If you have been involved in mergers & acquisitions long enough you will no doubt encounter this situation:  Like most transactions, the parties have worked long and hard to get the Selling Company and Buying Company in agreement on a sale/merger.  As one of the conditions of the transaction, the Buying Company wants to secure Employment Agreements from each of the key employees.  While on the surface this seems like a benign issue with little risk to the transaction, it can explode into a tumultuous series of events that risk unwinding the transaction and all the hard work invested in getting an agreement put together in the first place.

The importance of an employee to a business is dependent on many factors.  Where we see the most requests for Employment Agreements and thus this particular risk to a transaction is concerning key salespeople and key employees with technical knowledge not generally known or available in the marketplace.  Salespeople who perform at a high level can easily control a significant percentage of a company’s overall business.  This can occur when the salesperson controls one major client for a business with customer concentration issues or when the salesperson controls several of the bigger accounts of the business.  While this may not be as prevalent in a large hundred-million dollar revenue company, we see it a fair amount of the time on lower and mid-level M&A transactions.  Likewise, if the company performs a technical process or its product is dependent on technical knowledge where one key employee possesses the knowledge or know-how, this can also pose big problems for a transaction.

If the buyer requires an Employment Agreement or the extension and/or modification of an existing Employment Agreement with a key employee, the key employee can most often easily deduce the reason that a new or revised Employment Agreement is being requested.  When the key employee realizes what is transpiring, he or she may attempt to leverage the situation for his or her best benefit in negotiating a new “deal” for his or her continued employment. 

When dealing with a key salesperson, many times the salesperson feels as if he or she actually “owns” the book of business generated by his or her customers, and thus in some cases a part of the company.  We have seen several situations like this result in demands from the key employee for a variety of things, including a percentage of the deal, a BIG bonus, a revised (and higher) commission structure,  and perquisites (“perks”).  In order to make sure that the employer understands the seriousness of the demands, key salespeople have threatened to quit and go to work for a competitor (inferring that the book of business controlled by the salesperson will also go to the competitor), quit their employment and take a few years off (assuming the company can’t keep the customers without them) and quit and start a similar business, outsourcing the production component of the function when applicable. 

Similar situations arise with key employees possessing technical knowledge or process know-how that is not generally known to others in the company and that may be hard to find in the labor pool.  The issue with these technical employees is they possess knowledge that is scarce and likely cannot be timely replaced.  This gives the key employee leverage over the transaction, heightening his or her perception of importance to the company at the same time that he or she is being asked to sign or amend the Employment Agreement.  This may give rise to situations similar to what occurs with key salespeople:  demands for raises, bonuses, stock options or “perks”; or the threat of quitting his or her job and going to work for a competitor (leaving a knowledge or know-how void in the company).

These situations with key employees can usually be avoided or mitigated by putting good Employment Agreements in place as part of the hiring process when the employee is first hired. If you already are operating without Employment Agreements signed by your key employees and think that you may want to get Employment Agreements signed, a good time to broach this topic may be at an annual or regularly scheduled performance review.  This eliminates the issue of odd timing and suspicion that there may be a broader purpose to the request, such as a pending transaction.  You will want to consult with your attorney to make sure that you have covered your bases and that important issues are covered in a manner to give them the best legal standing possible, including provisions that the Employment Agreement is assignable by the company in the event of a merger or acquisition and providing that if the employee’s employment is terminated in certain situations, either by the employer or employee, the employee will be restricted from competing against the company for a certain period of time within certain geographic areas and/or with certain customers of the company.

Keep in mind, that in some states non-competition agreements were employees are concerned, may be difficult to enforce, thus potentially leaving part of the company’s value in question.  Another alternative to this problem may be to sell or issue a small portion of the company’s stock (non-voting) to those key individuals.  It is important to also consult with your attorney to make sure that you have covered your bases and that important issues are covered in a manner to give them the best legal standing possible, including stock redemption (buy back) from the employee in the event of termination, a sale or merger. 

Unfortunately, we have been involved in transactions were the ownership felt that the key employees would go along with the transaction, but were disappointed.  In most of these situations the transaction was completed, but with an unexpected expense.  Preempted safeguards are always worth the investment and the sooner these are put in place prior to a transfer of ownership the more likely unnecessary aggravations will occur.