Tuesday, April 13, 2010
Employees' Non-Competes Executed In Sale of Business Subject to Lower Scrutiny (Mohr v. Bank of New York Mellon Corp.)
It is common in the sale-of-business context for the seller's principal to stay on as an employee of the buyer for a period of time following closing. Particularly in professional services firms, it is essential to the transition of the business that the seller be affiliated in some way to help migrate accounts and relationships to a new firm.
As one would expect, the buyer in such a deal has a right to have its financial investment in the acquisition protected, and it is common for lengthy non-competes to be issued. When the seller's principal stays on following sale, the most prevalent approach is to have the seller sign a long-term employment contract with a covenant not to compete triggered upon one of two events. Normally, the contracts are written so the covenant runs from the longer of (a) a period from the closing date, or (b) termination of the seller's employment.
Because the non-compete often is issued in the context of an employment contract, sellers sometimes argue that it is subject to the employee rules governing non-competes - which are far more exacting than those involving covenants in the sale of a business. This is exactly what happened in the dust-up between Bank of New York and two employees who had sold their investment management firm to BONY in 2003.
A federal court in Georgia bought the employees' argument and determined that the non-competes were employment covenants subject to strict scrutiny. In Georgia, this is a key issue because the blue-pencil rule does not permit any modification of employee non-competes and (at least for the time being) Georgia law is very employee-friendly on the issue of what types of restraints are reasonable.
That is not quite the same in the sale-of-business context. Even in Georgia, where covenants are highly disfavored, sale-of-business non-competes are subject to a much lower degree of scrutiny and can be blue-penciled.
The Eleventh Circuit in Mohr v. Bank of New York reversed the district court's finding that a non-compete contained in an employment contract executed at the same time as an asset purchase agreement was subject to strict scrutiny. Instead, the court found the multiple cross-references among the contracts, the incorporated terms and definitions, and the overall purpose of the transaction resulted in a "unitary contractual scheme in which [BONY] sought to purchase both the clients lists owned by [the seller] and its goodwill, that is, the client relationships." Accordingly, the covenant was subject to far less scrutiny.
Attorneys who represent buyers in business transactions where the seller is staying on certainly would be well-advised to make reference in the employment contract that it is ancillary to the sale of a business. Also, a signed employment contract or covenant not to compete ought to be a scheduled seller delivery at the time of closing. This should remove any doubt as to whether the covenant is characterized as ancillary to employment or a sale of business.
Court: United States Court of Appeals for the Eleventh Circuit
Opinion Date: 3/24/10
Cite: Mohr v. Bank of New York Mellon Corp., 2010 U.S. App. LEXIS 6309 (11th Cir. Mar. 24, 2010)