Shearman & Sterling LLP | M&A and Corporate Governance Litigation Blog | Delaware Chancery Court Relies On Deal Emails To Interpret An Ambiguous Non-Compete Covenant In A Stock Purchase Agreement, Reverses A Preliminary Injunction And Permits Recovery Of Loss Suffered Therefrom  <br >  
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  • Delaware Chancery Court Relies On Deal Emails To Interpret An Ambiguous Non-Compete Covenant In A Stock Purchase Agreement, Reverses A Preliminary Injunction And Permits Recovery Of Loss Suffered Therefrom  
     

    11/07/2016
    On October 31, 2016, Vice Chancellor Sam Glasscock III of the Delaware Court of Chancery entered a final post-trial decision resolving a dispute concerning the proper scope of a post-closing non-compete covenant entered into by parties to a stock sale.  Brace Industrial Contracting, Inc. v. Peterson Enterprises, Inc., Consol. C.A. No. 11189-VCG (Del. Ch. Oct. 31, 2016).  Although Vice Chancellor Glasscock had previously ruled for plaintiffs, preliminarily enjoining defendants from competitive activities that plaintiffs claimed were barred by the covenant, the Court’s final decision lifted the preliminary injunction after considering extrinsic evidence to interpret the disputed contractual terms. 

    In June 2015, plaintiffs sued defendant and affiliates.  In August 2014, plaintiffs, Brace Industrial Contracting, Inc. (“Brace”) and Peterson Industrial Scaffolding (“PIS”), and defendants, Peterson Enterprises, Inc. (“PEI”) and certain related parties, entered into a Stock Purchase Agreement under which Brace acquired PIS, a scaffolding business, from PEI. The parties’ contractual arrangements included a restrictive covenant that prohibited defendants from engaging in specified “Business” activities for five years after the closing.  The non-compete was the subject of a “carve-out” that purported to permit certain of defendants’ subsidiaries to continue engaging in limited activities that would otherwise have been prohibited under the express terms of the non-compete. 

    In connection with an earlier request by plaintiffs to preliminarily enjoin ongoing competition by defendants, the Court found the carve-out ambiguous.  Nevertheless, the Court concluded at that time based on the contractual language only that plaintiffs’ broad reading of the non-compete clause was reasonably likely to prevail at trial and, therefore, entered the requested preliminary injunction.  The Court also required plaintiff to post a $250,000 bond to support the injunction. 

    At trial, however, the Court considered extensive extrinsic evidence in its effort to determine the most reasonable construction of the ambiguous language.  This included a series of emails that were exchanged during the negotiation of the contract, as well as live testimony from participants in the contract negotiations.  On the basis of this extrinsic evidence, the Court ultimately concluded that defendants’ continued business activities fell within the most plausible reading of the carve-out and so were not prohibited by the non-compete clause.  As a result, the Court lifted the preliminary injunction. The Court also ruled that defendants could recover for losses suffered as a result of the “improvidently entered” injunction in an amount up to the total value of the bond posted to secure the injunction. 

    Although the case involves the application of well-settled principles of contract interpretation, and was resolved on the basis of highly specific facts and contract language, it nonetheless presents a cautionary reminder that emails and other communications during the course of negotiations can be used in subsequent litigation to construe the meaning of ambiguous contracts.  The case also serves to highlight that obtaining preliminary injunctive relief in advance of a final determination on the merits may entail financial risk.   
    CATEGORY: Injunctions

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