Avoid Being Stuck by Stock Grants
Francesco Pompei, president of Exergen, in Watertown, Mass., thought he was just dismissing a worker when he fired anemployee who had been granted company stock. However, the employee's lawyer claimed in court that his client was noordinary employee. Instead, the lawyer argued, he was a minority shareholder whose fiduciary rights had been violated bythe firing. The ensuing court battle lasted eight years. "I hadn't the foggiest idea it would end up this way," Pompei says todayof the long, costly legal dispute.
Pompei was fairly lucky. Even though two lower courts had decided in favor of the employee, the Massachusetts SupremeJudicial Court ultimately sided with the employer. In the meantime, Exergen had bought back the employee's stock.
In several other cases, the owners of closely held companies have not done so well after dismissing employees who ownedstock. "It could go either way in court," explains lawyer Kevin Scott, a partner with Fox, Rothschild, O'Brien & Frankel, inPhiladelphia. "The more lawyers can dress the client up as an oppressed minority shareholder, the better are the plaintiff'schances of prevailing."
Is your company at risk? The most likely target for this type of lawsuit is a closely held company that has granted stockselectively to a small number of key employees. Although sharing equity can be a great way for small, growing companies torecruit and keep talented workers, too many business owners grant stock blindly, without writing sound shareholderagreements. Remember, if you grant equity selectively to an individual employee, your relationship changes forever. Inparticular, as Pompei found, you may encounter problems if you try to fire a minority shareholder. "The employee will arguein court, 'the company didn't fire me for cause but as an excuse to freeze me out of my investment,' " says Scott.
If you do decide to give company stock to employees, notes Scott, many disputes can be avoided simply by putting bothparties' expectations in writing, up front. Here are five points that he thinks should be included in the shareholder agreementswith your employees.
- State that the employee's status is unaffected by the grant, i.e., that an at-will employee who owns stock remains an at-willemployee.
- Give yourself the right to buy back the stock if the employee is fired, quits, becomes permanently disabled, goes bankrupt,or dies.
- Give your company first right of refusal if the employee wants to sell or transfer stock.
- Include a noncompete agreement. After all, shareholding employees have access to inside information.
- Recommend that employees have their own lawyers review the agreement. Otherwise, an employee might say later, "Youput something in front of me that I signed. I was relying on the company's attorney."