AMM Blog

Welcome to the AMM Law Blog, a tool to help you keep up to date on current legal developments over the broad spectrum of our practice areas.  We welcome your comments and suggestions to create a dynamic forum that will be of interest to readers and participants.

Plan B: Litigating Non-Solicitation Agreements

Written by Patricia Collins Thursday, December 12 2013 20:15

Plan B:  Litigating Non-Solicitation Provisions

By Patricia C. Collins, Esquire
Reprinted with permission from December 12, 2013 issue of The Legal Intelligencer. (c)
2013 ALM Media Propeties. Further duplication without permission is prohibited.

Increasingly, employers and their attorneys meet resistance when seeking to enforce covenants not to compete.  States such as Georgia and California continue to refuse to honor those restrictions. Even in states that recognize the validity of such agreements, Courts can restrict the geographic or temporal scope of the agreement, refuse to find sufficient irreparable harm to permit the entry of a temporary or preliminary injunction, or find other equitable grounds to refuse to enforce the covenant not to compete.  Employers do have a back-up plan, however.  Recent cases illustrate that the court will enforce agreements not to solicit customers and clients after termination.  These cases also illustrate that courts will look to the nature of the contacts with clients or employees to determine if there is a breach of a non-solicitation provision.

In Corporate Technologies Inc. v. Harnett, the United States Court of Appeals for the First Circuit affirmed the district court’s grant of a preliminary injunction against a former employee of Corporate Technologies Inc. and his new employer.  The preliminary injunction restricted the employee from doing business with certain customers of Corporate Technologies with whom he worked during his employment, and required the new employer to withdraw bids which the employee prepared during his employment with the new employer.  The First Circuit court noted that the district court was specifically applying the non-solicitation and not the non-compete provisions of the agreement.  Accordingly, both courts engaged in a discussion of the applicable requirements for the entry of a preliminary injunction (which are the same under Massachusetts and Pennsylvania law).  Notably, the First Circuit did not engage in a discussion of the reasonableness of the geographic or temporal scope of the agreement, or whether the employer had a “protectable interest” served by the non-solicitation provision.  The district court found that the employee breached the non-solicitation provisions of the agreement, and the First Circuit affirmed the grant of the preliminary injunction.

By Thomas P. Donnelly, Esquire, Reprinted with permission from October 11, 2013 issue of The Legal Intelligencer. (c)
2013 ALM Media Properties. Further duplication without permission is prohibited.

Senior Judge Anita Brody of the United States District Court for the Eastern District of Pennsylvania recently presided over a non- jury trial in the matter of Lehman Brothers Holdings, Inc. v. Gateway Funding Diversified Mortgage Services, L.P. Judge Brody is expected to render a decision in the coming weeks.  Lehman Brothers represents the first occasion for the District Court to consider the legal principal of de facto merger under Pennsylvania law following the Pennsylvania Supreme Court’s landmark decision in Fizzano Brothers Concrete Products, Inc. v. XLN, Inc., 42 A.3d 951 (Pa. 2012).  In Fizzano Brothers, the Supreme Court substantially modified the application of the de facto merger doctrine allowing trial courts far greater flexibility in the application of the doctrine to a broader set of facts.

Before Fizzano Brothers, Pennsylvania courts were constrained to a mechanical application of four elements: (1) continuation of the enterprise of the seller corporation; (2) continuity of shareholders; (3) cessation of ordinary business operations on the part of the selling entity; and  (4) assumption of those obligations of the seller ordinarily necessary for the uninterrupted continuation of normal business operations.  In practical application, the “continuity of shareholders” requirement was nearly impossible to satisfy where sophisticated business people with legal representation structured the transaction as a sale of assets to a new entity.  Consequently, mechanical application of the continuity of shareholders element was the stumbling block in the de facto merger analysis.

The Fizzano Brothers court substantially modified the analysis by discarding the mechanical application of continuity of shareholders.  Citing public policy and recognizing the sophistication of business transactions in the current climate, the court ruled that “where the underlying cause of action is rooted in a cause of action that invokes important public policy goals, the continuity of ownership prong may be relaxed.”  Fizzano Brothers, 42 A.3d at 966.  The question of successor liability should first be viewed in light of “whether, for all intents and purposes, a merger has or has not occurred between two or more corporations, although not accomplished under the statutory procedure.”  Id. at 969.

The Supreme Court went on to hold that the shareholders of the predecessor company were no longer required to become shareholders of the successor to meet the requirements of de facto merger. The court concluded such a holding would be “incongruous” with provisions of the Pennsylvania Business Corporation Law stating; “because a de facto merger analysis tasks a court with determining whether, for all intents and purposes, a merger or consolidation of corporations has occurred, even though the statutory procedure had not been used, the continuity of ownership prong of the de facto merger analysis certainly may not be more restrictive than the relevant elements of a statutory merger as contemplated by our legislature.”  Id. at 968.

The court then adopted a more flexible approach. After Fizzano Brothers, cases rooted in breach of contract and express warranty no longer require strict transfer of ownership.  Rather, the de facto merger doctrine now requires “’some sort of’ proof of continuity of ownership or stockholder interest. . . . However, such proof is not restricted to mere evidence of an exchange of assets from one corporation for shares in a successor corporation.” Id. at 969 (internal citations omitted).

The Fizzano Brothers factors are at issue in Lehman Brothers Holdings, Inc. v. Gateway Funding where Lehman Brothers raised claims of successor liability relating to indemnification agreements with Gateway’s alleged predecessor.  At trial, evidence was admitted indicating that  Gateway had specifically and intentionally purchased all assets that were necessary to the continuation of the mortgage origination business formerly conducted by the predecessor.  Such evidence included direct testimony on the part of Gateway’s management team that the acquisition was designed to acquire not only the current “pipeline” of loans in progress, but also the potential for continued loan origination.  Contemporaneously, Gateway also undertook to acquire debt obligations owed by the predecessor which were necessary to loan origination including securing warehouse lines of credit utilized to temporarily fund mortgage loans until sold on the secondary market.  Finally, documents related to the transaction reflected the intention that the business operations of the predecessor entity were to be “wound down”.  In that regard, restrictions against competition imposed upon the former principals of the predecessor, now Gateway employees, were permitted to “compete” only for the purpose of effectuating that wind-down.

While evidence was admitted as to each element of the de facto merger doctrine, continuity of ownership was specifically contested.  The transaction at issue was characterized by the buyer and seller as an asset transaction with no stock transfers. However, the four shareholders of the predecessor entity were provided compensation in a variety of ways which Lehman Brothers argued were illustrative of ownership.  The four shareholders received employment agreements with Gateway which included substantial severance benefits, a right to share in the profits of the same operations as had been conducted by the predecessor, and cash considerations.  One former shareholder indicated the cash component was paid, at least in part, as a result of his equity position in the predecessor.

In contrast, Gateway argued that the four shareholders were valuable and experienced revenue generating employees with corresponding compensation arrangements following the acquisition.  Objectively, the four shareholders of the predecessor were not granted stock in the acquiring entity.  Further, although certain of the agreements between the four shareholders and Gateway referenced the shareholder’s equity stake in the predecessor, no provision for consideration set forth in the language of the agreements was expressly tied to that equity position. 

The Lehman Brothers trial is the first test of the new more relaxed application of the continuity of ownership prong of the de facto merger analysis.  Judge Brody’s decision will provide guidance to both transactional practitioners in structuring transactions where liabilities may remain post-closing, and to litigators when faced with claims against a defunct entity where assets were transferred leaving a hollow shell.

The author served as local trial counsel to Lehman Brothers Holdings, Inc.

But He Asked Me First!

Written by Bill MacMinn Wednesday, August 14 2013 14:37

By William T. MacMinn, Esquire Reprinted with permission from August 13, 2013 issue of The Legal Intelligencer. (c)
2013 ALM Media Properties. Further duplication without permission is prohibited.

But He Asked Me First!

Is that a good defense to an alleged breach of a non-solicitation agreement?  In a recent decision a Pennsylvania trial court said that it was.

In Marino, Robinson & Associates, Inc. v. Robinson, 2013 Pa. Dist. & Cnty. Dec LEXIS 18 (Jan 2013) Judge Wettick of the Allegheny County Court of Common Pleas entered summary judgment dismissing the case against Defendant who allegedly violated a non-solicitation clause.  Plaintiff acquired Defendant’s accounting practice.  The contract signed by the parties included clauses prohibiting Defendant from competing with the Plaintiff or soliciting any of her former clients.  The non-compete was not implicated in the case because, while the Defendant provided competing accounting services, she did so outside of the geographic limits imposed by the covenant.  However, she provided those services to several of her former clients, each of whom unilaterally approached her and asked her to continue on as their accountant. Plaintiff alleged that by providing services to these former clients, the Defendant violated the non-solicitation clause of the contract which prohibited Defendant from “Solicit(ing) in any manner any past clients … for a period of ten (10) years from closing”.  The Court, following cases decided in other states, agreed with the Defendant that she was not required to turn away former clients who, unsolicited, approached her to request that she provide services. The Court held that solicitation required conduct on the part of the Defendant designed to awaken or incite the desired action in the former client. Where, as in this case, the former client approached the Defendant unilaterally, the Defendant did not violate the non-solicitation clause.

A similar result obtained in Meyer-Chatfield v. Century Bus. Servicing, Inc., 732 F. Supp. 2d 514, 517-518 (E.D. Pa. 2010)  where the Court decided that the meaning of the word “solicit” was not ambiguous and applied the parole evidence rule to bar evidence regarding the meaning of the term.  In Meyer-Chatfield, Plaintiff’s Vice-President of Sales and Marketing left his employment with Plaintiff and accepted a similar position with Defendant.  An agreement, which included non-solicitation provisions, was negotiated between the parties.  Shortly thereafter the parties engaged in negotiations for the acquisition of Plaintiff by Defendant.  Those negotiations failed.  Subsequently (and after he was terminated by Plaintiff) one of Plaintiff’s sales persons accepted employment with Defendant and took with him other employees (who were part of his sales team) with the result that several significant customers of the Plaintiff eventually began doing business with Defendant. Plaintiff brought suit alleging violation of the non-solicit provisions in the solicitation of both the employees and the customers.

The language at issue prohibited the direct or indirect “…solicit(ation) of any of Plaintiff's employees, agents, representatives, strategic partnerships, [or] affiliations.” The contract did not define the word “solicit.”  The Court looked to the common meaning of the term, citing the Black's Law Dictionary definition:

"To appeal for something; to apply to for obtaining something; to ask earnestly; to ask for the purpose of receiving; to endeavor to obtain by asking or pleading; to entreat, implore, or importune; to make  petition to; to plead for; to try to obtain; and though the word implies a serious request, it requires no particular degree of importunity, entreaty, imploration, or supplication. To awake or incite to action by acts or conduct intended to and calculated to incite the act of giving. The term implies personal petition and importunity addressed to a particular individual to do some particular thing."

The Court also cited the Webster’s definition of the word: “to entreat, importune . . . to endeavor to obtain by asking or pleading . . . to urge.”

The issue before the Court was whether the word “solicit” was ambiguous permitting parole evidence of its meaning.  In holding that it was not, the Court reviewed Akron Pest Control v. Radar Exterminating Co., Inc. 216 Ga. App. 495, 455 S.E.2d 601 (Ga. App. 1995), in which the Court held that an agreement “not to solicit, either directly or indirectly, any current or past customers” requires more than “[m]erely accepting business [to] constitute a solicitation of that business.” A party is not required to turn away uninvited contacts of former customers. The Court also cited Maintenance Co. v. West, 39 Cal. 2d 198, 246 P.2d 11 (Cal. 1952) in which it was held that neither the act of informing former customers of one’s change of employment, nor the discussion of business upon the invitation of the former customer constitutes solicitation.  Finding no ambiguity, the Court prohibited testimony regarding the parties’ understanding of the term. 

It seems clear that the Court will apply the ordinary meaning of the word “solicit” which has been repeatedly found to require some overt act of entreaty on the part of the former employee designed to induce the former customer to action.  Responding to an uninvited inquiry from a former customer, even where that inquiry is for the purpose of discussing business, and where that inquiry ultimately results in doing business with that former customer, will not be sufficient to support a finding of a breach of a non-solicitation agreement. Of course, doing business with a former customer may well violate the provisions of a non-compete clause and, in such cases, the Courts have not been reluctant to enforce such provisions.  Although research has found no cases directly on point, the reasoning of the cases suggests that advertisements or social media posts informing the general public or one’s social media circle of new employment circumstances would also not constitute the type of targeted action required to support a finding that a non-solicitation agreement has been breached.

GOOD FAITH FOUND HERE

Written by Susan Maslow Friday, July 19 2013 15:44


Those of us routinely asked to draft or review letters of intent (LOI), memorandum of understanding (MOU) and initial term sheets have a new challenge.  The use of conventional text clearly stating “this is non-binding” to be sure a preliminary document memorializing negotiations does not give rise to the risk of unintended enforcement apparently is no longer sufficient.  As a result of the Delaware Supreme Court’s decision in SIGA Technologies v. PharmAthene, Inc., No 314, 2012 2013 Del. LEXIS 265, 1-2 (Del. May 24, 2013), it is now suggested that counsel negotiating LOIs, MOUs and even term sheets designated as final include a specific negation of good faith.  Text specifically stating the parties agree that neither party shall have a duty to negotiate in good faith is now considered appropriate.  Getting both sides to agree to include such a forbidding sentence, however, is a significant challenge.

In SIGA Technologies, the court held that expectation or “benefit of the bargain” damages (and not just out of pocket, reliance damages) were appropriate where (1) the parties had a term sheet; (2) the parties expressly agreed to negotiate in good faith in a final transaction in accordance with those terms; and (3) but for the breaching party’s bad faith in trying to improve the terms, the parties would have consummated a definitive agreement with the terms set forth in the term sheet.

The SIGA Technologies decision might have been appropriate in light of the specific facts before the court but it leaves transactional lawyers at a loss.  Business lawyers have been advising clients since the beginning of time that there is, and should be, a great difference between incomplete and preliminary letters, drafts and other communications clearly understood as non-binding (with the exception of specifically identified provisions, such as those relating to confidentiality and exclusivity) and  final, mutually executed contracts with an integration clause.  The former should have no legal effect other than as a basis to start the hard drafting process for definitive agreements. LOIs, MOUs and term sheets referring to the parties’ intent to finalize binding documents later are to be used as support for financing efforts and strategic planning and not evidence of a final oral or implied agreement between the parties.  Exceptions to this rule were, until recently, very narrowly applied and usually only if the parties made an effort to carve out the intended exceptions with clear language (non-disclosure, exclusivity or no-shop provisions).  Efforts by counsel for either party to impose a written duty of good faith and fair dealing on the other party are normally met with resistance with the better practice perceived to be silence on this point and text that allows either party to halt negotiations at any time for any reason as long as there is no breach of the binding confidentiality and/or exclusivity provisions.  Termination fees are sometimes added to encourage good faith negotiations and cover out of pocket costs incurred as a cost of freedom to abandon those negotiations.

To avoid imposition of a SIGA Technologies penalty, many corporate advisors are now insisting the only safe course is to explicitly refute the presence of good faith.  And yet, most clients do not want to suggest that they would ever negotiate in bad faith. Worse, most clients do not want to agree to allow the other party to the proposed transaction to abandon all pretenses of good faith and fair dealing.  Who wants to go to the dance with a partner who asks for permission to humiliate you while there and tells you of his or her plan to possibly leave you without a ride home?

Bad faith in the midst of negotiations has historically been perceived as bad form but not an exception to the “non-binding” rule and certainly not the basis for expectation (lost profits) damages. To make this area even more challenging, a judicial determination of one company’s bad faith (e.g., trying to improve terms if the circumstances have become more favorable for the company) can easily be deemed by the shareholders/members of the same company to be the exercise of management’s fiduciary duty to maximize equity holders’ return.  Failure to push for the best possible terms in the face of a non-binding term sheet could be found by another court to be a breach of that duty.

Whether bad faith should support an exception to the “non-binding” rule as a matter of law is an interesting question but the philosophy of law is rarely a topic businessmen and women wish to explore.  Any number of things can make a deal that seemed attractive at a given point unacceptable some time later.  Negotiations with respect to terms not included in the preliminary documents can be filled with real dispute; due diligence may reveal greater risks than anticipated; the industry-wide market may shift; or business may suddenly improve supporting more favorable terms for one party and less favorable terms for the other.  Where the risk of the business enterprise does not begin to shift until after the execution of a definitive document, why should either party get the benefit of a preliminary bargain when the facts and circumstances supporting the transaction have changed? 

While no one should be conducting negotiations in bad faith, the imposition of an implied duty of good faith and fair dealing in preliminary “non-binding” documents unless the parties specifically negate that obligation seems problematic.  In contrast, once agreements are fully negotiated and signed, the covenant to act in good faith and engage in fair dealings is appropriate between business partners of all kinds. As found in other Delaware decisions, even where the contracting parties appear to have agreed to limit the scope of their common law and statutory fiduciary duties in a final document, good faith and fair dealing have an important role that should be implied and enforced by the courts.  But, only after a final document is signed and sealed, however, should we be insisting a party trying to maximize their position “Did a bad, bad thing.”

From time to time, a client asks about when and why a corporate seal is necessary. Even some attorneys (particularly from out of state) question during contract negotiations whether the phrase “executed under seal” should be removed from a contract as an archaic concept. Historically, seals were affixed to a document as a formality to attest to the parties’ intention to be legally bound by the promises contained in the document. In several states, however, the execution of an agreement under seal continues to have specific legal significance that is not always understood or intended by the parties.

As a general rule, the Pennsylvania Judicial Code provides that the statute of limitations for actions based on a contract is four years. For instruments that are executed under seal, however, the statute of limitations is twenty years. The guarantor of a commercial loan recently learned the hard way that his guaranty was subject to the extended statute of limitations. In Osprey Portfolio, LLC v. Izett, the lender confessed judgment under Mr. Izett’s guaranty nearly five years after the loan went into default. Mr. Izett argued that the action was precluded because it was filed after the four-year limitation period. While acknowledging that the document was executed “under seal”, Mr. Izett maintained that the twenty-year limitation period did not apply because the guaranty agreement was not an “instrument”, which he defined as instruments under Article 3 of the Uniform Commercial Code. Article 3 defines “instrument” as a “negotiable instrument”, namely “an unconditional promise to pay a fixed amount of money.” Because his guaranty related to a line of credit (not a loan for a fixed sum) and was conditional upon the default of the borrower under the note, he reasoned that it did not meet this definition of “instrument.” The Pennsylvania Supreme Court disagreed and affirmed the lower courts’ rulings. It held that the term “instrument”, as used in the Judicial Code,  should be interpreted using its ordinary meaning: a written document that defines the rights and obligations of the parties, such as a contract, will, promissory note, etc. Using this broader definition, the guaranty in question clearly qualifies as an instrument. Since the instrument was executed under seal, the twenty-year statute of limitations applied and the action was allowed to go forward.

It should be noted that the Judicial Code section providing for the twenty-year statute of limitations is due to expire on June 27, 2018. Of course, the sunset date for this provision has been extended in the past, so only time will tell whether the execution of contracts and other writings “under seal” will continue to have special legal significance in Pennsylvania.

Four years ago, the Home Improvement Consumer Protection Act (HICPA) went into effect, forcing home improvement contractors to register with the Commonwealth and to comply with various contracting requirements (for more information, see our Client Alerts on the subject https://www.ammlaw.com/general/articles.html). We have found that unfortunately many contractors remain unaware of this law. Failure to comply with HICPA could result in civil and criminal penalties. But does non-compliance also mean that a contractor is prevented from receiving payment from its customer for completed work? Not necessarily, held the Pennsylvania Superior Court, which recently gave hope to contractors when it concluded that a contractor who does not comply with HICPA may nevertheless recover the value of its services from the customer.

In Shafer Electric & Construction v. Mantia, an out-of-state contractor entered into a written contract with a Pennsylvania homeowner (who also happened to be a contractor) to build an addition to the homeowner’s garage and provided services valued at over $37,000. The contractor did not register with the Commonwealth under HICPA. After the homeowner failed to pay the amount due, the contractor sued to recover its fees. The homeowner asserted that the complaint was legally insufficient because the underlying contract was not enforceable under HICPA. The contractor countered that even if the contract were unenforceable, the contractor should be able to recover its fees under the equitable doctrine of quantum meruit, a theory which allows a party to recover the reasonable value of its services so as to avoid unjust enrichment of the other party. Unfortunately, although HICPA preserves a contractor’s right to recover its fees under a quantum meruit theory, the language of the statute appears to require compliance with HICPA as a prerequisite to recovery. The lower court, strictly interpreting the statute’s plain language, ruled in favor of the homeowner. The Superior Court reversed, holding that the plain language of the statute impermissibly limits the purpose of the provision allowing recovery under quantum meruit. It reasoned that to require the contractor to comply with HICPA before recovering under a quantum meruit theory made no sense because a compliant contractor can recover its fees under a breach of contract theory and does not need an equitable remedy such as quantum meruit.

While Shafer Electric provides reassurance for home improvement contractors doing work in Pennsylvania, the prudent contractor will not rely on it to ensure collection of its fees. Because of the hefty fines and possible criminal penalties that may be imposed for violations, we strongly encourage contractors to register and comply with the other requirements set forth in HICPA.

Blogger Bios

  • Bill MacMinn Bill MacMinn
    Bill concentrates his practice in the area of litigation, including Commercial Litigation,…
  • Christopher D. Wagner Christopher D. Wagner
    Christopher Wagner is an experienced and results-driven business law attorney with a comprehensive understanding…
  • Elaine T. Yandrisevits Elaine T. Yandrisevits
    As an estate planning attorney, Elaine Yandrisevits is committed to guiding individuals…
  • Elizabeth J. Fineman Elizabeth J. Fineman
    Elizabeth Fineman concentrates her practice on domestic relations matters and handles a…
  • Gabriel Montemuro Gabriel Montemuro
    Gabe’s practice focuses on litigation, including commercial litigation, personal injury, estate and…
  • Janel Clause Janel Clause
    Janel Clause focuses her practice on business and corporate law, serving as…
  • Jennifer Dickerson Jennifer Dickerson
    Jennifer Dickerson is committed to a career focused on helping individuals and…
  • Jessica A. Pritchard Jessica A. Pritchard
    Jessica A. Pritchard, focuses her practice exclusively in the area of family…
  • Joanne Murray Joanne Murray
    Joanne concentrates her practice in the areas of Business Law, Business Transactions,…
  • Jocelin A. Price Jocelin A. Price
    As an estate planning practitioner, Jocelin Price knows that the work of…
  • Lisa A. Bothwell Lisa A. Bothwell
    Lisa Bothwell counsels corporate/business clients on the formation, operation, acquisition, and sale…
  • Lynelle Gleason Lynelle Gleason
    Lynelle A. Gleason has spent her legal career in Bucks County, representing…
  • Megan Weiler Megan Weiler
    Megan Weiler is a skilled advocate dedicated to guiding clients and their…
  • Melanie J. Wender Melanie J. Wender
    Melanie J. Wender is a dedicated and supportive advocate for individuals and families…
  • Michael Klimpl Michael Klimpl
    Michael’s practice areas include Real Estate, Municipal Law, Zoning and Land Use, Employment…
  • Michael W. Mills Michael W. Mills
    Mike is devoted to helping businesses build value and improve working capital,…
  • Patricia Collins Patricia Collins
    Patty has been practicing law since 1996 in the areas of Employment…
  • Peter J. Smith Peter J. Smith
    Pete is a business lawyer and trusted partner to his corporate clients…
  • Stephen M. Zaffuto Stephen M. Zaffuto
    Stephen Zaffuto is a skilled and insightful Corporate and Real Estate attorney…
  • Susan Maslow Susan Maslow
    Sue concentrates her practice primarily in general corporate transactional work and finance…
  • Thomas P. Donnelly Thomas P. Donnelly
    Tom’s practice focuses on commercial litigation and transactions. In litigation, Tom represents…