Since the 1900s, Delaware has been considered the leading state in corporate law with business-friendly legal frameworks. In fact, most states routinely cite Delaware corporate law and structure their laws similarly to Delaware. As of today, Delaware is the legal home of over two million corporate entities, and these entities are governed by Delaware’s corporate law.
A foundational doctrine utilized by Delaware for its corporate entities is the freedom to contract.[i] This doctrine encompasses the principle that individuals and entities may freely contract into different provisions and clauses, and these contracts will be enforceable in a court of law. The purpose of freedom to contract is to respect the autonomy of individuals without government interference. However, it is well established that a contract will not be upheld in light of evidence that the enforcement of the contract would result in a public policy conflict, such as unduly burdening a contracting party with a weaker bargaining position.[ii] For a long time, non-compete clauses were a common contractual provision between entities and their employees. However, as of 2024, the Federal Trade Commission (“FTC”) outlawed the use of non-compete clauses that extend post-employment because these clauses harm the overall economy by limiting worker mobility.[iii] The FTC reasoned that, although these provisions were contractual, and the parties were sophisticated, these provisions were beyond unreasonable and burdensome on employees.[iv]
Delaware has issued two opinions in the past year that seemingly conflict with the reasoning of the FTC and ultimately gives entities a loophole to the outlaw of non-compete clauses.[v] In Cantor Fitzgerald v. Ainslie, the Delaware Supreme Court upheld the enforceability of a forfeiture-for-competition clause in a limited partnership agreement.[vi] Where a non-compete clause flat out prohibits competition with the entity, a forfeiture clause allows an employee to compete with the entity with the caveat that financial obligations are triggered if the employee chooses to compete within a certain time frame. The plaintiff in Cantor voluntarily exited the partnership but, under the forfeiture clause, was denied payments from their capital account because the plaintiff was engaging in “competitive activity.”[vii] The court emphasized the principle of freedom to contract and reasoned that in high-level partnerships, such as in this case, the parties are sophisticated and willingly agreed to financial disincentives for competition.[viii] The Cantor ruling reaffirmed the freedom to contract doctrine and clarified that forfeiture-for-competition clauses were not subject to a reasonableness review the way non-compete clauses were.[ix]
In fact, the Cantor court determined that forfeiture-for-competition clauses were subject to the employee choice doctrine. The employee choice doctrine sets forth that where the employee is aware of the potential consequences of competing, the employee is subject to those consequences, given the employee voluntarily terminates their own employment.[x] However, there was confusion among Delaware courts about whether the Cantor decision applied to all forfeiture clauses or only those utilized in Limited Partnerships. The Seventh Circuit certified these questions to the Delaware Supreme Court. The Delaware Supreme Court certified in LKQ Corporation v. Rutledge that the decision in Cantor applied to all entities and contracts, and thus, forfeiture clauses were not subject to reasonableness review unless there are extraordinary circumstances.[xi]
In Rutledge, the defendant was a middle manager, not a high-ranking executive, and earned a modest salary from LKQ.[xii] The employment contract contained a forfeiture clause that stipulated that if the defendant competed with LKQ within nine months after the termination of employment, LKQ would be able to “claw back” hundreds of thousands of dollars.[xiii] As a result of the Delaware Supreme Court’s answer to the certified questions, the Seventh Circuit found that the defendant was bound by the forfeiture clause and would have to pay LKQ a substantial sum despite the immense financial hardship it would have on the defendant.[xiv]
Ultimately, Delaware’s decisions in Cantor and Rutledge to set forth a blanket denial for reasonableness review of forfeiture-for-competition clauses hinges on the fact that forfeiture clauses do not outright ban the ability of an employee to compete and thus are not inherently unreasonable. This is erroneous. The logic that led to the FTC banning non-compete agreements is directly implicated here. Although forfeiture clauses do not outright ban “competitive actions,” as non-compete clauses do, in effect, forfeiture clauses restrict the ability of a party to seek employment elsewhere, given the grave financial implications that may be triggered. Delaware fails to consider the fact that employers have substantial bargaining power, while employees or managers typically have weaker bargaining powers. Similarly, Delaware relies on a broad reading of the employee choice doctrine, which, in effect, forces employees with weaker bargaining powers to be subject to oppressive clauses that disproportionately impact the employee’s financial standing.
At a minimum, forfeiture clauses should be subject to reasonableness review on a case-by-case analysis. Reasonableness review, as utilized for non-compete clauses, requires courts to analyze whether the terms are fair and not overly restrictive.[xv] Applying a reasonableness review to Cantor indicates that the outcome of the case would likely remain the same. In Cantor, the plaintiff had substantial bargaining power as a partner and sought-after investment banker, and the financial hardship simply resulted in withholding funds from the plaintiff. Conversely, a reasonableness review of Rutledge would likely result in an entirely different outcome. In Rutledge, the defendant had a modest salary of $109,000, likely did not hold equal bargaining power to LKQ, and was forced to pay back hundreds of thousands of dollars to a large entity. As such, Rutledge is likely the first of many instances within Delaware’s jurisdiction where a large entity will be able to take advantage of a smaller individual and “claw back” what may be an individual’s financial livelihood.
Although many courts follow Delaware’s lead in corporate law and interpretation, courts should err on the side of caution of Cantor and Rutledge. With the FTC’s outlaw of non-compete agreements, it is likely there will be an uptick in forfeiture clauses across several jurisdictions. This impending large-scale issue requires that courts in other jurisdictions consider the compelling policy arguments surrounding reasonableness review for forfeiture clauses in order to continue the long-standing interest in safeguarding parties with significantly weaker bargaining positions. Ultimately, freedom to contract without any reasonable limits opens the door for entities to oppress employees financially.
[i] See Cantor Fitzgerald, Ltd. P’ship v. Ainslie, 312 A.3d 674, 676 (Del. 2024) (“The courts of this State hold freedom of contract in high—some might say, reverential—regard.”).
[ii] See id. at 676–77 (“Only ‘a strong showing that dishonoring [a] contract is required to vindicate a public policy interest even stronger than freedom of contract’ will induce our courts to ignore unambiguous contractual undertakings.”).
[iii] See Non-Compete Rule, Fed. Trade Comm’n (last visited Mar. 28, 2025), https://www.ftc.gov/legal-library/browse/rules/noncompete-rule (explaining that non-competes that extend post-employment are prohibited).
[iv] See id. (reasoning that non-compete clauses are an unfair method of competition).
[v] Compare Cantor, 312 A.3d (holding that forfeiture-for-competition clauses in Limited Partnerships do not require a reasonableness review) and LKQ Corp. v. Rutledge, No. 110, 2024 Del. LEXIS 419, at *16–17 (Del. Dec. 18, 2024) (holding that forfeiture-for-competition clauses are never subject to a reasonableness review, even outside the scope of a Limited Partnership) with Non-Compete Rule, supra note iii (explaining that restricting an employee’s activities post-employment are inherently unfair).
[vi] See Cantor, 312 A.3d at 692.
[vii] See id. at 678.
[viii] See id. at 692.
[ix] See id.
[x] See id. at 684 (“the ‘employee choice’ doctrine under which courts do not review forfeiture-for-competition provisions for reasonableness so long as the employee voluntarily terminated her employment.”); see also Rutledge, 2024 Del. LEXIS 419, at *8–9 (“the employee choice doctrine applies ‘freedom of contract principles,’ ‘leave[s] the ex-employee free to make a living as he chooses,’ and allows the employee to ‘calculate[] the cost of choosing to join a competitor.’ As a result, the employee ‘should be held to that choice.’”).
[xi] See Rutledge, 2024 Del. LEXIS 419, at *16–17 (holding that the decision in Cantor applies to all cases involving forfeiture-for-competition clauses).
[xii] See id. at *9–10 (explaining the defendant’s position compared to LKQ corporation).
[xiii] See id. at *6 (explaining the forfeiture-for-competition provisions).
[xiv] See LKQ Corp. v. Rutledge, 96 F.4th 977 (7th Cir. 2024) (deciding the case based on the Delaware Supreme Court’s answer to the certified questions regarding reasonableness review and finding that without reasonableness review the defendant would be bound by the forfeiture-for-competition clause).
[xv] See Evan Starr, Noncompete Clauses: A Policymaker’s Guide through the Key Questions and Evidence, Econ. Innovation Grp. (Oct. 31, 2023), https://eig.org/noncompetes-research-brief/ (“While the scope of what is reasonable differs from state to state, courts have generally found a noncompete reasonable when it does not unduly harm the worker or society, and when it is no broader than necessary to protect a firm’s legitimate interests.”).
