Fourth Circuit Rules That Post-Separation Payments Were Subject To Repayment

In the corporate world, highly placed executives and owners often earn several different types of post-separation compensation.  Some consult for their prior employer, while others may simply bargain for a severance or earn-out package. 

In a recent case from the Fourth Circuit, found here, the court was presented with four employees who voluntarily participated in a post-separation incentive program.  The incentive program provided for post-separation payments so long as the employees did not compete with their former employer.  The employees subsequently violated the agreement and the employer sued.  The question for the court was what to do with the payments already made to the employees.

In Allegis Group, Inc., et al. v. Jordan, et al., the employees entered into both (a) post-separation incentive plans and (b) employment agreements (which contained typical restrictive covenants).  Like the employment agreements, the incentive plans contained certain post-separation obligations, but, unlike the employment agreements, those obligations were tied to payments made to the employees for thirty months after they separated from Allegis.  In order to receive the incentive payments, the employees could not, among other things,

•           Approach, contact, solicit or induce any employee of the companies: (a) to provide services to any competitive individual, corporation or entity, or (b) to leave the employ of any of the companies; or

•           Solicit, divert or take away any staff, business, or goodwill; solicit accounts or personnel which became known to the employee through his or her employment; or influence or attempt to influence any of the companies' customers not to do business with the companies.

After determining that the employees breached the incentive plans, the federal district court ordered the employees to return the money already paid to them.  On appeal, the Fourth Circuit addressed the nature of the restrictions. 

In characterizing the incentive plan restrictions, the appellate court basically had three choices: were the provisions conditions precedent to payment, were they restrictive covenants, or were they forfeiture provisions.  This is an important distinction because post-separation restrictive covenants and forfeitures (Maryland takes a minority view regarding forfeiture analysis) are subject to the well-known reasonableness test (are the restrictions overbroad, tied to legitimate business objectives, etc.). Conditions precedent are not subject to the same reasonableness analysis, and must be strictly complied with to entitle the employees to the benefit of the bargain (here, the post-separation payments).

Based on the language of the incentive plan itself (i.e. “subject to the conditions,” “in order to,” “if the participant complies”), the Fourth Circuit ruled that the obligations constituted conditions for payment, and not post-employment restrictive covenants or forfeiture provisions.  Since the employees violated the conditions precedent to earning the payments, the court rescinded the incentive plan and ordered the employees to pay back the payments they received.

While the effect of the court’s decision seems to look like a forfeiture (and, thus, warrant a reasonableness review, as noted by the dissent), there were a couple of small, but important, distinctions.  First, the court interpreted the post-separation payments as consideration for the post-separation obligations (albeit, which tracked typical restrictive covenants).  The payments were not earned during employment and, thus, they were not accrued benefits that the employees thereafter forfeited.  

Second, and more fundamentally, the restrictions did not prohibit the employees from competing or soliciting, but only whether Allegis would pay them post-separation.  The employees had a choice under the incentive plan: do nothing and be paid, or compete and not receive the payments.  They just couldn’t do both.