Delaware Business Lawyer Blog

According to yesterday’s News Journal (the local paper in Wilmington, Delaware), 7 local Burger King restaurants were the subject of a federal search warrant looking for evidence of violations of the immigration laws. The search warrant identified 78 employees who authorities suspected of working illegally. Delaware wasn’t the only target of recent raids. Almost 600 unauthorized immigrants were arrested this week in Mississippi at one company.

What brought on these enforcement efforts? Well, some think it has something to do with the fact that last week, the Scheduled Departure program was declared a failure by U.S. Immigration and Customs Enforcement. What’s that? You never heard about this program? Neither did I. Under this program, illegal immigrants were given the opportunity to turn themselves in. They would be given 90 days to plan their departure from this country instead of facing the prospect of being arrested, detained and deported. Although the program was offered to more than 450,000 illegal immigrants who had been ordered by the Courts to leave the country, only 8 people chose to turn themselves in. Hence, the reason for scrapping the program.

In Delaware, the courts will enforce a non-compete agreement if it (1) meets the general requirements of a contract, (2) is of reasonable scope geographically, (3) is of reasonable duration, and (4) protects the legitimate business interests of the employer without placing unreasonable restrictions on the employee.

What are the general requirements of a contract? In a recent Delaware court case, an employee who was being sued for violating his non-compete agreement argued that he was forced to sign the agreement and didn’t receive any additional compensation in exchange. In effect, his argument was a lack of consideration, which is one the essential requirements of a contract. The court ruled against the employee, stating that in Delaware, employment or continued employment can serve as consideration for an at-will employee’s agreement to a non-compete restriction.

Whether a restriction is reasonable in terms of the territory covered or the duration of the restriction is based on the facts of each particular case. In Delaware, a non-compete agreement that lasts 2 years or less is usually held to be reasonable. As to whether the geographic limit is reasonable depends on what’s necessary to protect the employer’s legitimate interests. The reasonableness of a geographic area isn’t necessarily determined by its physical distance but rather the area in which the employer has an interest which needs to be protected.

The term “legitimate business interests” has to do with the employer’s good will and relationships with employees and customers.

In deciding whether the restriction on the employee is unreasonable, one of the questions to be looked at is whether the restrictive covenant would prevent the employee from earning a living or continuing to pursue the same career.

From time to time, Delaware business owners are faced with the decision whether to file a lawsuit against a former employee who appears to be violating a non-compete clause in their employment contract. A typical non-compete clause might say: “Employee agrees that during his employment and for a period of one year thereafter, he will not directly or indirectly engage in the same business as Employer nor will he in any way be connected with (whether as owner, employee, partner, stockholder, director, member, or otherwise) any company which competes with the business of Employer within a 50 mile radius of Wilmington, Delaware.”

Having been involved in these cases on behalf of both employers and employees, I can tell you that the courts here in Delaware generally base their decisions on 2 major questions: (1) is the non-compete agreement enforceable, and (2) if it is enforceable, has the non-compete agreement been breached?

If the court finds that there has been a breach of the non-compete agreement, another issue has to do with the remedy. In other words, will the court order the former employee to stop competing, or will the court simply award money damages to the former employer?

In my next article, I’ll address the first question: is the non-compete agreement enforceable?

Employers in Delaware and in other parts of the country sometimes want their employees to sign a covenant not to compete providing protection to the employer after the employee leaves the company. Here are some of the frequently asked questions about restrictive covenants.

1. If I don’t use a written employment contract, can I still have a new employee sign a covenant not to compete?

ANSWER: Yes. A restrictive covenant does not have to be in an employment contract. It can be a separate document that covers the various issues relating to an employee’s future employment after he leaves your company.

2. I’ve recently started a policy of requiring new employees to sign a covenant not to compete. But what about employees who’ve been with our company for years? Can they also be forced to sign a restrictive covenant?

ANSWER: Yes. Unless there’s an employment contract that provides otherwise, employees in Delaware are considered “at-will” employees. As a result, the employee’s continued employment can be conditioned on him signing a covenant not to compete. If he refuses, you can terminate his employment.

3. I’ve heard that a covenant not to compete has to be reasonable in terms of the number of years it applies and the geographical area it covers. What’s considered reasonable?

ANSWER: Although this question is answered by the courts on a case by case basis, it’s generally accepted in Delaware that a 2-year period is reasonable. The scope of the restrictive covenant is another mater entirely. Although you might think it’s a number of miles from the employer’s location, the distance is not always what matters. Instead, the focus is on the area the employer has a legitimate interest in protecting. For example, where does its business extend to? Where are its customers located?

4. Can a restrictive covenant prohibit an employee who leaves my company from trying to hire my employees?

ANSWER: Yes. After you’ve trained an employee, you have a legitimate interest in keeping him. And you would be harmed if a former employee raided your company and lured your employees away from you.

5. I’m interested in hiring an individual, but I’ve found out that he signed a restrictive covenant with his former employer. Do I need to be concerned about that?

ANSWER: These days, when an employee violates the terms of his restrictive covenant, it's not unusual for the former employer to file a lawsuit not only against the employee, but also against the new employer for what’s known as “tortious interference.” This will be covered in a future article.

Most clients who walk into a lawyer’s office to start a business assume that if they become incorporated or form a limited liability company, they’ll be protected from personal liability. That’s not entirely correct. Let’s look at the following example.

You’ve decided to start a small limousine service. You’ll be one of the drivers, and you plan to hire two other drivers who will be employed by your corporation. If one of your drivers is negligent and crashes into another car, he will be personally liable for the harm he causes. In addition, your corporation will also be held legally responsible for the injuries because an employer is responsible for the negligence of an employee if he was acting within the scope of his employment at the time of the accident. That’s because of a well recognized doctrine called “respondeat superior,” or “vicarious liability.” The good news is that as the owner of the company, you yourself will have no personal liability for the injuries caused by the employee.

Now let’s take the same example, but now you’re the driver of the limo that gets into an accident and causes injuries. In this situation, you will be held personally liable. Why? It’s because a person is always legally responsible for any injuries that are caused by his negligence. Just like the employee who was driving in the first scenario, this time you were the driver, you were negligent, and your negligence resulted in someone getting hurt. In the first scenario, you escaped liability because (1) you weren’t negligent, and (2) you weren’t the driver’s employer (the corporation was the employer).

Let’s say your company is owed money by one of your customers, and despite all your efforts to work with them, they fail to pay you what’s owed. Or, suppose you have a dispute with someone and it can’t be resolved without going to court. You start thinking about hiring a lawyer and filing a lawsuit to recover what’s owed. Would you think twice about suing if you knew you’d be required to pay the other side’s attorney’s fees if you lose the case?

In Delaware like in many other states, it’s believed that the risk of having to pay the other side’s attorney’s fees should not deter you from going to court to enforce your legal rights. For this reason, the general rule is that you don’t get reimbursed your attorney’s fees if you win, but you don’t have to pay the other side’s attorney’s fees if you lose. However, as is the case with most general rules, there are exceptions.

You can recover your attorney’s fees from the losing party if (1) your contract provides for reimbursement of attorney’s fees if you win your lawsuit, or (2) there’s a statute that awards attorney’s fees to the prevailing party.

Maybe it’s time to take a look at the contracts you use to see whether they contain a provision requiring the other side to pay your attorney’s fees if you have to go to court.

A small business owner recently asked about the steps he has to take before he can fire one of his employees. His questions included how many warnings the law requires him to give the employee, how much time he has to give his employee to improve his performance, and once the decision to terminate employment has been made, how much advance notice must the employee be given.

If there’s a written employment contract with the employee, then the contract will provide the answers to these questions. However, assuming there’s no contract, an employer in Delaware can fire an employee without warning, without an opportunity to improve, and without notice. In fact, the employer doesn't even have to explain why the employee is being fired. This is what’s meant by an “at-will employee.” An exception to this rule is that the employer can't fire an employee for reasons that discriminate based on such things as age, gender or race, or which violate the Americans With Disabilities Act. Another exception is that in Delaware, an employer can't engage in conduct that amounts to fraud, deceit or misrepresentation. For example, an employer can't falsify employment records to provide a false reason for firing an employee.

I can’t tell you how many times I’ve been asked to represent a client who finds himself in a messy dispute because his business partner who he thought would always be there voluntarily or involuntarily leaves. A voluntary departure occurs when a partner no longer wants to be involved in the company. An involuntary departure includes death or disability. The partner who’s leaving (or his spouse in the event of death) believes his ownership interest in the company is worth a lot more than my client thinks it’s worth, and my client is being threatened with a lawsuit to determine the price. Even worse is where the spouse of the deceased partner announces that she inherited her husband’s ownership interest, and now wants to be actively involved in the day to day operations and management of the company.

The first thing I ask my client to do is to bring in the corporate documents so I can review them. What I’m looking for is a buy-sell agreement that my client and his partner hopefully entered into when they formed their business relationship. There are many kinds of buy-sell agreements, but they almost always contain a procedure that the partners agreed to follow if one of them eventually leaves. By creating a buy-sell agreement, the partners chose to control their company’s destiny by reaching an agreement on these issues while they were getting along and treating each other fairly. Thus, instead of allowing a judge to decide what will happen, the buy-sell agreement provides the answers to the questions that arise, such as:

1. How is the value of the departing partner’s share of the business determined?
2. Does the owner who stays have to come up with the cash needed to buy out his partner's share
3. Can the departing partner sell his share to a stranger?
4. Does the company have to go out of business?
5. Can the deceased partner’s wife show up at work and act as an equal partner?

A few warnings are in order.

(1) Before you make any prepayments of principal, you need to check the promissory note you signed when you obtained your mortgage to verify that prepayments are allowed without penalty.

(2) When you send in your mortgage payment, include a note indicating that your payment includes an additional payment of $ (insert dollar amount), and that the additional amount should be applied to principal. Keep a copy of the note with your amortization schedule. On the other hand, if you have a mortgage coupon and it has a line where you can insert the extra principal payment, you can use that instead of a note.

(3) Make sure your mortgage company is applying your prepayments correctly. Sometimes, mortgage companies apply the prepayment to something other than principal, and that won’t do you any good. On a regular basis, you should check to see that your mortgage company has applied your prepayments correctly. This is easy to do. Compare the balance that your mortgage company says you owe with the balance that your amortization schedule shows you owe. You can check the mortgage company’s records by phone, on the web, or by looking at their monthly statements. With your amortization schedule in front of you, and your notes that you sent in with your checks, proving to the mortgage company what your correct balance is will be pretty easy.

(4) Although I’ve given you a link for an amortization schedule to explain the concept of making prepayments, you should use an your amortization schedule supplied by your mortgage company so that you’re both using the same figures. Otherwise, the numbers will not match and you won’t be able to verify your exact balance. If you don’t receive an amortization schedule at your settlement, contact your mortgage company and they will send you one.

In my article entitled "Prepaying Your Commercial Mortgage," I introduced the concept of using your amortization schedule to make prepayments. In this article, I'll show you how to do it.

Suppose when you make your first mortgage payment, you add an additional $250.12 to your payment. That’s the principal portion of payment number two. Let’s look at what you have accomplished by paying the additional $250.12.

First, your principal balance after just one month would be $249,501.00 instead of $249,751.12.

Second, you save $1,248.76 because you don’t have to pay interest on $249,751.12. Why? Because your principal balance went from $250,000.00 to $249,501.00.

Third, you just took one month off your mortgage because in one month, you made two payments of principal ($248.88 and $250.12). If you did this every month, your mortgage would be paid in full in 15 years!

If you pay the additional $250.12 when you send in your 1st payment, draw a line under payment number two (see figure 2) so you’ll know the breakdown for your next payment and so you can see what your balance is. Put a bracket around the numbers one and two, and write beside the bracket the month and year of your first monthly payment (for example, August 2008).

When you get to your second monthly payment, you will be at payment number 3. Add to your regular payment $252.63 (that’s the principal owed in payment number four). If you do that, your balance would be $248,997.00. And, you will have saved an additional $1,246.25 in interest. Draw a line under payment number four, put a bracket next to numbers 3 and 4, and write September 2008 next to the bracket. Consider this. By making a prepayment of principal in your first and second month, it costs you an additional $502.75 ($250.12 plus $252.63, but you save $2,495.01 in interest in just two months).

Over 5 years, the savings are dramatic. If you make no prepayments of principal, after the first 5 years you will be at payment number 60, and your principal balance will be $232,635.66. By making a prepayment using the method I’ve described, after 5 years you will be at payment number 120, and your principal balance will be $209,213.76. In just 5 years, you will have $23,421.90 more equity, and you will have saved $69,488.83 in interest.

If you do this every month, you will pay off your entire mortgage in only 15 years. Using the 6%, $250,000.00 mortgage example, you will save $144,484.94 in interest.

How would you like to save $69,500.00 in just 5 years? I’m going to show you how to do it. Of course, the amount you save will depend on the size of your mortgage and your interest rate, but let’s assume by way of example that you take out a 30 year mortgage for $250,000.00 at 6% interest. The killer is the amount of interest you have to pay. Over the 30 years, your payments of principal and interest will total $539,595.47, of which $289,595.47 is interest.

That’s almost $40,000.00 more than you originally borrowed!

Many of us have heard that you can save a great deal of money if you pay more than your regular monthly payment. It’s true. You can save thousands of dollars in interest, and pay off your mortgage in just 15 years. Even if you don’t stay in the same property for 15 years, making prepayments of principal guarantees you will build equity a lot faster, and when you do sell the property, you will walk away from the settlement table with more cash in your pocket.

There are different ways to make prepayments of principal, but in my opinion, the best way is to use an amortization schedule and follow the method which I describe below. Let’s stay with the example of $250,000.00 and an interest rate of 6%. Each month, your payment of principal and interest is $1,498.88. This payment stays the same for the full 30 years. What changes every month is how much of your payment goes to principal, and how much goes to interest. In the earlier years, most of the money you pay is interest.

In Figure 1, you can see the amortization schedule for the 1st 12 months.

In the first month, $248.88 of your payment is applied to principal, and $1,250.00 is applied to interest. When you subtract $248.88 from the original loan of $250,000.00, the principal balance after the first payment is $249,751.12.

In order to use the complete 30 year amortization schedule, insert the following information:

Principal: 250000.00
Number of Regular Payments: 360
Payments Per Year: 12
Annual Interest Rate: 6.0

Then place a check in the box called “Show Amortization Schedule,” and click on the "Calculate” button. The amortization schedule shows on a monthly basis how much of your payment is applied to principal and interest, and what your mortgage balance is after each payment.

If you've ever borrowed money from a bank or mortgage company, you’ve probably heard about amortization schedules. It’s a month by month schedule that shows precisely how your loan will be repaid. The amortization schedule lists the required payment on each specific date, how much of each payment is interest, and how much of each payment is applied to principal.

Some lenders include an amortization schedule in the documents you receive when you sign the loan documents. These schedules are also available on-line. For example, you can get a very nice schedule for free at the following website: http://ray.met.fsu.edu/~bret/amortize.html

When you create an amortization schedule on the internet, you’ll need to have available the following information:
1. The amount of your original mortgage
2. Your annual interest rate
3. The number of monthly payments per year (12)
4. The number of monthly payments you will make over the entire life of the loan.

You can use your amortization schedule to help you make prepayments of principal, to keep you up to date on your mortgage balance, and to verify that your lender has been properly giving you credit for each of your monthly payments.

Note: For detailed information about how to use your amortization schedule to make prepayments of principal, see my next article entitled “Prepaying Your Commercial Mortgage.”