The following synopsis was prepared by Chauna Abner, an attorney in the Delaware office of Eckert Seamans.
In Lyons Ins. Agency, Inc. v. Kelly Wark, et al., C.A. No. 2017-0348-SG (Del. Ch., Jan. 28, 2020), the Court of Chancery opined on the enforceability of a liquidated damages provisions in a non-competition agreement. The Court explained that liquidated damages provisions in non-compete agreements will be enforced if the liquidated damages “reasonably relate to an actual anticipated loss caused by the employee’s anti-contractual competition.” Id. at *1. On the other hand, the Court noted that it will not enforce a liquidated damages provision “that is simply a contractual penalty untethered to losses caused by ex-employee competition.” Id.
Brief Overview of Case
In this Lyons decision, the plaintiff hired the defendant as an insurance agent. The employment agreement the defendant signed provided for liquidated damages in the event the defendant began working for a competitor and a Lyons client decided to take its business to the competitor. Eventually, the defendant began working for a competitor, and later, without any encouragement or participation by the defendant, a Lyons client fired Lyons and took its business to the competitor.
The Court held that although the non-compete provision of the employment agreement was presumptively valid, as a matter of public policy, the liquidated damages provision was not. Id. at *2. The Court primarily based its holding on the fact that the liquidated damages provision was “untethered to any competitive act by the former employee.” Id.
The Court ruled that “[a]s a general rule, a liquidated damages provision must represent a reasonable estimate of the monetary loss likely to be suffered, yet relate to an injury incapable of accurate estimation to be valid.” Id. at *6. The Court found that the liquidated damages provision of the employment agreement worked as a penalty unrelated to any contractual breach by the defendant and therefore did not meet this requirement. Id.
A court may enforce a liquidated damages clause in a non-compete agreement, but the clause must adequately connect the estimated loss the employer will suffer to the conduct of the employee.