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SUTTER INSURANCE CO. v. APPLIED SYSTEMS

March 11, 2004.

SUTTER INSURANCE CO., Plaintiff,
v.
APPLIED SYSTEMS, INC., Defendant



The opinion of the court was delivered by: MATHEW KENNELLY, District Judge

FINDINGS OF FACT AND CONCLUSIONS OF LAW

On February 9-12, 2004, the Court conducted a bench trial in this case. This constitutes the Court's findings of fact and conclusions of law pursuant to Federal Rule of Civil Procedure 52(a).

Plaintiff Sutter Insurance Company is a California corporation with its principal place of business in that same state. Defendant Applied Systems, Inc. is an Illinois corporation with its principal place of business in this state. The case was transferred here from the Northern District of California pursuant to 28 U.S.C. § 1404(a). Sutter at one point had named several "Doe" defendants, but these were dismissed.

  Sutter sells property and casualty insurance in the West Coast region, both directly and through agents, In 1999, the company that provided and maintained the computer software Sutter used to produce and service its insurance policies advised Sutter that it would no longer provide updates of the software as of a particular future date. Sutter searched for a new software provider and solicited proposals From a number of entities, including Applied, Applied's Page 2 software system was called the "Diamond System." Applied's personnel made two sales presentations to Sutter at its California offices.

  Sutter's insurance business included both "direct bill" and "agency bill" policies. Direct bill policies were those issued and billed for by Sutter itself. Agency bill policies, which represented a significant component of Sutter's business, were those issued through agents working on Sutter's behalf, with the agents collecting premium payments and remitting them to Sutter. Sutter would receive payments, some of which were partial payments, from agents who were forwarding premium payments on more than one insurance policy. Sutter required a mechanism to bill the agents properly, account for partial payments, age accounts receivable, and report on a policy-by-policy basis the amounts paid and due. Sutter's existing software supported agency billing and these other related reconciliation functions.

  At Applied's sales presentations, Sutter's and Applied's representatives discussed Sutter's agency billing and related needs, Applied's personnel assured Sutter that the Diamond System was capable of handling agency billing. It is unclear whether these discussions involved much in me way of details, and it does not appear to the Court that there was any significant discussion of the specifics of Applied's needs. However, Applied's agency billing and reconciliation functions followed a pattern standard in the insurance business, Its representatives reasonably believed that Applied's software, represented to be an off-the-shelf system (that is, one that could be implemented with minimal effort), would satisfy these seemingly basic needs.

  Sutter's representatives advised Applied's personnel at the sales presentations that Sutter wanted to be able to convert all of its software to a new system by no later than December 31, 2000. After that date, Sutter would be required to pay additional fees to continue to maintain its Page 3 former software. Applied was hopeful that it could complete transition by that time, but it made no firm commitment to Sutter, as the speed with which the transition process would occur was, in significant part, in the customer's hands.

  Sutter and Applied entered into a written contract entitled "System Implementation and License Agreement" dated March 21, 2000. The initial draft of the Agreement represented a standard form contract used by Applied, with some modifications to particularize it to Sutter. Sutter sought to revise certain substantive terms of the Agreement, but Applied declined. Sutter was, however, able to negotiate a somewhat better price than had been proposed in the initial draft provided by Applied.

  The Agreement contemplated that the first line of Sutter's business to be converted to the Diamond System would be Sutter's "preferred homeowner's" line, a relatively new lire of business for Sutter which was primarily direct-bill business. The Agreement in its original form did not specifically identify the remaining lines to be converted and did not set a schedule for such conversions; this was left for later negotiation.

  The Agreement provided that Sutter would purchase from Applied the software and services specified in Schedule A to the Agreement, together with the system configuration options specified in Schedule B and the programming options specified in Schedule C (there were none of the latter). Schedule A listed, in summary form, the features and functions of the Diamond System. This included a reference to "Agency and Direct Bill Statement Options," Sutter reasonably understood this, particularly in conjunction with Schedule A's references to "Installment Based Billing," "Daily, Monthly, and Yearly Calculation of Written and Earned Premium," and the like, to encompass the agency billing, accounting, reconciliation, and Page 4 reporting functions referenced earlier. In fact, however, the Diamond System did not support agency reconciliation in the manner expected by Sutter, though Sutter would not find this out until much later.

  The purchase price, described in Schedule F of the Agreement, was $300,000 for the base software system, plus a total of $60,000 for the California preferred homeowner's business line ($35,000 for the business line and $25,000 for the state license). Additional lines of business would also be billed at $35,000 per business line and $25,000 for each state license. Payment was to be made as follows: $75,000 upon signing of the Agreement, $75,000 upon signing and mutual acceptance of a system implementation project plan and time line, $150,000 on the date of first delivery of the base software for testing and evaluation, and $60,000 on the date of acceptance of the California preferred homeowner's business line. "Acceptance" was defined as the earlier of the date of delivery of the system with the functionality needed to "go live," or the date of operational use of the system. The Agreement also provided for payment of support and maintenance fees of $80,000 for the base system, $15,000 for each line of business, and $12,500 for each state.

  The Agreement contemplated that Sutter would provide specifications regarding its needs, and Applied would then develop the software to meet those specifications. The finished product would be delivered to Sutter for a period of testing and evaluation, and once this was finished Sutter would "go live" and begin using the system in its day to day operations. In May 2000, Sutter and Applied executed a supplement to Schedule D of the agreement, setting forth a detailed system implementation project plan culminating in final delivery and implementation of "phase 1" (the base system and the California preferred homeowner's line) on July 8, 2000. Page 5

  Applied warranted in the Agreement that "all services provided hereunder will be performed in a good and workmanlike manner and that the Software provided by Applied hereunder will substantially conform to and perform in accordance with the specifications slated in Schedules A, B, C, D, and F, and in all associated documentation." Agreement, ¶ 6(a). Applied disclaimed any other implied or express representations and warranties. Id. Sutter represented that "[n]o material statements or representations have been made by Applied and upon which (Sutter) has relied in entering into this Agreement that arc not contained herein." Id. ¶ 6(b). The Agreement also recited that Sutter "understands that in the design and development of complex computer software systems limited system defects or errors may be expected," and that Sutter's "sole and exclusive remedy in the event of programming defects is expressly limited to correction of the defects by adjustment, repair or replacement at Applied Systems' sole election and expense." Id. ¶ 7(c).

  The Agreement provided that either Sutter or Applied could cancel the Agreement with or without cause at any time prior to the signing of the system implementation project plan and time line (the previously-referenced addition to Schedule D, executed in May 2000), and Applied would refund Sutter's down payment. Id. ¶ 5(a). The Agreement further provided that Sutter could cancel the Agreement with or without cause at any time prior to the initial delivery of the base system — with a cross-reference indicating this meant delivery of the system for testing and evaluation purposes — and if so, Applied would ...


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