Category Archives: Commercial Contracts

May a Party be Bound to an Executed Operating Agreement That Was Not Intended to be Final?

In Fabrau, L.L.C. v. Prashant Shah, et. al., No. A-4464-10T3 (N.J. Super. Ct. App. Div. July 11, 2012), the Appellate Division of the Superior Court of New Jersey was presented with the following question: Should parties be bound by an executed operating agreement that was not intended by all the parties to be final when there is evidence that a subsequent operating agreement was created but was not signed?

In that case, Fabrau, L.L.C. (“Fabrau”) filed a complaint against two of its alleged members, Prashant Shah (“Shah”) and Srinivisa Nallamotu (“Nallamotu”) (collectively “Parties”) for breach of the confidentiality and non-competition provisions of an operating agreement. Id. at 2.

Fabrau sought to develop low-cost, transparent software to assist in setting prices for pharmaceuticals sold by smaller pharmaceutical companies to government entities.  Chester Schwartz (“Schwartz”) was approached to help with sales and marketing, Nallamotu was approached because he was also interested in a more affordable alternative to a government pricing system and Shah was approached to help develop the product.  A draft amended operating agreement was created naming the members as Fabriczi (one of the creators of Fabrau), Rau (the other creator of Fabrau) (collectively “The Creators”), Nallamotu, Schwartz and Shah.  However, Shah sent an email explaining that there was changes he wished to discuss as per his lawyer’s suggestion.  At some point either before or after this e-mail, an undated draft operating agreement was executed by everyone except Nallamotu in a parking lot.

Fabrau argued that the signed agreement was final and binding on both Shah and Nallamotu because, although Nallamotu did not sign it Nallamotu had written an e-mail to a customer announcing that he had formed a company with a few people from the industry.  See Id. at 5.  Fabrau contended that this evidenced Nallamotu’s intention to be bound by the operating agreement. See Id. 

In contrast, Shah asserted that he was induced to sign the agreement by The Creators’ representation that Schwartz would not do his part of the work unless an agreement were signed; Shah also claimed that all who signed in the parking lot acknowledged that the agreement was not binding. See Id.  Nallamotu asserted that the fact that he never executed the agreement at issue should have been enough to show that he was not bound by its terms. 

The Appellate Division pointed to evidence that showed that sometime after the execution of the initial agreement, another member was recruited to the company.  The operating agreement was amended to reflect Christopher Biddle’s (“Biddle”) name, however, it was never executed.  A subsequent email was sent to all of the members asking that the document be executed and a few days after that another email listed the execution of the agreement as one of the “Company Action Items.” Id. at 7.  The Parties contended that the unexecuted document further evidenced that no agreement was ever reached.

After months of struggling to make sales of the pricing system, and after months of no communication between the members, The Creators decided to contact an outside vendor to see about converting the Shah-designed government pricing system to a web-based application.  Then they contacted a venture capital company (“Company”) to promote the product. Unbeknownst to The Creators, Shah and Nallamotu had also contacted the Company for help with the same product.  As a result of intellectual property concerns, the Company made inquiries that led to The Creators and Shah and Nallamotu finding out that each group was trying to promote the product. The Creators consequently filed a lawsuit against Shah and Nallamotu.

At trial, the Superior Court of New Jersey, Law Division, found that because Shah was admittedly the sole creator of the product, he had an ownership interest in the software.  Further, they found that no certificate of formation of Fabrau named Shah and Nallamotu as members of the company.  The Law Division concluded that a viable partnership agreement had never been reached by the parties.

On appeal, the Appellate Division agreed with the Law Division and also found that there was no meeting of the minds with respect to the operating agreement. It remained unexecuted in the Parties’ eyes at the time it was presented to Biddle and thereafter (as evidenced by the e-mail asserting that execution of the agreement was on the “Company Action Items” list). See Id. at 15. Ultimately, the Appellate Division found that the agreement that was executed in the parking lot was a sham designed to mislead Schwartz into believing that his expectations would be protected if he proceeded.  The parties’ conduct failed to manifest intent to be bound by their initial agreement.  See Id. at 17.  The Appellate Division affirmed the Law Division’s holding that no contract existed, and Shah and Nallamotu could not be bound.  See Id.

Proof of execution of an agreement is not the only thing that courts use to determine the rights and obligations of parties.  As shown in Fabrau, a court might consider the intent of the parties in conjunction with electronic communication that evince a contrary intention than what is displayed in the agreement.  The parties should have a common understanding of their expectations and responsibilities under the agreement.  Most importantly, it is vital that any correspondence or documentation between the parties reflect what they intend. This will serve to increase the agreements enforceability in court.

Comments/Questions: gdn@gdnlaw.com

© 2012 Nissenbaum Law Group, LLC

Free Seminar: Legal Strategies for Collecting Delinquent Accounts March 7 & 8, 2012

Do your customers or clients owe you money?  Are your collection strategies working?  Is there a better way to approach collections?

The Nissenbaum Law Group is offering a FREE seminar on collecting delinquent accounts that will cover the following: 

  • Special contract provisions that you should consider adding to your purchase orders, customer contracts or invoices;
  • How the Fair Debt Practices Act applies to delinquent accounts;
  • Legal strategies for collecting delinquent accounts without a lawsuit;
  • Legal strategies for collecting delinquent accounts with a lawsuit; and
  • Once you win the lawsuit, legal strategies to collect your judgment.

Seminar Details:

The program will be repeated twice.

Seminar (Live on-site):

Date:     March 7, 2012

Time:    12:30 p.m.

Place:    Nissenbaum Law Group

             2400 Morris Avenue (3rd Fl.)

             Union, NJ 07083

Webinar (Online):

Date:     March 8, 2012

Time:    12:30 p.m.

Registration:

Web:          gdnlaw.com/contact.htm 

Phone:       908-686-8000

Deadline:   March 1, 2012

When registering, please specify whether you will be attending the in-person seminar or the webinar.

QUESTIONS? Please call 908-686-8000 or email: gdn@gdnlaw.com

Please note that this seminar is being given on a first come, first serve basis.  In the event that the seminar is filled, we may elect to place you on a waiting list and/or to enlist additional seminar dates.  Please register early to ensure your spot.

About the Speaker:

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Gary D. Nissenbaum, Esq. is the managing attorney and founding principal of the Nissenbaum Law Group, LLC. He has been practicing continuously in the area of commercial litigation and transactions for nearly thirty years. Mr. Nissenbaum has been awarded the AV professional peer review rating (“AV”) by the Martindale Hubbell Legal Directory Rating Service.

Please note that this seminar does not constitute legal advice or create an attorney/client relationship. In the absence of a written retainer agreement, the Nissenbaum Law Group disclaims any duty to follow up, update or otherwise elaborate on any legal issues or matters.

Comments/Questions: gdn@gdnlaw.com

© 2012 Nissenbaum Law Group, LLC

When Are Non-Solicitation Covenants in an Employment Agreement Enforceable?

A recent case offers guidance to New York employers concerning their ability to restrict former employees from attempting to take away the employer’s customers.

In that case, a former employee of USI Insurance Services, LLC (“USI”) signed an employment agreement that included a provision restricting the employee’s ability to solicit the business of former clients for 24 months following the termination of the agreement.  USI Insurance Services LLC v. Miner, No. 10 Civ. 8162, 2011 WL 2848139 (S.D.N.Y. July 7, 2011). Yet just days after the the employee, Jeffrey Miner, left the company and triggered the termination of the employment agreement, he mass e-mailed USI’s current customers in an attempt to solicit business.  In this case, the U.S. Federal District Court for the Southern District of New York Court concluded that Miner’s actions constituted solicitation as a matter of law and granted partial summary judgment to USI on this issue. Id. at 13. Miner’s mass e-mail to USI’s current customers was a clear attempt to solicit business in violation of the employer’s contractual rights. Therefore, it was prohibited conduct.

In New York, non-solicitation covenants – also known as restrictive covenants – are provisions in an agreement that restrict others from actively engaging in certain business development activities (i.e. soliciting an employer’s customers). A non-solicitation covenant may restrict a former employee from contacting his employer’s customers by way of mailings, e-mails, personal calls or through other means that would constitute solicitation.  Id. at 11. According to the Court, non-solicitation covenants are enforceable if they are:

a) necessary to prevent disclosure of trade secrets or confidential information, or
b) where an employee’s services are unique or extraordinary.

Id.

Additionally, the covenants cannot impose undue hardship on the employee or be injurious to the public. Id. at 14 [quoting IBM Corp. v. Visentin, No. 11 Civ. 399, 2011 WL 672025, 8 (S.D.N.Y. Feb. 16, 2011)].

However, a non-solicitation covenant alone may not be enough to restrict a former employee from taking customers. In an unrelated case, the New York Court of Appeals noted that “‘absent an express or restrictive covenant not to compete,’ advertising to the general public . . . [would] not be considered solicitation, so long as such advertisements are not specifically aimed at the seller’s former clients.” Id. at 12 [quoting Bessemer Trust Co. v. Branin, 2011 WL 1583932, 5 (N.Y. Ct. of Appeals Apr. 28, 2011]. Accordingly, a former employee can continue to compete in the same industry.  Id.  Also, a customer can contact his former employee for the purposes of obtaining factual information and such interaction would also be permissible “so long as the response .  .  . [does] not go beyond the specific information sought.”  Id.

This is a significant decision for companies that are including non-solicitation covenants in their employment agreements. The Court’s decision gives an indication of what type of covenant would be reasonable to be enforced.

Comments/Questions: gdn@gdnlaw.com

© 2011 Nissenbaum Law Group, LLC

Be Careful Not to Undermine the Choice Of Law Provisions In Your Contracts.

One of the few ways to undermine the choice of law provision in your contract is to cite the wrong state’s law when you are trying to enforce it. That can be construed as a waiver of the choice of law.

A good example of this was a recent decision by the United States District Court for the Eastern District of California. The Court held that the parties, by their conduct, waived the New York law provision of the arbitration agreement by citing California law in their motion papers. This case involved an action for declaratory and injunctive relief by a California corporation against a Workers Compensation insurance provider.  Ellison Framing, Inc. v. Zurich American Insurance Company, 2011 WL 1322387 (E.D. Cal.).

The plaintiff, Ellison Framing, Inc., (“Ellison”) was a California corporation with its operations located entirely within California. Id. at 1.  Ellison purchased and renewed its Workers Compensation Insurance from the defendant, Zurich American Insurance Company (“Zurich”). Id. On November 15, 2010, Ellison filed a complaint with the California Department of Insurance claiming that Zurich had overcharged it with improper fees. Id. Zurich responded by making a demand for arbitration with the American Arbitration Association based on the arbitration clause of the parties deductible agreements. Id.

Based on the arbitration agreement and the venue provision contained within the agreement, the American Arbitration Association (AAA) determined that the arbitration would be conducted in Schaumburg, Illinois. Id. Ellison responded by filing an action in the Superior Court of California, “seeking declaratory and injunctive relief on the grounds that the venue provision of the arbitration agreement is unconscionable.” Id. Zurich moved this action to the United States District Court for the Eastern District of California based on diversity jurisdiction. Id.

The Court granted Zurich’s motion to compel arbitration because Ellison’s claim, that Zurich fraudulently overcharged by using improper fees fell within the scope of arbitration agreement. Id. at 5. But, the Court held that in spite of a choice of law provision in the agreement providing New York law as the governing law for all disputes, the parties, by their conduct, had waived the New York law provision by citing only to California law in their motion papers. Id.

Comments/Questions: gdn@gdnlaw.com

© 2011 Nissenbaum Law Group, LLC

Are you Pro Choice (of Law) in Your Contracts?

One of the most common mistakes business people make when reading a contract is to overlook the Choice of Law clause. While this may sound like a mere technicality, in fact, it is critical to the contract’s enforcement.

A Choice of Law contract clause states that the agreement will be enforced under the law of a particular state. That is especially important when the state in which the contract was entered into is not readily apparent. For example, what if someone in Pennsylvania signs an employment contract with a company based in California. And what if that person will work out of a satellite office in New York? It is not clear which state’s law would apply. That is a major problem if, for example, the restrictive covenant in that contract is enforced to bar the employee from working in the industry for a certain period of time. The law of California is radically different than the law of New York or Pennsylvania in this regard. California is notoriously hostile toward restrictive covenants.

Interestingly, the Choice of Law Clause is generally binding regardless of the state in which the Court hearing the dispute is sitting. So, in our example, the contract might say that New York law applies, yet the suit might be instituted in Pennsylvania since that is where the former employee resides and has assets subject to collection in the event a judgment is entered. In such a case, the Pennsylvania court would enforce New York law.

Comments/Questions: gdn@gdnlaw.com

© 2011 Nissenbaum Law Group, LLC

U.S. Third Circuit Court of Appeals Holds Exculpatory Clause Enforceable

Commercial Contracts: A fundamental principle of contract law is the public policy of freedom of contract: the idea that individuals should be permitted to bargain freely amongst themselves. Under this legal doctrine, courts will generally uphold the majority of contract provisions, including those which would limit or completely eliminate liability for one party. Such liability-limiting provisions are referred to as exculpatory clauses. In a recent decision, Wartsila NSD North America, Inc. v. Hill International, Inc., the United States Court of Appeals for the Third Circuit gave credence to these deep-rooted principles of contract law.

In Wartsila, the parties had entered into a written consulting agreement whereby the defendant would provide consulting services for the plaintiff in connection with the construction of a power plant. The agreement also contained an exculpatory clause (a clause that disclaims liability in advance), which stated that the defendant would not be liable to the plaintiff for any lost, delayed or diminished profits, revenues or opportunities or any other incidental, special, indirect or consequential damages resulting from the defendant’s performance or failure to perform the services under the agreement.

When the project was not completed on time and a senior consultant on the project was found to have overstated his credentials, the plaintiff sued defendant to recoup the losses it sustained as a result. However, the Court found the broad exculpatory clause to be valid and enforceable, reasoning that the public policy of freedom of contract would be best served by enforcing the terms of the parties’ agreement, including that clause.

In reaching its holding, the Court also noted that none of the defenses under which the exculpatory clause should be disregarded were applicable. Specifically, the Court found that (a) the defendant had not committed fraud; (b) there was no evidence of undue influence or unequal bargaining power; (c) the “public interest” exception did not apply; and (d) the clause did not deprive the plaintiff of the entire benefit of the contract. As none of these justifications would apply, the exculpatory clause was held to be valid and enforceable.

This case highlights the importance of careful review in drafting and executing agreements. Exculpatory clauses can be valuable tools for limiting one party’s liability, but they can also severely impair the other party’s ability to recoup its losses. This case also articulates potential arguments for overcoming the limits of an exculpatory clause. Therefore, even if a contract includes such a clause and a dispute arises, the underlying facts should be carefully examined before concluding that recovery may be foreclosed.

Comments/Questions: ljm@gdnlaw.com

© 2008 Nissenbaum Law Group, LLC