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Eastern District of Virginia Rejects Sale-of-Business Argument For Non-Compete Agreement

Published by on June 18, 2012

On May 17, 2012, in Capital One Financial Corporation v. Kanas, et al., the U.S. District Court Eastern District of Virginia held that the validity of a covenant not to compete of two banking executives should be treated as arising from the executives’ employment relationship with Capital One.  In holding so, the Court rejected the […]

On May 17, 2012, in Capital One Financial Corporation v. Kanas, et al., the U.S. District Court Eastern District of Virginia held that the validity of a covenant not to compete of two banking executives should be treated as arising from the executives’ employment relationship with Capital One.  In holding so, the Court rejected the argument that because the employment relationship arose from the sale of the executives’ banking business to Capitol One only six months before, the reasonableness of the covenant not to compete should be evaluated under a less strict “sale of business” standard.  More after the break.

John Kanas and John Bohlsen were executives of North Fork Bankcorporation.  Kanas and Bohlson managed North Fork as it grew from a local bank to a large, profitable institution.  In 2006, Capital One acquired North Fork in a $13.2 billion transaction.  The terms of the sale obligated Kanas and Bohlson to three years of employment with Capital One, in exchange for a combined $42 million in stock that vested at the end of the three years.  The terms of the sale also subjected the executives to a covenant not to compete.  

Only six months after the sale closed, the parties agreed to end Kanas’ and Bohlson’s employment under certain terms.  Capital One agreed to accelerate the vesting of the executives’ stock.  Kanas and Bohlson, on the other hand, obligated themselves to a modified covenant not to compete — the covenant at issue in the case.  This new covenant narrowed the prohibitions in the original covenant and included several explicit exceptions to the covenant’s prohibitions. 

In its analysis, the Court commented that this instance did not fall neatly into either the “sale of business” category of non-compete agreements or the employer/employee category.  Normally when evaluating the choice of standard, there either is no employment relationship between the parties, or there is no business transaction.  In finding that this covenant fell into the employer/employee category, the Court relied heavily on the express language of the covenant indicating that the agreement’s primary purpose was to govern the employment relationship between the parties.

Despite being subject to the stricter enforceability test and restricting the executives’ employment for five years, the Court held that the non-compete covenant was valid.  Unprecedented circumstances played a large part in the Court’s decision.  In particular, the aggregate $42 million in restricted stock “dwarf[ed] consideration found sufficient in previous cases,” and the sophistication of the parties was beyond compare.  Additionally, there were no concerns about the executives’ ability to earn a livelihood, considering their substantial stock gain.  Moreover, the covenants contained substantial carve‑outs that permitted the executives employment with certain financial institutions.

In this case, the choice of standard may not have ultimately affected the result, i.e. the covenants were validated.  That may not hold true, however, for future cases without such unprecedented consideration.

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