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In February 2020, Elkay Plastics Company, Inc.
(“Elkay”) sued Oracle and NetSuite in San Francisco
Superior Court in a lawsuit arising out of a failied ERP cloud
contract. Elkay asserted a myriad of claims against
Oracle/Netsuite, including fraud in the inducement, fraudulent and
negligent misrepresentation, unfair competition under California
Business & Professions Code Section 17200, breach of contract,
breach of the implied covenant of good faith and fair dealing,
breach of express warranty and unjust enrichment. Importantly,
Elkay financed the ERP system through a financing contract with
Oracle’s financing arm, Oracle Credit Corporation
(“OCC”).
What did Elkay Allege?
In its Complaint, Elkay alleged that Oracle/NetSuite promised
that they could implement a working ERP system to replace
Elkay’s legacy system within 10 months at a cost of $2.027
million. Elkay alleged that rather than implement the ERP system
within the cost and timeframe promised, Oracle began recommending
additional customizations and functionality to the tune of almost
an additional $1 million. At the time of filing the Complaint,
Elkay alleged that it had paid Oracle $1.282 million, and still
owed Oracle an additional $1.645 million for a product that
“does not perform to industry standards, does not address
Elkay’s core business processes, and does not meet the specific
pre and post agreement representations of NetSuite and Oracle
regarding performance and functionality.” When Oracle failed
to address and fix the problems, Elkay discontinued payments.
Risks of Financing Through Oracle Credit Corporation
We have previously reported that Oracle likes to have OCC assign
these financing contracts to third party banks or financing
companies shortly after the ERP cloud subscription agreement is
executed. Although Oracle has over promised and under delivered,
under California law these third-party banks have made arguments
that they accepted the assignment from OCC as an innocent holder in
due course, and no matter that the software doesn’t work,
“come hell or high water” the Oracle customer must pay
up.
In this particular action, OCC assigned the agreement to SG
Equipment Finance USA Group (“SGEF”), in accordance with
Oracle’s OCC playbook. SGEF made a payment demand and when
Elkay declined to make payment due to the defects in the software,
SGEF notified the company that it was in default and could no
longer use the cloud services. However, in a deviation from its
normal playbook, Oracle and OCC then accepted the assignment back
and notified Elkay that notwithstanding the defaults, they would
grant Elkay 10 days to cure the defaults and make payment and that
they would reinstate the OCC contracts and the rights to use the
Cloud Services in the meantime.
Oracle Goes on Offensive with Cross-Complaint
Because Elkay declined to pay, Oracle and OCC filed a
cross-complaint in the action alleging that Elkay was in default of
the financing agreement and owed additional monies and the full
contract price as well as other damages. In its cross-complaint,
Oracle also took the position that Elkay’s assertions that the
processing time for sales transactions did not meet its
requirements, was a bogus excuse for non-payment, which had never
been raised in pre-contract discussions and was only a recently
trumped up excuse to get out of the contract. Instead, Oracle
contended that it had substantially delivered what was required of
it under the Statement of Work, and therefore was not in breach of
the subscription agreement.
The litigation then proceeded to move forward at a snail’s
pace with a dizzying number of pro hac vice applications filed by
counsel for Elkay. The parties agreed to mediate the dispute and to
engage in limited pre-mediation discovery. After squabbling back
and forth for a while, the parties apparently engaged in a
mediation, which must have resolved the case, as the parties agreed
to dismiss the entire action.
Lessons Learned
The case is instructive to the extent that Oracle/NetSuite filed
a cross-claim against its customer for breach of contract, unjust
enrichment, quantum meruit, account stated and declaratory relief
and seeking to enforce the financing agreement with OCC. Oracle
also sought recovery of its attorneys’ fees under the OCC
agreement for enforcement of that contract. The Elkay case
is also different from other Oracle related ERP litigation, since
Oracle took the financing agreement back from the financing company
that accepted the assignment. We can’t say with certainty why
Oracle did so, but we do know that the optics of these OCC
assignments are terrible and have been viewed unfavorably by at
least one federal court. It also provided Oracle with the
opportunity to control the litigation and mount an effective
defense through the weapon of the affirmative lawsuit against the
Oracle customer. ERP customers have been countersued by ERP
software publishers such as Oracle, as well as ERP implementation partners, and should recognize
that in certain circumstances this is a risk. These countersuits
often allege that the management of the ERP customer made mistakes
and did not effectively manage the project or didn’t understand
their own business, or that management’s requirements changed
over time and were out of scope of the agreement.
The fact that an ERP customer such as Elkay could pay millions
of dollars for an ERP system that apparently failed to meet the
basic requirements of the business, and then get hit with such an
aggressive cross-claim should be a warning to all companies
contemplating entering into similar ERP agreements with
Oracle/NetSuite or other ERP providers. The negotiation of the
language of the ERP related agreements and the specifics of ERP
implementation requirements must be a key focus of the ERP
customer. Companies acquiring ERP systems need to carefully think
through their requirements for the project and have a strong
internal team to help manage the process. And companies contracting
with Oracle/NetSuite may want to think through the potential
implications of obtaining financing through OCC, and how that could
create unanticipated risks down the road.
Oracle Accused by Former Employee of Selling ERP Systems to
Oracle/NetSuite ERP Customers That Did Not Exist
Oracle/NetSuite related ERP litigation cases are also
interesting when viewed through the prism of the Daramola v. Oracle America case. Daramola was
an Oracle Canada employee who lived and worked in Montreal, Canada
and served as an Oracle project manager for Oracle’s Campus
Bookstore customers. In his Complaint, he detailed an alleged
Oracle business practice of intentionally misrepresenting to
Oracle’s University customers that the company had a fully
developed, integrated system for an online campus bookstore that
could be customized and would be ready to “go live”
quickly. However, according to the Complaint, no such integrated
system existed, and Oracle instead would extract payments from
university customers, then stall while continuing to receive
payment without delivering a working ERP product. The facts pleaded
in the 2022 amended complaint further highlight an alleged pattern
and practice under which Oracle promised to customize a
non-existent but purportedly integrated cloud system for university
clients then used escalation teams to hold off customers who were
making subscription payments for the product and receiving nothing
in return. According to the Complaint, Project managers, like
Daramola, and “escalation teams” were directed to further
mislead customers about the lack of development for the system the
customer had supposedly acquired, by for example, blaming delivery
delays on the customers “unforeseen customization
requests,” extracting change orders for such
“customizations,” then requiring customers to pay more
while buying Oracle more time to deliver a functioning ERP
product.
Eventually after three pleading attempts, the Darmola
case was dismissed because the Northern District of California
essentially found that the claims did not relate to California and
could not be asserted by litigants living outside the U.S. against
a California company that was separate from its Canadian sister
company. The court reasoned that Plaintiff worked for a Canadian
subsidiary of Oracle in Canada, and had not established legal
theories to support a claim against Oracle America, Inc. directly
here in California. Darmola recently appealed the case to the Ninth
Circuit. We will be watching to see what happens. It seems a shame
as it has been our experience that the mother Oracle ship in
Redwood City appears to be running the show even outside of the
United States.
However, if the allegations in Daramola are true, we
would suspect that these types of predatory practices are not
simply limited to university related ERP customers of
Oracle/NetSuite. And having reviewed complaints filed in the
Elkay, Barrett Business Services, Morse
Communications, WG America Company and other lawsuits
against Oracle/NetSuite we certainly see striking similarities and
patterns. According to these lawsuits, Oracle/NetSuite represents
that they have a fully integrated and developed solution for the
particular customer in the particular industry and they will only
need to tweak the software and can go live quickly. But the reality
appears much different. Instead of getting the solution that was
promised, ERP customers get hit with multiple change orders,
demands for additional customization and escalating costs and
increased delays. In short, not what they thought they had
bargained for.
The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.
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