The arbitration involved a variety of issues but two that stood out were 1) the huge difference a single word can make when determining the value of shares; and 2) the impact that an employee's termination without cause can have on a covenant restricting the employee from competing with her former employer.
FAIR MARKET VALUE V. FAIR VALUE
The shareholder agreement provided for a buy out of my client's minority shareholder's position at "fair market value". While one might think that the terms "fair market value" and "fair value" can be used inter-changeably, the fact is that the use of one or the other term can have a dramatic impact on how shares are valued.
Which term should be used? The simple answer is that it depends on whether you are the employer or the employee. It is preferable for an employee/minority shareholder to use "fair value" in calculating shares while an employer/majority shareholder would likely opt for "fair market value". The simple reason is that "fair value" will provide a greater valuation than "fair market value" because "fair value" is calculated without discounting the minority shareholder's shares for the "lack of control" the minority shareholder has in company decisions. This could literally mean hundreds of thousand of dollars in valuation.
THE RESTRICTIVE COVENANT
The other issue of interest was the effect of the restrictive covenant. Restrictive covenants are designed to limit an employee's ability to compete after the employment terminates. Employees use them to protect their investment in the employee, to safeguard trade secrets and basically to prevent a discharged employee from attempting to steal the employer's client base.
The interesting question is whether the employee is bound by such a covenant when the employer terminates the employee without cause.
While this is a grey area of the law, the trend in New York is to prevent an employer from enforcing any restrictive covenants where the employer terminates the former employee without cause. The reasoning behind this is that it would be unfair to allow an employer to unilaterally destroy an employment contract while at the same time preventing an employee from engaging in his or her chosen livelihood. If the employee is terminated for cause or quits, however, the covenant will be enforced subject to the reasonableness of how long the restriction is for, the geographical area the restriction covers as well as the reasonableness of other aspects of the covenant.
As always, feel free to contact me with any legal concerns you might have as if you had a lawyer in the family.
Sincerely,
Mario Biaggi Jr.