The NASPP Blog

Tag Archives: non-compete

July 8, 2014

Restrictive Covenants in Awards

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.

For more information on this case, see the McGuireWoods alert, “Include Restrictive Covenants in Equity Grants? Why Not?”

– Barbara

Tags: , , , , , , ,

June 6, 2013

In the Courts

Let me start this week’s blog with a big disclaimer – I’m not a lawyer, so everything I say here is purely from my own head and is definitely not legal advice. Okay, that all said – I’ve always got my ear to the ground to see what’s going on in the courts relative to equity compensation. This week I noticed a wee court case that made the news related to stock options. There are some interesting takeaways that could certainly be discussed with counsel, so I figured they’re worth a mention.

A Stock Option, A Termination and a Non-Compete

Many of us are familiar with references to non-compete agreements that are often included in stock option agreements. This topic became front and center in a recent New York appeals case (Lenel Systems Intl. v. Smith). In short, an employee was granted stock options as part of his employment with the company. The option agreement contained a clause referencing a requirement to not compete. The agreement did not explicitly state that the agreement could be terminated if the non-compete was violated, but it did say that the employee’s agreement to not compete was consideration for the options. Fast forward – the employee left the company, and subsequently violated his non-compete agreement. Since the company did not have the ability to outright terminate the former employee’s stock options, they did the next best thing: they sought to rescind the agreement.

A recent Herman law blog summarized the court’s reaction to this approach as follows:

“The court summarized that rescission is an equitable remedy that allows a court to declare a contract void from its inception. As a general rule, rescission of a contract is permitted where there is a breach of contract that is material and willful, or so substantial and fundamental “as to strongly tend to defeat the object of the parties in making the contract.” The court rejected the defendant’s argument that an express forfeiture clause in the option agreement was required in order for option to be subject to rescission. Instead, the court reasoned that the noncompetition covenant was the sole consideration for the option agreement, and when the defendant chose to compete with Lenel “in violation of the only material condition of the agreements,” he would give up his right to the stock options promised in exchange.

In is also worth noting that two of the appellate judges dissented from this decision, arguing that the consideration for the option consisted of two parts, one being the compliance with the covenant during the term of employment and the other part for the post-termination period. The dissent reasoned that since the defendant did comply with the covenant during his six years of employment with Lenel, it cannot be said that he did not provide any consideration for the option, thereby reducing the argument in favor of rescission.”

Although the company won their appeal (and was permitted to use rescission as an appropriate recourse for the employee’s violation of the non-compete), it wasn’t entirely a slam dunk. For one thing, two judges dissented and raised some interesting points – questioning whether in six years of employment the employee did not provide any other type of consideration for the option. This thought didn’t prevail amongst the appellate judges, but hmm…something to think about.

One message that seems clear to me is that perhaps companies should check on those clauses in the option agreement that refer to non-compete. Is the course of action fully defined? Or is it vague? While the company came out on top in its quest to rescind the option agreement, there certainly was a lot of time, money and effort spent on this pursuit. It lends thought to whether it would be easier to revisit grant agreement language to clarify whether the agreement can be terminated in this type of situation.

I’m not suggesting that everyone immediately line up, option agreement in hand, to ask their lawyers. But this is a situation where having some clearer language in the agreement could have achieved this result much more expeditiously. I’m just saying. If your company is drafting new grant agreements, or revisiting option terms, this may be a question to bring to the table.

-Jennifer

Tags: , , , ,