A company’s relationship with its employees may be the crown jewel of the business. Often these relationships are evidenced by employment agreements which contain some form of post-employment nonsolicitation and non-competition covenants.
Such provisions may not be enforceable in all states, such as California. However, if the covenant is enforceable, a buyer may want to retain the target company’s key employees and discourage them from walking out after the closing and competing against the business.
That may not be doable if the buyer is buying the assets of the company, that has non-competes with its key employees. In that case the employees may have the right to veto the assignment of the restrictive covenant.
It is much more doable if the target is to be acquired in a stock purchase or merger. That is because no assignment to the buyer is required. In such cases the only problem would be a provision in the agreement with the employee that says the covenant terminates upon the sale of a controlling interest in the target by stock purchase or merger. And that type of provision is not common in agreements with employees.
This case involved the nonsolicitation and non-compete covenant of an employee of the target company in the insurance services business that was acquired by stock merger. Essentially, the buyer merged the target into the buyer and the owners of the target received stock in the buyer
The key employee ultimately quit the target business to work for a competitor clearly soliciting target clients and handling insurance for the target’s former clients.
The buyer sued the key employee for violation of its covenants in a Seattle federal district court. The employee argued that his restrictive covenants were with the target company and not the buyer. The court disagreed, saying that under applicable Washington law, when the target company merged into the buyer, the buyer by operation of law acquired all the rights to the key employee’s restrictive covenants.
This case is referred to USI Insurance Services National, Inc. v. Ogden, LLC, No. C17-1394RSL, United States District Court, W.D. Washington, Seattle, (March 6, 2019).
Buying assets can be problematic if a lot of the target company’s value are in contracts with suppliers, customers and landlords. You can bet that many of those contracts will require the consent of the supplier, customer or landlord to the target’s assignment of the contract to the buyer.
It can be much easier if you structure the deal as a stock purchase or merger. Often the contracts do not require the consent of the other party when the target company is acquired by stock purchase or merger. In those deals, if the contract does not require consent then the contracts transfer by operation of law; meaning no documents calling for contract or lease assignments.
By John McCauley: I help businesses minimize risk when buying or selling a company.
Telephone: 714 273-6291
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