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Edenholm v. Flytrap Network Security, Inc.

The Court of Appeals of Washington, Division One
Oct 22, 2007
141 Wn. App. 1011 (Wash. Ct. App. 2007)

Opinion

Nos. 59053-7-1; 59251-3-I.

October 22, 2007.

Appeals from a judgment of the Superior Court for King County, No. 04-2-38250-5, Palmer Robinson, J., entered October 31, 2006.


Affirmed in part and remanded by unpublished opinion per Coleman, J., concurred in by Baker and Agid, JJ.


Start-up business Flytrap Network Security hired Ulf Patrik Edenholm as a vice president under an employment contract stating that Edenholm would not receive or accrue salary until the company secured financing, but would be paid at least $100,000 a year thereafter. Edenholm was fired after working nine months, at which point Flytrap had not secured financing. Edenholm sued Flytrap for, inter alia, back wages based on the contract salary, double damages for the willful withholding of wages, and attorney fees. On cross-motions for summary judgment, the trial court found that Edenholm was not entitled to be paid under the contract, but that he earned minimum wage for the hours he worked for Flytrap. We agree with the trial court that the contract is enforceable and that Edenholm is not entitled to double damages because Flytrap's failure to pay minimum wage was not willful. Accordingly, we affirm the trial court's judgment. We do, however, remand the attorney fee award for recalculation and entry of findings of fact and conclusions of law.

FACTS

Flytrap is a start-up company that develops technology to protect mobile wireless devices from viruses and other security breaches. Vaughan Emery is Flytrap's founder, president, and chief executive officer. One of Flytrap's board members introduced Emery to Edenholm, who has a law degree, a master's degree in public administration, and had 10 years of experience working with start-up companies. In November 2003, Emery verbally offered Edenholm a job with Flytrap, and they negotiated the terms of employment in the subsequent weeks.

Emery first quoted Edenholm an annual salary of $150,000, then reduced the offer to $140,000. In December 2003, Emery sent Edenholm a written offer. Emery offered Edenholm the vice president position, and the salary was linked to Flytrap obtaining financing.

Annual Salary. The Company will offer you an annual base salary of $140,000 which will be paid semi-monthly in accordance with the Company's normal payroll procedures. It is agreed that no salary will be paid, nor accrued, until the company closes an initial equity financing round. It is further understood that until a financing round (or series of rounds or partial rounds) totaling $2,500,000 is secured, the parties will agree to a lower interim salary. (It is the parties' expectation that such a salary will be $100,000 but this is subject to review as a function of the amount of the funds raised.)

Clerk's Papers (CP) at 54 (emphasis added). Once Flytrap obtained $2.5 million in financing, Edenholm's salary would be $140,000; if Flytrap obtained some financing but less than $2.5 million, Edenholm's salary was expected to be $100,000. But during the period before Flytrap obtained any financing, Edenholm would not earn or accrue any salary. The contract also expressly characterized Edenholm as an employee at will, stating that "[Flytrap] is free to conclude its employment relationship with [Edenholm] at any time, with or without cause, and with or without notice." CP at 50. At the time this compensation arrangement was negotiated, Emery and the other Flytrap shareholder, Dave Rich, were not being paid a salary, but also expected to begin receiving $100,000 a year after Flytrap obtained financing.

Edenholm negotiated for options for 750,000 shares of Flytrap's common stock (7.5 percent of the company), with 250,000 shares vesting after 12 months and the remaining 500,000 vesting over the following 36 months. Edenholm also received 200,000 shares of stock as a signing bonus. An additional 200,000 shares of stock would vest upon Flytrap obtaining more than $400,000 in funding. Flytrap retained the right to buy back Edenholm's shares, and its right to do so decreased in increments over time. Flytrap lost the right to repurchase 250,000 shares after one year and lost the right to repurchase one third of the remaining shares over the following three years. Edenholm was automatically entitled to 125,000 shares if terminated in less than six months, or 250,000 shares if terminated between six months and one year, unless termination was for cause. Disputes as to the stock options were subject to arbitration under the stock purchase agreement.

As of January 2006, Flytrap asserted that the par value of a share of Flytrap stock was $0.50. When Edenholm purchased stock, the par value was $0.0001.

Edenholm's employment was terminated in August 2004, approximately nine months after he was hired, due to disputes between Edenholm and other Flytrap officers over business decisions. Flytrap had not obtained any financing at the time Edenholm was terminated and has still not obtained financing to date.

After Edenholm was terminated, he demanded stock certificates for all the stock shares that he purchased. In response, Flytrap sent Edenholm a $75 check for the repurchase of the 750,000 shares it believed Edenholm had purchased. It asserted that Edenholm was not entitled to the 200,000 signing-bonus shares because he was terminated and stated that any disputes about amount of stock owned must be resolved by arbitration.

In its partial summary judgment motion, Flytrap admitted that Edenholm may receive 250,000 under the stock purchase agreement. There is no indication in the record that the parties have actually arbitrated this issue to date.

Edenholm sued Flytrap for salary owed (based on the $100,000 per year rate), double damages for the willful withholding of wages, reimbursement for business expenses, prejudgment interest, and attorney fees. Edenholm also requested that Emery be held personally liable for the amount owed. Flytrap contended that Edenholm was not entitled to any compensation under the contract, but offered to settle the case by paying Edenholm minimum wage for the hours he worked and reimbursing certain out-of-pocket expenses. Edenholm rejected this offer. After a mediation attempt failed, Flytrap sent a letter to Edenholm offering to settle the dispute for minimum wage compensation as well as attorney fees. Edenholm rejected this offer.

In his complaint, Edenholm requested minimum wage as an alternative to his contract salary. He did not pursue this alternative in his summary judgment motion.

The parties filed cross motions for summary judgment. Edenholm argued that the "no salary will be paid or accrued" clause of the contract was unenforceable, but that he should be paid his contract rate and not minimum wage because he was exempt from the Minimum Wage Act (MWA). Flytrap argued that the only source of an obligation to pay Edenholm wages could be the MWA, because the contract (which it contended was enforceable) did not provide for salary before financing was obtained. But Flytrap also stipulated that Edenholm was exempt from the MWA and therefore not entitled to any wages. Flytrap's motion explained that it would reimburse Edenholm for the business expenses with interest once it obtained financing.

The trial court found the contract to be enforceable and rejected the parties' agreement that Edenholm was exempt from the MWA. The court ruled that Edenholm was not exempt because he could not meet the "salary or fee test" for exemption and was therefore entitled to minimum wage for work performed. The court also rejected Edenholm's claims for double damages because there was a bona fide dispute as to whether wages were owed and did not find Emery personally responsible for wages owed. The trial court entered judgment against Flytrap for Edenholm's back wages and unreimbursed business expenses ($11,429.95), prejudgment interest on the business expenses ($2,138.91), and attorney fees and costs ($40,169.02). The trial court did not enter findings of fact or conclusions of law as to the attorney fee award. Edenholm appealed the judgment for various reasons discussed below, and Flytrap cross-appealed only the award of attorney fees.

The parties stipulated as to the amount of back wages, business expenses, and prejudgment interest owed under the court's order, agreeing that no trial was necessary to determine these amounts. They expressly preserved their right to appeal the order.

ANALYSIS

Enforceability of the Employment Contract

Edenholm contends that the trial court erred in finding the employment contract enforceable because its clause providing that "[i]t is agreed that no salary will be paid, nor accrued, until the company closes an initial equity financing round" is substantively unconscionable and contravenes public policy.

Whether a bargain is unconscionable is a question of law. Nelson v. McGoldrick, 127 Wn.2d 124, 131, 896 P.2d 1258 (1995). A substantively unconscionable contract provision is one sided, "`monstrously harsh,'" or "`[s]hocking to the conscience.'" Nelson, 127 Wn.2d at 131 (quoting Montgomery Ward Co. v. Annuity Bd. of S. Baptist Convention, 16 Wn. App. 439, 444, 556 P.2d 552 (1976). The two Washington cases where a court found an employment contract clause to be substantively unconscionable both involved standardized arbitration agreements that employees were required to sign as a condition of employment. Adler v. Fred Lind Manor, 153 Wn.2d 331, 103 P.3d 773 (2004); Zuver v. Airtouch Communications, 153 Wn.2d 293, 103 P.3d 753 (2004). Edenholm has not cited a case in which a court found a contract clause to be unconscionable where sophisticated parties negotiated and bargained for that term. In fact, one case Edenholm cites is particularly instructive here, although it does not support his position.

In American Nursery Products, Inc. v. Indian Wells Orchards, 115 Wn.2d 217, 797 P.2d 477 (1990), Indian Wells negotiated with American Nursery for the growing of apple trees. The parties negotiated a contract under which Indian Wells would provide apple tree rootstocks to American Nursery, and American Nursery would grow grafted apple trees and budded apple trees for Indian Wells. The contract included a clause that "`in no event shall [American Nursery] be subject to or liable for incidental or consequential damages.'" Am. Nursery, 115 Wn.2d at 220-21. Indian Wells delivered the rootstocks for growing as contemplated by the contract, but American Nursery dipped the rootstocks into a chemical that caused many of the rootstocks to die. The contract amount of trees was not produced, due to American Nursery's use of the chemical. When Indian Wells did not pay the contract price, American Nursery sued. The trial court found that American Nursery's use of the chemical caused more than $2.3 million in direct and consequential damages and found that the contract clause excluding incidental and consequential damages was unconscionable. On appeal, the court reversed, concluding that the damages limitation was not unconscionable.

The perhaps misguided judgment on the part of Indian Wells does not prevent the exclusionary clause from being conscionable. Both parties, in an arm's-length transaction, negotiated and entered into a contract with no indicia of unfair surprise; the general manager of Indian Wells had a reasonable opportunity to understand the terms of the contract; and the challenged clause was not hidden in a maze of fine print. Under the totality of the circumstances surrounding the inception of this contract, Indian Wells has not satisfied its burden of proving the exclusionary clause is unconscionable.

Am. Nursery, 115 Wn.2d 217, 225-26.

Likewise, we conclude that the salary clause of Edenholm's contract is not unconscionable because both parties were sophisticated and of equal bargaining power, and Edenholm does not claim that he was surprised by the clear terms of the contract. The fact that, under the circumstances in this case, Edenholm is not satisfied with the effect of this clause does not render it unconscionable. He argues that he would never have agreed to the salary arrangement if he had known he would be terminated nine months later, before financing was obtained, but he cannot show how the contract is unfair — it specifically noted that he could be terminated at any time, and it did not contain any promises that financing would be obtained by any certain time. The American Nursery contract resulted in a loss of millions of dollars to Indian Wells, through no fault of its own, and it was still found to be not unconscionable. It was not unconscionable for Edenholm to negotiate to forgo his salary (which would have been much less than the millions of dollars in American Nursery) under these circumstances.

The parties dispute whether the stock was intended to be a form of compensation or whether Edenholm was simply entitled to buy those shares for fair market value. Edenholm contends that the salary provision (which does not mention stock) is unenforceable, so for purposes of analyzing this contention we are considering whether it is unconscionable for an employee to agree to be paid no wages for work performed in exchange for future salary. Stock in a closely held company that cannot be sold for currency is not a "wage" under RCW 49.46.010(2), so we limit our consideration of the contract's enforceability to the salary provision in the employment contract.

Edenholm also claims that the salary clause violates public policy. A contract provision is void if it violates public policy, meaning that it is against the public good or is injurious to the public. Brown v. Snohomish County Physicians Corp., 120 Wn.2d 747, 753-54, 845 P.2d 334 (1993); State Farm Gen. Ins. Co. v. Emerson, 102 Wn.2d 477, 483, 687 P.2d 1139 (1984); Makinen v. George, 19 Wn.2d 340, 354, 142 P.2d 910 (1943). When considering whether a contract violates public policy, a court considers such factors as: whether the agreement concerns an endeavor of a type generally thought suitable for public regulation; whether the party seeking to enforce the contract is engaged in performing a service of great importance to the public; whether the party seeking to enforce the contract holds itself out as willing to perform this service for almost any member of the public; whether the party seeking to enforce the contract possesses a decisive advantage of bargaining strength against any member of the public who seeks the services; and whether the party seeking to enforce the contract confronts the public with a standardized contract of adhesion. Wagenblast v. Odessa Sch. Dist., 110 Wn.2d 845, 851-52, 758 P.2d 968 (1988).

Edenholm does not characterize his employment contract as having any direct effect on the public, but claims that the public has demonstrated its commitment to protecting employee rights through the enactment of wage protection statutes. But it would be different if Edenholm were arguing that he was entitled to minimum wage under the MWA and the contract denied him minimum wage. In that situation, the contract would violate public legislation. Edenholm contends, however, that he is exempt from the minimum wage statutes and does not point to any other law that is violated by this contract. Without a direct connection between Edenholm's private, arm's-length, bargained-for employment contract and the public good, we conclude that the salary clause of the contract does not violate public policy.

Therefore, because the clause is not unconscionable and does not violate public policy, we affirm the trial court's ruling that the contract is enforceable as written.

Applicability of the Minimum Wage Act

At trial, both parties agreed that Edenholm was exempt from the MWA. The trial court disregarded this agreement and found that Edenholm was nonexempt and therefore entitled to minimum wage. On appeal, Edenholm again argues that he was an exempt employee, so he should not have been limited to minimum wage. Flytrap claims that it takes no position on appeal as to whether Edenholm was exempt, but argues that if we conclude he is exempt, then he should not have been awarded minimum wage.

For purposes of this appeal, our conclusion as to whether Edenholm is exempt from the MWA has no practical effect because Flytrap has not requested relief from the trial court's ruling that he is not exempt. Edenholm has argued that the ruling is error because he was in fact entitled to more. We reject his contention that he is entitled to more, as discussed above, but because Flytrap did not request a reversal of the trial court's MWA award, that portion of the judgment stands. Flytrap only appealed the attorney fee award, and counsel reiterated at oral argument that Flytrap did not seek relief from any other part of the trial court's judgment.

Because of this unusual posture on appeal, we need not resolve the exemption issue. It is our view, however, that Edenholm was exempt from the MWA. Employees who work in a "bona fide executive, administrative, or professional capacity" are exempt from the MWA requirements. RCW 49.46.010(5)(c); 29 U.S.C. 213(a)(1). To qualify as an exempt employee under state and federal law, an employee must meet both a "`duties test'" and a "`salary basis test.'" Webster v. Pub. Sch. Employees of Washington, Inc., 148 Wn.2d 383, 386, 60 P.3d 1183 (2003) (quoting 29 C.F.R. § 541.2).

It is clear that Edenholm satisfies the "duties test" as vice president of Flytrap. With 10 years of experience working with start-up companies, a master's degree in public administration, and a law degree, he developed business plans and financial statements and met with groups of venture capitalists to discuss financing. This job description satisfies the administrative or professional exemption. See WAC 296-128-520 and 29 C.F.R. 541.200 (administrative exemption covers employees who perform office work directly related to management policies and who regularly exercise discretion and independent business judgment in high level work requiring special training, experience, or logic); WAC 296-128-520 and 29 C.F.R. 541.300 (professional exemption covers employees whose primary duties require advanced knowledge, who regularly exercise discretion and independent business judgment, and whose work is intellectual and varied).

These exemption categories also require a minimum salary that is significantly less than Edenholm would have earned once Flytrap obtained financing.

The trial court found that Edenholm did not meet the other test — the "salary or fee basis test" — because that test requires that the employee be paid a salary, and Edenholm was not being paid a salary. Edenholm contends that the trial court misunderstood the distinction between salaried and hourly compensation for purposes of the MWA. We agree.

Neither the MWA itself nor the Washington Administrative Code defines compensation on a "salary or fee basis." The Drinkwitz court looked to federal law and regulations to determine the difference between a salaried or hourly employee. Drinkwitz v. Alliant Techsystems, Inc., 140 Wn.2d 291, 299, 996 P.2d 582 (2000). The court defined seven employer practices that indicate an employee is not salaried: (1) a requirement that the employees record their time and submit weekly reports; (2) a requirement that employees work the schedules established by their managers; (3) a practice of calculating and recording the monthly salaries of employees into hourly rates of pay; (4) a requirement that employees work a weekly quota of between 40 to 45 hours per week; (5) a requirement that employees make up any difference between the time worked and the expected work week; (6) creation of a discipline plan that allows management to suspend employees when hourly quotas are not met; and (7) pay deductions if an employee fails to work 40 to 45 hours per week. Drinkwitz, 140 Wn.2d at 301-05.

Flytrap did not enact any of these types of policies with regard to Edenholm; in fact, no records of the hours he worked were maintained. Although the contract did not provide for a salary to accrue immediately, when Flytrap obtained financing Edenholm would be entitled to a salary calculated annually. For purposes of determining whether Edenholm satisfied the "salary or fee basis" test, the trial court should have considered how the contract provided for salary once it began to accrue. Edenholm's contract calculated his wages as an annual salary, not as an hourly rate of pay. Therefore, we conclude that because Edenholm performed a job that would have earned him a salary once Flytrap obtained financing, he meets the "salary or fee basis" test for exemption from the MWA.

Other courts, when considering the rights of employees whose salaries had not been paid, have concluded that the failure to pay an exempt employee's salary does not abrogate their status as an exempt employee. Seattle Professional Eng'g Employees Ass'n v. Boeing Co., 139 Wn.2d 824, 991 P.2d 1126, 1 P.3d 578 (2000); Donovan v. Agnew, 712 F.2d 1509 (1st Cir. 1983); Kawatra v. Gardiner, 765 S.W.2d 771 (Tenn.Ct.App. 1988).

To conclude otherwise would lead to a catch-22 wherein if an employer failed to pay an employee's salary and the employee sued, the employee would be treated as nonsalaried and thus entitled to only minimum wage.

Thus, although we find the trial court's reasoning on this issue to be defective and conclude that Edenholm should have been considered exempt from the MWA, this conclusion has no consequence because Flytrap did not appeal the trial court's judgment on this issue.

Quantum Meruit Claim

Edenholm contends that he is entitled to bring a claim for quantum meruit if we conclude the contract is enforceable. Although Flytrap seems to agree that Edenholm may be entitled to bring a quantum meruit claim in the future, that remedy is not available in this situation.

Quantum meruit refers to two types of damage awards: either damages for breach of contract that place the injured party in the same position as if the contract had been performed or quasi-contract damages where a party has performed in the absence of a contract and recovers the value of the performance. Dravo Corp. v. L.W. Moses Co., 6 Wn. App. 74, 91, 492 P.2d 1058 (1971).

Edenholm does not assert that the facts of this case match either of the situations giving rise to a quantum meruit award, but he generally claims that the trial court should have awarded him the value of his services (quantum meruit) rather than minimum wage.

But such a claim is not available here because the contract expressly provided for no salary under these circumstances and the contract was not breached. A quantum meruit award may have been appropriate if the salary clause was void, but because we conclude that it is enforceable, Edenholm is not entitled to damages in the form of quantum meruit.

Willful Withholding of Wages

Edenholm argues that the trial court erred in rejecting his claim for double damages under RCW 49.52.070 for the willful withholding of wages for three reasons: (1) he was entitled to compensation for the work he performed; (2) the wages were withheld because any consent to nonpayment on his part ceased after he was fired; and (3) the withholding was willful because Flytrap's dispute is not bona fide because it is unconscionable to argue that Edenholm is not entitled to any compensation for work performed.

As stated above, we conclude that Edenholm's contract is enforceable as written and that he should have been considered exempt from the MWA, so he should not have been awarded wages. But because Flytrap did not appeal the trial court's ruling that Edenholm was entitled to wages under the MWA, we do need to determine whether Flytrap's failure to pay that minimum wage amount thus far has been willful.

An employee may recover twice the amount of wages unlawfully withheld if the employer's failure to pay was willful. RCW 49.52.070; Schilling v. Radio Holdings, Inc., 136 Wn.2d 152, 158-60, 961 P.2d 371 (1998). The existence of a bona fide dispute regarding the obligation to pay wages or the amount owing is sufficient to preclude a finding that an employer's failure to pay wages is willful. Schilling, 136 Wn.2d at 161 "The dispute must be `bona fide,' i.e., a `fairly debatable' dispute over whether an employment relationship exists, or whether all or a portion of the wages must be paid."). The subject of this litigation has been whether Flytrap owed Edenholm anything, and if so, whether he was owed wages based on his contract salary or minimum wage. The amount owing was the subject of this litigation, and this ongoing dispute presents debatable issues.

Edenholm contends that Flytrap's failure to appeal any part of the trial court's order other than the attorney fee award demonstrates that it does not dispute that he is owed at least the remainder of the judgment. Though it is true that Flytrap did not appeal the MWA award, it did stipulate at trial and argue in its appellate brief that Edenholm is exempt from the MWA. On appeal, both parties dispute the amount owed because Edenholm claims that he should be paid more than minimum wage because the contract is not enforceable, while Flytrap argues that Edenholm is entitled to nothing under the contract or minimum wage if the MWA applies. Thus, this bona fide dispute precludes a finding that Flytrap's failure to pay up to this point has been willful. Accordingly, we affirm the trial court's ruling that Edenholm is not entitled to double damages under RCW 49.52.070.

Attorney Fees

Flytrap cross-appeals the trial court's attorney fee award to Edenholm, arguing that the award was excessive because the court included fees for time spent on unsuccessful claims.

The trial court awarded Edenholm attorney fees and costs under RCW 49.48.030. The trial court did not enter findings of fact or conclusions of law to explain the basis for the award. The order states which documents the court considered and contains a handwritten paragraph where the court noted that Flytrap conceded that the hourly rates and time-spent calculations were reasonable.

RCW 49.48.030 provides for an award in any action in which a person is successful in recovering judgment for wages or salary owed to him. The statute does not apply if the amount recovered is less than or equal to the amount admitted by the employer to be owing. RCW 49.48.030. In calculating an attorney fee award, a court should not award fees incurred in pursuing an unsuccessful claim, "`a claim that is distinct in all respects from [the] successful claims.'" Winans v. W.A.S., Inc., 52 Wn. App. 89, 101, 758 P.2d 503 (1988) (quoting Hensley v. Eckerhart, 461 U.S. 424, 440, 103 S. Ct. 1933, 1943, 76 L. Ed. 2d 40 (1983)). Where an action consists of related claims, however, "a plaintiff . . . should not have his or her award of attorneys' fees reduced simply because the court did not adopt each claim raised." Winans, 52 Wn. App. at 101. A trial court must enter findings of fact and conclusions of law to create an adequate record on which to review an attorney fee award. Mahler v. Szucs, 135 Wn.2d 398, 434-35, 957 P.2d 632, 966 P.2d 305 (1998).

Because the trial court did not create an adequate record for us to review the attorney fee award, we vacate the award order and remand for the entry of findings of fact and conclusions of law. The MWA and business expense issues are unrelated to the claims on which Edenholm did not prevail, so we direct the trial court on remand to discount the award for fees incurred on Edenholm's unsuccessful claims. Because Edenholm's primary argument was that the contract was unenforceable and this argument was rejected by the trial court, the amount of fees Edenholm incurred on successful claims will be likely quite limited — Edenholm probably did not incur a large amount of fees on the minimum wage or business expenses issues given that the parties agreed he was exempt from the MWA and Flytrap agreed that Edenholm should be reimbursed for business expenses.

For the foregoing reasons, we affirm the judgment, but remand the order awarding attorney fees for entry of findings of fact and conclusions of law and for recalculation in accordance with this opinion.


Summaries of

Edenholm v. Flytrap Network Security, Inc.

The Court of Appeals of Washington, Division One
Oct 22, 2007
141 Wn. App. 1011 (Wash. Ct. App. 2007)
Case details for

Edenholm v. Flytrap Network Security, Inc.

Case Details

Full title:ULF PATRIK EDENHOLM, Appellant, v. FLYTRAP NETWORK SECURITY, INC.…

Court:The Court of Appeals of Washington, Division One

Date published: Oct 22, 2007

Citations

141 Wn. App. 1011 (Wash. Ct. App. 2007)
141 Wash. App. 1011