In the realm of corporate restructuring, the parties, attorneys, and judges typically have a singular focus on dollars: maximizing recoveries for creditors and the equitable distribution of assets. But is bankruptcy really all about the bottom line? And does focusing solely on financial outcomes limit our understanding of corporate responsibility? We have had occasion twice (most recently in a virtual Earth Day panel[1]) to explore these questions alongside colleagues in the insolvency world, and we lay out some of our discussion in written form below.
Bankruptcy professionals know that insolvency situations are not always about the bottom line. Consider the following list of recent, high-profile cases where noneconomic concerns were the focus of attention:
Purdue Pharma: The infamous opioid manufacturer’s bankruptcy proceedings spotlighted public health and accountability, both retrospectively and prospectively.
The Diocese Cases, Boy Scouts of America, and USA Gymnastics: These proceedings involved claims of sexual abuse and failure of oversight, the obligations of religious and charitable organizations, and the need for transparency, responsibility, and reform.
The Weinstein Company: This case illustrated the interplay between corporate governance and accountability in light of longstanding, prebankruptcy allegations of abuse and misconduct.
Alex Jones/Free Speech Systems: The controversial Internet personality’s bankruptcy raised thorny questions about accountability for the spread of misinformation and whether bankruptcy should be an occasion for maximizing value or preventing further harm.
FTX: Here, the role of government regulators loomed large, with scholars questioning whether the government overstepped its role by forcing FTX into bankruptcy prematurely.[2]
These examples (and others too numerous to list) force us to acknowledge that bankruptcy proceedings often extend beyond financial recovery.[3] As a result, we should, at a minimum, consider the social and ethical ramifications of corporate missteps.
It’s Not All Mass Torts and Bad Actors
To be clear, the bigger picture goes beyond bad actors. Bankruptcy proceedings also encompass noneconomic concerns when enterprises committed to “doing good while doing well,” especially nonprofit entities and benefit corporations, end up in bankruptcy court.
The leadership of many for-profit entities now commit their endeavors to profit-making through the lens of Corporate Social Responsibility (CSR) and Environmental, Social, and Governance (ESG) metrics.
CSR is a collective term covering corporate citizenship and all aspects of nonfinancially focused corporate initiatives. Historically, the term has almost exclusively been used to describe optional corporate activities that generate positive goodwill, such as employee volunteer programs and charitable contributions. At its core, CSR refers to a company’s commitment to ethical behavior and contributions to economic development while improving the quality of life for employees, their families, local communities, and society at large.
ESG, on the other hand, is focused more on risk management and less on voluntary programs. The term “ESG” was coined in 2004 in a UN Global Compact report,[4] and the goal of ESG was to manage the nonfinancial risks and opportunities inherent in a company’s day-to-day activities. The three pillars within an ESG framework are as follows:
The Environmental Pillar: What impact (positive or negative) does the company have on the environment? Considerations include environmental risks and opportunities, reducing carbon footprint, and opportunities related to the use and development of clean energy.
The Social Pillar: What impact does the company have on society generally? Considerations include labor relations, human rights, safety, community impact, product integrity, privacy, and employee morale.
The Governance Pillar: How is the company run? Considerations include board and senior management diversity, board independence, executive compensation, reporting and disclosure, and internal controls (e.g., related to bribery, corruption, political contribution policies, and cybersecurity).
Similarly, we see more focus on noneconomic concerns with benefit corporations,[5] a type of legal entity with a statutory mandate to balance the pursuit of profit against a general or specific “public benefit,” which could be generating a positive impact on society, the environment, or local workers. Unlike their nonprofit cousins, however, benefit corporations can distribute profits to shareholders. Notable examples include Patagonia, Warby Parker, and Allbirds.
Plainly, the expectation for businesses to act responsibly has escalated. Customers, employees, investors, and other stakeholders increasingly expect it and often demand it. While some may disagree, we think those business principles should continue through insolvency and should remain no less important inside bankruptcy than they are outside it. Of course, we recognize the challenge in shifting even the slightest focus toward noneconomic concerns when that shift may naturally reduce the current focus on maximizing value for creditors. But perhaps that is the wrong way to look at this problem.
Rethinking What We Mean When We Maximize “Value”
Instead, perhaps we should rethink what bankruptcy professionals mean when we say we maximize “value.” Traditionally, the principal role of a trustee, debtor in possession, or creditors’ committee in bankruptcy has been to maximize monetary value. And indeed, bankruptcy’s “turn to market value” over the last several decades, as Professors Roe and Simkovic have helpfully sketched out,[6] has had a positive effect on our industry, with chapter 11 cases moving more quickly and efficiently. But that is no reason to turn a blind eye to broader questions of reputational value, community impact, and long-term sustainability.
In bankruptcy, these issues can manifest through various channels:
Stakeholder Engagement: Ensuring that all stakeholders are considered in restructuring plans, from employees facing job loss to victims seeking accountability.
Reputation Management: Maintaining an organization’s reputation in the wake of bankruptcy, which can be profoundly affected by its actions and commitments to social responsibilities.
Long-Term Sustainability: Considering how the business can not only emerge from bankruptcy but do so in a manner that positions it for sustainable, ethical growth in the future.
Committees and Conflicts
Even so, bankruptcy professionals must be careful to operate within their role, with a keen eye for potential conflicts. When monetary recovery and nonmonetary values diverge, some creditors may focus primarily on financial returns, while others may push for recognition of nonmonetary benefits—such as regulatory relief, enhanced corporate governance, or more robust reporting practices.
One of us has pointed out that the Bankruptcy Code already authorizes courts to appoint committee members for their unique perspectives, or to appoint a special committee, like a benefit committee.[7] Beyond that, we may want to get creative. In certain cases, out-of-the-money (OOM) committees could play an enhanced role, offering a critical voice for stakeholder interests that extend beyond financial recovery.
Conclusion
In most bankruptcy cases, noneconomic concerns are ancillary or subordinate considerations. Yet, they are integral to the ethical landscape of corporate responsibility. With the new wave of interest in hybrid models, this approach to corporate governance will increasingly spill over into the insolvency world. Balancing the demands of creditors with the interests of multiple stakeholders presents a complex challenge, but one that can ultimately lead to more sustainable and responsible corporate practices. With this shift, bankruptcy professionals and courts will be compelled to consider how best to integrate CSR and ESG principles into the fabric of their practices. Only through this lens can we hope to redefine what “value” or “success” means in the context of corporate restructuring.
This is a question worth exploring as we strive to create a more ethically grounded and socially responsible business insolvency environment.
See Jonathan C. Lipson & David A. Skeel, FTX’d: Conflicting Public and Private Interests in Chapter 11, 77 Stan. L. Rev. (forthcoming 2025). ↑
For example, Professors Pamela Foohey and Christopher Odinet analyze in depth how debtors can use bankruptcy as a “tool for silencing.” Pamela Foohey & Christopher K. Odinet, Silencing Litigation Through Bankruptcy, 109 Va. L. Rev. 1261 (2023). ↑
For a discussion of how benefit corporations might deviate from the typical path through bankruptcy, see Christopher D. Hampson, Bankruptcy & the Benefit Corporation, 96 Am. Bankr. L.J. 93 (2022). ↑
The MAC Cup II law student M&A negotiation competition has launched! Sixty-four student teams from forty-six schools across the US and Canada are squaring off in multiple qualifying rounds to join the “Final Four” in-person championship in Laguna Beach, California, and to win awards for best agreement mark-ups, all while learning to advocate their (made-up) clients’ positions.
The ABA Business Law Section’s M&A Committee launched the inaugural MAC Cup last year, with Nada Abousena and Grace Baer of American University taking top honors in front of the membership of the M&A Committee and a panel of invited judges. The M&A Committee has expanded this year’s MAC Cup to include more teams, more negotiations, and more awards, with continued access for students to M&A practitioners and professional M&A resources, promising to make the MAC Cup the premier hands-on transactional learning experience for law students with a passion for M&A.
“We’re giving law school students opportunities to learn about and apply M&A negotiation skills, like the litigation opportunities they get during the more traditional moot court,” said Mike O’Bryan, immediate past chair of the M&A Committee. “We want students to think about M&A as a significant part of their legal careers and to develop some practical skills to get them started.”
Nada Abousena and Grace Baer of American University Washington College of Law, coached by David Albin, won the inaugural MAC Cup in January 2024. Photo by Baldemar Fierro.
Building on Past Success
This year’s participation figures highlight the growing importance and reach of the competition.
“This year, we had eighty-nine applications,” said Thaddeus Chase, a member of the M&A Committee subcommittee that runs the MAC Cup. “This represents a 75 percent increase in submissions. And our targets will be even more aggressive for MAC Cup III.”
Other members of the MAC Cup subcommittee are O’Bryan, Wilson Chu, Glenn West, Tom Romer, Caroline Shinkle, and Sacha Jamal. All are members of the M&A Committee and practicing M&A attorneys, though Romer recently left the practice to form Dexterity, a digital negotiation platform designed for M&A (and now hosting the MAC Cup documents). Curtis Anderson, a professor at BYU Law School and former practicing outside and in-house M&A counsel, also is on the subcommittee and brings experience in organizing law school competitions.
“This year, by expanding the field, we’ve provided more students/law schools the opportunity to gain experience from the competition and the chance to compete,” said Chase. “It allows for more students to become connected and build a network across law schools and the M&A Committee. We’ve also built in the wrinkle that students may need to switch sides (i.e., from Buyer to Seller or from Seller to Buyer) with a week’s notice—we think this pushes students to think critically and drives home the point that the best outcome for a deal is usually somewhere in the middle (not everyone wins every point/issue).”
Learning New Skills
What do students learn?
M&A concepts; critical thinking; understanding the meaning of a “win” in M&A transactions; and the knowledge that this competition is not done in isolation: students can leverage the advice, guidance, and support of participating legal practitioners.
“The synergy between the law students and our members (whether as judges or coaches) is really dynamic and reflects the M&A Committee’s commitment to provide practical training to a new generation of M&A lawyers,” said Caroline Shinkle, a subcommittee member who has witnessed the excitement and rewards of this competition.
“Without a doubt, there is a level of seriousness that permeates student participation,” said Shinkle. “And yet this seriousness is tempered by the excitement created by the coaches and judges—generating a level of interaction rarely seen at this level.”
2024’s winners were announced at the M&A Committee’s annual meeting in Laguna Beach after facing off in a mock negotiation in front of attendees. Photo by Baldemar Fierro.
The Challenge of a Competitive Path
For students to make the “Final Four” is an indication of their hard work and negotiation skills—but also the strategic planning and coping skills needed to survive all phases of the competition.
The MAC Cup II schedule is intense:
Initial issues list and Acquisition Agreement mark-up due: October 21, 2024
First Open Round: October 26–27, 2024 (virtual)
Second round issues list and Acquisition Agreement mark-up due: October 30, 2024
Second Open Round: November 2–3, 2024 (virtual)
Elite 8 Quarterfinal Negotiation Matches: January 25, 2024 (virtual)
Semifinals: January 30, 2025 (in person), Laguna Beach, California
Finals: January 31, 2025 (in person), Laguna Beach, California
Opportunities for Lawyers
The competition provides opportunities for M&A practitioners to work with the students as judges or coaches. For the MAC Cup II, while the qualifying rounds are completed, lawyers still can act as judges in the virtual “Elite Eight” or the in-person “Final Four” rounds in January—if you’re interested, contact Thaddeus Chase (at [email protected]). In the longer run, there also will be opportunities for lawyers to recruit competitors and to coach or judge in next year’s MAC Cup III.
“At each stage, from initial issue spotting through final negotiations, students benefit from the legal talents of M&A Committee members who serve as judges and coaches,” said Romer.
Wendy Li and Alexis Brugger of University of Pennsylvania Carey Law School, who took second place in 2024, were coached by Debra Gatison Hatter. Photo by Baldemar Fierro.
Line Up to Be a Part of MAC Cup II
An impressive list of sponsors has already lined up to be part of MAC Cup II: M&A supporting companies Thomson Reuters, Hotshot, and Dexterity, and law firms Sullivan & Cromwell, Ropes & Gray, McDermott Will & Emery, Freshfields, Goodwin, Morrison Foerster, and Morris James. And the list is only getting longer!
“The sponsors have recognized that transactional skills have been sadly lacking in law student graduates. We’re changing that with the opportunities provided by the MAC Cup,” said Wilson Chu, former M&A Committee chair. “The transactional skills learned by students are invaluable.”
As the excitement leading up to the Laguna championship heats up, it has been proven, once again, that the BLS M&A Committee is at the forefront in its commitment to improving the knowledge and skills of law students throughout the nation.
Contractual covenants not to compete, or “noncompetes,” restrict “a man’s natural right to follow any trade or profession anywhere he pleases and in any lawful manner.”[1] Delaware courts “frown on or disfavor restrictive covenants,” particularly in employment contracts, but such provisions have historically been enforced.[2] While the applicable standard has remained nominally consistent, recent case law suggests that these provisions are being scrutinized more closely.
The Reasonableness Test
Delaware courts “do not mechanically enforce or deny noncompetes but closely scrutinize[] them as restrictive of trade.”[3] A noncompete will be enforced only if it “(1) [is] reasonable in geographic scope and temporal duration, (2) advance[s] a legitimate economic interest of the party seeking its enforcement, and (3) survive[s] a balancing of the equities.”[4]
These requirements must be reviewed “holistically and in context.”[5] As Vice Chancellor Laster explained,
[a] court must not tick through individual features of a restriction in isolation, because features work together synergistically. For example, “a court must consider how the temporal and geographic restrictions operate together” because the “two dimensions necessarily interact.” A covenant that restricts employment in a similar industry for two years might be reasonable if it only applies within a single town or county, and vice versa. All else equal, a longer restrictive covenant will be more reasonable if geographically tempered, and a broader restrictive covenant will be more reasonable if temporally tailored.[6]
When a noncompete is entered into in connection with the sale of a business, the court must still evaluate its reasonableness, but the “inquiry is less searching than if the covenant had been contained in an employment contract.”[7]
The fact-intensive nature of this inquiry does not lend itself to bright-line tests; however, the case law has revealed some common themes.
Geographic Scope
“[T]he reasonableness of a covenant’s scope is not determined by reference to physical distances, but by reference to the area in which a covenantee has an interest the covenants are designed to protect.”[8] Courts have found noncompetes to be reasonable when limited to the areas where a company does business.[9] Provisions that apply beyond the company’s area of operations, have worldwide or nationwide application, or include the company’s affiliates or subsidiaries have been heavily criticized.[10]
While nationwide or worldwide restrictions are often considered overbroad, courts have enforced them when they are entered into in connection with the sale of a business.[11]
A lack of geographical restrictions is unusual, but it does not render the restriction unenforceable per se.[12] If the other aspects are reasonable, Delaware courts may still enforce the noncompete.[13]
Duration
As a general matter, the longer a restrictive covenant applies, the narrower its geographic and subject matter scope must be.[14] Delaware law does not provide a specific reasonable duration. Noncompetes lasting two years are the most commonly approved.[15] However, Delaware courts have found that restrictions lasting one year and three years were reasonable.[16]
In Ainslie v. Cantor Fitzgerald, Limited Partnership, the Delaware Court of Chancery found that a four-year noncompete contained in a partnership agreement was unreasonable, but it suggested that such a duration may be “in the range of reasonable” if the scope of the restriction were appropriately narrowed.[17]
Delaware courts have upheld longer durations when the provision arises in connection with the sale of a business or stock.[18]
Legitimate Economic Interest
Like the other aspects of this analysis, the existence of a legitimate economic interest is highly fact intensive. In evaluating the alleged economic interest, courts have considered a variety of factors, including (i) the employee’s exposure to confidential information, proprietary technology, and other trade secrets; (ii) the level of training and skill that was required to perform the work; and (iii) the employee’s general role with the company.[19]
The specificity of the applicable language is also important. Vague terms such as similar to or substantially the same as when referring to the company’s business have been found to be too vague to demonstrate a legitimate economic interest.[20] Noncompetes prohibiting conduct that directly competes with, or is similar to, the business of the company, and only the company, have been found to be enforceable.[21]
Finally, the breadth of the restriction is also considered. As the court in Fortiline, Inc. v. McCall held, a broader restriction requires a broader legitimate interest. Noncompetes that cover a company’s affiliates or that broadly define a company’s business have been routinely rejected as not being “tailored to the employee’s role while employed.”[22]
Delaware courts have held that protecting a company’s goodwill, confidential information, customer base, and/or competitive advantage gained through the employee’s efforts may each be a legitimate economic interest.[23] The identity of a company’s referral sources may be protectable provided that those sources are not transient in the industry.[24] A company’s desire to prevent its employees from working directly for its clients (known as disintermediation) may constitute a legitimate economic interest in appropriate circumstances.[25]
However, courts have rejected claims that a noncompete was necessary when the interests being protected were “vague and everyday concern[s],”[26] including that (i) the employee was generally “responsible for many . . . customer relationships,”[27] or involved in “finding deals and fostering relationships” with customers;[28] (ii) the employee would be able to use the technical expertise or general industry knowledge they gained while employed by the company against it;[29] and (iii) the employee could use an important certification the company paid for them to get against it.[30]
Balancing of the Equities
Finally, Delaware courts balance the company’s interest in preventing competition with the harm that would befall the employee if the covenant were enforced.
The recent case law suggests that this balance focuses on an employee’s ability to earn a living and the role the employee played in the company. Given Delaware’s concern for employees’ well-being, it is not surprising that courts have been critical of provisions that will prevent a person from earning a living.[31] The role that the employee had with the company is also an important factor. Given the typically disparate bargaining power between a company and its employees, noncompetes with lower-level employees are routinely rejected as unreasonable. However, Delaware courts have been less critical of provisions applying to senior executives who received significant compensation or who were critical to the negotiation of the transaction that led to the creation of the noncompete.[32]
The “Blue Pencil” Rule
As a court of equity, the Delaware Court of Chancery in the past has revised the scope and/or duration of a noncompete.[33] But this process, known as using a “blue pencil,” has been criticized and rarely applied in recent years. As Vice Chancellor Laster explained in Sunder Energy, LLC v. Jackson,
revising an overbroad restrictive covenant creates a no-lose situation for employers because businesses can draft the covenant as broadly as possible, confident that the scope of the restriction will chill some individuals from departing. If someone does challenge the provision, then the worst case is that the court will blue-pencil its scope so it is acceptable. It also enables employers to extract benefits at the expense of employees by including unenforceable restrictions in their agreements.[34]
In Labyrinth, Inc. v. Ulrich, the court denied a motion to dismiss because, even though the ten-year-long restrictive covenant was overbroad in several ways, the fact that the employee was personally and deeply involved in negotiating the covenant in connection with the sale of his business “may conceivably present a rare instance where equity and public policy might require blue penciling.”[35]
Contractual Provisions Regarding Reasonableness
The “reasonableness” analysis cannot be avoided via contractual provisions. Companies may attempt to contract around the reasonableness requirement by including provisions pursuant to which the employee (i) agrees that the restrictions are reasonable, (ii) waives any defense that they are not, and (iii) agrees that a court may modify the provision if it is deemed unreasonable as drafted. However, Delaware courts have repeatedly held that such provisions are ineffective and do not relieve the court of its obligation to determine the reasonableness of the provision.[36]
“Forfeiture for Competition” Provisions Recently Upheld
As the Delaware Supreme Court recently explained in Cantor Fitzgerald, Limited Partnership v. Ainslie, so-called “forfeiture for competition” provisions are not evaluated for “reasonableness.”[37] Forfeiture for competition provisions are contract provisions that relieve the company of obligations to pay an employee deferred financial benefits if the employee breaches a noncompetition provision in the contract. As the Delaware Supreme Court held in Cantor, such provisions “stand on different footing” than noncompetes because they do not “limit a [person’s] ability to compete or otherwise obtain employment.”[38] Unlike noncompetes, forfeiture for competition provisions are “a condition precedent that excuses [the company] from its duty to [make future payments] if the [employee] fail[s] to satisfy a condition to which they agreed to be bound in order to receive a deferred financial benefit.”[39] As a result, forfeiture for competition provisions are not reviewed for reasonableness but rather enjoy the “court’s deference on equal footing with any other bargained-for-term” in a contract.[40]
Statutory Limitations
Even if the provision satisfies the reasonableness standard, Delaware law prohibits the use of noncompetes in some narrow circumstances. By way of example, noncompetes between physicians that restrict the physician’s right to practice medicine in a particular area or for a particular time period are void (although provisions requiring the payment of money damages for a breach of such provision are enforceable).[41]
Other states have gone even further than Delaware and enacted statutes prohibiting or strictly limiting the enforceability of such provisions.[42]
The FTC’s Effort to Ban the Use of Noncompetes
Earlier this year, the Federal Trade Commission (“FTC”) issued a final rule (“Final Rule”) that, subject to certain specific exceptions, made it a violation of section 5 of the Federal Trade Commission Act for employers to enter into new noncompete agreements with workers of any level on or after September 4, 2024 (“Effective Date”).[43] However, the Final Rule was barred from taking effect, and its future is uncertain.
Under the Final Rule, noncompetes in effect on the Effective Date are only enforceable against employees considered to be “Senior Executives”—that is, those in a “policy-making position” who meet or exceed a minimum compensation requirement.[44] If an employee does not qualify as a Senior Executive, existing noncompetes are no longer enforceable. The Final Rule imposes strict time limits for companies to notify non–Senior Executives of that change.
While the Final Rule is a broad prohibition, there are several limitations and exceptions. First, it only applies to noncompetition provisions in employment contracts; it does not apply to noncompetes entered into in connection with the bona fide sale of a business or a franchise. Second, it does not prohibit causes of action for breaches of a noncompete that occurred prior to the Effective Date. Finally, enforcement of a noncompete does not violate the Final Rule if the company has a good-faith basis to believe that the Final Rule does not apply to that situation.
The Final Rule did not go into effect on September 4, 2024, as expected. On August 20, 2024, Judge Ada Brown of the U.S. District Court for the Northern District of Texas issued a permanent injunction setting aside the Final Rule and declaring that it “shall not be enforced or otherwise take effect on September 4, 2024, or thereafter.”[45] Litigation regarding enforceability of the Final Rule is ongoing. Therefore, it remains possible that the Final Rule, or some modified version thereof, may still become law.
In sum, while Delaware is a contractarian state that defers to people’s right to privately order their affairs, that deference is tempered when a contract restricts a person’s ability to work. Noncompete agreements (unlike forfeiture for competition provisions) are judged by a “reasonableness” standard. Reasonableness, however, does not lend itself to a bright-line test, but requires analysis of several interrelated considerations—the agreement’s geographic scope and duration, the existence of a legitimate economic interest, and a balancing of the equities. While no one factor is determinative, Delaware courts have issued some guideposts (discussed above) and made it clear the concept is so important that parties cannot contract around the inquiry and that courts are hesitant to change an otherwise unenforceable contract. The time may come that the FTC’s final rule goes into effect and companies are prohibited from entering into noncompetes altogether. However, until then business leaders and legal practitioners must ensure that noncompetes are “reasonable” if they are to be enforced under Delaware law.
Labyrinth, Inc. v. Ulrich, 2024 Del. Ch. LEXIS 78, at *52 (Del. Ch. Jan. 26, 2024). ↑
TriState Courier & Carriage, Inc. v. Berryman, 2004 Del. Ch. LEXIS 43, at *41 (Del. Ch. Apr. 15, 2004). ↑
Weichert Co. of Pa. v. Young, 2007 Del. Ch. LEXIS 170, at *12 (Del. Ch. Dec. 7, 2007). ↑
See, e.g., id. (twenty-five miles from the company’s main operations); TriState Courier & Carriage, 2004 Del. Ch. LEXIS 43, at *43 (anywhere the company operated or has operated for the previous three years); All Pro Maids, Inc. v. Layton, 2004 Del. Ch. LEXIS 116, at *17–18 (Del. Ch. Aug. 9, 2004) (limited to the specific zip codes where the majority of the company’s clients are located); Kan-Di-Ki, LLC v. Suer, 2015 Del. Ch. LEXIS 191, at *69 (Del Ch. July 22, 2015) (the twenty-three states the company operated in); COPI of Del., Inc. v. Kelly, 1996 Del. Ch. LEXIS 136, at *12 (Del. Ch. Oct. 25, 1996) (within twenty miles of the company’s operations). ↑
See, e.g., Fortiline, Inc. v. McCall, 2024 Del. Ch. LEXIS 317, at *9–10 (Del. Ch. Sept. 5, 2024) (finding a noncompete unreasonable because it applied at least nationwide); Hub Grp., Inc. v. Knoll, 2024 Del. Ch. LEXIS 250, at *23 (Del. Ch. July 18, 2024) (finding a noncompete unreasonable because it applied to the contiguous United States and potentially Canada, Mexico, and India, including geographic locations that the employee had no responsibility for); Labyrinth, Inc. v. Ulrich, 2024 Del. Ch. LEXIS 78, at *52 (Del. Ch. Jan. 26, 2024) (a noncompete was overbroad because it spanned the areas in which both the company and its affiliates operated); Sunder Energy, 305 A.3d at 754–56 (rejecting a noncompete that applied to forty-six states when the employee only operated in Texas); Centurion Serv. Grp., LLC v. Wilensky, 2023 Del. Ch. LEXIS 354, at *8–10 (Del. Ch. Aug. 31, 2023) (finding a noncompete was unreasonable because it applied to any “area” in the United States or abroad in which the company was operating or was planning to operate); Intertek Testing Servs. NA, Inc. v. Eastman, 2023 Del. Ch. LEXIS 66, at *8 (Del. Ch. Mar. 16, 2023) (a restrictive covenant applying anywhere in the world was overbroad because the company operated primarily in Texas); Kodiak Bldg. Partners, LLC v. Adams, 2022 Del. Ch. LEXIS 288, at *18–20 (Del. Ch. Oct. 6, 2022) (rejecting a noncompete that included the states of Idaho and Washington and anywhere within one hundred miles of any other location served by the company or its affiliates); FP UC Holdings, LLC v. Hamilton, 2020 Del. Ch. LEXIS 110, at *15–17 (Del. Ch. Mar. 27, 2020) (rejecting a provision applying anywhere in the United States the company operates or may operate). ↑
See, e.g., Centurion Serv. Grp., 2023 Del. Ch. LEXIS 354, at *10 (“[T]his Court has enforced non-competes with a nationwide scope, but only in instances where the competing party agrees, in connection with the sale of a business, to stand down from competing in the relevant industry anywhere for a stated period of time after the sale.”); see also Brace Indus. Contracting, Inc. v. Peterson Enters., Inc., 2015 Del. Ch. LEXIS 229, at *7 (Del. Ch. Aug. 28, 2015) (a restriction covering the entire United States and Canada was appropriate in connection with the sale of a business because the entity that was sold did business worldwide); O’Leary v. Telecom Res. Serv., LLC, 2011 Del. Super. LEXIS 36, at *1 (Del. Super. Jan. 14, 2011) (upholding a nationwide restrictive covenant entered into in connection with the sale of a business because the business operated across the nation). ↑
See Del. Express Shuttle v. Older, 2002 Del. Ch. LEXIS 124, at *45 (Del. Ch. Oct. 23, 2002). ↑
See, e.g., id. at *41–51 (enforcing a three-year noncompete that lacked a geographical restriction because it was expressly negotiated by the parties immediately before it went into effect and the restricted territory was implicitly limited to places the company could and did serve from its Newark, Delaware, facility); Rsch. & Trading Corp. v. Pfuhl, 1992 Del. Ch. LEXIS 234, at *12 (Del. Ch. Nov. 18, 1992) (enforcing a one-year noncompete that lacked a geographical limitation because the company enjoyed widespread goodwill and the relief sought was narrow in scope). ↑
See, e.g., Weichert Co. of Pa. v. Young, 2007 Del. Ch. LEXIS 170 (Del. Ch. Dec. 7, 2007); All Pro Maids, Inc. v. Layton, 2004 Del. Ch. LEXIS 116 (Del. Ch. Aug. 9, 2004); TriState Courier & Carriage, Inc. v. Berryman, 2004 Del. Ch. LEXIS 43 (Del. Ch. Apr. 15, 2004); Del. Express Shuttle, 2002 Del. Ch. LEXIS 124; COPI of Del., Inc. v. Kelly, 1996 Del. Ch. LEXIS 136 (Del. Ch. Oct. 25, 1996). ↑
See RHIS, Inc. v. Boyce, 2001 Del. Ch. LEXIS 118, at *23–24 (Del. Ch. Sept. 26, 2001) (upholding a one-year restriction); Rsch. & Trading Corp., 1992 Del. Ch. LEXIS 234, at *31 (upholding a one-year restriction); Faw, Casson & Co. v. Cranston, 375 A.2d 463, 469 (Del. Ch. 1977) (a three year noncompete was reasonable but only to the extent it applied in northern Delaware). But see Fortiline, Inc. v. McCall, 2024 Del. Ch. LEXIS 317, at *2, *10 (Del. Ch. Sept. 5, 2024) (holding that a one-year noncompete was overbroad); Del. Express Shuttle, 2002 Del. Ch. LEXIS 124, at *54 (a three-year noncompete was unreasonable). ↑
Ainslie v. Cantor Fitzgerald, Ltd. P’ship, 2023 Del. Ch. LEXIS 22, *41 (Del. Ch. June 4, 2023), rev’d on other grounds, Cantor Fitzgerald, Ltd. P’ship v. Ainslie, 312 A.3d 674 (Del. 2024). ↑
See, e.g., Kan-Di-Ki, LLC v. Suer, 2015 Del. Ch. LEXIS 191 (Del Ch. July 22, 2015) (upholding a five-year noncompete covering twenty-three states entered into in connection with the sale of the company); O’Leary v. Telecom Res. Serv., LLC, 2011 Del. Super LEXIS 36 (Del. Super. Jan. 14, 2011) (upholding a four-year noncompete covering the entire United States entered into in connection with the sale of the company); Hough Assocs. v. Hill, 2007 Del. Ch. LEXIS 5 (Del. Ch. Jan. 17, 2007) (upholding a noncompete in a stock purchase agreement that applied for five years following the date of the agreement or three years after the employee left the company, with a geographic scope of fifty miles). But see Labyrinth, Inc. v. Ulrich, 2024 Del. Ch. LEXIS 78 (Del. Ch. Jan. 26, 2024) (rejecting a ten-year noncompete contained in a stock purchase agreement). ↑
See Elite Cleaning Co. v. Capel, 2006 Del. Ch. LEXIS 1105, at *26–27 (Del. Ch. June 2, 2006). ↑
Hub Grp., Inc. v. Knoll, 2024 Del. Ch. LEXIS 250, at *25 (Del. Ch. July 18, 2024); Del. Express Shuttle, 2002 Del. Ch. LEXIS 124, at *48–50; Norton Petroleum Corp. v. Cameron, 1998 Del. Ch. LEXIS 32, at *12 (Del. Ch. Mar. 5, 1998). ↑
See, e.g., Gener8, LLC v. Castanon, 2023 Del. Ch. LEXIS 380 (Del. Ch. Sept. 29, 2023); Lyons Inc. Agency Inc. v. Wilson, 2018 Del. Ch. LEXIS 317, at *15 (Del. Ch. Sept. 28, 2018); Kan-Di-Ki, 2015 Del. Ch. LEXIS 191; TriState Courier & Carriage, Inc. v. Berryman, 2004 Del. Ch. LEXIS 43,*43 (Del. Ch. Apr. 15, 2004); All Pro Maids, Inc. v. Layton, 2004 Del. Ch. LEXIS 116 (Del. Ch. Aug. 9, 2004); COPI of Del., Inc. v. Kelly, 1996 Del. Ch. LEXIS 136 (Del. Ch. Oct. 25, 1996); Faw, Casson & Co., 375 A.2d at 468–69. ↑
Fortiline, Inc. v. McCall, 2024 Del. Ch. LEXIS 317, at *7 (Del. Ch. Sept. 5, 2024); see alsoLabyrinth, 2024 Del. Ch. LEXIS 78, at *53–54; Sunder Energy, LLC v. Jackson, 305 A.3d 723, 753 (Del. Ch. 2023); Centurion Serv. Grp., LLC v. Wilensky, 2023 Del. Ch. LEXIS 354, at *8–10 (Del. Ch. Aug. 31, 2023); Frontline Techs. Parent, LLC v. Murphy, 2023 Del. Ch. LEXIS 336 (Del. Ch. Aug. 23, 2023); Kodiak Bldg. Partners, LLC v. Adams, 2022 Del. Ch. LEXIS 288, at *18–19 (Del. Ch. Oct. 6, 2022) (rejecting a provision applying to the business of the company and its affiliates). ↑
See Fortiline, 2024 Del. Ch. LEXIS 317, at *6; Rsch. & Trading Corp. v. Pfuhl, 1992 Del. Ch. LEXIS 234, at *12 (Del. Ch. Nov. 18, 1992).↑
RHIS, Inc. v. Boyce, 2001 Del. Ch. LEXIS 118, at *20–21 (Del. Ch. Sept. 26, 2001). ↑
Elite Cleaning Co. v. Capel, 2006 Del. Ch LEXIS 105, at *23–24 (Del. Ch. June 2, 2006). ↑
Hub Grp., Inc. v. Knoll, 2024 Del. Ch. LEXIS 250, at *30 (Del. Ch. July 18, 2024); Centurion Serv. Grp., 2023 Del. Ch. LEXIS 354, at *10–11. ↑
Sunder Energy, LLC v. Jackson, 305 A.3d 723, 757–58 (Del. Ch. 2023) (finding a provision was unenforceable because, among other things, it barred the employee from participating in any business that sells to any homeowner in any states where Sunder did business . . . [meaning the employee] could not take a job at a Best Buy . . . or a McDonalds”); Centurion Serv. Grp., 2023 Del. Ch. LEXIS 354 (criticizing the impact of the provision on the employee’s ability to work). ↑
See, e.g., Labyrinth, Inc. v. Ulrich, 2024 Del. Ch. LEXIS 78, at *52 (Del. Ch. Jan. 26, 2024); Sunder Energy, 305 A.3d at 753. ↑
See, e.g., Del. Express Shuttle, Inc. v. Older, 2002 Del. Ch. LEXIS 124 (Del. Ch. Oct. 23, 2002) (adjusting the duration of a noncompete from three years to two years); Faw, Casson & Co. v. Cranston, 375 A.2d 463, 468–69 (Del. Ch. 1977) (revising the geographic reach of a noncompete). ↑
See e.g., Ainslie v. Cantor Fitzgerald, L.P., 2023 Del. Ch. LEXIS 22, at *36, rev’d on other grounds, Cantor Fitzgerald, Ltd. P’ship v. Ainslie, 312 A.3d 674 (Del. 2024) (“[T]he fact Plaintiffs signed an agreement stipulating to its own reasonableness does not insulate that agreement from a reasonableness review under Delaware law.”); Kodiak Bldg. Partners, LLC v. Adams, 2022 Del. Ch. LEXIS 288, at *8 (Del. Ch. Oct. 6, 2022) (“[L]anguage stating its restrictive covenants are reasonable, and waiving a defense that they are not, does not preclude this Court from performing the reasonableness analysis our law mandates.”). ↑
Del. Code tit. 6, § 2707 (2024); see alsoDel. Code tit. 6, § 4914 (prohibiting the use of noncompetes in motor vehicle franchise agreements); Del. Code tit. 24, § 4109 (2023) (prohibiting a requirement that a home inspector trainee be required to execute a noncompete with a supervising inspector). ↑
See, e.g., Ala. Code § 8-1-190(a) (2015); Cal. Bus. & Prof. Code §§ 16600 et seq. (2024); and Neb. Rev. Stat. § 59-1603 (2024). ↑
Following the regional bank crisis in March of 2023,[1] many businesses started to review their treasury-management procedures for cash deposits out of safety concerns in the event of an insolvency of their depository bank. The reviews brought new attention to deposit programs designed to maximize access to insurance coverage provided by the Federal Deposit Insurance Corporation (“FDIC”) for deposits larger than the current $250,000 standard maximum deposit insurance limit per account at a depository bank. This article focuses on the IntraFi Cash Service of IntraFi LLC (“IntraFi”) as an example of such a program. The article will respond to frequently asked questions about how the IntraFi program works and how the depositors and their lenders are protected in the program.
How Does the IntraFi Program Work?
When placing funds on behalf of a customer through the IntraFi program, the customer’s relationship institution, which may be a bank, broker-dealer, or other eligible financial institution (“Relationship Institution”), and the customer enter into a deposit placement agreement (“DPA”) and a custodial agreement with the Relationship Institution as the custodian. The DPA states that the Relationship Institution will act as the customer’s agent in placing deposits. The custodial agreement further authorizes the Relationship Institution to maintain a custodial account[2] for the customer for the purpose of crediting the deposits placed through the program.
The Relationship Institution, in turn, will have entered into a Participating Institution Agreement with IntraFi and a sub-custody agreement (“Sub-Custody Agreement”) with a large money-center bank as a sub-custodian (“Sub-Custodian”) for the IntraFi program. The funds the Relationship Institution places for the customer are then, as described below, deposited with various FDIC-insured deposit-taking financial institutions (“Destination Institutions”) that enter into Participating Institution Agreements with IntraFi and are eligible to receive funds through the IntraFi program.
The placements are in amounts and pursuant to arrangements that make the funds eligible for deposit insurance provided by the FDIC ($250,000 per owner, per Destination Institution for each account ownership category). Specifically, the benefits of that insurance for the deposits at the Destination Institutions may be passed on to the customer under the “pass-through” rules established by the FDIC, which enable funds deposited by a custodian on behalf of the customer to be insured as if the customer had made the deposit with the Destination Institution itself.[3] Notably, customers can instruct the Relationship Institution not to deposit funds with certain Destination Institutions where the customer already maintains accounts, so as not to exceed coverage limits at that insured bank. The IntraFi program allows depositors to access millions in aggregate FDIC insurance across network banks.
The Sub-Custodian acts under the Sub-Custody Agreement as an intermediary to have the funds deposited with the Destination Institutions. The funds are then placed into deposit accounts at each Destination Institution, with the deposit accounts being in the name of the Sub-Custodian at the Destination Institution.
The Relationship Institution, the Destination Institutions, and the Sub-Custodian maintain appropriate books and records. These books and records, when considered together, reflect that the customer is the ultimate beneficiary of the funds placed in a deposit account at the relevant Destination Institution. Each deposit is recorded (a) on the records of the Destination Institution, in the name of the Sub-Custodian as the Relationship Institution’s sub-custodian; (b) on the records of the Sub-Custodian, in the Relationship Institution’s name as the customer’s custodian (showing that the Sub-Custodian is holding any claims with respect to the funds against the Destination Institution for the benefit of the Relationship Institution); and (c) on the records of the Relationship Institution, in the customer’s name (showing that the Relationship Institution is holding its claims with respect to the funds against the Sub-Custodian for the benefit of the customer).
In addition, under the DPA, the Relationship Institution agrees with the customer that it is acting as a “securities intermediary” under Article 8 of the UCC with respect to the custodial account established for the customer and that it will treat as “financial assets” under Article 8 of the UCC all of the Relationship Institution’s rights against the Sub-Custodian with respect to the deposit accounts placed by the Sub-Custodian. Financial asset means, among other things, “any property that is held by a securities intermediary for another person in a securities account if the securities intermediary has expressly agreed with the other person that the property is to be treated as a financial asset under [Article 8].”[4] The custodial account is a “securities account” under the UCC. Once the rights to payment with respect to the deposit accounts are financial assets credited to the custodial account, the customer acquires a security entitlement to them, which is a combination of contractual rights against the Relationship Institution, as securities intermediary, and a property interest in the financial assets. The customer’s rights include obtaining payments and distributions on the financial assets, exercising rights with respect to those financial assets, changing the form of holding of those financial assets, and causing the Relationship Institution to comply with entitlement orders to transfer or redeem those financial assets.[5]
How Is the Customer Protected in the Event of Insolvency of the Relationship Institution?
As noted above, the claims against the Sub-Custodian are credited to the customer’s account and treated as financial assets, giving the customer security entitlements against the Relationship Institution. Under Article 8, financial assets so credited, with exceptions not relevant here, are not property of the Relationship Institution and are not subject to the claims of the Relationship Institution’s creditors. As a result, the financial assets—the claims of the Relationship Institution against the Sub-Custodian—would not be included in the insolvency estate of the Relationship Institution. Practically, in most cases when a Relationship Institution has failed, its deposits and the custodial account have been assumed by another Relationship Institution, and business has continued as usual.
How Is the Customer Protected in the Event of Insolvency of the Sub-Custodian?
Similarly, under the Sub-Custody Agreement, the parties agree that the Sub-Custodian is acting as a securities intermediary and that the claims of the Sub-Custodian against the Destination Institutions are treated as financial assets under Article 8. Accordingly, such claims against the Destination Institutions are treated as security entitlements of the Relationship Institution against the Sub-Custodian. As with the Relationship Institution, financial assets, with exceptions not relevant here, are not property of the Sub-Custodian, are not subject to the claims of the Sub-Custodian’s creditors, and would not be included in the insolvency estate of the Sub-Custodian.
How Is the Customer Protected against the Exercise of Setoff by the Sub-Custodian in Case the Sub-Custodian Has an Unrelated Claim against the Relationship Institution?
The only contractual right of setoff that the Sub-Custodian has under the Sub-Custody Agreement against the Relationship Institution is for certain limited charges due to the Sub-Custodian as compensation in the Sub-Custody Agreement.
The Sub-Custodian would likely not have a noncontractual common-law right of setoff against the funds placed with it under the IntraFi program for amounts owed to the Sub-Custodian unrelated to the IntraFi program. Under the common law of most states, noncontractual common-law setoff is permitted only when the debts owed are “mutual.”[6] Mutuality requires that both parties be acting in the same capacity. Under the Sub-Custody Agreement, though, the Sub-Custodian is acting as a securities intermediary under Article 8 for the ultimate benefit of customers of the Relationship Institution. The Sub-Custodian would likely be acting in a different capacity as a creditor of the Relationship Institution for amounts owed unrelated to the IntraFi program. (The analysis would be similar if the Destination Institution were to consider exercising a setoff right for unrelated claims against the Sub-Custodian.)
How Does a Lender to the Customer Obtain a Perfected Security Interest in the Customer’s Rights to Payment under the IntraFi Program with the Desired Priority?
The lender’s security agreement needs to reasonably identify the collateral. The collateral description in a security agreement may refer to security entitlements or investment property, which is the generic UCC Article 9 category into which security entitlements fall. Alternatively, the collateral description could be even more specific while using one of those terms, such as “all of the debtor’s right, title, or interest in security entitlements to financial assets consisting of rights to payment under the IntraFi program maintained by [the Relationship Institution] for the benefit of the debtor, and the proceeds thereof.”
The security interest may be perfected by the lender filing in the appropriate UCC filing office a properly completed UCC financing statement against the customer and indicating as the collateral the security entitlement or investment property or a more specific description of the security entitlement or investment property using those terms, and the proceeds thereof.
The security interest granted by the customer may also be perfected by the Relationship Institution obtaining “control” of the security entitlements. If the lender is also the Relationship Institution, the lender obtains control automatically because the Relationship Institution is the customer’s securities intermediary. If the lender is not the Relationship Institution, the lender should enter into a securities account control agreement with the Relationship Institution and the customer, which will require the Relationship Institution to follow, without further consent of the customer, the entitlement orders of the lender, rather than the customer, under certain circumstances. If the lender perfects the security interest by control, there is no need for the lender to file a financing statement against the customer to perfect the lender’s security interest in the customer’s rights to payment under the IntraFi program.
Perfection of the lender’s security interest by control is the preferable method of perfection for the lender.[7] A security interest in a security entitlement or investment property perfected by control will have priority over a security interest in the same collateral perfected by the filing of a financing statement. This is the case even if the perfection of the security interest by control occurred after the filing of the financing statement and even if the secured party perfected by control knew of the financing statement filing.
Additional Considerations
Notably, the DPA provides that the customer has the right to dismiss the Relationship Institution as custodian and request that any of the funds placed for the benefit of the customer with a Destination Institution be retitled by the Destination Institution in the name of the customer directly. This process has the effect of unwinding the securities account held by the Relationship Institution and the Relationship Institution ceasing its role as a securities intermediary with respect to the funds.
If the customer exercises this right and the funds are so retitled, (a) there would no longer be a security entitlement with respect to the customer’s right to payment of the funds, and (b) the Relationship Institution’s security interest with respect to the right to the funds would no longer be perfected by control or may not be entitled to the priority afforded by control. The Relationship Institution may then need to take any additional steps necessary to preserve the perfection and priority of the security interest. As a result, a Relationship Institution that is also a lender may wish to include a provision in its credit documents providing that the customer shall postpone the exercise of its rights under the DPA while any obligations under the credit documents are outstanding or while the Relationship Institution has any obligation to extend credit under the credit documents. A third-party lender will want to address this issue in its account control agreement with the customer and the Relationship Institution.
Concluding Comments
This article provides only a brief summary of the IntraFi program and does so as an example of similar programs. It does not respond to all questions that may arise under these types of FDIC insurance maximization programs and is not a substitute for a careful review of the documentation for each program.
The custodial account will be a securities account for purposes of Article 8 of the Uniform Commercial Code (“UCC”), which is an account to which securities or other financial assets may be credited. The crediting of the deposit to the custodial account does not in and of itself render the deposit a security for purposes of federal securities laws. ↑
This article is Part IV in the Many Splendors of Fraud Claims series by Glenn D. West, which explores recent cases that affect drafting practices for avoiding fraud claims in private company M&A.
In Delaware, as in most states,
any person or entity that is alleged to have knowingly participated in the making of a fraudulent misrepresentation can be liable for that misrepresentation to the same extent as the person or entity that actually makes the misrepresentation; and the persons or entities potentially liable can include affiliates of the entity making the representation, as well as the human officers and owners of that entity or its affiliates, to the extent they knowingly cause or permit that entity to make a fraudulent misrepresentation.[1]
This concept applies to both intra-contractual and extra-contractual fraud claims.
Importantly, however, ABRY PartnersV, L.P. v. F & W Acquisition LLC[2] and its progeny permit (1) extra-contractual fraud to be taken off the table for both parties and nonparties to an agreement, through a properly worded disclaimer-of-reliance provision (to which the nonparties are made third-party beneficiaries); (2) liability for intra-contractual fraud to be limited to deliberate or knowing falsehoods stated in the express representations and warranties contained in the written agreement only, through an exclusive remedy provision (to which the nonparties are made third-party beneficiaries); and (3) the elimination of liability, through an exclusive remedy and nonrecourse provision, for parties and nonparties from “reckless, grossly negligent, negligent, or innocent misrepresentations of fact”[3] in a purchase agreement (all of which are potential states of mind supporting tort-based claims, including, potentially, common-law or equitable fraud).
What no contractual provision can accomplish, however, whether it is an exclusive remedy provision or a nonrecourse provision, is the elimination of liability of either a party or a nonparty for knowingly making or causing another person to make a deliberately false statement in a purchase agreement. I have written about this several times,[4] but it appears that deal lawyers continue to negotiate fraud definitions and nonrecourse provisions as if nonparties could avoid liability for deliberate and knowing participation in the conveyance of falsehoods in the express representations in a purchase agreement.
Matrix Parent: Deficient Fraud Definition
Fraud is frequently defined with the aim of purportedly limiting liability for fraud to only the party that is actually making the representations and warranties in the purchase agreement. An example of this approach is the following definition of Fraud from the recent Delaware Superior Court decision Matrix Parent, Inc. v. Audax Management Company, LLC:[5]
[“Fraud” means] intentional and knowing common law fraud under Delaware law in the representations and warranties set forth in this Agreement, any Contribution Agreement and the certificates delivered pursuant to Section 2.02(f)(i) and Section 2.03(d)(i). A claim for Fraud may only be made against the Party committing such Fraud. “Fraud” does not include equitable fraud, constructive fraud, promissory fraud, unfair dealings fraud, unjust enrichment, or any torts (including fraud) or other claim based on negligence or recklessness (including based on constructive knowledge or negligent misrepresentation) or any other equitable claim.[6]
But as noted by Aveanna Healthcare, LLC v. Epic/Freedom, LLC,[7] one of ABRY Partners’ many progeny, “if a seller ‘knew that the company’s contractual representations were false,’ the seller cannot ‘insulate’ itself from contractual fraud by hiding behind the company’s representations.”[8] In other words, it does not matter who technically made the representations—it matters who participated in their making or in causing them to be made.
And just as nonparties cannot hide behind the party that technically made the contractual representations, you cannot use a nonrecourse provision to exonerate nonparties from their participation in the conveyance of intentional lies in a written purchase agreement either. Nonrecourse provisions are not permitted to go so far—any attempt to do so is famously considered “too much dynamite.”[9]
Matrix Parent not only rejected the effort of defendants to limit Fraud, as it was defined, to just the parties to the purchase agreement, but also rejected the reliance upon a very broadly worded nonrecourse clause to exonerate nonparties who were alleged to have knowingly participated in intentional intra-contractual fraud. The court further rejected a very explicit provision that actually had the parties waiving “any claim against any Non-Recourse Party for conspiracy, aiding or abetting or other theory of liability.”[10] According to the court, “under Delaware law, the terms of a fraudulently procured contract [even though limited to claims based ‘solely on the falsity of express contractual representations’] cannot exempt from liability entities that were knowingly complicit in the fraud, including entities that aided, abetted, or conspired to commit such fraud.”[11] And, similar to the holding in Online Healthnow, Inc. v. CIP OCL Investments, LLC,[12] “[b]ecause Plaintiff has well pled that [a non-recourse party] did, in fact, know of and facilitate the fraudulent misrepresentations in the SPA . . . [the non-recourse party] cannot invoke the non-recourse provision to avoid liability under ABRY Partners and its progeny.”[13]
Crafting an Agreement with the Matrix Parent Decision in Mind
So, knowing this, you can easily agree as a seller to carve out intentional inter-contractual fraud from the nonrecourse clause, and define Fraud by reference to “Persons” rather than “Parties.”
The July 15, 2024, Merger Agreement governing Perdoceo Education Corporation’s $135 million acquisition of University of St. Augustine for Health Sciences, LLC, contains an example of a Fraud definition that appears to understand that you cannot limit intentional intra-contractual common-law fraud to just the party actually making those representations:
“Fraud” means actual and intentional common law fraud under Delaware law with respect to the representations and warranties set forth in this Agreement (including Article V or Article VI), any of the Related Documents, or any certificate delivered pursuant to this Agreement or any of the Related Documents. For the avoidance of doubt, (a) the term “Fraud” does not include any claim for equitable fraud, promissory fraud, or unfair dealings fraud, or any claim for fraud or misrepresentation based on negligence or recklessness and (b) only a Person who had actual knowledge of or knowingly and intentionally participated in such Fraud shall be responsible for such Fraud and only to a Person who actually relied on such representations and warranties and was actually damaged or harmed by such Fraud.[14]
Keep in mind that clause (b) does not actually do anything that the law of Delaware doesn’t already do, but sometimes saying it out loud helps the other side—and it’s sleeves off the seller’s vest to acknowledge that nonparties can be liable for the knowing participation in the conveyance of falsehoods in the express representations and warranties set forth in an acquisition agreement.
Section 5 of the Securities Act of 1933 (“Securities Act”) prohibits the offer or sale of unregistered securities, absent an exemption. However, Section 4(a)(1) of the Securities Act explicitly states that the prohibition in Section 5 only applies to transactions by an issuer, underwriter, or dealer.[1]
The Securities and Exchange Commission (“SEC”) has been relatively undaunted by that limitation. Through a long series of SEC enforcement actions, appellate courts have expanded the plain language of Section 4(a)(1) by developing the “necessary participant” doctrine, widening the scope of the “issuer, underwriter, or dealer” language to hold defendants liable when they have been a “necessary participant” in the offer and sale of alleged unregistered securities. In an SEC enforcement action dating back to 1941, SEC v. Chinese Consolidated Benevolent Ass’n, the U.S. Court of Appeals for the Second Circuit found that a person not directly engaged in transferring title of the security nevertheless can be held liable under Section 5 if that person “engaged in steps necessary to the distribution of [unregistered] security issues.”[2] The Second Circuit’s interpretation is judge-made law that departs from the plain language of the statute.
This article explores the advent and evolution of the “necessary participant” doctrine and discusses some of the dangers of expanding the plain language of Section 4(a)(1).
Section 4(a)(1): The “Ordinary Trading” Exemption
Section 5 of the Securities Act makes it unlawful, directly or indirectly, to publicly offer or sell unregistered securities, unless the offering is covered by an exemption.[3] Several potential exemptions are available to market participants, depending upon the nature of the transaction, amount of the offering, and participants involved. One of those exemptions is codified under Section 4(a)(1),[4] sometimes known as the “ordinary trading” exemption, which states that Section 5 does not apply to transactions by any person other than an issuer, underwriter, or dealer.[5]
Underwriter is statutorily defined in Section 2(a)(11) of the Securities Act as
any person who has purchased from an issuer with a view to, or offers or sells for an issuer in connection with, the distribution of any security, or participates or has a direct or indirect participation in any such undertaking, or participates or has a participation in the direct or indirect underwriting of any such undertaking.[6]
For example, an investment bank that has an arrangement with a securities issuer to facilitate the public sale of its securities is typically considered an “underwriter.”
On its face, Section 2(a)(11) defines underwriter broadly enough such that, theoretically, it could be construed to encompass persons other than the traditional investment bank that underwrites a registered securities offering. However, “while the definition is indeed broad, ‘[u]nderwriter’ is not . . . a term of unlimited applicability that includes anyone associated with a given transaction.”[7] Courts have found that “[i]t is crucial to the definition of ‘underwriter’ that any underwriter must participate in the distribution of a security.”[8] This participation notion was expressly contemplated by Congress, which “ma[de] clear that a person merely furnishing an underwriter money to enable him to enter into an underwriting agreement is not an underwriter. . . . The test is one of participation in the underwriting undertaking rather than that of a mere interest in it.”[9] The rationale for subjecting underwriters to potential liability is “because they hold themselves out as professionals who are able to evaluate the financial condition of the issuer,” and “[t]he public relies on their expertise and reasonably expects that they have investigated the offering with which they are involved.”[10]
If a holder of securities is not an issuer, underwriter, or dealer, they may sell their existing securities without registration pursuant to Section 4(a)(1).[11] Section 4(a)(1) was “designed to exempt routine trading transactions with respect to securities already issued”—not necessarily to exempt initial distributions by issuers.[12] Importantly, Section 4(a)(1) exempts transactions, not persons.[13]
SEC v. Chinese Consolidated Benevolent Ass’n
In 1941, the Second Circuit seemingly expanded the statutory limitations of Section 4(a)(1), not only by construing the Section 2(a)(11) definition of underwriter broadly, but by holding that even if a defendant was not an issuer, dealer, or underwriter itself, the Section 4(a)(1) exemption would not apply if the defendant was engaged in “steps necessary” to the distribution of unregistered securities.
In Chinese Consolidated, the SEC sued a New York corporation to enjoin it from using any instruments of interstate commerce or of the mails in attempting or offering to sell or dispose of Chinese government bonds.[14] The defendant was a benevolent association with a membership of 25,000 Chinese individuals. Without any official or contractual relationship with the Chinese government, this New York corporation urged members of Chinese communities in New York, New Jersey, and Connecticut to purchase Chinese government bonds, and offered to accept funds from prospective purchasers and deliver those funds to the Bank of China in New York. Neither the defendant nor its members were ever charged for their activities, and they did not receive any compensation. The SEC sought to enjoin the defendant from disposing of, or attempting to dispose of, these Chinese government bonds, which it alleged were unregistered securities.
The defendant was concededly neither the issuer of the Chinese government bonds nor a dealer. Accordingly, under Section 4(a)(1) of the Securities Act, the defendant would be exempt from registration requirements if it was also not an underwriter, as defined in Section 2(a)(11). The district court indeed found that the defendant was not an underwriter and was therefore exempt because the defendant did not sell or solicit offers to buy the Chinese government bonds for an issuer, as the Section 2(a)(11) definition of underwriter specifies. The district court found that the defendant’s actions in attempting to dispose of the bonds were not for the Chinese government; indeed, there was no contractual arrangement or even understanding with the Chinese government.
The Second Circuit reversed, pointing to the facts that the “defendant solicited the orders, obtained the cash from the purchasers and caused both to be forwarded so as to procure the bonds.”[15] The court noted that “the aim of the Securities Act is to have information available for investors[,] [and] [t]his objective will be defeated if buying orders can be solicited which result in uninformed and improvident purchases.”[16] Ultimately, the court, noting the aim of the Securities Act to furnish the public with adequate information, and the purported aim of the issuer (here, the Chinese government) to promote the distribution of the securities, broadly interpreted the plain language of the definition of underwriter. The court held that “[a]ccordingly the words ‘(sell) for an issuer in connection with the distribution of any security’ ought to be read as covering continual solicitations.”[17] The court ultimately found that the defendant acted as an underwriter in the distribution of unregistered securities.[18]
Crucially, the court went on to find a “further reason” for holding that the defendant’s activity was prohibited.[19] The court noted that Section 4(a)(1) was not intended to exempt distributions by issuers, and that here,
[t]he complete transaction included not only solicitation by the defendant of offers to buy, but the offers themselves, the transmission of the offers and the purchase money through the banks to the Chinese government, the acceptance by that government of the offers and the delivery of the bonds to the purchaser or the defendant as his agent.[20]
The court held that “[e]ven if the defendant is not itself ‘an issuer, underwriter, or dealer’ it was participating in a transaction with an issuer, to wit, the Chinese Government.”[21] The court explained that the Section 4(a)(1) exemption does not “protect those who are engaged in steps necessary to the distribution of security issues.”[22]
In sum, the court found that the defendant’s actions fell under the definition of underwriter under Section 2(a)(11) such that the defendant was liable for its attempts to dispose of the Chinese government bonds without registration; and, significantly, that even if the defendant was not an underwriter, it “engaged in steps necessary to the distribution” of the unregistered securities such that it did not qualify for the Section 4(a)(1) exemption. Thus, the “necessary participant” doctrine was born, making it possible for a defendant to be liable under Section 2(a)(11) even if it is not an issuer, underwriter, or dealer.
The Second Circuit’s Expansion of Necessary Participant
Stemming from Chinese Consolidated in 1941, courts have adopted and expanded the necessary participant language from that case to create myriad other tests that purportedly help explain what a “necessary participant” is—and when a person who is not an issuer, underwriter, or dealer can nevertheless be liable under Section 5.[23]
Perhaps realizing that Chinese Consolidated was unmoored from the statute, the Second Circuit later tried to put the genie back in the bottle, but without actually overturning Chinese Consolidated. In SEC v. Kern, the Second Circuit cited the “steps necessary” language from Chinese Consolidated to hold that “underwriters . . . include any person who is ‘engaged in steps necessary to the distribution of security issues.’”[24] But later, in SEC v. Sourlis, with somewhat cursory analysis, the Second Circuit held that Section 5 liability extends to “those who have ‘engaged in steps necessary to the distribution of [unregistered] security issues’”—quoting and relying on Chinese Consolidated without even mentioning the word underwriter.[25]
District courts within the Second Circuit, springboarding from Chinese Consolidated’s departure from the statutory text, developed the “necessary participant” doctrine by introducing additional considerations beyond the plain language of Section 4(a)(1). Under these cases, defendants may be liable for violating Section 5 even if they do not offer or sell a security, provided that they were a “necessary participant” in the unregistered distribution.[26]
But then how is a court to determine who is a “necessary participant”? As one court frames it, “[t]he ‘necessary participant test . . . essentially asks whether, but for the defendant’s participation, the sale transaction would not have taken place.’”[27] This “but for” formulation significantly expands the range of whom the SEC can sue for Section 5 liability to include anyone or any entity that the SEC asserts had a necessary role in the unregistered securities transaction.
In other words, in an attempt to define limitations on what a “necessary participant” is, courts have articulated a “substantial factor” test—that is, “whether the defendants’ acts were a ‘substantial factor in the sales transaction.’”[28] However, the concept of a “substantial factor” in a securities transaction is as ill-defined as other terms within this discussion.[29]
And as the SEC v. Genovese court pointed out, the “but-for” test raises its own problems. It “would require finding innumerable necessary participants to every unregistered securities offering—everyone who played an intermediate role, no matter how small, in the chain of causation leading to the sale.”[30] Indeed, “[a] strict ‘but-for’ test also is at odds with the Commission’s guidance, which provides that not every individual in the causal chain is a necessary participant.”[31]
Ultimately, in Genovese, the court organized the defendant’s activities into two categories: (1) those showing “direct involvement” in the sale and (2) those “activities ancillary” to the sale.[32] Examples of direct involvement, which implicate substantial participation, include where defendants “directly prepared . . . corporate resolutions and documentation”;[33] “formed entities for use in sale, solicited investments, provided subscription agreements, communicated with buyers and sellers, and directed broker action”;[34] and “found private parties as clients for deals, filed paperwork with regulators, served as president, CEO and director of transfer agency and handled promotion of stock.”[35] In contrast, the Genovese court ultimately found that “activities ancillary” were “too remote from the actual sale to rise to the level of necessary or substantial participation”—creating yet another criterion for considering what “necessary participation” is.[36]
Thus, in the Second Circuit alone, the new category of “necessary participant” created by Chinese Consolidated—explicitly described as being separate from the definition of underwriter in Section 2(a)(11)—has spawned a slew of tests, some of which appear to be attempting to shoehorn the classification back into the underwriter definition, and some of which follow Chinese Consolidated more strictly (and thus follow the statute far more loosely).
Other Circuit Courts’ Interpretation of Necessary Participant
In the wake of Chinese Consolidated, other circuit courts, including the U.S. Courts of Appeals for the Seventh and Ninth Circuits, also adopted a new, atextual “necessary participant” doctrine, often tempered by the “substantial factor” doctrine, to hold that defendants need not be issuers, underwriters, or dealers to be held liable for a Section 5 violation.[37] These courts often recognize the risk that a party whose minimal acts assisted in the unregistered securities distribution could be held liable for registration violations, but they have found that, “in practice, the standards differ little, for no court using the ‘necessary participant’ test has found liable a defendant whose acts were not a substantial factor in the sales transaction.”[38]
In SEC v. Holschuh, the Seventh Circuit formulated the test differently, explicitly finding that persons who were not underwriters may nevertheless be liable on the grounds that the statute refers to the transactions by people, not the people themselves.[39]Holschuh found that the defendant “was a ‘necessary participant’ and ‘substantial factor’ in the unlawful sales transactions,” and thus liable even though not an underwriter.[40] Thus, other circuits have used this “substantial factor” test as well—sometimes articulated somewhat differently from the Second Circuit, but still addressing the concept of a “necessary participant” rather than strictly an issuer, underwriter, or dealer.
Back to the Second Circuit: In re Lehman Brothers
After the adoption of the “but-for” test and “substantial factor” test, which both provided gloss on the “necessary participant” doctrine, the Second Circuit provided further guidance in a 2011 case, In re Lehman Brothers Mortgage-Backed Securities Litigation.[41] There, investors brought putative class actions to hold credit ratings agencies liable under the Securities Act, in part as underwriters. The plaintiffs attempted to argue that Second Circuit precedent construed the term underwriter broadly to include any person who is “engaged in steps necessary to the distribution of security issues.”[42] According to the plaintiffs’ logic, “any persons playing an essential role in a public offering . . . may be liable as underwriters.”[43] The court disagreed, stating that its “prior cases do not hold that anyone taking steps that facilitate the eventual sale of a registered security fits the statutory definition of underwriter.”[44] Rather, the court “stated that ‘underwriter’ references those who take ‘steps necessary to the distribution’ of securities.”[45]
Further elaborating on Chinese Consolidated, Kern, and other Second Circuit progeny, the court clarified that “this precedent cannot be read to expand the definition of underwriter to those who participate only in non-distributional activities that may facilitate securities’ offering by others.”[46] Rather,
the participation must be in the statutorily enumerated distributional activities, not in non-distributional activities that may facilitate the eventual distribution by others. This approach avoids the implausible result of transforming every lawyer, accountant, and other professional whose work is theoretically “necessary” to bringing a security to market into an “underwriter” . . . , a dramatic outcome that Congress provided no sign of intending.[47]
In its elaboration, the court corrected a common misinterpretation of Chinese Consolidated, remarking that “we note that the ‘steps necessary to the distribution’ language relied on by plaintiffs was originally employed by this court [in Chinese Consolidated] to explain a registration exemption, not the underwriter definition.”[48] The court noted, “[W]e stated [in Chinese Consolidated] that ‘[i]t,’ meaning the [4(a)(1)] exemption, ‘does not . . . protect those who are engaged in steps necessary to the distribution of’ securities because it is limited to transactions between individual investors.”[49]
On the one hand, Lehman Brothers clarified that Chinese Consolidated first employed the “steps necessary” language to carve out “necessary participants” from the Section 4(a)(1) exemption. On the other, Lehman Brothers clarified that underwriter references those who take “steps necessary to the distribution” of securities, despite that language not existing in the Section 2(a)(11) statutory definition of underwriter. In doing so, Lehman Brothers reconfirmed the departure from the text first set out in Chinese Consolidated: under these cases, a “necessary participant” is not just a type of underwriter; it’s a new category entirely—one that does not exist in the text of the 1933 Securities Act.[50]
Where to, from Here?
The rationale of the Securities Act was to provide the public accurate and complete information by the people or entities responsible for distributing securities to the public.[51] Yet, despite Congress’s circumscribed application of registration requirements to issuers, dealers, and underwriters, the Second Circuit expanded the group responsible for registration requirements to include “necessary participants” to the distribution of securities, even if they are not underwriters.
That expansion, initiated in a few lines in Chinese Consolidated in 1941 and expounded on over a period of decades by multiple circuit and district courts, stretches the plain language of Section 4(a)(1). Not only can the Section 2(a)(11) definition of underwriter include those who indirectly participate in the distribution of securities (already, arguably, at the outer reaches of Section 2(a)(11)), but even those who are not underwriters may not fall under the Section 4(a)(1) exemption if they are “necessary participants” and take “steps necessary” to the distribution of unregistered securities.
Chinese Consolidated opened the door for a nebulous “necessary participant” to include myriad individuals or entities other than issuers, underwriters, or dealers in the chain of a securities distribution. The Ninth Circuit’s discussion in Murphy raised the concern that “this broader standard could encompass a party whose acts in furtherance of the distribution were de minimis and who should not be held liable for registration violations.”[52]
In the era of digital assets trading over complex and interconnected computer networks, it might be a struggle to draw the appropriate limiting principle on who could be deemed a “necessary participant,” and an expansive interpretation could apply to innumerable persons and entities. No longer are we only concerned with a single newspaper editorial, as Judge Swan pointed to in his Chinese Consolidated dissent, but courts will be asked to consider: Websites that host front ends? Participants in a blockchain network, such as validators, stakers, or decentralized exchanges? Noncustodial wallet providers? Blockchains themselves?
For many (and perhaps all) of these categories, it would make no sense to hold the persons or entities creating or operating these technologies responsible for issuances of unregistered securities—not from a policy point of view, and certainly not under the plain language of the Securities Act. Indeed, given the free-flowing and permissionless nature of the internet and Web 3.0, participants may not even be aware of the role they play in the distribution chain—perhaps they simply publish software on the internet that could be used to ultimately purchase an alleged unregistered security.
Eighty years of case law has developed to suggest that a “necessary participant” is its own category, apart from issuers, underwriters, and dealers. That alone is a departure from the plain text of the Securities Act. Worse, as explained above, district courts have struggled to interpret the “necessary participant” language from Chinese Consolidated to apply some limiting principle, such that underwriter is not too broadly construed to include any person who is engaged in “steps necessary” to the distribution of securities.
Without the “necessary participant” doctrine’s advent in Chinese Consolidated, district courts would merely have to interpret the plain language of Section 4(a)(1) that applies to issuers, underwriters, and dealers—and perhaps Section 2(a)(11)—to determine who would be considered an underwriter. While some of the same analytical tools might be useful, such tools would be used within the context of Section 2(a)(11) and the rest of the underwriter definition, which—in context—might serve to limit some of the more expansive interpretations of which parties may be liable.
Ultimately, the “necessary participant” doctrine as first stated in Chinese Consolidated would be unlikely to survive a strict textualist Supreme Court review. Chinese Consolidated created a new category for liability, even if a person was not an underwriter. A textualist review would likely limit Section 4(a)(1)’s application to its plain language of only issuers, dealers, or underwriters (as defined in Section 2(a)(11)), not issuers, dealers, underwriters, or those who have engaged in “steps necessary” to the distribution of securities, as in Chinese Consolidated.
Further, a textualist review, grounded in the remainder of Section 2(a)(11) (and taking into account the context of that language), would be narrower. For example, such a review would not eliminate the words “for an issuer” from the Section 2(a)(11) definition of underwriter, meaning that an entity with no contractual arrangement or understanding with the issuer likely would not be considered an underwriter. Deeming an individual or entity integral to distributing an alleged security, and thus liable under Section 5, simply because it provides information about or access to that security, despite no relationship or understanding with the issuer, is unmoored from the plain language of Section 5.
Unless the Supreme Court, other courts of appeal not bound by prior circuit law, or Congress weighs in and ends this eighty-year-long (and counting) detour away from the plain statutory language of the Securities Act, the definition of necessary participant, and the myriad considerations that influence what a “necessary participant” is, will remain unclear for individuals and entities operating in the securities industry and beyond.
15 U.S.C. § 77b(a)(11); see Fed. Deposit Ins. Corp. v. Credit Suisse First Bos. Mortg. Sec. Corp., 414 F. Supp. 3d 407, 413 (S.D.N.Y. 2019). ↑
In re Refco, Inc. Sec. Litig., No. 05-cv-8626, 2008 WL 3843343, at *4 (S.D.N.Y. Aug. 14, 2008) (citing Ackerberg v. Johnson, 892 F.2d 1328, 1335 (8th Cir. 1989)). ↑
McFarland v. Memorex Corp., 493 F. Supp. 631, 644 (N.D. Cal. 1980). ↑
Circuit Judge Swan dissented, pointing out that “the majority opinion has construed the statute more broadly than its language will permit.” Id. at 742. In his interpretation, including the defendant within the definition of an underwriter “gives no meaning to the words ‘for an issuer.’” Id. He pointed out that under the majority’s construction, “a single newspaper editorial, published without instigation by the Chinese Government and merely urging the purchase of the bonds in the name of patriotism, would make the newspaper an ‘underwriter,’” and that he “cannot believe the statute should be so interpreted.” Id.↑
See SEC v. N. Am. Rsch. & Dev. Corp., 424 F.2d 63, 82 (2d Cir. 1970) (noting that Chinese Consolidated “make[s] it clear that being an underwriter is not a prerequisite to a finding of violation of Section 5”); SEC v. Culpepper, 270 F.2d 241, 246 (2d Cir. 1959) (“In [Chinese Consolidated] we noted the underlying policy of the [Securities] Act, that of protecting the investing public through the disclosure of adequate information, would be seriously impaired if we held that a dealer must have conventional or contractual privity with the issuer in order to be an ‘underwriter.’”). ↑
425 F.3d 143, 152 (2d Cir. 2005) (citing Chinese Consolidated). Ironically, the citation of Chinese Consolidated’s “steps necessary” language to define underwriter in Kern “was arguably dictum because the transaction in that case unquestionably ‘involved underwriters,’ rendering [Section 4(a)(1)] inapplicable.” In re Lehman Brothers Mortg.-Backed Sec. Litig., 650 F.3d 167, n.7 (2d Cir. 2011). ↑
See SEC v. Mattera, No. 11-cv-8323, 2013 WL 6485949, at *10 (S.D.N.Y. Dec. 9, 2013) (holding that “necessary participants” in unregistered distributions may be liable under Section 5); SEC v. Sason, 433 F. Supp. 3d 496, 513 (S.D.N.Y. 2020). ↑
SEC v. Universal Express, Inc., 475 F. Supp. 2d 412, 422 (S.D.N.Y. 2007) (quoting SEC v. Murphy, 626 F.2d 633, 651–52 (9th Cir. 1980)). ↑
Id. (quoting Murphy, 626 F.2d at 651–52); see also SEC v. Genovese, No. 17-cv-5821, 2021 WL 1164654 (S.D.N.Y. Mar. 26, 2021) (noting that Sason and Mattera qualify the “necessary participant” test “with statements that the defendants’ acts must be a ‘substantial factor in the sales transactions’”). ↑
See SEC v. Elliott, No. 09-cv-7594, 2011 WL 3586454, at *7 (S.D.N.Y. Aug. 11, 2011) (“As for substantial participation, to be sure it is a concept without precise bounds. . . .”). ↑
Id. (quoting In re Owen v. Kane, Exchange Act Release No. 23827, 1986 WL 626043, at *3 (1986) (reinforcing that “not everyone in the chain of intermediaries between a seller of securities and the ultimate buyer is sufficiently involved in the process to make him responsible for an unlawful distribution”). ↑
See, e.g., SEC v. Murphy, 626 F.2d 633, 648 (9th Cir. 1980) (“Although we have rejected Murphy’s exemption argument because he need not be an issuer, underwriter or dealer to be held liable for a § 5 violation, we recognize that Murphy’s role in the transaction must be a significant one before liability will attach.”). ↑
Id.; see also SEC v. CMKM Diamonds, Inc., 729 F.3d 1248, 1255 (9th Cir. 2013) (“Prior to the issuance of a security, numerous persons perform mechanical acts without which there could be no sale. . . . [B]ut these acts nonetheless do not render the defendants sellers” because their “acts must also be a substantial factor in bringing about the transaction.”). ↑
As noted above, in Sourlis, the Second Circuit—after Lehman Brothers—sidestepped the whole morass, simply quoting and relying on Chinese Consolidated without even mentioning the word underwriter. 851 F.3d 139, 143–44 (2d Cir. 2016). ↑
See H.R. Rep. No. 73-85, at 5 (1933) (noting that the Securities Act imposes fiduciary-like responsibilities on “all those responsible for statements upon the face of which the public is solicited to invest its money,” namely, “directors of the issues, its experts, and the underwriters who sponsor the issue”). ↑
Directors and officers of Delaware corporations often benefit from a robust suite of liability protections that generally include exculpation rights, indemnification rights, rights to recoup expenses incurred while defending a proceeding in advance of its final disposition (or “advancement” rights), and rights under director and officer (D&O) liability insurance policies. While each aspect of this so-called three-legged stool[1] of executive protection—exculpation, indemnification/advancement, and insurance—often has different exclusions and exceptions, personal, monetary liability of individual directors and officers is exceedingly rare. For example, even if a company becomes insolvent or is prohibited from or unwilling to indemnify or advance legal fees on behalf of the executive, the executive may nonetheless be entitled to D&O insurance coverage for nonindemnified losses, protecting the individual from personal exposure.
But as the Delaware Court of Chancery’s recent post-trial opinion in InterMune v. Harkonen[2] illustrates, these protections are not bulletproof. There, the Court of Chancery ordered the CEO and director of InterMune, Inc. to repay almost $6 million of advanced funds where the executive had been convicted of wire fraud and exhausted all appeals. As such, Harkonen serves as a reminder that, while only possible under an increasingly uncommon set of facts, “advanced sums sometimes must be repaid.”
Background
The proceedings central to the Harkonen dispute were criminal and administrative fraud disputes waged for over twenty years. In 2002, Dr. Scott Harkonen, InterMune’s CEO and board member, issued a press release that (per the opinion) “misrepresented . . . clinical study results” for an InterMune drug product candidate. The U.S. Department of Justice launched an investigation into the press release in 2004, which led to criminal indictments for felony misbranding and felony wire fraud. In 2009, a federal jury found Harkonen guilty of wire fraud but not misbranding.
Harkonen challenged that finding through an extensive series of motions, petitions, and appeals at the U.S. district court, U.S. circuit court, and U.S. Supreme Court levels. His campaign in the courts ultimately proved unsuccessful and the verdict stood. All the while, Harkonen retained a “sophisticated and well-resourced” defense team and accrued expenses—advanced on his behalf by both the company and its D&O insurers—that exhausted the applicable D&O policy’s $10 million primary policy, $5 million first excess policy, and $5 million second excess policy.
Several ancillary proceedings unfolded in parallel. Between 2011 and 2015, Harkonen defended himself in professional misconduct proceedings brought by the Medical Board of California, which culminated in a finding of cause for discipline and resultant punishments. And perhaps more relevant for Harkonen’s future recoupment battles, two of InterMune’s D&O insurance carriers filed an arbitration action to recover the $10 million advanced to Harkonen under the two $5 million excess policies.
The insurers succeeded in those efforts, demanding repayment in arbitration proceedings based on the D&O policies’ so-called fraud exclusion—common in most modern D&O policies—barring coverage for loss arising out of deliberate criminal or fraudulent acts if established by a final adjudication. The arbitration panel concluded on dispositive motions that the insurers could recoup millions of dollars in defense costs advanced to defend the wire fraud count and fees and costs incurred to defend against allegations relating to the offending press release. Eventually, the D&O insurance claims were settled, with InterMune repaying all excluded loss, subject to a reservation of rights against Harkonen.
After advancing the full settlement amount, InterMune sued Harkonen to claw it back. As is common, InterMune’s bylaws and indemnification agreements required all executives seeking advancement to undertake to repay any funds ultimately determined not indemnifiable. And while both instruments guaranteed Harkonen indemnification to the fullest extent permitted by law, Section 145 of the Delaware General Corporation Law only empowers corporations to indemnify directors and officers if the indemnitee “acted in good faith and in a manner the person reasonably believed to be in or not opposed to the best interests of the corporation, and, with respect to any criminal action or proceeding, had no reasonable cause to believe the person’s conduct was unlawful.” Failure to satisfy that standard of conduct—by, for example, acting in bad faith—forecloses indemnification and can trigger an obligation to repay advanced funds.
The Court of Chancery’s Post-Trial Opinion
So it was in Harkonen. At the summary judgment stage, the Court of Chancery had held that Harkonen’s felony fraud conviction foreclosed his ability to satisfy Section 145’s standard of conduct requirement because bad faith was a subsidiary element of the crime. That meant that the only issue left to decide in the follow-on advancement clawback trial was whether the roughly $6 million that InterMune had advanced to settle the insurance arbitration arose in connection with Harkonen’s fraud conviction.
The Court of Chancery concluded that it did, as the settlement (which, the court highlighted, Harkonen himself agreed to) had been tailored to reflect only sums attributable to the wire fraud count. As such, indemnification was unavailable, and the court ordered Harkonen to repay the full amount advanced for the settlement.
Takeaways
In one sense, Harkonen is a reminder that “fullest extent permitted by law” indemnification protection does indeed have limits. In another sense, though, Harkonen is perhaps better understood as an exception that proves the rule. That is, proceedings against directors and officers in their corporate capacities rarely result in personal liability, a result only reached in Harkonen under extreme facts: (i) adjudicated criminal misconduct involving a specific finding that the executive acted in bad faith and (ii) a complete exhaustion of appeals.
Notwithstanding the uncommon set of facts giving rise to Harkonen’s approximately $6 million repayment obligation, the result shows that D&O insurers can and will enforce available policy exclusions to support recoupment claims following an adverse, final adjudication. InterMune’s D&O policies had strong final-adjudication exceptions to the standard conduct exclusion, but not all insurers and forms are created equal, and they require careful analysis at the time of placement or renewal, not after a claim arises. Negotiating robust limitations on exclusionary provisions, especially those based on fraudulent and criminal conduct, can help mitigate the risk of insurer recoupment in all but the most dire circumstances where fraud is actually and finally adjudicated.
The authors are co-chairs of the ABA Business Law Section Director and Officer Liability Committee. The views expressed in this article are those of the authors and not necessarily those of Richards, Layton & Finger, Hunton Andrews Kurth, or their respective clients.
After what one commissioner described as “intense negotiations” among the commissioners, the Federal Trade Commission (FTC) has unanimously approved a substantial overhaul to the rules governing the documents and information that must be submitted as part of parties’ premerger notification filings under the Hart-Scott-Rodino Antitrust Improvements (HSR) Act. The FTC asserts that the changes are necessary to allow it and the Antitrust Division of the Department of Justice to “keep pace” with “the realities of how businesses compete today” and provide them with the information needed to detect transactions that may harm competition.
Although the HSR Final Rule dropped or modified a number of the items sought in the June 2023 proposed rule, it will still require a great deal more time, effort, and information than the current rules. Indeed, the FTC itself found:
[T]he average number of additional hours required to prepare an HSR filing with the changes outlined in the final rule is 68 hours, . . . with an average high of 121 hours for [purchaser] filings . . . in a transaction with overlaps or supply relationships.
Based on our experience, these estimates appear low. The lead time necessary to prepare a filing will increase dramatically to two or more weeks. Many filers, particularly large companies with a wide array of products or services, and private equity groups, will face a significant burden under the new filing rules.
The FTC also announced that after the Final Rule becomes effective (ninety days from publication in the Federal Register), it will lift its categorical suspension on early termination of filings made under the HSR Act. The agencies anticipate that the additional documents and information provided by the Final Rule will facilitate their antitrust assessments and help inform the processes and procedures used to grant early termination.
Summary of Key Aspects of the Final Rule
For HSR filings made based on an executed letter of intent or term sheet, instead of a definitive agreement, parties must submit:
A document that includes “some combination of the following terms: the identity of the parties; the structure of the transaction; the scope of what is being acquired; calculation of the purchase price; an estimated closing timeline; employee retention policies, including with respect to key personnel; post-closing governance; and transaction expenses or other material terms.”
An affidavit accompanying the filing “attest[ing] that a dated document that provides sufficient detail about the scope of the entire transaction that the parties intend to consummate has also been submitted.”
Filers must provide their regularly prepared ordinary course plans and reports that “analyze market shares, competition, competitors, or markets pertaining to any product or service of the acquiring person also produced, sold, or known to be under development by the target” that were “prepared or modified within one year of the date of filing” and, regardless of the regularity of their preparation, any similar plans provided to the board of directors (or its equivalent).
Parties must describe their “principal categories of products and services,” including any “current or known planned product or service” that competes with one of the other party. The parties are instructed not to “exchange information for the purpose of answering this item.” But for any self-reported overlapping product or service—so-called overlap filings—the parties must provide:
top ten customers overall and by product or service category;
sales revenue, “projected revenue, estimates of the volume of products to be sold, time spent using the service, or any other metric” used to measure performance;
description of all categories of customers of the product or service; and
if the product or service is still in development, “the date that development of the product or service began; a description of the current stage in development, including any testing and regulatory approvals and any planned improvements or modifications; the date that development (including testing and regulatory approvals) was or will be completed” and the anticipated launch date.
This information is not required for executive compensation transactions and open market purchases or equity purchases from holders other than the target that will not confer control of the target or board representation rights (“select 801.30 transactions”).
Parties must describe all transaction rationales, including cross-referencing them with the transaction-related documents submitted with the filing (with the exception of select 801.30 transactions).
In addition to transaction-related documents prepared by or for officers and directors, the parties must submit all studies, surveys, analyses, and reports evaluating the proposed transaction regarding market shares, competition, competitors, markets, potential for sales growth or expansion into product or geographic markets, and prepared by or for the “supervisory deal team lead.”
The Final Rule defines supervisory deal team lead as the “individual who has primary responsibility for supervising the strategic assessment of the deal, and who would not otherwise qualify as a director or officer.”
Parties will be required to submit accurate and complete verbatim translation of foreign-language documents.
Submission of all documents governing the transaction, “including, but not limited to, exhibits, schedules, side letters, agreements not to compete or solicit, and other agreements negotiated in conjunction with the transaction that the parties intend to consummate, and excluding clean team agreements.”
Parties must describe any supply relationships between the purchaser and target, including the amount of revenue involved and the top ten customers other than the transaction counterparty, and note if the purchaser and target have any nonsolicitation agreements, noncompete agreements, leases, licensing agreements, master service agreements, operating agreements, or supply agreements.
Reporting of defense or intelligence contacts with a value equal to or greater than $100 million for (1) pending proposals submitted to the U.S. Department of Defense or any member of the U.S. intelligence community and (2) awarded procurement contracts with the U.S. Department of Defense or any member of the U.S. intelligence community.
Parties must report if they have “received any subsidy (or a commitment to provide a subsidy in the future) from any foreign entity or government of concern,” meaning China, Russia, Iran, North Korea, any foreign terrorist organization designated by the Secretary of State, or any Office of Foreign Assets Control specially designated national.
The new burdens imposed by the Final Rule are substantial. It is worth noting, however, some of the most significant changes from the 2023 proposed rule were not carried over to the Final Rule. These are set forth below.
Final Rule’s Key Changes Compared to the 2023 Proposed Rule
Eliminates the requirement that merging parties provide all drafts of transaction-related “document[s] that were sent to an officer, director, or supervisory deal team lead(s).”
Abandons mandates that merging parties (1) classify their employees by job category codes from the U.S. Bureau of Labor Statistics, (2) classify their employees by the U.S. Department of Agriculture’s Economic Research Service commuting zones, and (3) identify any penalties or findings issued against the filing person by the U.S. Department of Labor’s Wage and Hour Division, the National Labor Relations Board, or the Occupational Safety and Health Administration.
Revises the definition of “supervisory deal team lead” to limit it to a single individual, eliminating the need to review multiple employees’ files for transaction-related or Item 4 documents.
Limits disclosure requirements for limited partners without management rights.
Removes demands for filers to create some new documents, such as deal timelines and organization charts, though still seeks such information to the extent it exists in the ordinary course of the filer’s business.
Shortens lookback periods for certain requests, including identification of directors and prior acquisitions.
Eliminates requirement that filers identify and list all communications systems or messaging applications on any device used by the filing person that could be used to store or transmit information or documents related to its business operations.
The impact of the Final Rule will become clearer as HSR filings are made under the new regime and the FTC’s Premerger Notification Office starts to engage with the new format and the substantial volume of additional documents and information provided.
This article is Part III in the Many Splendors of Fraud Claims series by Glenn D. West, which explores recent cases that affect drafting practices for avoiding fraud claims in private company M&A.
In a recent order denying a motion for reargument in Surf’s Up Legacy Partners, LLC v. Virgin Fest LLC, the Delaware Superior Court was faced with a claim that the “Fraud” carved out from an Asset Purchase Agreement’s (“APA”) indemnification caps did not require proof of reliance.[1]
A Fraud Definition without a Mention of Reliance
Fraud was defined in the APA as “any false representation, misrepresentation, deceit, or concealment of a fact with the intention to deceive, conceal or otherwise cause injury.”[2] The definition then went further to state that “‘Fraud’ shall not include constructive fraud or other claims based on constructive knowledge or merely negligent misrepresentation or similar theories.”[3] The defined term Fraud was then used in the indemnification provision to eliminate all of the contractual limitations and caps on losses “in the event of any breach of a representation or warranty by any Party hereto that results from or constitutes Fraud.”[4]
The buyer argued that this definition of Fraud “clearly obviates the normal (or common law) requirement of reliance, because reliance is not mentioned in the provision.”[5] While the court noted that the parties could have eliminated reliance as an element of the fraud claim, the court refused to find that this particular definition did so. It helped that the definition stated that a “false representation [or] misrepresentation” had to be “with the intention to deceive, conceal or otherwise cause injury.”[6] Moreover, the disclaimers all related to lesser states of mind applicable to fraud. Therefore, the court concluded that all this definition did was incorporate the common-law concept of fraud while eliminating “fraud claims with a state of mind less than intentional knowledge.”[7] What the definition did not do, according to the court, was constitute “a waiver of reliance.”[8]
Less Versus More
That is great, but this case did make me pause and consider that we sometimes say both less and more than we need to—and we leave things out in the process.
It is not uncommon to see definitions of Fraud that do not actually use the word fraud in them; instead, they simply refer to intentional or deliberate misrepresentations or breaches of the express representations and warranties. In that context, would the buyer have to prove reliance?
And there are those definitions of Fraud that, while not using the term fraud in the definition, nevertheless include all of the elements of common-law fraud, including reliance. A good example can be found in the August 13, 2024, Stock Purchase Agreement governing the $2.095 billion Performance Food Group Company’s acquisition of the stock of Cheney Bros., Inc.:
“Actual Fraud” means the making by a Party,[9] to another Party, of a representation or warranty contained in Article 3, Article 4 or Article 5; provided that at the time such representation or warranty was made by such Party (a) such representation or warranty was inaccurate, (b) such Party had actual knowledge (and not imputed or constructive knowledge), without any duty of inquiry or investigation, of the inaccuracy of such representation or warranty, (c) in making such representation or warranty such Party had the intent to deceive such other Party and to induce such other Party to enter into this Agreement or consummate any transaction contemplated hereby and (d) such other Party acted in reasonable reliance on such representation or warranty; provided that for the purposes of this definition, the Party making the representations and warranties of the Company in Article 3 shall be limited to the Persons listed in the definition of Knowledge. For the avoidance of doubt, “Actual Fraud” does not include equitable fraud, promissory fraud, unfair dealings fraud, or any torts (including fraud) based on negligence or recklessness.
Note that the term fraud is not used in the above definition, except in the “avoidance of doubt” clause at the end. If clause (d) had been left out of this definition, could an argument be made that reliance is not required to prove “Actual Fraud” for the purposes of this agreement? Would your answer change if the “avoidance of doubt” clause had been left out too? Not sure? Why take the chance?
All we are trying to do from the sell side, and sometimes from the buy side (particularly if there is an earnout), is to limit fraud claims to those that cannot be eliminated in any event in Delaware—i.e., “intentional and knowing common law fraud claims respecting the express representations and warranties in the agreement.” Using the term intentional and knowing common law fraud should mean that the elements of common-law fraud (including reliance) have to be satisfied but that the scienter requirement excludes recklessness. In addition, equitable fraud is off the table, too, because it is not common-law fraud.
Accordingly, the following definition from the July 18, 2024, Purchase Agreement governing Amphenol Corporation’s $2.1 billion acquisition of certain assets of CommScope Holding Company, Inc., might provide less risk of getting it wrong:
“Fraud” means actual,[10] intentional and knowing common law fraud under Delaware law in the making of the representations and warranties set forth in Article 4 or Article 5 (each as qualified by the Schedules to the Disclosure Letter), or in any certificate delivered pursuant to Section 7.2(d) or Section 7.3(g), and specifically excluding equitable fraud or constructive fraud of any kind (including based on constructive knowledge or negligent misrepresentation).
I certainly do not have a problem with the more elaborate definitions, particularly those that disclaim lesser scienter requirements specifically, as well as all the other types of fraud. However, try not to open the door to arguments that you were defining Fraud in a manner that did not include all of its common-law elements.
No. N19C-11-092 PRW CCLD, 2024 WL 3273427 (Del. Super. Ct. July 2, 2024) (order denying motion for reargument). ↑
In the next article in this series, we will discuss the fact that the common practice of limiting fraud to the party making the representations does not work the way that many deal lawyers apparently think it does. So, stayed tuned on that one. ↑
I actually prefer leaving the term actual out. It seems like all common-law fraud types are actual (or “real”) fraud—we just like to think that anything other than the intentional variety is not “actual,” but constructive, fraud. Probably not fatal, but I certainly do not think the term actual adds anything to intentional and knowing. In addition, please do not use just the term actual alone, assuming that it means an intentional or knowing misrepresentation. There is case law defining actual fraud as not necessarily involving a representation at all—just some kind of deceitful activity that has been given the moniker unfair dealings fraud; and there is certainly case law that would implicitly include recklessness (not just intentionality) in the concept of “actual fraud,” even if it was confined to a misrepresentation. See Glenn D. West, That Pesky Little Thing Called Fraud: An Examination of Buyers’ Insistence upon (and Sellers’ Too Ready Acceptance of) Undefined “Fraud Carve-Outs” in Acquisition Agreements, 69 Bus. Law. 1049, 1063–64 (2014); see also Husky Int’l Elecs., Inc. v. Ritz, 578 U.S. 355, 362 (2016) (noting that “a false representation has never been a required element of ‘actual fraud’”). ↑
Millions of working Americans (approximately one in five) are subject to noncompetes—that is, legal agreements that restrict employees from activities that increase competition for their employers.[1] In June 2024, just months after the Federal Trade Commission (“FTC”) voted to implement a nationwide ban on the use of noncompete agreements,[2] the U.S. Supreme Court issued a landmark ruling that overturned Chevron deference—a forty-year-old doctrine that had previously required courts to defer to federal agencies’ interpretations of ambiguous statutes.[3] In August 2024, a district court ruled that the FTC could not implement its proposed ban; the FTC is considering appealing this decision.[4]
Despite the rulings against the FTC’s authority, a key economic question for both sides of the emerging legal dispute concerns the potential consequences of a nationwide noncompete ban. The FTC’s proposed rule comes in the wake of research and speculations regarding the intended and unintended consequences of noncompetes.[5] Some have postulated that a nationwide ban on noncompetes would lead to an increased number of trade secret disputes because, as proponents of noncompetes argue, such agreements are used to safeguard a company’s sensitive information, including trade secrets.[6]
Whether a nationwide ban on noncompetes would have a quantifiable impact on the volume of trade secret cases is ultimately an empirical question—one that the authors of this article examined in a previous publication.[7] In that article, we identified and examined state-level variations in noncompete regulations over time alongside annual federal trade secret caseloads to empirically explore any potential relationship between these two factors. We summarize our main findings here and conclude with some related considerations regarding how companies may approach intellectual property (“IP”) policies in light of the expected regulatory developments in noncompetes.
Impact of Noncompete Regulations on Trade Secret Caseloads
Over the last two decades, states have varied in their approach to whether and how noncompetes are enforced. Using a variety of publicly available sources, we assigned states to one of three categories: (1) states that have already banned noncompetes, (2) states that have introduced various forms of restrictions on the enforcement of noncompetes, and (3) states that enforce noncompetes without restrictions.
When analyzing the average annual trade secret caseloads across the three categories, we observed that states with a ban on noncompetes experience the highest levels of trade secret cases. Specifically, as presented below in figure 1, beginning around 2006, the average number of trade secret cases was highest among states with a ban on noncompetes (on average, thirty-one annual cases between 2006 and 2023), followed by states that have imposed some form of restriction on noncompete enforcement (on average, eighteen annual cases), and, finally, states that enforce noncompetes without any restrictions (on average, thirteen annual cases). These findings are consistent with the hypothesis that a nationwide ban on noncompetes could lead to more trade secret disputes.
Figure 1. Average number of trade secret cases filed per state, 2000–2023.
Data obtained from Lex Machina, district court cases database. For each year, the total number of cases filed across states in each of the three categories was divided by the number of states in those categories. In the year of transition, each state was assigned to its post-change category.
However, subsequent analyses indicated that once we factored in state populations, the results no longer supported the previously implied relationship between noncompetes and trade secrets. In figure 2 below, we reproduce the trends for the three categories of states. This time, instead of plotting the total annual number of trade secret cases divided by the number of states in each category, we plot the volume of trade secret cases per one million residents. The resulting trends across the three categories differ substantially from those in figure 1. Specifically, in figure 2, we do not observe the same ordering of the categories. In fact, the ordering of the categories appears to vary at different points in time. While the trends in figure 1 support the hypothesis that a nationwide ban on noncompetes would increase trade secret cases, the patterns in figure 2, or lack thereof, indicate no evidence of such a relationship. Said differently, observed differences in the volume of trade secret cases across the three categories of states are influenced by state characteristics such as population size rather than solely by their enforcement of noncompetes.
Figure 2. Average number of trade secret cases filed per million population, 2000–2023.
Data on trade secret case counts obtained from Lex Machina, district court cases database. For each year, the total number of cases filed across states in each of the three categories was divided by the total population across those states. In the year of transition, each state was assigned to its post-change category. Population data for the fifty states and Washington, D.C., were sourced from Release Tables: Resident Population by State, Annual, FRED (2000–2023).
When we abstracted from aggregate analyses and instead analyzed individual state-level data, our findings were once again mixed. For some states, including Illinois, Louisiana, and Washington, implementing some form of restriction on the enforcement of noncompetes was followed by a decline in per capita trade secret cases. This implies that doing away with noncompetes may not lead to more trade secret cases. On the other hand, in states like Nevada, Oregon, Utah, and Virginia, implementing some form of restriction on the enforcement of noncompetes was followed by an increase in per capita trade secret cases. The experience in these states implies that doing away with noncompetes may lead to more trade secret cases.
Considerations Regarding How Companies May Approach IP Policy
When the aggregate analysis of the different categories of states and the before-and-after experiences of select individual states are taken together, our findings lead us to conclude that a nationwide ban on noncompetes is unlikely to lead to any immediate surge in trade secret cases. At the same time, however, we recognize that any impact of a nationwide ban on the volume of trade secret cases may not be immediate. Moreover, we do not claim our estimated effects or lack thereof to be causal. We interpret our findings as preliminary and as motivation for state-level analyses that control for additional confounding factors that may impact both the enforcement of noncompetes and the volume of trade secret cases.
Our findings highlight some important considerations regarding how companies may approach their IP policies. When evaluating both existing and new IP strategies, it may be prudent to consider the potential short-term and long-term impacts. This can ensure the retention of valuable IP developed within a company, particularly before any employee departure.
To this end, an initial consideration is determining the most suitable IP protection for the technology being developed. Specifically, companies can prioritize assessing whether patent protection is more appropriate than trade secret protection. A ban on noncompetes could change how companies assess their IP strategy. In particular, when employees and the knowledge they gain from their employers become more portable, it may become harder to keep proprietary, inventive knowledge a secret. If this knowledge offers a competitive advantage, companies may place greater emphasis on securing patent protection. At the same time, as other studies have suggested, trade secrets and patents don’t need to be viewed as mutually exclusive. A viable IP strategy could involve patenting certain aspects of a technology while maintaining trade secret status for others.[8]
Regardless, this highlights an essential task companies should undertake in the light of the potential noncompete ban—revisiting and redefining clear trade secret policies. While trade secret policies may vary across companies due to budget constraints and the nature of the business, having a strong chance of enforcing trade secret protection in litigation requires clear policies. Companies must define what constitutes a trade secret and specify the protective measures in place to maintain its secrecy. This includes establishing protocols for the development, marking, and accessing of the information both physically and electronically. Additionally, in light of the potential ban on noncompetes, trade secret protocols should include oversight of individuals with access to sensitive information. In the absence of noncompete agreements, measures like assignment and confidentiality agreements can help alleviate concerns about the portability of a company’s trade secrets or confidential information.
Chevron Deference, Cornell L. Sch. Legal Info. Inst. (updated July 2024). This shift in power from federal agencies to the judiciary may, among other things, limit the FTC’s ability to enforce a federal ban on noncompetes based on its interpretation of its statutory mandate to protect competition. ↑
For example, existing studies on noncompetes have focused on their impact on wages and employee mobility, highlighting differences in enforcement and outcomes in various states or industries. Studies have also explored the broader economic impacts of noncompetes, examining their influence on firm behavior, such as investments in training or research and development, as well as their overall effects on market competition and consumers. Gabriella Monahova & Kate Foreman, A Review of the Economic Evidence on Noncompete Agreements, Competition Pol’y Int’l (May 31, 2023); see also Evan Starr, Noncompete Clauses: A Policymaker’s Guide Through the Key Questions and Evidence, Econ. Innovation Grp. (Oct. 31, 2023). ↑
