An audit clause is often found in an intellectual property licensing agreement to provide a licensor with protection. Audit clauses do this by allowing a licensor to enter a licensee's premises and carry out an inspection to see that the terms of that licence are being adhered to. They can also act as a deterrent to incentivise a licensee into compliance. The recent case of 118 Data Resource Limited v IDS Data Services Limited shows that a high threshold of clarity is required to justify specific performance of an audit clause.
118 and IDS were competitors in the same market. Despite this, 118 licensed its database to IDS subject to various restrictions. Given the competitive relationship between the parties, it is understandable that 118 would want to ensure that IDS did not exceed the terms of the licence and so an audit clause was included. 118 grew concerned that IDS had breached the terms of the licence and sought specific performance by summary judgment of its right to inspect IDS's premises and records. The audit clause was drafted as follows:
“[IDS] undertakes and agrees with [118] that it will… permit any duly authorised representative of [118] on reasonable prior notice to enter any of its premises where any copies of [the Database] are used, for the purpose of ascertaining that the provisions of this Agreement are being complied with.”
Given the limited detail here as to how any inspection would take place, the court had to consider, on its true construction, what rights are conferred by this clause. IDS argued that the lack of clarity made the clause unenforceable. The judge agreed. He said that
“There must be some kind of restriction to ensure that 118 searches only for material relating to the use of the Database, that it does not search for commercially sensitive information relating to IDS's customers, that it does not search for any material relating to the use of the Database which is protected by legal professional privilege and that 118 is prevented from using the material for other purposes.”
He also decided that the court could not fill in the gaps in this clause without re-writing the agreement. And the audit clause could not be the subject of an order for specific performance.
This case illustrates that a licensor, whose interest is in ensuring that its IP under licence is being used correctly, should request comprehensive rights to check how that IP is being used. In order to justify an order for inspection, an audit clause should set out clearly the rights that are being conferred and how any inspection is to be carried out.
As this case shows, a broadly drafted clause may well be unenforceable. The key here is in the detail; less is definitely not more.
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