THE EMPLOYMENT AGREEMENT

IVAN HOFFMAN, B.A., J.D.



        In today’s jump-to-a-dotcom-company world, the employment agreement has become a key negotiating document.  Once reserved for only the higher level executives, the employment agreement is now being used for nearly all new hires.  Let me then examine some of the relevant provisions that should be part of the agreement.

        Preliminarily however, both employers and employees should understand that there is a not very clear line distinguishing employees from independent contractor workers.  Often, employers will seek to hire workers and categorize them as contractors and in the process seek to avoid the obligations they might otherwise have for benefits and the like.  In the end, the employers may run the risk that the worker may be reclassified by the courts as an employee and thus make the employer responsible not only for benefits but for taxes based on the employee’s salary.

        However, this distinction is important not only for tax, insurance and other reasons, but for the purposes of this article, it is important because of the implications those categories have on rights to intellectual property created by the worker.  If the person is a bona fide employee, then that intellectual property, if created during the course and scope of the worker’s employment, belongs to the employer without the need for a writing.  If, on the other hand, the person is an independent contractor, then unless there is a valid transfer agreement, whether work made for hire or otherwise, the creator owns all rights to that intellectual property. (Read “The Work Made for Hire Agreement.”) [NOTE: the rules are different with regard to patents but this article is NOT about patents and all parties involved in patents should consult an experienced patent attorney.]

        But let’s assume for the sake of this article that there is a bona fide employment relationship being established.  These are some of the issues that must be addressed:

            1. The definition of the “business” of the employer.  This should be defined in detail since it has implications for any restrictive covenants being imposed on the employee such as a non-compete provision (if enforceable—see below), the definition of the “course and scope” of the employees duties for purposes of the work made for hire issues, the issues related to trade secrets and confidential information and other related issues.

            2. The Work of the Employee.  It is essential that the scope of employment, i.e. the job description and duties of the employee, be spelled out with some exactness so that the employer and the employee know what are the employee’s responsibilities and, from an intellectual property standpoint, what “results and proceeds” of the employee’s work can legitimately be claimed to be owned by the employer under the work made for hire doctrine.  But the agreement should further state that if, for any reason, the work made for hire provisions are not applicable, then the employee transfers and assigns to the employer those results and proceeds and indeed all rights to the intellectual property created by the employee.  There are significant issues that should be covered dealing with what the employee can do on the employee’s own time, using the employee’s own equipment etc.  And while I am often asked to prepare a “simple” agreement, you can readily see that simple in this context is often quite counterproductive for both the employer and the employee.  It is in both parties’ interest to spell out the details of the work.

            3. The limitation on what the employee can and cannot do during or indeed after the term of employment.  These provisions deal with access to and use of the employer’s confidential information and trade secrets and the performance of work outside of the employee’s job if the same is related to the employee’s duties for the employer.  As to trade secrets, confidential information and “non-solicitation” provisions, the restrictive covenants about the employee not using the same not only during the term of employment but thereafter are often given virtually full weight by the courts.  These proprietary rights of the employer are deemed protectable even after the employment relationship ends.  However, despite the technical enforceability of the provisions, the practicality of trying to enforce them may be more difficult.  Clearly, for example, if no such proprietary information is actually used but instead the employee merely uses the general knowledge gained from one employer to the benefit of a new employer, the use of that general knowledge may not be preventable.  On the other hand, courts are very reluctant to enforce so-called non-competition provisions that extend beyond the term of employment that do not relate to this sort of proprietary information.  Indeed, in California such non-competition provisions will be struck down except in certain very special situations, such as where an owner selling a business including the good will agrees to this sort of restrictive covenant not to compete for some reasonable period of time and within some geographically limited area.

            4. The definition of “Confidential Information” and “Trade Secrets.”  These provisions are quite important for if they are not both narrowly and precisely drawn while at the same time are broad enough to cover areas that the company is now in and also may not in the future engage in, they may be illusory and not enforceable.  In order to make such provisions enforceable, courts will require some significant precision in language. Further, the methodology by which such information is handled by the company including the methods by which the company discloses the same to the employee may also be quite important.  In appropriate circumstances, a procedure for identifying, marking and disclosing the same should be employed and such procedure outlined in the employment agreement.  Additionally, the terms should apply not only to the company’s confidential information but should also include information belonging to third parties that the company is bound, by contract or otherwise, to keep secret.

            5. The Right To Assign.  The employer should have the unrestricted right to assign its rights in the employment agreement to any other party.  This is especially important so that a key employee may not prevent a sale of the business because that employee’s agreement becomes voidable by that transaction.  On the other hand, for certain “key employees,” this may be an essential bargaining position.  In other words, if you are a key employee, you may ask for a provision that says that your employment agreement is not assignable, thereby giving you the leverage to negotiate a better deal or indeed to walk, when the employer is being sold.

            6. Termination.  There should be detailed provisions dealing with what constitutes employee conduct justifying termination and what legal consequences ensue from such termination.  Such consequences may include among other things, loss of stock option rights.

            7. Money Terms.  These include base salary provisions, bonuses, stock options and other perks.  Base salary is self-evident so let me discuss several different kinds of bonuses.  There is the signing bonus, money that is paid just for signing the agreement and this category is usually something offered near the conclusion of the negotiations in order to compensate the employee, on a one-time basis, for any other portions of the compensation package to which the parties have failed to agree.  There is also often some sort of guaranteed or performances bonus, which represents money paid on the occurrence of some benchmark event such as sales exceeding a certain level or other thresholds being achieved depending upon the nature of the employee’s job, status of the company and so on.

                a) Options.  There are generally 2 kinds: incentive stock options (ISO) and non-statutory options (NSO).  There are significant tax and other legal consequences related to each but some general rules can be stated about both.  Firstly, the parties can include both types in the deal and both types can be negotiated to be granted and in turn can be exercised for each year of the agreement.  In other words, there can be options provided not only when the employee signs on but for each year of employment and these options can vary in detail.  There can be options negotiated for both pre- and post-IPO stock.  For some very key employees, there can be “anti-dilution” provisions included which state that if the employee is given options to provide for a certain percentage of ownership of the company, most  often a start-up, that that percentage ownership must remain constant.  This is a very difficult provision to include because it functions to restrict the flexibility of the company when trying to raise new equity capital.  Additionally, provisions can be included that deal with the “acceleration” of the employee’s options upon the happening of certain stated events such as a change in control of the corporation whether through internal structures or a merger or acquisition, a change in the job duties in some material way or upon a non-fault termination of the employee.

Conclusion

           Clearly there other issues that should be covered in the employment agreement and this article is meant only to raise some of the key elements.  However, it is worth keeping in mind that all deals, no matter what the subject matter is, are made on the basis of a simple rule that I have defined as W3M.  W3M stands for “Who Wants Who More” and it refers to the relative negotiating and bargaining position of the parties.  Where the negotiation and the agreement end up depends on which party is in the better position relative to skills, money and financial needs.  And oh yes, let’s not forget that another key element in negotiation positioning, especially from the standpoint of the employee, is self-respect.  Self-respect not only makes one feel better about oneself but can result in a better deal as well since the desperate job seeker conveys that desperation despite bravado.

© 2000 Ivan Hoffman

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This article is not intended as a substitute for legal advice.  The specific facts that apply to your matter may make the outcome different than would be anticipated by you.  You should consult with an attorney familiar with the issues and the laws.
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No portion of this article may be copied, retransmitted, reposted, duplicated or otherwise used without the express written approval of the author.


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