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  • Writer's picturePaul Peter Nicolai

Selling Stockholder’s Non-Compete Invalidated

A Delaware court of Chancery invalidated a non-compete entered into as part of a business sale. The court held that the restrictive covenant analysis of a selling stockholder is limited to the Buyer’s economic interest in the goodwill and information it acquires, carving out any preexisting interests of the acquiring company.

 

Background

 

This case arose from acquiring a roof truss manufacturer with a single location in Idaho by a serial acquirer in the construction industry with operations in multiple business lines. The Defendant was the general manager of the seller company and got about $900,000 for his stock.

 

He entered into a non-compete agreement lasting thirty months, which restricted him from competing with any business in the buyer’s broad portfolio of construction-related companies and in geographic areas beyond the locations the selling company served. The non-compete also restricted him from soliciting any client or customer of the buyer and its affiliates. In the agreement, he acknowledged the covenants were reasonable in scope and agreed that he would not contest them.

 

Sixteen months following closing, he resigned and joined a competing company within the restricted geographic territory two months later.

 

The Decision

 

Citing public policy, the court held that neither the waiver of his right to contest the scope of the restrictive covenant nor his acknowledgment that the covenant was reasonably precluded him from challenging the covenant or the court from considering its reasonableness.

 

The court held that the scope of restricted activities and geography were overly broad. The buyer's legitimate interest in protecting the goodwill of the acquired businesses was exceeded when the language attempted to protect the pre-existing goodwill of the buyer, its subsidiaries, and their respective affiliates in business lines the selling company did not offer in locations it did not operate.

 

The court declined to bluepencil the covenants to make them narrower and therefore enforceable, despite language in the agreement explicitly permitting it to do so. The court said it would be against public policy to allow an employer who entered an overbroad agreement to rely on blue penciling to place it in a no-lose situation.

 

 

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