Sunder Energy, LLC v. Jackson, No. 455, 2023, 2024 Del. LEXIS 407 (Dec. 10, 2024)
In Sunder v. Jackson, the Delaware Supreme Court reaffirmed that provisions in commercial agreements negotiated by sophisticated parties will generally not be blue-penciled (i.e., rewritten) and declined to issue a bright-line test as to when blue-penciling should or should not occur. This appeal arose from a Court of Chancery decision that denied a preliminary injunction, and the Delaware Supreme Court declined an invitation to blue-pencil restrictive covenants that the Court of Chancery found were overbroad and thus unreasonable as a matter of Delaware law.
Sunder Energy, LLC (Company) is a Delaware limited liability company headquartered in Utah and operates as a solar sales dealer. In 2019, the Company’s members entered into a written operating agreement that, among other things, included restrictive covenants. The restrictive covenants prohibited the Company’s minority members and their “affiliates” from engaging in any door-to-door sales business in the markets where the Company operated or reasonably anticipated operating. Additionally, the Company’s minority members and their affiliates were prohibited from recruiting or “encourage[ing] to leave” any individual whom the Company employed, received services from, or had a business relationship with.
The Company sued the defendant, a minority member, and sought a preliminary injunction on grounds that he was violating the restrictive covenants by resigning from the Company to work for one of its competitors and soliciting some of the Company’s employees to leave with him. The Court of Chancery examined the restrictive covenants for reasonableness at the preliminary injunction stage and deemed both of the restrictive covenants overbroad in relation to the individuals they covered, when they applied, and their geographic scope and specifically found the competition restriction to be oppressive and exceeding any legitimate interest the Company could have. In addition, the Court of Chancery declined to exercise its discretion to narrow the restrictive covenants through blue-penciling to bring them within a reasonable scope. In doing so, the Court of Chancery employed sweeping language to support that Delaware courts will not employ blue-penciling to save sophisticated parties from themselves and their invalid restrictive covenant provisions. The Court reasoned, in part, that to do so would create perverse incentives where parties would intentionally craft, and attempt to enforce, overbroad and unreasonable restrictive covenants, knowing that their worst-case scenario is a Delaware court rewriting the provision to make it reasonable and then enforcing that reasonable provision.
Appellant’s lead argument on appeal was that the Court of Chancery erred in declining to blue-pencil the restrictive covenants to make them reasonable and bring them into compliance with Delaware law. Appellant notably did not object to the Court of Chancery’s determination that the restrictive covenants at issue were overbroad and thus unenforceable—making their request for reversal difficult. The decision whether or not to blue-pencil contractual provisions is, under Delaware law, a matter of discretion by a trial court. Accordingly, the Delaware Supreme Court reviewed the Court of Chancery’s decision on this issue for abuse of discretion. Notably, the Delaware Supreme Court declined an invitation by the parties to use this appeal as a referendum on blue-penciling generally and did not create a bright-line rule for when blue-penciling is or is not appropriate.
The Delaware Supreme Court ultimately determined that the Court of Chancery properly exercised its discretion in refusing to blue-pencil the overbroad restrictive covenants, as the principles that underlie blue-penciling did not support such relief in this case. Specifically, the restrictive covenants at issue were not indicative of an equality of bargaining power between the parties such as where the language of the restrictive covenants was specifically negotiated between the parties, valuable consideration was exchanged for the restriction, or the covenants were negotiated in the context of the sale of a business. The absence of those hallmark blue-penciling considerations therefore did not warrant the Court of Chancery exercising its discretion to rescue a sophisticated party from its own otherwise enforceable contract for the sake of equity. Moreover, the Delaware Supreme Court found it unnecessary to consider public policy implications in the context of an appeal concerning whether a trial court properly exercised its discretion in declining to blue-pencil an otherwise overbroad and unreasonable contract provision.
The Sunder v. Jackson decision by the Delaware Supreme Court sheds light on the reluctance that Delaware courts have historically had, and appear to continue having, in rescuing commercial parties from their unenforceable and unreasonable contract terms through blue-penciling. Although the Sunder v. Jackson decision is made in the context of invalidating restrictive covenants, which has been the source of much commentary recently by Delaware courts on the topic of blue-penciling, the general blue-penciling principles discussed in the decision have applicability in other commercial and corporate contexts. Several of the precedents relied on by the Delaware Supreme Court to counsel against blue-penciling were indeed addressing invalid provisions in merger agreements. Moreover, because the decision to blue-pencil an agreement or provision is subject to a court’s exercise of discretion, Delaware courts are not bound by a contractual stipulation that authorizes or empowers a court to rewrite a provision found to be unenforceable as written as a matter of law.