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A federal appeals court in New York has ordered the former employee of a private equity firm to forfeit all his compensation, including salary and investment opportunities, because of a pattern of disloyal acts. The decision by a three-judge panel reversed a U.S. district court decision that awarded $4.4 million to Rohit Phansalkar, a former partner at Andersen Weinroth & Co. The PE firm had sued Phansalkar, an investment banker, for failing to disclose certain fees and stock options he had received as a director on company boards doing business with Andersen Weinroth. Originally, the lower court limited the compensation Phansalkar had to forfeit to the benefits he received on transactions on which he was judged to be disloyal. But the appeals court reversed. The ruling bears special significance for investment firms that generally compensate employees through investment opportunities, said Daniel P. Levitt, who represented Andersen Weinroth. The ruling will affect similar cases brought in federal courts in New York, Vermont and Connecticut, the geographic scope of the appeals court’s jurisdiction. The panel’s decision “gives the employer a substantial weapon,” Levitt said. If disputes between employers and employees erupt and turn ugly, an employer can look back in the worker’s record for a “pretty minor” infraction and demand compensation be returned. “It really changes the balance of power between employee and employer,” he said. “Employees have to be concerned if they’re not pretty scrupulous,” he added. “They could lose their right to salary and benefits. … And they don’t have to commit a criminal act — just one that is deemed disloyal to their employer. An employee could lose millions of dollars he has already gotten and spent.” The case is also the first to deal with forfeiture of compensation in the form of stock options and warrants, Levitt said. Phansalkar’s lawyers are reviewing the case. “No decision has been made,” said Andrew J. Rossman, a partner at Akin, Gump, Strauss, Hauer & Feld. “Obviously, we’re disappointed.” Rossman called the ruling “a severe result which is not fair.” “This case is draconian from the perspective of employees. The smallest act of disloyalty can result in forfeiture,” he said. The case also gives employers on Wall Street who pay many of their best-compensated workers through bonuses and investment opportunities “potentially tremendous leverage,” he added. Phansalkar, now a consultant, is losing $5 million in securities he had already bought, Rossman said. The appeals court decided the case under New York state’s so-called “faithless servant doctrine,” which requires certain employees to be loyal to their employers and forbids them from engaging in any conduct inconsistent with their trust. The panel found that “New York’s faithless servant doctrine requires Phansalkar to forfeit all compensation after his first disloyal act.” As a result, Phansalkar should forfeit all compensation after Oct. 15, 1999, “the date his disloyalty began, including any interest” in a company known as Millennium Cell Inc. Phansalkar was awarded shares in that company. Andersen Weinroth had sold him an equity interest of more than 600,000 shares in Millennium Cell at a favorable price as a way to keep him at the PE firm. At that time, Millennium Cell was planning an initial public offering. It went public in August 2000. Phansalkar argued that he merely failed to disclose certain transactions such as stock options, shares, fees and more and that he didn’t intend to defraud Andersen Weinroth. But the appeals court said his intent didn’t matter and that his actions and omissions warranted forfeiture under two different legal standards New York state courts put forward. Under one standard, the appeals court wrote: “Phansalkar’s disloyalty was not limited to a single, isolated incident, but rather occurred repeatedly, in nearly every transaction on which he worked … Phansalkar’s disloyalties lasted for many months, and persisted boldly through an opportunity to correct them.” “We conclude that where disloyalty occurs in four out of five of an employee’s primary areas of responsibility and continues over many months, it ‘substantially violates’ the terms of an employee’s service.” The court said Phansalkar had to forfeit his compensation under the other standard because he “unquestionably violated specific duties owed to Andersen Weinroth.” The lower court found Phansalkar to have breached his duties by failing to disclose six different interests or opportunities he received as a representative of the PE firm. Phansalkar worked at the PE firm from February 1998 until he left to become chairman and chief executive officer of Osicom Technologies Inc. in June 2000. That’s when the dispute erupted. He and his former employer couldn’t agree on his interests in various transactions involving the PE firm. When Phansalkar left Andersen Weinroth, he held warrants and options worth $15 million that are now worth considerably less because of the stock market downturn, Levitt said. Andersen Weinroth said that after Phansalkar left, he was no longer entitled to the returns on certain investment opportunities he had received while at the PE firm. For instance, one of those opportunities was a transaction in which the PE firm raised $10 million for Zip Global Network Ltd., an Indian company that was developing pay phones in that country. As payment, Andersen Weinroth got a cash fee, stock warrants and the right to put two directors on Zip Global’s board. Phansalkar was one of those directors. As a director, he got 40,000 stock options and 600 shares of Zip’s telecommunications unit. But he didn’t tell Andersen Weinroth about those options or shares, in violation of the PE firm’s policy. A similar pattern occurred following two projects for Osicom Inc. that resulted in the PE firm appointing Phansalkar as one of its two designees to Osicom’s board. Phansalkar got 35,000 Osicom options and $3,000 in fees but didn’t inform Andersen Weinroth. Another instance involved Entrada Holdings LLC, a company Andersen Weinroth created following the merger to an Osicom unit with another company. The merged entity became Entrada Networks and wanted to make Phansalkar a director. He was granted options to buy 50,0000 shares of the merged company, was appointed to the board and granted another 100,000 options after the merger. He agreed to join the Entrada board without telling Andersen Weinroth and without trying to secure a seat for the PE firm. In the end, the appeals court said Phansalkar must forfeit a portion of his $250,000 annual salary paid from Oct. 15, 1999 to the end of that year, his interest in one company and in any benefits he received in the Millennium Cell and another investments. But he does get back $100,000 he invested in Millennium Cell and another company, the appeals court said. Andersen Weinroth was founded by two former executives of in the corporate finance division of Drexel Burnham Lambert, the now-defunct junk bond powerhouse. C. Chris Andersen, who once served as Drexel new products chief, now heads the PE firm. Stephen Weinroth, who led Drexel’s credit committee, recently left the PE firm, which is now known as Andersen & Co. Neither Andersen nor Weinroth were caught up in the Drexel scandal. Between 1994 and last October, the PE firm invested $53 million in 16 companies, according to The Deal. And its most significant investment was in Millennium Cell. Copyright �2003 TDD, LLC. All rights reserved.

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