The NSW Court of Appeal has upheld the decision to award damages for a defective computer system as the cost of replacement and also included a component for an employee’s time spent working on solutions for the problems.
SEMF is an engineering and project management consultancy.
In 2013, it engaged Renown to supply and install an upgraded project management and accounting system. The upgraded system was to be based on Microsoft Dynamics SL 2011.
When installed, between 2014 and 2016, the system was defective. The defects related mainly to the module which was supposed to enable SEMF’s employees to generate real-time reports through a web-based browser. SEMF’s employees spent considerable time and effort and incurred significant costs in trying to remedy the defects before Renown conceded it wasn’t possible to fix the problems.
By the time of the trial in 2021, the Microsoft Dynamics SL 2011 software had itself been superseded by the Microsoft Dynamics SL 2015 and then the Microsoft Dynamics SL 2018 package. SEMF had therefore arranged for the installation of a new system based on the 2018 package.
The trial judgment
At first instance, the trial Judge, Ball J found Renown had breached the contract to supply and install the system. His Honour gave judgment for $662,344 comprised of:
- $631,894 for the costs of installing a new system based on Dynamics SL 2018, less $52,218 for maintenance fees payable to Microsoft from 2016;
- $84,744 paid to Mr McLean, an employee who was found to have been engaged specifically to work on solutions to the problems with the Renown System and the implementation of the Business Portal. However, damages were not allowed for the time of other SEMF employees performing tasks which would not have been necessary had the Renown System not been defective, by reason that the extent of the diversion was not established, a substantial portion of the time claimed was in respect of administrative staff and there was no evidence that SEMF had had to employ additional administrative staff, and the disruption to the business was not so great as to justify an award of damages based on employee costs;
- $27,184 for additional licences, $13,935 paid to Plumbline, $7,320 paid to Ms Nicholls, and $800 paid to Pinnacle Analytics. These items either were not, or are no longer, in dispute;
- less, a set-off in favour of Renown for $51,315 in respect of unpaid invoices.
On appeal, Renown contended Ball J was wrong to assess damages at the date of the trial rather than the breach. It argued further that the damages should be the difference between the value of the system as delivered and the value of the system it had contracted to supply and that no allowance for the employee should be included.
As we all no doubt recall, the measure of damages for breach of contract is:
The rule of the common law is, that where a party sustains a loss by reason of a breach of contract, he is, so far as money can do it, to be placed in the same situation, with respect to damages, as if the contract had been performed.
Brereton JA (with whom Meagher and Mitchelmore JJA agreed) considered that contracts of this kind for the supply and installation of software systems were analogous to building construction contracts. While the general rule is that damages for breach of contract are assessed at the date of the breach, that is not always the case in such cases as the loss actually suffered can be affected by the date the defects are discovered.
Accordingly, Brereton JA considered SEMF was entitled to its reasonable costs of rectification when those costs were incurred. At , his Honour explained:
the principle emerges that the proper measure of damages in a case such as the present is the reasonable costs of rectification, which will be the costs when they were actually incurred (if they have been incurred by the date of trial), so long as they are not unreasonable; or (if they have not been incurred already), the reasonable costs as proved as at the trial, unless it is established that by not conducting rectification works earlier the plaintiff has unreasonably failed to mitigate its loss.
Further, SEMF had allowed Renown an extended period of time to rectify the defects which came to an end when Renown itself concluded it could not fix the defects. Hence, there was no suggestion that SEMF had unreasonably failed to mitigate its loss.
Replacement or fixing the defective module
Renown further contended that the costs of rectification should be limited to fixing the defects in the specific, faulty module.
In a conclusion that will surprise no one who has ever tried to unscramble these things, however, the expert evidence was that identifying the defects and appropriate remedies would be extremely time-consuming and expensive and might never be possible. Accordingly, the expert evidence demonstrated that replacing the whole system with the new 2018 system would be the more efficient and costs effective solution.
A discount because the 2018 system was better than the 2011 system
The next question was whether some discount should be made because SEMF got a better, more modern system – the 2018 version – than what it had contracted for – the 2011 version.
The trial judge accepted there were situations where some allowance for “betterment” should be made. However, they did not apply here. SEMF had not consciously chosen an asset more valuable than the one being replaced. His Honour also considered that, save in one respect, there was no evidence of any benefit to be accounted for.
The exception to this conclusion was in respect of maintenance fees. Before the system was upgraded to the 2018 system, SEMF had not been paying maintenance fees to Microsoft, some 18% of the contract value each year.
In the Court of Appeal, Brereton JA accepted that the 2018 system did bring enhancements and improvements to the user experience over the 2011 system. However, SEMF would have been entitled to upgrade upon payment of the applicable maintenance fees.
There was a disagreement between the experts on whether an upgrade from the 2011 system to the 2018 system would have simply worked or would have required additional work. If such work was required, SEMF had been saved it and its damages might have been reduced on the “avoided loss principle”.
Under that principle, however, Renown bore the onus of proving what work would have been required and so the amount of costs saved. There was no evidence of what work would have been involved let alone its costs so, at , this argument failed.
The employee costs
Ball J had allowed for the costs of Mr McLean’s work to be included in the damages, but not other employees. The Court of Appeal upheld these findings.
Mr McLean was a casual employee, engaged for a specific purpose. While Mr McLean was initially engaged to work on a different project, from October 2015 he was engaged full-time to work solely on the implementation and attempted rectification of the system installed by Renown. At : Brereton JA explained:
As a casual employee whose work was solely related to the Renown System, he fell in a different category from the other employees in respect of whom “diversion of time” was claimed but not allowed.
Renown Corporation Pty Ltd v SEMF Pty Ltd  NSWCA 233 (Meagher, Brereton and Mitchelmore JJA)