Game-Changing Court Decision Shows Why You Must Watch For Noncompetes And Other Restrictive Covenants In Stock Grant Agreements

Your stock grant agreement can have a provision that will not only claw back your gains if you leave to work for a competitor but also restrain you from taking a job at that company. These types of provisions, called restrictive covenants, can lurk in grant agreements for stock options, restricted stock, and performance shares. They are separate from your employment agreement.

Until recently, courts have been treating restrictive covenants in a predictable pattern, according to attorney Michael Melbinger, head of the Employee Benefits and Compensation practice at Winston & Strawn and a contributor to both myStockOptions.com and myNQDC.com. Courts have been more likely to enforce a restrictive covenant, especially a noncompete, if the remedy for breach is merely loss of compensation. Courts have been less likely to enforce a provision that prevents you from earning a living in your profession. When the provision gives you a choice of (a) working for a competitor and forfeiting equity or (b) keeping the compensation but not competing, most courts will enforce the provision. This is called the employee-choice doctrine.

Game-Changing Court Case

However, in Newell Rubbermaid v. Storm (Del. Ch. March 27, 2014), the respected Delaware Court of Chancery went beyond the employee-choice doctrine and, in doing so, changed experts' views on these provisions. The court granted the plaintiff company a temporary restraining order against the defendant, a former employee, for actions that appeared to violate the noncompete, nonsolicitation, and confidentiality covenants of the company's RSU agreement with the employee. The RSU agreement, to which the defendant assented and which the company sought to enforce, was a so-called "clickwrap" agreement. This is an online agreement that requires webpage visitors to affirmatively assent to the terms of a contract by clicking an "accept" button to proceed, along with a checkbox for confirming the statement "I have read and agree to the terms of the grant agreement." (Compare this to the "browse-wrap" concept, by which the use of the website implies assent to an agreement.)

The Delaware court agreed with the plaintiff that the defendant had assented to the restriction under the agreement by accepting the award through a third-party website. It reached this conclusion even though she merely clicked to indicate acceptance of the agreement as a whole and did not acknowledge/click on any specific provision confirming that she had read or agreed to the restrictive covenant.

How Common Are These Provisions?

Towers Watson's 2013 LTI Policies and Practices Survey shows that restrictive covenants in equity award agreements are more common than many people may realize. In a blog commentary at his firm's website, Mr. Melbinger reports the following from the Towers Watson survey:

• About one third of the surveyed companies have put restrictive covenants in recent stock grants, and usage is not related to company size.
• Noncompetition, nonsolicitation, and nondisparagement are the most common restrictions.
• These restrictions apply to everyone getting an award, not just to certain executives.
• A clawback of realized gains is the most common consequence of a violation.

The NASPP's 2013 Domestic Stock Plan Design Survey found that stock plans at 60% of the responding companies have clawback provisions. At 45% of these companies, clawbacks are triggered by the violation of a noncompete. At 35%, clawbacks are imposed after the inappropriate use of trade secrets.

Lessons

Your stock grants come with strings attached, as explained in an article on myStockOptions.com that discusses court cases involving noncompetition clauses and other restrictive covenants. Courts may enforce all remedies in a stock grant agreement. This includes remedies that go beyond simply the forfeiture of the stock award, such as a restraining order preventing you from working for a competitor.

Newell Rubbermaid v. Storm presents many lessons for employees. You must read your whole grant agreement and understand all of its terms, even if you have little ability to negotiate changes. In addition, do not ignore new grant agreements on the assumption that these are always going to be the same. For the employee in Newell Rubbermaid v. Storm, the noncompete provision appeared suddenly in the most recent grant agreement. By clicking "accept" in an online agreement, you may be agreeing not only to terms related to your stock grant but also to terms that affect your post-employment obligations to your company. For more details on the related lessons for employees, see Mike Melbinger's blog commentary on this topic.