Articles Posted in Court of Chancery

Most agreements not to compete provide for injunctive relief as the primary remedy against a departing employee who joins a competitor.  In some cases, however, companies will condition the payment of post-employment or deferred compensation on the employee’s compliance with a noncompete agreement.  These arrangements are often referred to as the “employee choice” doctrine. Under this doctrine, an employee who departs and subsequently violates his noncompete obligations will forfeit any right to the post-employment compensation. The doctrine is based on the premise that a departing employee is given the choice of either preserving his right to compensation by refraining from engaging in competitive activities, or forfeiting that right by choosing to compete with the former employer.

Although Delaware courts have not specifically addressed this doctrine, a recent New York decision applying Delaware law applied the doctrine and refused to grant the former employer’s request for injunctive relief. In NBTY, Inc. v. O’Connell Vigliantethe plaintiff NBTY was a vitamin and nutritional product distributor. Beginning in 2014, a number of NBTY employees resigned and went to work at Piping Rock Health Products, LLC – a competitor run by NBTY’s former CEO. All of the departing NBTY employees had signed stock-option agreements with NBTY’s parent which allowed them to purchase stock options over a period of time, and the agreements contained restrictive covenants prohibiting them from competing with NBTY for a one-year period following the end of their employment. Notably, the agreements all contained Delaware choice of law provisions.

After the employees resigned and went to Piping Rock, NBTY sued to enforce the non-compete agreements and sought to permanently enjoin the employees from working at Piping Rock. The defendants moved to dismiss the complaint, arguing that they had not exercised any of the stock options in question and thus there was no consideration.

All businesses have customers. Many maintain an electronic database of their customers that includes such things as contact information, pricing and purchasing information, and other data that has been collected through time and expense. This database can be an important asset to the business and provide it with a competitive advantage in the marketplace. As such, a majority view this information as “confidential” and believe it constitutes a “trade secret” and thus is protected from unauthorized disclosure under the law.

Not all customer information, however, may qualify as a trade secret under Delaware law. In addition, many businesses fail to take steps to protect confidential information such as requiring employees to enter into non-disclosure agreements. Unfortunately, businesses frequently learn this when it is too late to do anything about it. The time to address these issues is before such information is removed by a departing employee or other third party.

All employers should require employees who have access to confidential information and trade secrets to sign confidentiality or non-disclosure agreements. In Delaware, a company may legally require employees who have access to such information to sign such an agreement in order to keep their job. If drafted properly, the agreement can provide the business with contractual remedies against the former employee, including emergency injunctive relief from a court and a potential award of damages. Importantly, in appropriate circumstances, Delaware courts will enforce a provision in a confidentiality agreement providing that an individual who violates its terms is subject to paying the company’s attorneys’ fees and costs in bringing enforcement action.

A recent survey conducted by several of my colleagues demonstrates the speed in which litigants can obtain preliminary relief from the Court of Chancery. The survey included a sampling and analysis of approximately 200 cases between 2009 and 2011, in which the court ruled upon a motion for temporary restraining order or a motion for preliminary injunction. The results reflect the frequency and speed at which the court has granted injunctive relief in recent years:

  • For cases in which the court ruled on a motion for temporary restraining order, the court granted the motion 58 percent of the time. On average, the court granted the motion 7 days after its filing.
  • For cases in which the court ruled on a motion for preliminary injunction, the court granted the motion 30 percent of the time. On average, the court granted the motion 26 days after its filing.
  • The survey also looked at cases from the sample that involved trade secret claims and in which the court ruled on a motion for temporary restraining order or preliminary injunction. In those cases, the court granted the motion for temporary restraining order 88 percent of the time and granted the motion for preliminary injunction 75 percent of the time.

Based on these statistics, there seems to be little doubt that the court will order injunctive relief on an expedited basis in cases where circumstances require expedition, including those involving noncompete agreements and misappropriation of trade secret.

A copy of the full article drafted by my colleagues and published by BNA can be obtained on the Young Conaway Stargatt & Taylor website.

bloomberg.pngPartners Scott Holt, Barry Willoughby, and William Bowser recently co-authored Bloomberg BNA’s Corporate Practice Series on Noncompetition Agreements. The publication provides an in-depth review of the use and enforcement of noncompetition agreements, including practical tips for prosecuting and defending noncompete cases.

The publication is available through the Bloomberg BNA web site

One of the most critical points in the enforcement of a noncompete is when a company first learns that a former employee may be engaging in unfair competition.  Indeed, the steps taken by the company in the first few days can often determine whether it will be successful in limiting the amount of harm done.

In many case, the company will act quickly and seek emergency injunctive relief to stop imminent irreparable harm to its business.  In other cases, the company may try to resolve the dispute with the competitor by engaging in settlement discussions at the outset.  The benefit of the latter strategy, of course, is that a business resolution is often preferable to the expense and uncertainty of litigation. 

But companies that chose the settlement route need to be aware that the passage of time can compromise their ability to get relief from a court should discussions break down, particularly if it needs an emergency injunction.  In a recent Chancery Court hearing on an application for a temporary restraining order, the court was quick to point out plaintiff’s apparent four month delay after learning of the defendants activities before seeking the TRO.  The plaintiff responded that the delay was due in part to its efforts to work out a standstill agreement with the defendants.  As noted in the transcript excerpt below, the court was not sympathetic to this argument:

Employers frequently confront the problem of theft or misappropriation of trade secrets and confidential, proprietary information by departing employees. While employers have an arsenal of legal weapons at their disposal to protect their most valuable business assets, it is critical that they take proactive steps to protect against the disclosure of important business information and prevent unfair competition. From a practical standpoint, failure to implement basic security measures makes it easier for an unethical employee or competitor to misappropriate confidential business information. From a legal perspective, absent efforts to preserve the secrecy of such information and avoid unfair competition, a court is unlikely to respond favorably to an employer request for relief.youngconaway

Trade Secret Protection

Delaware, like most states, has enacted the “Uniform Trade Secrets Act” providing employers with legal protection for trade secret information even in the absence of contractual agreements with employees. While many people may believe that “trade secret” status is only afforded to scientific data such as the formula for Coke, in reality, trade secret protection is available for a much broader array of information. The statutory definition for a trade secret is “information” that “derives independent economic value, actual or potential, from not being generally known to, and not being readily ascertainable by proper means, by other persons who can obtain economic value from its disclosure or use.” To be protected by the statute, the information must be “the subject of efforts that are reasonable under the circumstances to maintain its secrecy.”

Many businesses include Delaware choice-of-law and forum-selection clauses in their contracts to take advantage of Delaware law and the Court of Chancery’s strong reputation for reliable and well-balanced decision-making. However, in order to take advantage of Delaware’s judicial system, the forum selection clause must be drafted so that it confers personal jurisdiction over all of the parties. In a recent ruling, the Court of Chancery struck down a plaintiff’s attempt to enforce a noncompete agreement in Delaware because of a poorly worded forum selection clause.

In the case of Georgia-Pacific Consumer Products LP v. Jadczak, C.A. 6695-VCL, the plaintiff brought suit in Delaware to enjoin its former employee from working for a competitor in violation of his employment agreement. In addition to various restrictive covenants, the defendant’s employment agreement included the following personal jurisdiction provision:

Employee consents to and waives any objection to personal jurisdiction and venue in any federal and state courts having jurisdiction in any dispute arising out of the terms of this agreement.

The Delaware Court of Chancery has once again indicated a reluctance to invoke the Blue Pencil Rule to reform overly broad restrictive covenants. Approximately 10 months ago, in his opinion in Delaware Elevator, Inc. v. Williams, Vice Chancellor Laster expressed his unwillingness to reform overbroad covenants, noting that “doing so puts the employer in a no-lose situation.” We discussed the opinion on this blog, urging drafters to exercise caution when drafting non-competition agreements and to give serious consideration to surrounding business circumstances when drafting. More recently, on December 21, 2011, during oral argument in Chesapeake Insurance Advisors, Inc. v. Williams Insurance Agency, Inc., et al., Vice Chancellor Noble echoed Vice Chancellor Laster’s position, quoting directly from Delaware Elevator.

In Chesapeake, the plaintiff-former employer sought to enforce a non-competition and non-solicitation agreement against several former employees, including the company’s former President. Oral argument was held to address the plaintiff’s dual motions for expedited proceedings and a temporary restraining order. In order to succeed on its motion for a temporary restraining order, plaintiff had to demonstrate, among other things, a colorable claim to relief. In order to demonstrate a colorable claim, the plaintiff had to present evidence that the underlying covenants are enforceable under Delaware law. Valid covenants must include reasonable temporal, geographic, and subject-matter restrictions.

Of significance here is the non-solicitation restriction, which prohibits the plaintiff’s former President from soliciting any of the plaintiff’s customers for 36 months following the termination of his employment. Delaware law has long recognized a presumption of reasonableness for restrictions extending no more than 24 months. Consequently, the plaintiff had an up-hill battle to convince the Court of the reasonableness of a 36-month restriction.

The Delaware Court of Chancery is nationally respected for its consistent and conscientious decisions in cases involving complex business issues. As a result, many legal practitioners recommend that contracting parties include a forum selection clause requiring that any disputes arising from a given contract be heard by a court of competent jurisdiction in the State of Delaware, including the Court of Chancery. A recent case in the Delaware Court of Chancery provides insight into the effective enforcement of a forum-selection clause.youngconaway

In the daintily-named case of ASDC Holdings, LLC v. The Richard J. Malouf 2008 All Smiles Grantor Retained Annuity Trust, two parties entered into an agreement regarding the sale of equity in a Texas business. The agreement contained both an arbitration and a Delaware forum-selection clause which provided that any actions “with respect to any claim or cause of action arising under or relating to this Agreement” must be brought in a Delaware state or federal court with jurisdiction.

After the deal was executed, both parties became unhappy and sought legal relief: Plaintiff initiated an arbitration proceeding, and Defendant brought suit in a Texas court. Plaintiff thereafter filed papers in the Delaware Court of Chancery, seeking a preliminary injunction to prohibit the Texas action from moving forward in violation of the forum-selection clause.

While the Court of Chancery will frequently enjoin parties from engaging in unfair competitive activities, the standard for obtaining preliminary injunctive relief remains high.  It is important for parties seeking injunctive relief to be able to provide the court with specific, admissible evidence of unfair competitive activities.  Generalized allegations normally will be insufficient to allow the court to grant relief. Take for example a recent case involving the purchaser of a company’s assets who sought to enforce a noncompete against one of the company’s former employees.

In that case, Geovesi Holdings, Ltd. purchased certain assets of Earthwater Global, LLC as part of a court-ordered liquidation. The purchased assets include “all employment, non-disclosure agreements and  confidentiality agreements entered into by [EW Global].”  Following the sale, Geovesi filed suit in Chancery Court against one of EW Global’s former employees, Robert Bisson, to enforce noncompete and non-solicitation covenants in his employment agreement.  There also was pending litigation between Bisson and Geovesi in Virginia and an arbitration proceeding.

As evidence of Bisson’s competitive activities, Geovesi relied exclusively on allegations in Bisson’s Virginia pleadings that he competed with Geovesi.  The Court noted that while these generalized allegations are admissible evidence of competition, they did not provide a sufficient evidentiary foundation to support injunctive relief.

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