Classification: Moderately Material
Negotiation Time: Minimal
Transaction Costs: Intermediate
Major Impact: Risk Management
Equitable Remedies and Reasonableness of Restrictive Covenants
What is This? These two terms help enforce the three important restrictive covenants: the Confidentiality, Non-Compete and Non-Solicitation provisions. All of those restrictive covenants call for non-monetary (“equitable”) remedies, and the restrictions must be reasonable for a court to enforce them. By agreeing to this section, the Seller is agreeing that a non-monetary remedy is appropriate for the situation and that the specific restrictions included in the restrictive covenants are reasonable in the context of the transaction.
The Middle Ground: The Equitable Remedies provision states that a violation of any of the restrictive covenants would cause the Buyer irreparable harm for which money would not provide adequate compensation. It is meant to allow the Buyer to obtain an equitable remedy such as an injunction to prevent violations. The Reasonableness provision includes an acknowledgement from the Seller that the Confidentiality, Non-Compete and Non-Solicitation covenants are reasonable. It also states that if a court finds the restrictive covenants unreasonable, the Seller agrees that the court should reform the terms to the point where they are considered reasonable but still achieve the desired effect to the maximum extent allowed by law.
Purpose: These two provisions are aimed at protecting the viability of the restrictive covenants. The Confidentiality, Non-Compete and Non-Solicitation covenants do most of the heavy lifting in terms of protecting deal value, and these two covenants perform a smaller risk management function by ensuring that the more important covenants remain enforceable and effective.
Buyer Preference: Although there will typically be a specific performance clause applicable to the entire Agreement, the Buyer wants to include the Equitable Remedies covenant here so that there is no question that it applies to all restrictive covenants. The Buyer wants to be sure to include language that tracks the standard for granting injunctions and other equitable remedies (i.e. “irreparable harm…for which monetary damages would not be an adequate remedy”). In regard to the Reasonableness covenant, the ability to modify restrictive covenants rather than completely invalidating them is not available in all states. So, the Buyer’s counsel should adjust its approach depending on whether the law governing the agreement allows “blue-pencil” revisions. If not, the Buyer may want to include a choice of law clause or reduce the covenant restrictions so there is no doubt they are enforceable.
Seller Preference: If the Seller agrees that the restrictive are reasonable, it will likely have no objection to these two subsections since the entire purpose of both is to protect the viability of the restrictive covenants.
Differences in a Stock Sale Transaction Structure: None.
We want The Middle Ground to be an ongoing dialogue for and resource to the lower middle market M&A community. The outline above is generally applicable, but there is always specific case law and nuance around certain industries that can be useful in helping buyers and sellers come together. If you are a lawyer or deal professional, we encourage you to add your perspective below.