A recent state Supreme Court ruling makes it harder for the new owners of a business to enforce employee noncompete agreements after an asset sale. The ruling could deflate a seller's asking price by releasing top employees from their noncompete pacts.
Without noncompete agreements in place, key employees, such as top sales executives, can jump ship after the company is sold and defect to a competitor, taking major accounts and the company's market value with them.
The decision, W. Lawrence Hess v. Gebhard & Co. Inc. & Eugene Hoaster Co., Inc., exposed a loophole in a salesperson's noncompete agreement.
Essentially, the pact was not enforceable because it was missing an assignability clause. The asset sale agreement required the selling business to assign its contracts, including employment agreements, to the buying business. The employment contract, however, was deemed by the court a personal contract between the salesman and his original employer. Absent the assignability clause, the salesman was free to look for a new job with local competitors.
What does this mean for small business owners? To start, make sure new noncompete agreements contain assignability clauses. Adding a clause later creates a big hurdle. In exchange for inserting the clause into an existing contract, the employer must supply the worker with "new consideration," possibly a pay raise, promotion or a payment of money.
What's more, the mere mention of assignability clauses can lead to sale rumors, employee turnover and deflation of company value, exactly the things the owners are trying to avoid. Management must be ready to deal with gossip, even if a sale is not in the works.
Because there is a cost associated with adding the clause, management should assess which employees are worth the expense. And there's another consideration: Would the courts uphold noncompete agreements if the sale were a stock sale, rather than an asset sale? In a stock transaction, the contract parties remain the same: the salesperson and his/her original company. In theory, the contract need not be assigned.
The theory, however, has not yet been tested in the Pennsylvania Supreme Court. Stanley M. Stein is a partner with Feldstein Grinberg Stein & McKee. He is a business litigator specializing in noncompete agreements and trade secrets. Reach him at email@example.com or (412) 263-6111.