January 2024

Seventh Circuit upholds forfeiture-for-competition provision in restricted stock unit agreement

A Seventh Circuit panel, in LKQ Corporation v. Rutledge, held that an employer could enforce a “forfeiture-for-competition” provision in its restricted stock unit (“RSU”) agreements.  This decision follows the Delaware Supreme Court’s clarification that such provisions are not only enforceable in the limited partnership context.

As we previously reported, the Delaware Supreme Court’s January 2024 decision in Cantor Fitzgerald v. Ainslie upheld a forfeiture-for-competition provision in a limited partnership agreement under the employee choice doctrine.  However, its reasoning arguably could be construed as limited to enforcing such provisions against partners.  Unsure whether Cantor Fitzgerald applied outside the partnership context, the Seventh Circuit certified questions to the Delaware Supreme Court to clarify the scope of its holding in Cantor Fitzgerald so that the Seventh Circuit could ascertain whether Delaware would enforce such provisions against employees—in this case, a former mid-level manager.

Relying on what it described as Delaware’s strong freedom of contract principles, the Delaware Supreme Court advised that Cantor Fitzgerald is not limited to partnerships and applies to other agreements between employers and employees, including RSU agreements.  The Delaware Supreme Court found that like the limited partnership agreement in Cantor Fitzgerald, “a restricted stock unit agreement ‘stands on different footing than underlies noncompetition covenants’ because it ‘does not restrict competition or a former [employee’s] ability to work.’”

Based on the Delaware Supreme Court’s guidance, the Seventh Circuit reversed a district court’s holding that the covenants were unreasonable restraints on trade.  The Seventh Circuit so held even though the employee earned just over $100,000 while the forfeiture provisions would permit the company to recover hundreds of thousands of dollars’ worth of RSU awards.

S&K Take: This an important decision in favor of forfeiture-for-competition provisions, even with respect to employees who are not highly compensated.  The Seventh Circuit observed that the Delaware Supreme Court “left open the possibility of recognizing an exception where a forfeiture provision is ‘so extreme in duration and financial hardship that it precludes employee choice by an unsophisticated party,’” but stated that such an exception is limited to only “the most extraordinary of circumstances.”

Delaware federal court invalidates non-compete under California law

A Delaware federal court, in Hightower Holding, LLC v. Reinig, held that an investment advisory and wealth management firm’s non-compete provision was invalid and void under California law, despite the employer’s argument that the sale-of-business exception should apply.

In 2019, Hightower purchased “materially all of the assets” of a California-based independent advisory business.  One of the sellers was a former investment advisor who worked in California.  As a seller in the acquisition, the advisor signed a “Standard Protective Agreement,” which contained a non-compete prohibiting him from engaging in investment advisory business anywhere in the United States for twenty-four months after he no longer provided services to Hightower.  Notwithstanding the non-compete, the advisor left Hightower and opened a new wealth management and investment advisory business.  Hightower sued to enforce the non-compete.

The Standard Protective Agreement contained a Delaware choice of law provision, but the court applied California law, noting the parties did not dispute that California had a materially greater interest in the matter than Delaware.   The court then rejected Hightower’s argument that the non-compete was enforceable under the sale-of-a-business exception to California’s broad non-compete prohibition, finding that the covenant’s nationwide scope was “untenable, even under [the exception],” because it was not tied to the business sold.  Hightower had pled in its complaint that the purchased business provided advice only to clients in southern California.

S&K Take: This case reminds that Delaware choice of law provisions are not enforceable where the “application of Delaware law would be contrary to a fundamental policy of a state which has a materially greater interest than Delaware in the matter”—which is likely to be the case when attempting to enforce non-competes against a California resident.  This case also reminds that the sale-of-business exception to California’s non-compete ban permits non-competes only “within a specified geographic area in which the business so sold . . . has been carried on.”  Hightower tried to argue that an amendment to its Standard Protective Agreement had narrowed the scope to the San Diego area, but the court found that the amendment did not extend to the overbroad non-compete.

Michigan court asserts jurisdiction over sexual orientation discrimination claims against Arizona-based supervisor

In Gronski v. InContact, Inc. and Aguilera, a Michigan-based remote worker sued his employer and supervisor in Michigan federal court, alleging he was discriminated against on the basis of his sexual orientation.  The employer is a Delaware software corporation with a principal place of business in Utah.  The supervisor worked remotely from Arizona.

The supervisor moved to dismiss the case against him for lack of jurisdiction.  He argued that he “never visited Michigan” and never contacted the plaintiff in Michigan other than “occasional telephone calls, text messages, emails, or Microsoft Teams messages.”  The court rejected the supervisor’s argument, holding he could be tried in Michigan given his and the employer’s “‘ongoing’—as opposed to isolated or ‘one shot’—remote work relationship[] with an in-state plaintiff.”  The court relied on the plaintiff’s allegations that the supervisor regularly supervised his work in Michigan, including through “weekly” one-on-one meetings, and that 50% of the supervisor’s salary stemmed from sales commissions from employees he supervised, including the plaintiff’s.  Accordingly, the court determined that the supervisor had a “sufficiently substantial connection” to Michigan such that its exercise of jurisdiction over him was reasonable.

S&K Take: This case highlights yet another consideration for employers maintaining a remote workforce.  Previously, we reported that employers may be subject to exposure for failure to hire or promote out-of-state candidates.  The court in Gronski acknowledged that “remote work has skyrocketed since 1997,” particularly following the COVID-19 pandemic, and cautioned that “with this rise in remote work has come corresponding increased recognition from and within the Sixth Circuit that out-of-state defendants purposefully avail themselves of the forum” by engaging in “ongoing” remote work relationships with in-state employees.