Employer Cannot Reform or Rescind Employment Contract in Which Employee Mistakenly Entitled to Hundreds of Thousands of Dollars Monthly

The importance of careful contract review and communication with counsel were recently highlighted in the case of Dahua Technology USA Inc. v. Feng Zhang, in which the United States District Court for the District of Massachusetts denied an employer’s attempt to reform and rescind an employment agreement pursuant to which the employee was mistakenly entitled to $680,000 monthly.

Feng Zhang (“Mr. Zhang”) was engaged as an executive overseeing the North American operations of Zhejiang Dahua Technology Co., Ltd. (“Zhejiang”), a Chinese surveillance technology company. As part of his employment with Zhejiang, Mr. Zhang signed an employment agreement (“2015 Employment Agreement”) with a 3-year term, a base salary of $510,000, and bonus and incentives options. Additionally, the 2015 Employment Agreement allowed only for termination for cause during the 3-year term, and did not include non-compete restrictions, confidentiality requirement, nor non-disparagement clauses.

Partway into Mr. Zhang’s 3-year term, Zhejiang became dissatisfied with Mr. Zhang’s performance and sought to terminate his employment. However, given the terms of the 2015 Employment Agreement, Zhejiang would be required to pay the remainder of Mr. Zhang’s salary and benefits if he was terminated without cause. Instead, Zhejiang executives, in consultation with outside counsel, planned to shift Mr. Zhang into a consultancy role in one of Zhejiang’s subsidiaries, Dahua Technology USA Inc. (“Dahua”), which would necessitate a new employment relationship without the protections and benefits for Mr. Zhang of the 2015 Employment Agreement. A series of conversations, negotiations and draft agreements were discussed, rejected and revised, before the parties finally signed a new employment agreement between Dahua and Mr. Zhang, and a release agreement (“Release Agreement”) terminating the 2015 Employment Agreement. The Release Agreement included a provision (“Payment Provision”) entitling Mr. Zhang to monthly payments of $680,000.00 for 16 months from Dahua. Several months into Mr. Zhang’s employment with Dahua, Mr. Zhang’s employment was terminated. Mr. Zhang sought to enforce the Payment Provision, Dahua brought the action seeking to reform Release Agreement, and Mr. Zhang counter-claimed for breach of contract.

The District Court rejected Dahua’s reformation claim. Reformation is meant “to effectuate the agreement intended by the parties to a contract where the contract language fails to capture that agreement.” In essence, reformation is meant to change a contract to reflect what the parties intended when a mistake has been made in the written contract itself. In order to reform a contract, the party seeking reformation must establish that the contract language does not express the agreement intended by the parties. The Court found that Dahua could not establish that the parties had any sort of oral agreement. The numerous conversations, negotiations and drafts exchanged by the parties were so variable and inconsistent that the Court did not find any agreement had been reached prior to the signing of the Release Agreement. As no prior agreement existed between the parties, the Release Agreement did not fail to capture the non-existent agreement, and therefore the Court rejected Dahua’s reformation claim.

The Court also rejected Dahua’s affirmative defense of mistake to Mr. Zhang’s breach of contract claim on the grounds that, as the drafting party, Dahua bore the risk of mistake in the contract. Dahua retained employment counsel to draft the Release Agreement, which was overseen by senior executives. The executives purposefully withheld from their counsel Mr. Zhang’s salary during most of the drafting and negotiation of Release Agreement, and when counsel was finally given $680,000 as the number to insert into the Payment Provision, they had no reason to know $680,000 was meant to be an annual salary, not monthly payment, as they have been given no context to the number. Additionally, at the final signing of the Release Agreement, Dahua’s CEO chose not to have the agreement translated into Mandarin for his review, and instead signed the contract in English, even though he did not read English. As Dahua bore the risk in drafting the agreement, and the mistake was made through its own missteps, the Court rejected Dahua’s defense of mistake. The Court has not yet entered judgment for Mr. Zhang when this post was written. Instead, the Court ordered additional briefing on whether it has authority to fashion an appropriate remedy as a matter of equity or whether the Court must enforce the agreement as written as a matter of law.

It will be interesting to see what the Court determines after additional argument, but this case illustrates the importance of careful review of agreements by employers before signing and the importance of clear and transparent communication with counsel.


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