With the year 2000 fast approaching, many companies have questions about the impact that the "Year 2000 Issue" (otherwise known as the "millennium bug") could have on their business. We have prepared this letter to provide general information about the Year 2000 Issue and to encourage a proactive approach to addressing matters that it raises.
Simply put, the Year 2000 Issue is the inability of software or computer chips with embedded software to perform computations or functions involving dates subsequent to December 31, 1999. This situation arose in the 1970s and 1980s when computer memory boards were expensive. To conserve memory, computer programmers created date fields that accepted only two digits (the last two digits in the year) with the assumption that the first two digits in the year would be "19." Thus, any software or embedded computer chip created in this manner that encounters a date ending in "00" or "01," for example, will perform the calculations or functions as though the year in question is 1900 or 1901. Such calculations can lead to unpredictable results and can possibly render useless the software or item in which the embedded computer chip operates.
The Year 2000 Issue can have adverse consequences for a company that has not adequately prepared itself. The following are just some of the major consequences awaiting a company that has not addressed the Year 2000 Issue:
- Software-dependent operations can be come unreliable, thereby causing a company to miss important dates or deadlines such as shipping dates, filing dates or invoice dates. In a worst-case-scenario, software or equipment can become unusable, thereby causing the company to close until the software or equipment is removed and year 2000 compliant replacements are installed.
- A company's major vendors may be hampered by the Year 2000 Issue thereby forcing the company to look elsewhere for replacement products or services, perhaps at a higher price. If replacement products or services are not quickly available, the company might end up defaulting on its downstream obligations, which could result in lost profits, lost customers and potential liability.
- A company's major clients may be hampered by the Year 2000 Issue, thereby causing delays in the collection of invoices for products or services rendered.
- Directors and officers of a company might be found liable for failing to adequately fulfill their duties to the company by not addressing the Year 2000 Issue in a timely and appropriate fashion.
- Auditors may be required to include an adverse footnote in a company's audited financial statements if the company is not adequately addressing the Year 2000 Issue. Such adverse footnotes could inhibit a company's attempts to obtain financing or could create a default on the part of a company in existing financing arrangements.
- Financial institutions, public companies and other regulated businesses may be subject to regulations issued by state or federal agencies such as the FDIC or the SEC which are promulgating requirements with respect to year 2000 readiness. Failure to adhere to such requirements could result in fines or penalties, including potential criminal actions against officers and directors.
We recommend that our clients prevent, or minimize, such consequences by implementing a Year 2000 Legal Due Diligence Plan. Such a plan should encompass the following:
- Education. Educate senior management and staff as to the Year 2000 Issue and its potential impact on the company and the need for cooperation and support to address the problem. By having an educated workforce, people may be better able to identify potential sources of problems more quickly.
- Identify Regulations. Identify regulatory compliance and disclosure requirements that might be applicable to the company. Once applicable regulations are identified, implement procedures that comply with such regulatory requirements.
- Examine Potential Sources of Problems. Identify all sources of Year 2000 Issues, including (a) hardware and software currently used by the company; (b) affected critical vendors and suppliers of services and products to the company; (c) all technology products and services provided by the company; and (d) key customers of the company. Once these sources are identified, products, hardware and software should be tested for year 2000 compliance. Furthermore, year 2000 compliance inquiries should be sent to vendors and service providers to ascertain whether such businesses will be able to continue providing products and services without interruption. Such testing measures and inquiries will identify products, equipment, software, hardware, vendors and service providers that may need replacing because of a failure to adequately handle the Year 2000 Issue. With this proactive approach, a company will have time to make the necessary replacements in an informed and thoughtful manner well before January 1, 2000.
- Examine Contracts with Third Parties. Identify all contracts with vendors, including vendors of software, hardware and equipment, suppliers, and other third parties. Once identified, these contracts should be reviewed to ascertain the extent of any warranties, limitations of liability and other provisions that may relate to the Year 2000 Issue. By understanding its contractual rights, a company will be in a better position to negotiate with such third parties for any required remediation. Furthermore, if the company itself plans on making changes to the software, the ability to do so without voiding any warranties is most likely stated in a contract.
- Examine Insurance Policies. All of the company's insurance policies should be examined to ascertain (a) whether directors and officers are protected from claims arising from the Year 2000 Issue, (b) whether damages, costs and expenses arising out of the Year 2000 Issue are covered, and (c) the received claim notification period, so that claims are not denied based simply upon untimely notice.
- Examine Acquisitions. Before undertaking an acquisition of any sort, the company should examine the subject assets for Year 2000 Issues. If the assets require remediation to achieve year 2000 compliance, the cost of such remediation should be taken into account in the purchase price and in any decision to proceed with the acquisition.
- Develop a Response Strategy to Incoming Readiness Inquiries. Unless there is a statutory, regulatory, or contractual obligation to respond to a year 2000 readiness inquiry, a company is not legally obligated to respond to an incoming year 2000 readiness inquiry. Thus, a company should categorize readiness inquiries into (a) those to which a response is required by statute, regulation, or contract; (b) those to which a response is advisable from a business/customer relations standpoint; and (c) those to which no response is legally mandated and which do not relate to one of the company's significant business relationships. If a response is legally required or advisable from a business standpoint, respond as narrowly as possible, and avoid using language that might create a warranty as to the company's readiness. By using standard responses, a company will be more likely to present consistent statements, and will reduce the risk that an employee will provide an incorrect or inadvisable response to a requesting party.
- Develop a Tax Strategy. The company should work closely with its accountants to devise a strategy that will enable the company to expense Year 2000 Issue remediation in the current year as a repair, rather than employing an amortization strategy.
- Implement by January 1999. Optimally, remediation activities should be completed by January 1999 so that the company will have a year to test any modifications or replacements made to address the Year 2000 Issue.