A business entity changing its form, but not its operations, will want to protect non-competition and confidentiality agreements with its employees from expiring as a result of the transaction. Because those covenants usually are viewed as non-assignable personal service contracts, they may be unenforceable by the surviving entity, absent each employee’s express consent, if the covenants are seen as pertaining solely to the disappearing company which executed them. The agreements remain viable only if the rights and obligations they contain, as well as the agreements themselves, are deemed to have passed to the survivor by operation of law.
Suppose, for example, that there is a planned transaction whereby a partnership will be incorporated, or a corporation will be converted to an LLC, or a subsidiary will be merged into its parent. If the entity that will disappear has employee non-compete or confidentiality agreements, in a minority of jurisdictions the survivor will be precluded from enforcing the covenants on the ground that the survivor is not the company that executed and is named in them. Courts there refuse to rewrite contracts and hold that a personal services agreement expires if it identifies a specific contractual party that is merged out of existence as a consequence of the merger. However, this result might be different if the agreement explicitly binds “successors.” Courts are divided as to whether enforceability is supported, on a theory of implied consent, merely because the contracting employees continue their employment with the successor after the transfer of assets; to be absolutely safe, the surviving entity which wants its employees to be bound should enter into new covenants with the employees. As reported on John Marsh’s blog Trade Secret Litigator, the Ohio Supreme Court recently held that a covenant not to compete will not be extended to the new company after a merger if the covenant’s language fails to specifically assign its rights to the new company.
Many jurisdictions find continuing viability for non-compete and confidentiality agreements after the transaction in the instance of (a) an automatic transfer of assets, (b) no modification of the employee’s duties or benefits, and (c) no changes in the operational structure. These courts hold that all of the predecessor’s contracts are assumed by the successor, and they should be enforceable as written. Further, the employer has experienced nothing more than a technical revision, and employees have no legitimate cause to complain about what is little more than a change in the employer’s name.
Even in jurisdictions hostile to the efforts of a successor-by-merger to enforce its predecessor’s covenants-not-to-compete, the successor should be permitted to enforce the predecessor’s confidentiality agreements. It would be a travesty if, simply because of a change in an employer’s organizational structure, a high-level employee was deemed to be free to resign, go to work for a competitor, and abdicate his or her commitment not to disclose the former employer’s trade secrets.