ABA Section of Business Law

Volume 14, Number 4 March/April 2005

When The Net Is Your Phone
The new era is almost here: Are you ready?
    By Walt Sapronov

Voice over Internet Protocol is possibly the most important issue facing telecommunications suppliers and buyers today. First introduced as one Internet application among many, "VoIP" is now a juggernaut, threatening wholesale replacement of traditional, circuit-switched phone connections and with them a large chunk of traditional telephone-carrier revenues.

Suppliers — carriers and equipment makers alike — are integrating VoIP services and capabilities into their respective offerings, with virtually all major telephone carriers either offering commercial VoIP service or planning to do so. Various cable companies are delivering VoIP service (through cable modems), as are some wireless carriers, satellite companies and providers of "hot spot" and other unlicensed wireless services known as "Wi-Fi."

For equipment suppliers such as Cisco, Avaya, Nortel and others, VoIP capabilities represent an opportunity to shift network intelligence from the carrier's networks to the customer's premises. For consumers, VoIP offers both a cheaper local/long distance substitute and — when combined with cable modem or broadband packages — a one-stop shopping package referred to as the triple play: voice, data and video.

For corporations accustomed to spending millions in annual phone costs, VoIP represents a tantalizing but still embryonic way to cut these — perhaps substantially. With some packages offering unlimited local, long distance and international capability for under $30, there appears to be a growing consensus that VoIP will either drive down the price of traditional switched telephone services or eventually replace many of them altogether.

Thus, while mindful of transmission quality and security concerns, many corporate (so-called "enterprise") customers are looking at replacing (at least part of) their older circuit-switched networks with VoIP. This article addresses some of the commercial contract issues — including treatment of regulatory risk — facing enterprise customers when purchasing and implementing VoIP technology.

Enterprise customers traditionally buy voice and data services from long distance carriers such as AT&T, MCI and Sprint and from local carriers such as BellSouth, Verizon and SBC. Traditionally offered under tariffs, many of these services are now offered under negotiated rates, terms and conditions. For the larger deals, carriers customarily offer enterprises lower rates and other concessions in exchange for multi-year purchase commitments.

Today, especially as voice rates are dropping, carriers are increasingly adding both new services (such as IP-enabled frame relay, multi-protocol label switching, broadband Internet access, Web hosting, message authentication) and customer-premises equipment (CPE) (such as private-branch exchanges, routers, local area networks) to their traditional telephone service offerings.

Carriers — as well as system integrators and outsourcing companies — also offer enterprises one-stop shopping for their combined network service and equipment requirements under so-called managed service agreements: a mix of voice, data, CPE, software, premises wiring, maintenance and diagnostic services. These are all customized under a carrier-prepared "statement of work."

VoIP fits squarely into such managed-service agreements, and many enterprise deals today include it by way of an "attachment" to a master service agreement. Currently, VoIP may be supplied either as a "network based" service (in which the carrier delivers the voice services over carrier's own IP facilities) or as "CPE based" (in which the customer's equipment on the premises performs number translation, protocol handling and other IP functions). Both of these approaches present concerns during the enterprise negotiations. Here are a few:

Tariffs and their progeny. Historically, carriers provided telecommunications services to customers under federal and state tariffs (for inter- and intra-state services, respectively). Under the "filed rate doctrine," these tariffs controlled the rates, terms and conditions of service, irrespective of conflicting provisions in the parties' contract. That has changed, as the FCC has effectively done away with federal tariffs, leaving long distance carriers to fend for themselves in commercial negotiations for their interstate services.

Moreover, many local carriers, also pursuing enterprise customers, are similarly offering alternatives to traditional state-tariffed services. While these "tariff like" contracts (known under various labels as contract service agreements, local service agreements, special service arrangements, and the like) vary by state, they resemble detariffed interstate service agreements in that, unlike traditional utility services, the rates, terms and conditions are negotiated.

In these negotiations, however, vestiges of old tariffs remain — and are a pitfall for unwary customers. For instance, carriers will typically seek to incorporate into enterprise contracts so-called "price guides," "service guides" or other referenced instruments, typically filed on the carrier's Web sites. These will invariably contain terms and conditions favorable to the carrier but, if incorporated into the contract, are enforceable nonetheless. Similarly, for network-based VoIP (and other Internet) services, carriers often seek the customer's agreement to abide by a so-called "authorized user policy," also filed on the carrier's Web site, that may be changed unilaterally by the carrier at will.

Significantly, unlike tariffs, these guides no longer automatically control the contract by operation of law. For intrastate services, however, many tariffs are still in effect, and local carriers will often seek to have them supercede any inconsistent terms in their new enterprise contracts.

In short, customers should carefully review the interstate guides, polices, intrastate tariffs and other instruments that carriers will seek to incorporate into the contract, taking care to address the order of supercedence in the event of inconsistency. Significantly, the application of common law contract principles to erstwhile tariffed services that now rely on these "guides" and "policies" is largely untested. Thus, the more detail addressing how the parties intend to deal with inconsistencies among these documents, the better. And where possible, customers should resist the incorporation of (typically unread) tariffs and other external instruments into their VoIP contracts.

Uniform Commercial Code (UCC). For CPE-based VoIP services, the customer should first decide whether the router or other equipment accompanying the services should be purchased, leased or simply become a part of the service. UCC Articles 2 or 2A may or may not apply, raising UCC "gap filler" issues of delivery, acceptance, warranty disclaimers and remedies. Questions of premises access, environmental controls, security interests and equipment disposition at lease end will arise in any event.

Many of the early "computer law" cases (often applying UCC principles) addressed whether and to what extent computer suppliers could disclaim responsibility for hardware and software malfunctions — and the consequences when these disclaimers failed. These determinations may well apply to (or at least serve as precedent in litigation over) CPE-based VoIP contracts.

Service and other performance warranties. Carriers are typically reluctant to give customers meaningful remedies for service failures, typically offering only interruption credits, pro-rata refunds for the time the service was inoperable. In the negotiated managed-service context, crafting and negotiating meaningful performance assurances — sometimes known as service-level agreements (or SLAs) — is critical.

Given the sometimes questionable quality of voice transmission over a packet network, this becomes an intensely technical exercise when VoIP is included in a service package. Furthermore, customers should carefully distinguish carrier-supplied SLAs that are mere performance "objectives" from those that are warranties: remedies for breach typically will not flow from the former as they would from the latter.

CPE-based VoIP service raises other concerns (and negotiations) over what some call "the service boundary": the point somewhere on the customer's premises at which the carrier's service obligations end. In some transactions, the carrier will assume responsibility for delivering voice messages not only over the carrier's network but all the way to the end point on the customer's premises.

When pushing the service boundary over local area networks, building wiring (or wireless connections using "Bluetooth" or Wi-Fi technology) — as well as managing the customer's CPE and software — the carrier may be venturing into unfamiliar territory. While telephone network operation has long been familiar to carriers, CPE and software operation are probably less so, hence the importance of negotiating integration warranties ensuring that all of the service elements work together cohesively (and are backed up by meaningful remedies if they do not).

Privacy, security and content.Internet traffic delivery — whether VoIP or other — carries potential liability across multiple jurisdictions (and continents) for privacy violations and content (defamation, infringement) claims. It also exposes the enterprise to viruses, hacking, piracy and other security failures. Identification, allocation and indemnification of these risks are part of the deal — and can be tricky.

For example, customer indemnification of carriers from content-related claims is a customary provision of tariffs, one that carriers will likely insist on in the managed-service context. Whether the carrier will indemnify the enterprise for security failures, however, is another matter. CPE and software vendors typically supply customers with various protections such as firewalls, IP security keys, and encryption: in an unregulated environment, vendor indemnification when these fail is not rare. However, long accustomed to limitation of liability in their tariffs (absent their willful misconduct or other malfeasance), carriers may well balk at accepting responsibility — whether through indemnification or otherwise — for security failure. When dealing with VoIP service (as any other delivered over the Internet), security is a real concern. What liability limitations (if any) make sense if security is compromised by the carrier's failure merits detailed treatment in the contract.

Other deal points. Other customary deal points — price protection, revenue commitments and adjustments, dispute resolution, agreement modification clauses (so-called "business downturn," "technology upgrade" and "most favored customer" clauses) among them — will all arise in VoIP negotiations. Traditionally, carriers trade discounts for purchase commitments. With decelerating prices of voice transmission, both for per minute and for VoIP varieties, the parties should carefully agree on what purchases will "contribute" to these commitments.

They should provide for reduction or other adjustment to the purchase commitment when a technology upgrade reduces the enterprise's expenditures on the carrier's services: For example, what else may (must?) the customer purchase to make up the commitment shortfall? And even more fundamentally, the parties should discuss whether such commitments make sense in the VoIP era at all.

Regulatory risks. [see the sidebar]Then there is the issue of adverse regulation and who bears the risk. While possible adverse regulation has always hovered over privately negotiated, regulated service contracts, this is underscored with VoIP. High profile regulatory battles are looming over VoIP, raising the possibility that the contract may be substantially altered — or even struck down — by regulators. In that event, the contract should address the parties' obligations regarding what to do next.

For instance, a well-drafted contract will address the following issues: Must the carrier comply with federal or state filing, disclosure or other regulations to offer the VoIP service package? Should doing so be a condition of the buyer's obligations under contract? Is the carrier's failure to do so a breach? Or should the carrier have the opportunity to cure the problem when and if it arises?

If VoIP pricing is part of the package, what happens if regulators assess increased charges (such as local access or universal service fund charges)? Are these treated as a surcharge (akin to a tax) or are these "bundled" into the packaged price? Who pays and how much? Does the provider pass these through to the customer or does this trigger a rate adjustment? If a regulatory decision adversely affects the provider's cost, is this a so-called "force majeure" event excusing its obligations? If the contract requires the customer to spend an agreed on amount for services, must it still do so if the bargained-for VoIP service or price becomes unavailable?

The emergence of VoIP represents a watershed in the way enterprise customers will purchase phone service in the future. When negotiating for VoIP service, many of the issues will be familiar; others will not. For both the enterprise customer and the carrier or other supplier, these are uncharted waters. Navigating them will be a challenge. For customers, some of the suggestions in this article will hopefully help.