IBM wins $14.2 million suit against Carlson over contract cancellation

A bitter contractual dispute between Carlson and IBM Corp. over a project to consolidate IT functions at the travel and hospitality giant has resulted in a $14.2 million judgment in IBM's favor.

U.S. District Judge Joan Ericksen ruled that Carlson wrongly terminated a 10-year, $646 million agreement with IBM to centralize IT and finance and accounting functions after just five years.

Ericksen, in a 54-page ruling, dismissed Carlson's assertions that its contract with IBM was canceled for performance issues and noted that the Minnetonka-based company began experiencing financial and growth problems caused by recessionary pressures shortly after it entered into the IBM contract.

"In that new reality, Carlson concluded that it no longer wanted, needed, or could sustain its expanded Corporate Center, the largest part of which was the IBM outsourcing contract," Ericksen concluded.

In 2007 and 2008, Ericksen wrote, Carlson "faced significant and growing net operating losses," including a $53 million net operating loss in 2007.

Asked to comment on the ruling, Carlson spokeswoman Molly Biwer said Thursday: "Carlson was disappointed with the finding of the court but respects the process and is looking forward to bringing this matter to resolution." IBM did not respond to a request for comment Thursday.

The disputed contract between Carlson and IBM was signed in 2005 and was set to run until 2015. Carlson terminated it in 2010.

The judge noted that leadership at Carlson, then led by CEO Hubert Joly, had "a different corporate vision" than the rosy prerecession outlook for growth that led to the substantial IBM investment.

"As a Carlson report put it succinctly in 2007: 'Corporate overhead was sized for growth that did not materialize and must now be right-sized,'" Ericksen said in her ruling.

The judge said that IBM was not without fault in the contractual relationship with Carlson.

"Problems — perhaps inevitably — arose in its execution," the judge said. "IBM bears responsibility for some of those problems, which were particularly evident early in the term of the contract as IBM took over the [IT and finance and accounting] functions from Carlson in a transition that was anything but smooth."

But evidence produced at trial by Carlson "to portray IBM's performance as an unmitigated disaster is not borne out by the evidence," Ericksen said. Rather, she added, Carlson performance assessments at the time were "on balance, quite positive."

Ericksen made her ruling on July 30. It followed a nine-day, nonjury trial before her between March 18 and April 1.

Carlson entered the contract with IBM to consolidate the back-office functions of its six operating business units at the time which included its Radisson and Country Inns & Suites hotel operations, TGI Fridays restaurants, Carlson Wagonlit Travel and Carlson Marketing.

Current Carlson CEO Trudy Rautio, who was chief financial officer in 2005, said the goal of the consolidation was to have a company "that could focus on its growth around the world, and a company that could focus on its customer relationships, many of which were common across the businesses," according to Ericksen's ruling.

But there was strong internal dissent to outsourcing the consolidation efforts as opposed to doing it internally. The outsourcing supporters, led by then chief operating officer Curtis Carlson Nelson, eventually prevailed. Nelson is no longer with the company.

Rautio, who initially opposed the outsourcing method, was ultimately persuaded IBM "would achieve the desired cost savings more quickly than if Carlson were to continue to perform them internally," Ericksen wrote.

The agreement between Carlson and IBM became effective on Sept. 1, 2005. But within two years, the recession winds began blowing and Carlson's hospitality, travel businesses took hits.

"As a result, Carlson began to explore the sale of its business units, several of which were indeed sold by early 2008," Ericksen said.

And at trial, Rautio "candidly" testified "that Carlson was compelled by its internal financial situation and her predecessor's aggressive cost-cutting initiatives to terminate the IBM contract without regard to IBM's performance," the judge wrote.

David Phelps • 612-673-7269