient Educ. Me- dia, Inc. above explains why enforcement of transfer restrictions is critical to the computer information industries. However, the Staff seems to argue that such restrictions should be ignored at least for mass-market transactions. But even there such restrictions are important both to licensors and licensees. It is true that some licensors do not care if a mass-market license is transferred  that is why some mass-market licenses expressly allow transfer if no copy or documentation is retained by the transferor. But a blanket legal rule to that effect would be inappropriate for the reasons stated above and because any such rule would be inappropriately simplistic. The UCITA comments to Section 503 provide a good example:

Mass market licenses present a different context. Transfer of the license will frequently not materially increase the burden or risk imposed on the other party. . . . In other cases, however, a transfer may impair the licensor’s interests. For example, if a mass market license for income tax reporting software includes a promise by the licensor to indemnify the licensee against IRS penalties incurred because of defects in the software calculations, repeated transfers of the license multiple times during a tax preparation season may increase the burden or risk.32

31 SQL Solutions, Inc. v. Oracle Corp., 1991 U.S.Dist. LEXIS 21097, at *10 (N.D. Cal. Dec. 18, 1991) (emphasis added). 32 See UCITA §503 cmt. 3 (Draft Comments to UCITA October 15, 1999) .

19 The harm to the licensor in the above example is obvious. The harm to the licensee would be obvious if states such as New Jersey change the UCITA rule: in the example, the provider of the tax software likely would not provide the indemnity for the tax return at all because the exposure to the licensor would multiply as the number of transferees increased. Similarly, the provider would not provide the software at as low a price because the pool of licensees would be reduced.

D. The “first sale doctrine” and other intellectual property issues are the province of federal law. The Staff correctly notes that the question of tranferability is tied to the federal “first sale” doctrine. However, in its December 6, 1999, memorandum and also in the January 18th memorandum regarding the first sale doctrine, there is a failure to note that Section 105 of UCITA addresses this issue and related issues raised by librarians. That section provides that federal law preempts UCITA and that any provision of a contract that violates a fundamental public policy, can be stricken by a court as unenforceable. We invite you to read the extensive comments to Section 105 which were agreed with an ALI liaison committee. Many of the issues that are interwoven into the Staff memoranda have been debated endlessly and resolved in those comments. To go further is to do exactly what the Staff seeks to avoid, i.e., to disturb the balances created by federal law. In fairness, we note that in its March 13, 2000, memorandum, the Staff appears to have attempted to correct its earlier analysis by noting that UCITA’s transfer of ownership provisions actually are the subject of federal, not state, law and must be resolved by Congress. We agree.

9. Standard form contracts. Many of the Staff’s comments reflect an apparent belief that standard form contracts do not reflect the agreement of the parties and that their terms should be regulated. This same debate raged in UCITA and in the proposed revisions to UCC Article 2. But the debate was resolved as set forth in UCITA: the agreement of the parties will be honored, including standard form agreements, unless a term is unconscionable or, in UCITA but not in Article 2, violates a fundamental public policy. In addition, both parties must perform in good faith. In addition, under UCITA a term of mass-market license (which is a standard form by definition), cannot violate an express agreement of the parties.

The Staff’s views seem more akin to those expressed by some members of ALI in early debates regarding proposed revisions to Article 2 and UCITA that were ultimately rejected.33 That proposed revision would have empowered courts to invalidate conscionable terms in standard forms but the proposal was heavily criticized for inclusion in UCC Article 2 34 and was not adopted. The revisions currently proposed for Article 2 do not contain the proposal – the draft returns to the traditional doctrine of unconscionability, which should sufficiently protect consumers.35 In explaining why the proposal for revised Article 2 was not needed and why the 33 Various iterations of a proposed provision to regulate terms of standard forms were introduced during the course of the drafting process to revise Article 2. See e.g., UCC § 2-206(a) (NCCUSL Draft March 21, 1997) (alternatives A-C). 34 The change proposed for Article 2 was described by one commentator to be “as poor a job of statutory drafting as one is likely to see. It is badly written and conceptually confused, and manages to be both vacuous in content and probably pernicious in effect. The new Article 2 should omit it.” See Letter from Professor Alan Schwartz, Sterling Professor of Law, Yale Law School, to Lawrence J. Bugge, Chairman, UCC Article 2 Drafting Committee (March 8, 1999); see letter at 5. In the letter, Professor Schwartz explains that he was retained by Gateway 2000 to review and comment on the provision and an additional section that was later deleted from the draft. 35 After July, 1999, the Drafting Committee for revisions to Article 2 was reconstituted. The first draft published since July is available at .. The Reporter’s note to Section 2-302

20 doctrine of unconscionability is sufficient, Professor Randy E. Barnett, Austin B. Fletcher Professor, Boston University School of Law wrote:

Scholars and courts have wrestled with the general concept of unconscionability at least since the adoption of Section 2-302 and have developed a set of doctrines that are reasonably workable, if more restrictive than some academics would like. . . . Rather than rest content with a generally favorable situation, however, the drafters [of revised Article 2] have launched a new initiative to expand the reach of the doctrine by seemingly heightening the scrutiny attached to consumer sales contracts. There is absolutely no warrant for this expansion. There is no great reservoir of problematic cases in which consumers have been victimized in ways that are not currently redressed by 2- 302. I searched hard for such cases to include in my casebook . . . but to no avail. The seas were relatively tranquil. The new section 2-206 promises to disrupt that tranquility for no good purpose. . . . . It is an attempt to fix something that is not broken, with the effect of harming both consumers and sellers in the process. A modest suggestion: let this proposal be thoroughly aired in the law journals before it is recommended to the legislators of forty-nine states. I very much doubt it will survive the scrutiny of contract scholars.36

The Staff makes reference in its February 14, 2000, memorandum to a Commission Report on Standard Form Contracts and a “Standard Form Contract Act.” We have not read the Commis- sion’s Report and do not know whether the referenced Act has actually been adopted as New Jer- sey law. If so, and if that Act applies to transactions covered by Article 2 of the Uniform Com- mercial Code, then it is difficult to see how New Jersey could purport to have a uniform contract code for the sale of goods. Neither Article 2, nor the common law, treats standard form contracts in the manner that the Staff suggests they be treated. reads as follows: “[Reporter’s Note - With the exception of changing the word “clause” to “term” the text of this section is consistent with current Article 2. However, it might be supplemented with a new comment along the following lines . . . .” 36 See Letter from Professor Randy E. Barnett, Austin B. Fletcher Professor, Boston University School of Law supra at 1 and 2. That the doctrine of unconscionability is alive and well can be seen in a recent case from New York, Brower v. Gateway 2000, Inc., supra. The Gateway computer contract contained an arbitration clause requiring arbitration in Chicago under International Chamber of Commerce (“ICC”) rules. The ICC rules were difficult to obtain because the ICC is located in France, requires advance fees of $4,000 (more than the cost of the computer) of which $2,000 was nonrefundable, and contains the English “loser pays” rule for attorneys fees. The court specifically stated that the inconvenience of the chosen arbitration site (Chicago) was not unconscionable, but did find that: [T]he excessive cost factor that is necessarily entailed in arbitrating before the ICC is unreasonable and surely serves to deter the individual consumer from invoking the process. . . . Barred from resorting to the courts by the arbitration clause in the first instance, the designation of a financially prohibitive forum effectively bars consumers from this forum as well; consumers are thus left with no forum at all in which to resolve a dispute. Id. at 574. The court also noted that Gateway had included a new arbitration clause in a newsletter, giving all of its customers the option to choose an arbitrator from the AAA and to designate any location for the arbitration by agreement of the parties, under which agreement Gateway would not unreasonably withhold its approval. The court remanded so that the parties could seek appropriate substitution of an arbitrator.

21 If the Standard Form Contract Act has not been enacted in New Jersey, then we would expect that any attempt to enact it will generate the same criticism made in connection with the proposed revisions to Article 2. If that criticism is a guide, those objections will come from all industries and the debate likely will result in a return to the existing protections of commercial law. UCITA retains and adds to those protections.

10. Financing. The Staff described the financing provisions of UCITA in its March 13, 2000, memorandum. The discussion misunderstands the UCITA provisions and how they in- teract with Article 9. The Staff’s conclusion is that UCITA makes no substantive change in law and implies that, given Article 9, the UCITA provisions are of no value to financiers. The oppo- site is true.

UCITA only applies when there is no secured party; if there is a security interest under Article 9, then UCITA falls to Article 9. The utility of UCITA is to financiers who are not secured parties. Instead of security, they obtain either: (1) an interest as a licensee which they pass through to the financed licensee (the borrower and actual user of the computer information), or (2) an interest as an unsecured lender who desires to finance the separate acquisition of computer information by an end-user licensee. Under current law, such lenders are reluctant to provide financing because, for example, the borrower-licensee has already pledged all of its assets to secured lenders and is prohibited from granting security interests to new lenders, or the borrower-licensee would like to obtain “lease financing” under UCC Article 2A but cannot do so because lease financiers correctly question whether computer information qualifies as a “good” under Article 2A (like UCC Article 2, Article 2A only applies to “goods” and, notwithstanding the Staff’s comfort that computer information can be assumed to be a good, such lenders and others do not agree). In short, UCITA provides a statutory means for these unsecured lenders to provide, and for these borrower-licensees to obtain, financing. That is an exceedingly valuable benefit of UCITA to licensees.

The Staff also appears to misunderstand the rationale for the Article 9 rules, and the similar UCITA rules, that prohibit a financier or secured party from selling or using computer information that is taken as collateral in Article 9 or whose use can be curtailed under a financier’s loan contract in UCITA. These rules reflect the Copyright Act and the federal and state laws restricting transfers of copyrighted works or contractual rights (see No. 8 of this memorandum). The Staff assumes that rules for computer information are automatically the same as rules for goods. As explained in No. 1, that view is simply wrong under existing state and federal law, Article 9 and UCITA.

The Staff correctly notes that UCITA is easier to read than Article 9. We agree, but respectfully suggest that most complex laws, including UCC Articles 9 and 2 and UCITA, are difficult to read if only because they are complex. Beyond complexity, any fair reading of UCITA will reveal that it is well-written and greatly improves existing law.