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KAUL v. HANOVER DIRECT

January 7, 2004.

RAKESH K. KAUL, Plaintiff, — against — HANOVER DIRECT, INC., Defendant


The opinion of the court was delivered by: DENNY CHIN, District Judge

OPINION

In this case, plaintiff Rakesh K. Kaul, the former President and Chief Executive Officer of defendant Hanover Direct, Inc. ("Hanover"), sues the company he once headed to recover compensation that he claims should have been paid to him under various employment agreements and benefit plans. Before the Court are three motions: (1) Hanover's motion for summary judgment dismissing all of Kaul's claims and in its favor on a counterclaim for monies purportedly owed by Kaul, (2) Kaul's motion for partial summary judgment striking certain of Hanover's affirmative defenses and counterclaims, and (3) Hanover's motion Page 2 for reconsideration of this Court's order denying Hanover leave to amend its answer and counterclaims.

  For the reasons that follow, the three motions are granted in part and denied in part.

  STATEMENT OF THE CASE

 A. The Facts

  The principal facts are not in dispute, and I have noted the disagreements where they exist.

  1. Kaul's Employment With Hanover

  Hanover is a direct marketing company that sells merchandise to consumers through catalogues and the internet. Kaul served as its President and Chief Executive Officer from March 7, 1996 through December 5, 2000.

  On or about March 7, 1996, Hanover and Kaul entered into an employment agreement to govern the terms and conditions of Kaul's employment (the "1996 Agreement"). (McGrath Decl., Ex. 6). As expressly stated in the 1996 Agreement, Kaul was hired as "an employee `at will,'" and his employment could be terminated "for cause" or "other than for `cause.'" (1996 Agreement §§ 1, Ka), 1(b)).

  In early April 2000, the 1996 Agreement was superseded by an employment agreement executed by Hanover and Kaul dated as of March 6, 2000 (the "Agreement"). The Agreement provided for a 36-month period of employment at a base salary of $597,300 per annum, subject to annual review but not to be decreased below Page 3 that amount. (Agreement §§ 1, 3) (attached to McGrath Decl. as Ex. 7). It also provided for certain benefits and incentives. (Id. §§ 4, 5, 6). The Agreement provided that the employment period could be extended for 12 months in certain circumstances. (Id. § 1). The Agreement also provided that Kaul's employment could be terminated with or without cause. (Id. § 7).

  In December 2000, the Board of Directors of Hanover (the "Board") decided to terminate Kaul's employment. (Quasha Dep. at 99-101, 103) (McGrath Decl., Ex. 16). Hanover contends (and Kaul denies) that the Board made this decision because the company had "net cumulative losses of approximately $225 million under his stewardship." (Def. SJ Mem. at 1).*fn1 On December 5, 2000, Alan G. Quasha, the Chairman of the Board, informed Kaul of the Board's decision. (Quasha Dep. at 114-17). Kaul resigned, with the understanding that the Board would treat his resignation as a termination without cause for purposes of the Agreement. (Id. at 115-16; McGrath Decl., Ex. 20; Harriss Dep. at 211-12, 279-80 (McGrath Decl., Ex. 36)).

  2. Kaul's Claims

  Kaul asserts essentially five claims (or sets of claims), based on the following: (a) § 7(b) of the Agreement, Page 4 which provides for certain benefits in the event of termination; (b) § 12 of the Agreement, which provides for attorneys' fees; (c) a long-term incentive plan, which provided for bonuses to be paid to Kaul to enable him to purchase Hanover stock; (d) a change of control plan that provided Kaul with certain compensation if his employment were terminated following a change of control of Hanover; and (e) vacation pay. I review the facts relating to each of these claims.

  a. § 7(b) of the Agreement

  Section 7 of the Agreement covered termination. It provided, in part:
In the event of a termination of [Kaul]'s employment during the Employment Period except in connection with or following a Change of Control as such term is defined in the Hanover Direct, Inc. Key Executive Thirty-Six Month Compensation Continuation Plan, . . . he shall be entitled to compensation and benefits on and after the date of such termination only as provided in this Section 7, the 2000 Short-Term Plan and the 2000 Long-Term Plan and under the terms of any prior agreement still in effect on the date of termination as set forth in Section 10, or pursuant to the terms of any benefit plan maintained by [Hanover] and in which [Kaul] is a participant or a beneficiary at the time of his termination.
(Agreement § 7). The Agreement then set forth the parties' agreement with respect to the termination of Kaul's employment by Hanover for cause (§ 7(a)), by Hanover without cause or by Kaul for good reason (§ 7(b)), or as the result of Kaul's death or disability (§ 7(c)).
  Pursuant to § 7(b), if Hanover terminated Kaul's Page 5 employment without cause, he was entitled to, inter alia, the continuation of his salary and benefits for 24 months as well as certain bonuses. These payments and benefits, however, were subject to § 7(g), which provided:
In order to be eligible for the payments and benefits as set forth in Section 7(b), (i) [Kaul] must execute and deliver to [Hanover] a general release in favor of [Hanover], excepting statutory contribution and indemnity rights to which [Kaul] is entitled, and (ii) [Kaul] must be and remain in material compliance with his obligations under the Non-Competition and Confidentiality Agreement.
(Id. § 7(g)).

  As discussed below, the parties never agreed on the terms of a "general release." Hanover did pay, however, $341,803 in severance benefits to Kaul following his dismissal even though he did not provide a release. (See Def. Countercl. ¶ 38).

  The Agreement also provided:
This Agreement and attachments hereto constitute the entire Agreement between the parties pertaining to the subject matter contained herein and supersede all prior and contemporaneous agreements, representations and understandings of the parties with respect to the subject matter hereof, including without limitation, the [1996 Agreement]. . . . Notwithstanding the foregoing, this Agreement shall have no effect on and shall not supercede the following agreements: Registration Rights Agreement, dated as of August 23, 1996, between [Hanover] and [Kaul]; Tandem Loan in the principal amount of $1,047,562, payable to [Hanover]; Tax Note due August 23, 2001 in the principal amount of $211,729, payable to [Hanover]; [and other specified agreements].
(Agreement § 10). Page 6

  The Agreement also provided that it was to be "construed and enforced" in accordance with New Jersey law. (Id. § 13).

  b. § 12 of the Agreement

  The Agreement provided for Hanover to pay Kaul's attorneys' fees in certain circumstances:
[Hanover] shall pay [Kaul]'s reasonable legal fees in full in the event that he must seek legal counsel to enforce any of his rights under this Agreement, provided that before he retains legal counsel he must notify [Hanover] of any alleged failure to abide by the terms of this Agreement and, to the extent the matter is subject to cure, provide [Hanover] with a reasonable opportunity to cure.
(Id. § 12).

  By letter dated December 19, 2000, Kaul wrote to Hanover confirming that he had retained counsel to represent him "in connection with the termination of [his] employment," and setting forth his understanding that Hanover had agreed to reimburse him for his legal expenses. (Bayoneto Decl., Ex. 3). Thereafter, Hanover paid Kaul's attorneys $36,964.93 in fees and expenses, for the periods ending December 31, 2000, and January 31, 2001, in connection with the termination of his employment. (Id., Ex. 5).

  c. The Long-Term Incentive Plan

  The 1996 Agreement provided for Kaul to participate in a "Long-Term Incentive Plan" (the "LTIP"). (1996 Agreement § 5). The LTIP was set forth in a document attached to the 1996 Page 7 Agreement. The LTIP was intended "to promote an alignment" of Kaul's interests with Hanover's interests. (LTIP § 1). The LTIP gave Kaul the right to purchase a substantial number of shares of Hanover common stock on favorable terms. The concept was that with a significant equity interest in the company, Kaul would have a personal stake in Hanover's success and the performance of its stock.

  The LTIP provided for a "Tandem Stock" bonus. Pursuant to § 5(a), Kaul was given the right to purchase shares of common stock at fair market value, with Hanover paying Kaul bonuses to cover the purchase price. Kaul was to pay 20% of the purchase price in cash, with the remaining 80% to be financed through a non-recourse promissory note (the "Note") to be paid in four annual installments, each in the amount of 20% of the purchase price plus accrued interest. Hanover agreed to pay bonuses to Kaul to cover both the initial 20% cash payment and the subsequent four installments, including accrued interest. (See Am. Compl. ¶¶ 24-27; Lipner Dep. at 39 (McGrath Decl., Ex. 27)). As set forth in § 5(a):
Twenty percent of the purchase price for such shares shall be paid in cash, and 80% shall be financed with a nonrecourse Note. . . . [Hanover] shall pay [to Kaul] on or before the date of such purchase a sign-on bonus equal to the portion of the purchase price required to be paid in cash, and shall pay [Kaul], on or before each due date . . . of any payment of principal and/or interest on the Note, a bonus equal to the amount of such principal and/or interest then due.
(LTIP § 5(a)). Page 8

  On August 23, 1996, Kaul exercised his right under the LTIP to purchase 1,510,000 shares at a total price of $1,745,937.50. He was required to make a cash payment of 20%, or $349,187.50. As provided in the LTIP, Hanover made a book entry recording a bonus payment to Kaul in that amount, which Hanover applied to satisfy Kaul's obligation to pay in cash 20% of the purchase price of the stock. This book entry resulted in personal tax liability to Kaul, as the "bonus" constituted income to Kaul. Kaul paid this tax liability himself. (See Am. Compl. ¶ 28; Lipner Dep. at 9-19).

  On August 22, 1997, Kaul was obligated to make the first of the four 20% payments under the Note, in the amount of $349,187.50. With accrued interest, he owed a total of $445,786.73. The same procedure was followed: Hanover made a book entry reflecting a bonus payment to Kaul in that amount, which was then applied to pay the principal and interest due under the Note. (See Am. Compl. ¶ 30; Lipner Dep. at 13; Kingsford Decl., ¶ 1).

  In late 1997 or early 1998, however, to avoid the tax liability that he would incur as a result of the payment of the "bonuses" to be used to satisfy the Note obligations, the Note was amended to provide for a single balloon payment at maturity of principal and interest, and the maturity date was extended to August 23, 2001. (Kaul Dep. at 172-75 (McGrath Decl., Ex. 38); Lipner Dep. at 17-20; Am. Compl., Ex. C; Kingsford Decl. ¶ 2). Page 9

  The August 22, 1997 "bonus" created personal income tax liability for Kaul in the amount of $211,729, which Hanover paid to the Internal Revenue Service (the "IRS") on Kaul's behalf. Hanover loaned this amount to Kaul by adding $211,729 to the principal of the amended Note. (Kaul Dep. at 171-73 (McGrath Decl., Ex. 38); Kingsford Decl. ¶ 2).

  As discussed below, Kaul's employment with Kaul was terminated on December 5, 2000. The Note provided that:
[Kaul] shall prepay the entire unpaid principal amount of this Note together with interest accrued on such principal amount to the date of prepayment without premium . . . on the thirtieth day following termination of [Kaul]'s employment with [Hanover] for any reason other than [death or long-term disability].
(McGrath Decl., Ex. 6 at HDI 03085; see Bayoneto Decl., Ex. 10).

  On December 31, 2000, Hanover recorded a book entry payment to Kaul in an. amount equal to the principal and interest then due on the amended Note, $1,277,561.42. Hanover then applied that amount on Kaul's behalf to satisfy the amended Note, except for the additional amount that had been loaned to Kaul to pay the IRS, $211,729.08, plus interest. (Kingsford Decl. ¶ 3). In other words, even though Kaul was no longer employed by Hanover, Hanover nevertheless "paid" him a bonus in an amount sufficient to cover the outstanding principal and interest: due on the amended Note, with, the exception of the $211,729.08 plus interest.

  On January 10, 2001, however, Kaul contacted Hanover arid requested that it reverse the payroll entry. (Id. ¶ 5 & Ex. Page 10 1 ("I . . . would appreciate a confirmation of a reversal of the payroll entry. . . .")). As Hanover's tax advisors explained, a "payment" of the Tandem Bonus to Kaul would generate substantial personal income tax liability, while no such tax liability would result if Kaul surrendered his shares in full satisfaction of the amended Note in lieu of receiving the bonus. (Id. ¶ 7). Moreover, because the value of the shares had dropped considerably, with the latter option Kaul would receive a tax benefit in the form of a long term capital loss. (Id.).

  Hanover gave Kaul the option of "receiving" the Tandem Bonus and retaining the shares or surrendering the shares in satisfaction of the amended Note (except for the $211,729.08 plus interest) in lieu of the bonus. Kaul elected to surrender the shares. (Id. ¶ 8, 9; Shull Decl. ¶¶ 2, 3; Pl. Opp. Mem. at 11-14 (acknowledging that Kaul tendered his shares)).

  d. The Change of Control Plan

  Effective December 26, 1999, Hanover established a "Key Executive Thirty-Six Month Compensation Continuation Plan." (the "Plan"). (McGrath Decl., Ex. 9). Kaul was the sole participant in the Plan. (Id. § 2.9). By its terms, the Plan was intended "to attract and retain key management personnel by reducing uncertainty and providing greater personal security in the event of a Change of Control." (Id. § 1.1). The events constituting a Change of Control were defined in § 2.2 of the Plan. (Id. § 2.2). The Plan provided that "prior to a Change of Control the participation in the Plan of any Participant shall cease on . . . Page 11 the date on which a Participant is terminated by [Hanover]." (Id. Art. 3). The Plan further provided that "[a] Participant shall be entitled to severance pay and benefits under the Plan only if there occurs a Change of Control and thereafter [Hanover] terminates his/her employment." (Id. Art. 4).

  Article 10 of the Plan gave the Board the ability to amend or terminate the Plan:
The Board . . . reserves the right at any time to amend or terminate the Plan, except that if the Plan is terminated in anticipation of or upon or after a Change of Control has occurred, the Board . . . may not terminate the participation in the Plan of any Participant who is in the Plan when a Change of Control is anticipated or as of the date of the Change of Control. . . .
(Id. Art. 10).

  On April 25, 2001, as reflected in the minutes of meeting, the Board terminated the Plan. (Shull Decl. ¶ 1 & Ex. 1). The minutes show that the Board determined that "no `Change of Control' . . . is anticipated." (Id., Ex. 1 at 8).

  No "Change of Control" has occurred within the meaning of the Plan. (See Kaul Dep. at 308-10) (McGrath Decl., Ex. 39).

  e. Vacation Pay

  In the amended complaint, Kaul asserts a claim for compensation for 13 weeks of accrued and unused vacation, in the amount of $149,325. (Am. Compl. ¶¶ 16-18). In his opposition papers to Hanover's motion, he reduces the claim, seeking compensation for only five weeks of accrued and unused vacation. Page 12 I discuss the additional facts relating to the vacation pay claim below.

 B. Prior Proceedings

  1. The Filing of Suit

  On June 28, 2001, Kaul commenced this action against Hanover in the Supreme Court of the State of New York, New York County. The complaint alleged a breach of contract based, inter alia, on §§ 7(b) and 12 of the Agreement. It contended that Hanover had failed to make "certain termination payments" to Kaul as required by § 7(b) and to pay Kaul's reasonable attorneys' fees as required by § 12. (See Compl. ¶¶ 34, 40; see Id. ¶¶ 5-15). It also asserted claims for accrued and unused vacation pay, for compensation under the Plan, and for bonuses under the LTIP. (Id. ¶¶ 43-61).

  On July 25, 2001, Hanover removed the case to this Court on the basis of federal question jurisdiction, as Kaul was asserting claims under an employee benefit plan within the meaning of the Employment Retirement Income Security Act of 1974 ("ERISA"), 29 U.S.C. § 1001 et seq.

  2. The Exchange of Proposed Releases

  By letter dated July 30, 2001, counsel for Hanover wrote to counsel for Kaul, transmitting a proposed "Confidential General Release and Covenant Not To Sue." ...


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