Today I look at recent litigation relating to the use of non-compete provisions in award agreements. The case (Newell Rubbermaid v. Storm) involves an employee, Sandy Storm (yes, that’s her real name), of Newell Rubbermaid. Storm was responsible for the sale of infant and juvenile products (sold under the Graco brand) by Newell Rubbermaid to Target. In 2013, Storm signed an RSU agreement that included a number of post-employment restrictive covenants (e.g., relating to confidentiality, use of trade secrets, and non-solicitation) that effectively prohibited her from competing with Newell Rubbermaid. In 2014–you guessed it–she resigned from Newell Rubbermaid to work for one of their competitors (Artsana) selling infant and juvenile products (including to Target).
What is interesting here is that the Delaware Chancery Court agreed that the restrictive covenants are enforceable and issued a temporary restraining order against Storm. In today’s entry, I discuss some other aspects of the case that I think are interesting.
An Online Agreement and Acceptance
The agreement was distributed online and Storm consented to it with an electronic signature. The court did not seem to view this any differently than if the agreements had been in paper format and she had manually signed them, saying “Agreements may, of course, be made online.”
You Really Should Read All Those Online Agreements
Storm had not read the agreement, so she didn’t know about the restrictions. She knew that other employees had been asked to sign separate non-compete agreements, so, before resigning, she checked several other sources for prohibitions against working for a competitor (including her personnel file and the company intranet) and didn’t find anything. But she didn’t think to check her RSU agreement. And who can blame her–she thought that agreement related solely to her RSU award, which she was going to forfeit anyway because it wasn’t vested, and she’d signed RSU agreements in 2011 and 2012 that didn’t contain these provisions.
The court didn’t care, saying “Storm is understandably unhappy that she did not read the 2013 Agreements…She altered her post-employment rights in a manner she appears to regret now, but it was her choice to modify her rights without fully investigating the terms to which she agreed.” Harsh! Something to keep in mind the next time you accept an online service agreement without reading it.
Enforcement Went Beyond Forfeiture of the Award
What we typically see with non-compete provisions in awards is that the award is forfeited (or, if vested, clawed back) if the employee violates the provision. The employee essentially has a choice of (A) keeping the award or (B) competing. That wasn’t the case here. The restrictive covenants apply regardless of whether the award is forfeited. In fact, the award had not yet vested by the time Storm terminated, so she forfeited it regardless of where she went to work after leaving Newell Rubbermaid. The question is not whether she gets to keep the award but whether she can work for Newell Rubbermaid’s competitor at all. It’s a lose-lose situation for her; she already forfeited the award and now she’s out of work.
New Possibilities and Challenges
This certainly opens up some new possibilities for award agreements. Mike Melbinger of Winston & Strawn and blogger at CompensationStandards.com thinks, given Storm’s level in the organization and access to sensitive information, this particular scenario might even withstand a challenge in California.
But a provision like this would be a darn good reason for an employee to refuse to accept an award. Storm’s future employment opportunities were limited as soon as she accepted the award agreement (without even reading it!). Enforcing acceptance of award agreements is already a challenge (see the NASPP webcast “Is Silence the Answer? Acceptance of Grant Agreements“), giving employees a legitimate reason to decline them makes this process even harder.
Moreover, a key consideration for the court was that Storm checked a box labeled “I have read and agree to the terms of the Grant Agreement,” and clicked a button labeled “Accept.” The court reviewed screen shots of the page that Storm used to accept the agreement and emphasized this in its decision. I’m not sure that the court would have sided with Newell Rubbermaid if Storm hadn’t had to voluntarily take action to accept the award. And many companies don’t get serious about enforcing acceptance until awards are about to vest. Storm’s award hadn’t vested yet; if Newell Rubbermaid had taken that approach, Storm would probably be happily working at their competitor today.
Grant agreement distribution has become streamlined and simplified with the advances we’ve made in electronic processes. It seems we’ve got the distribution part covered. The part that seems a bit up in the air is the question of what happens if the grant agreement is not signed by the recipient? In today’s blog I’ll explore the issue and offer up my favorite solution.
Yes, Acceptance is Important
There’s a lot of investment that goes into creating grant agreements – some companies are investing thousands of dollars into customizing agreements to jurisdictional requirements, ensuring that agreements are relevant and comprehensive. Ultimately, the intent of the agreement is to inform that participant and protect the company. It seems most companies get this – 76% of respondents in our 2011 Stock Plan Administration Survey (co-sponsored by Deloitte) stated they require acceptance of grant agreements. Hopefully we’re all on the same page about the importance of these agreements, and the need to capture the recipient’s acceptance of the terms and conditions.
Simple for Options, Sticky for Awards
The collection of stock option agreement signatures should be fairly straightforward. Whatever policy your company adopts in this area, it’s relatively easy to enforce, because you have control over the participant’s ability to exercise their stock options. If the company wants to restrict the ability to exercise until the signed grant agreement is on hand, it can do so. The exercise of an option is not an automatic event – it must be initiated. If a participant initiates an exercise without a signed grant agreement on file, the company can simply block that transaction (often via predetermined settings with their third party vendor) from occurring until the agreement has been accepted.
Where things can get sticky is with award acceptances. The challenge is that the vesting of an award is automatic – either based on satisfaction of a service period or some type of performance condition. Unlike stock options, there’s nothing to initiate – the vesting event just happens, triggering income and taxes in many jurisdictions. If the agreement hasn’t been signed by the time the award vests, what should the company do?
We had a great webcast on this topic back in January 2013. If you’re a company muddling through this dilemma, it’s worth a look at the transcript or playback. That webcast offered up several options to the award acceptance conundrum. Today, in the interest of time and space, I’ll just pick my favorite to explore.
You Snooze, You Lose
First, let me just clarify that I haven’t seen an enforcement method for award agreements that is perfect. By perfect I mean without risk or some complexities. That said, I’m a fan of adopting a policy that requires acceptance within a specified period (e.g. 30-90 days) and then canceling the award if it hasn’t been accepted in the first place.
Canceling grants for non-acceptance was once viewed as an ultra-conservative penalty. However, in recent years, we’ve seen this emerge as an increasing trend, and I believe it will eventually emerge as a best practice. In a 2011 NASPP Quick Survey, 22% of companies reported using this approach.
I like this approach for many reasons. First, it’s pretty straightforward to administer. The grant is just canceled if not accepted within the proper time frame. It also eliminates 409A issues that are front and center in some of the alternatives (e.g. delay releasing shares until the agreement is signed). Since the award is canceled, there is no concern about the timing of share delivery – the shares no longer exist. There are no major accounting concerns – the expense under ASC 718 would be accrued just like any other RSU. The key accounting question with this approach is what to do if the award is canceled, and the answer depends on whether the company is using the board approval date as the “grant date” or deferring the grant date until the date the agreement is signed. In the latter scenario, the company might be able to argue that there was never a grant. In the former scenario, the company would accrue expense just like any other RSU, but note that it’s unlikely any of the already recognized expense would be reversed upon cancellation.
Companies who consider this approach do need to be aware of the impact this may have in jurisdictions outside the U.S. Some locations do tax awards at grant (either employee or employer), and those taxes may not be recoverable if the award is subsequently canceled. In addition, a robust communication and follow up plan is a must, because the last thing you’d want is an executive who realizes the “mistake” in canceling his grant and asks for a reversal of the cancelation. If the company doesn’t comply with the request, it’s possible that there may be litigation. As with any policy, there are other considerations as well – but these are the major pros and cons.
My guess is that with the threat of cancelation, most employees will pay attention and accept their agreement terms before the deadline. Companies who have adopted this method report few cancelations. It’s definitely worth considering if you are exploring ways to enforce your grant agreement acceptance requirements.
In our world of stock compensation, we’re well versed in keeping up with the laws and regulations that govern our universe. Many of us are also in tune with doing what it takes to keep our employee customers informed and happy. Sometimes in the quest to tighten up policies or service the employee, seemingly good practices are utilized, only to learn later on that they weren’t such a hot idea after all. In today’s blog, I’ll explore a few common, well-intentioned practices that may come back to later haunt the stock plan administrator.
3 Practices With Potential Pitfalls
1. Thinking Beneficiary Designations are a Must: Contrary to some stock plan urban myth that says it’s a good idea to allow employees to designate a beneficiary for their stock plan shares, the use of beneficiary forms for stock plan shares is not considered a best practice. Why? Well, this is an area where I could rant a long laundry list of “whys”, but in the interest of space I’ll keep it short. One reason? There’s a good chance that the designated beneficiary may not be the intended beneficiary. These forms are usually completed when someone is new to a stock plan, and then later forgotten. Years go by – marriages, divorces, other life events. It’s quite possible that the name written on the beneficiary form is not the person who would have been the intended recipient. Another reason to ditch these forms: many non-U.S. jurisdictions don’t even consider beneficiary forms to be valid or enforceable. According to a recent white paper published by Baker & McKenzie on this subject (and available in our NASPP Practice Alerts), it’s better just to simply provide for a refund of unused ESPP contributions in the event of death, and other stock plan rights, such as those to stock options, go to the employee’s estate. Another option may be to allow the use of beneficiary designations at the stock plan administrator’s discretion (to allow for one-off situations that may warrant such a designation), but not as the rule.
2. Believing that Unsigned Grant Agreements Can’t be Enforced: Many companies do distribute grant agreements to grant/award recipients, and the vast majority require a signature (including electronic signature or acceptance) on the document. According to the 2011 NASPP/Deloitte Stock Plan Administration survey, 76% of participating companies reported requiring grant acceptance (although 24% of respondents said that they don’t enforce the requirement). In a recent California Court of Appeals case, an unsigned stock option agreement was deemed to be valid. The facts surrounding the case are lengthy and detailed, so that will have to be reserved for a future blog. However, one lesson learned from the decision was that, absent language that indicates acceptance or signature is required or presumed at a certain point, it is possible for an unsigned agreement to be considered an agreement. I’m guessing a good number of companies operate on this belief, at least those that aren’t requiring acceptance or enforcing their acceptance policies. However, there may be a segment of companies that believe that there’s a black and white difference between signed and unsigned agreements, leading to a false sense of security about only having a true agreement if and when it’s actually signed. The recent court case seems to blur that line. If you are concerned about making sure the company and employee are on the same page about what’s being offered and the terms and conditions of the award, it’s a good idea to require acceptance or signatures. In addition, having a policy or requirement is just the first step. Perhaps even more important is consistency in enforcing the policy. No one wants to to lose a valid dispute based on a technicality. At minimum, be aware of the potential for enforcement of unsigned agreements.
3. Mobility Tax Calculation Assumptions: Not all countries have the same mentality when it comes to calculating their share of the tax pie for mobile employees. The tax authorities of many countries are still trying to figure out how to tax mobile employees, and this an ever-evolving area. Some companies find themselves trying to take a one-size-fits all approach to streamline mobility related tax allocations. This simply won’t work – there are too many differences amongst jurisdictions, and if that wasn’t enough, the interpretations and policies keep changing. For example, the Canadian Revenue Agency recently changed its position on the calculation of cross-border stock option benefits, clarifying some aspects of its policy on how stock option income should be allocated. This was a positive change, providing some clear guidance in an area that previously had ambiguity. These types of clarifications or updates are becoming commonplace, and companies do need to accept that the approach to mobile employees still needs to be determined on a jurisdictional or case-by-case basis.
Sometimes it’s not the big changes that matter, but the little shifts in our practices or thinking. It’s quite possible to make a big difference with a simple change in policy or practice. Hopefully in today’s blog you gained a couple of nuggets that may prompt some small shift in approach, netting rewards down the road (and avoiding the haunting I referred to at the beginning of this blog).
For today’s blog entry, I highlight results from the NASPP’s 2011 Stock Plan Design and Administration Survey (co-sponsored by Deloitte). If you missed our webcast highlighting the results, you can still catch the audio archive (and the transcript will be up in a couple of weeks). The full results will be published later this month; I’ll cover more highlights from the results in future blog entries.
The 2011 Domestic Stock Plan Administration Survey The last time the Domestic Stock Plan Administration Survey was conducted was in 2007, when it was part of the Domestic Design survey. This is the first time the Domestic Administration survey has been conducted and published independently.
Respondent Demographics
We received 603 responses, compared to 428 responses in 2007. High-tech companies still comprised the single largest industry in the survey, but dropped from 43% of the respondents in 2007 to only 34% of respondents in 2011. We picked up respondents in the “other” industries categories, which is a mish mash of industries that don’t fit into any of the other categories (one thing I like about writing a blog is that I can use words like “mish mash” that I can’t use in anything else I write). Respondents from the western region also dropped from 35% in 2007 to only 29% in 2011. We picked up respondents primarily in southeast and a little in the northeast. 37% of respondents are Fortune 500 companies (this was almost the same as in the 2007 survey).
Staffing and Outsourcing
A question I am asked a lot is what department stock plan administration is located in. 60% of respondents reported that HR/Comp & Benefits has primary responsibility for administering the company’s stock and option plans. This was up from 57% in 2007. I was surprised to see the number of companies that locate primary responsibility for stock plan administration in Treasury/Finance drop from 16% in 2007 to just 5% in the current survey. 9% of respondents task accounting with primary responsibility for stock plan administration, which did not change from the 2007 survey.
The percentage of companies that have no personnel dedicated solely to administering their stock and option plans increased from 31% in 2007 to 39% in 2011. At the same time, the number of companies outsourcing more than 75% of stock plan administration increased to 41%, up from 33% in 2007. Perhaps the increase in outsourcing contributed to the decline in staffing.
The Electronic Age
Companies continue to move to electronic processes. The percentage of respondents distributing grant agreements in paper format dropped to 33%, from 47% in 2007. 47% of respondents permit a digital signature on grant agreements for some or all employees, up from 34% in 2007.
Participant Communications
76% of respondents require employees to accept their grant agreements, which did not change significantly from 2007. Enforcement practices also did not change significantly, but an additional 4% (19%, up from 15% in 2007) of respondents cancel grants if they aren’t acknowledged within a specified period.
We are seeing more companies notify employees of expiring in-the-money options. Only 20% of respondents don’t provide this notice, down from 25% in 2007. And more companies are relying on a third-party to provide the notice (45% of respondents, up from 31% in 2007). I expect that this is the result of the brokers and other third-party administrators developing the functionality to provide these notices to employees and more companies getting comfortable with relying on the brokers to provide this notice.
See You in San Francisco! I hope to see all of my readers at the 19th Annual NASPP Conference, which is scheduled for November 1-4 in San Francisco. The last Conference in San Francisco sold out a month in advance–and that was without the reality of Dodd-Frank and mandatory Say-on-Pay hanging over our heads. With Conference registrations going strong–on track to reach nearly 2,000 attendees–this year’s event promises to be just as exciting; register today to ensure you don’t miss out (and make your hotel reservations, because the hotel is close to selling out).
NASPP “To Do” List We have so much going on here at the NASPP that it can be hard to keep track of it all, so I keep an ongoing “to do” list for you here in my blog.
Attend your local NASPP chapter meetings in Florida, Houston, Ohio, San Diego, Silicon Valley, and Wisconsin. Robyn Shutak, the NASPP’s Education Director, will be at the San Diego meeting and I’ll be at the Silicon Valley meeting; we hope to see you there!
Fireworks, watermelon, and a mild case of sunburn–yes, the Independence Day celebrations are behind me for another year. Of course, I can’t think about the Declaration of Independence without thinking about John Hancock’s bold, stylish signature and all that it symbolizes.
A signature represents the authenticity of an agreement or statement. The idea is to find something unique to a particular individual that proves his or her identity. In the world of equity compensation, we use signatures to authenticate that our participants have agreed to terms and conditions associated with our equity compensation programs.
Electronic Signature
As online grant acceptance becomes more common, companies should be addressing the issue of electronic signature. Online grant acceptance certainly has the potential to be more time-efficient, trackable, and cost-effective than distributing paper grant agreements and collecting and archiving the original signature records. However, the governing principles for the use of electronic or digital signatures are not universal.
Understanding Jurisdiction
Many countries, including the U.S., have regulations that recognize the legitimacy of the use of an electronic signature in executing official agreements. The requirements for authenticating an electronic signature may differ between countries, states, provinces, and cantons even if there is some form of applicable federal legislation. In the U.S., all 50 states have some form of electronic signature regulations; 47 have adopted the Uniform Electronic Transactions Act (EUTA). For information on electronic signature outside the U.S., refer to the Country Guides or regulatory guide matrices available on our Global Stock Plans portal.
The Technology Battle
There aren’t many areas in equity compensation where technology availability is readily given the ability to influence policy, but electronic grant acceptance could be one. A quick internet search today yielded all sorts of results for companies that authenticate a digital signature with technological breakthroughs like special pens, unique algorithms, or thumbprint/iris/DNA scans. While you won’t necessarily need to fully understand all the technical jargon behind the technology that supports your company’s electronic grant acceptance (or be requiring a blood sample from employees any time soon), it is important to know the general process steps that are available to you.
For example, can you prove that a participant has received a statement, opened a document, or accessed his or her account? Can you require that each document posted to an electronic agreement has been opened before the entire agreement may be accepted? What about requiring the participant to scroll through the documents? Is the same process available for all forms of equity compensation (including ESPP enrollment)?
Practical Application
Once you know exactly what control you have over the electronic grant acceptance process, you can identify the jurisdictions where the technology can support the authentication requirements. You may have some countries where the requirements are more rigorous than others. Your company will need to decide if the overall company policy for grant acceptance will require all participants to accept based on the same requirements or if you will customize the process for different jurisdictions. For locations where your legal advisors have advised against the use of online grant acceptance, you may still be able to use online document delivery where participants sign and return just the grant notice. To see how other companies are addressing this issue, check out our 2008 International Stock Plan Design and Administration Survey, cosponsored by Deloitte.