A recent decision of the Delaware Supreme Court is worth noting considering how many corporations choose Delaware for their choice-of-law provision in contracts. This pro-employer decision is a welcome change to corporations who have not fared well recently trying to enforce restrictive covenants in Delaware.
In Cantor Fitzgerald, Ltd. P’ship v. Ainslie, No. 162, 2023, 2024 Del. LEXIS 28 (Jan. 29, 2024), four former Cantor limited partners sued in the Delaware Cout of Chancery alleging that a forfeiture-for-competition clause — authorizing Cantor to withhold disbursements from partners’ capital accounts if they engaged in competition with the partnerships — was unenforceable. The Chancery Court agreed, holding that the provision was unenforceable as a restraint on trade, and awarded plaintiffs $12.5 million.
The Delaware Supreme Court reversed, distinguishing between forfeiture clauses and restrictive covenants. It held that restrictive covenants are analyzed under a reasonableness test while traditional contract principles should apply to forfeiture-for-competition clauses. The Supreme Court concluded that sophisticated parties can agree to forfeit contingent, post-withdrawal financial benefits when they voluntarily resign.
The Delaware Supreme Court’s decision is in-line with the “employee-choice doctrine” under New York law. New York’s highest court has held that an employee who resigns and violates a non-compete clause can be held to have forfeited any right to post-employment compensation even if the non-compete clause is found to be unreasonable. See Morris v. Schroder Capital Mgmt., 7 N.Y.3d 616, 825 N.Y.S.2d 697 (2006). However, if the employer terminates the employee without cause, no forfeiture may be imposed because the employee is deprived of the opportunity to make a choice.
The take-away: a forfeiture-for-competition clause can be a valuable tool for employers to enforce restrictive covenants even when they are unreasonable. Speak with us the next time you plan on having your employees enter into employment agreements or are looking to enforce restrictive covenants in court.