Sixth Circuit Affirms Fee Award to Employer in Non-Compete Case Without Prevailing on Final Judgment

Yesterday, the Sixth Circuit Court of Appeals affirmed an award of $72, 183 in attorney’s fees to an employer which successfully obtained a preliminary injunction against former employees who had begun working for a competitor in violation of their non-competition agreements.  Kelly Services, Inc. v. De Steno, No. 18-1118 (6^th Cir. 1-10-19).   The Court rejected the employees' arguments that they should not be liable for the fees without a judgment on whether their agreements were enforceable and without a jury trial on the amount of fees.   Their agreements awarded the employer fees incurred in enforcing the agreement and did NOT require the employer to actually prevail before obtaining a fee award.    In other words, the employer was entitled to attorney’s fees regardless of whether the non-compete clauses were actually enforceable and regardless of whether it ultimately prevailed on the merits.  The Court affirmed, but noted that the reasonableness of the fees might depend on the reasonableness of the enforcement efforts.  In any event, it would be “highly impractical” to ask a jury to rule on attorney’s fees earned in a pending action, so a jury trial was not required under the Seventh Amendment.

According to the Court’s opinion, the defendant employees each signed a non-competition agreement which precluded them from working for a competitor for one year after leaving employment with the plaintiff employer. Their contracts also contained a provision which provided in relevant part that:

I further agree to pay any and all legal fees, including without limitation, all attorneys’ fees, court costs, and any other related fees and/or costs incurred by the Company in enforcing this Agreement.

When the employer learned that they were working for a competitor in violation of their non-competition agreements, it filed suit for breach of contract and breach of the duty of loyalty and sought damages, including attorney’s fees.  A preliminary injunction hearing was held and the employees preliminarily enjoined from working for competitor in violation of their non-compete agreements.   The Court did not lift the preliminary injunction until approximately four months after the one-year period in the non-compete had passed.  The parties subsequently both moved for summary judgment.  The employees argued, among other things, that the non-compete agreements were not enforceable and they were entitled to a jury trial under the Seventh Amendment to determine their financial liability for, and the reasonability of, the attorney’s fees.  The employer argued that it had already obtained all of the relief that it sought (i.e., to keep the employees from working for the first year after their employment for a competitor)  and were, thus, automatically entitled to an award of attorneys’ fees for obtaining enforcement of the agreement.  Indeed, the employer asserted that the contracts did not require the employer to prevail on the merits in order to be entitled to attorneys’ fees when seeking to enforce the agreement.  The trial court ruled in favor of the employer and rejected the request for a jury trial on the amount of fees.

The contracts by their terms do not require a final determination of liability in favor of [the employer] as a condition for the award of fees.  Unlike numerous similar agreements, these contracts do not employ the words “prevailing party,” nor by their literal language do they require a final determination of liability.  In fact, as the district court correctly noted, defendants argued below that these provisions were not prevailing party provisions.  . . .

In reasoning that a final determination of contract breach was not required, the district court may have stated too freely that the contract required former employees to pay attorneys’ fees “if [the employer] merely sought to enforce the contracts.”  De Steno, 2017 WL 4786105, at *2.  One can imagine cases where efforts to “seek enforcement” could for instance be unreasonable, made with little or no basis, or made for purposes of oppression or harassment, or could be simply unsuccessful.  A court might read the words “reasonable . . . fees . . . involved in enforcing” and “fees . . . incurred . . . in enforcing this Agreement” not to extend to such situations.  We do not address the possibility of such a limited interpretation, however, because the record is clear that none of these situations is present in this case.  The district court entered a preliminary injunction that resulted in substantial relief, based on a determination that [the employer] had shown a strong likelihood of success on the merits.  Indeed, defendants withdrew their appeal from the grant of that relief. . . .

The Court rejected the Seventh Amendment argument on the grounds that calculating attorney’s fees for the pending case is an equitable power better left to a judge, as previously explained by the Second Circuit:

Accordingly, although plaintiff had the right to a jury decision on whether defendants should recover attorneys’ fees, plaintiff did not have the right to a jury decision on a reasonable amount of attorneys’ fees. Unlike the client in Simler v. Conner, [372 U.S. 221 (1963),] no party here claimed that the contract directed the amount of attorneys’ fees to be awarded by specifying a percentage of an ascertainable sum. Therefore, the district court, in its equitable role, should have determined a reasonable fee.

The Court found it would be “highly impractical” to require a jury to determine a reasonable amount of attorney’s fees.  The trial would become a trial about the cost of the trial itself.  It would also be impractical to require a jury to “look behind the curtain” and determine the proper cost of pretrial motions, etc. before the trial was even complete.  Therfore, it distinguished prior cases where juries ruled on the amount of attorneys’ fees to be awarded concerning disputes which had already been concluded (as in indemnification cases).  In this case, the Court also found that summary judgment was properly granted to the employer on the liability question, so it did not need to be submitted to a jury.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can be changed or amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Flurry of Restrictive Covenant and Trade Secret Activity This Spring

There has been a number of developments affecting employment agreements, non-compete agreements and trade secrets this Spring.  First, a new federal statute was enacted last month, the Defend Trade Secrets Act of 2016 which, as discussed below, creates federal court jurisdiction over civil trade secret theft lawsuits, authorizes courts to issue ex parte seizure orders in “extraordinary circumstances” and authorizes treble damages and attorneys’ fees  only when the employer amended its confidentiality agreements and/or policies to permit confidential disclosure to government agencies, under seal in litigation, and to attorneys in whistleblower situations, but does not permit court to enjoin individuals from obtaining employment with a competitor.   In one lawsuit, the Ohio Court of Appeals affirmed judgment for an employer who revoked a former employee’s severance pay when he began working for a company and the severance agreement permitted the employer in its “sole discretion” to deem it a “competitor.”  In the second, the employer lost in its attempt to keep temporary employees from continuing to work for a client through a competitor supplier because the court interpreted the contract to only apply if the defendant employees had voluntarily resigned, which they had not.  Finally, in the last decision from earlier this month, the court reversed a shortening of the restrictive period from one year to six months because the hardship on the employee was not undue in light of his considerable financial resources.

 Congressed passed the DTSA in April and it was signed by the President in May.  Federal court may be invoked when a trade secret involving a product or service used in interstate or federal commerce has misappropriated within the prior three years.   In extraordinary circumstances, a court may – without prior notice to the defendant – issue an order for the seizure of property necessary to prevent the dissemination or propagation of the misappropriated trade secret.    The Court may also grant other civil remedies, but may not enjoin an employment relationship or enjoin information that the person simply knows (as opposed to misappropriated trade secrets).  In other words, Congress did not adopt the inevitable disclosure doctrine and only provides a remedy when the misappropriation was through “improper means” or was acquired by someone who knew that the information was “derived from or through a person who owed a duty to the person seeking relief to maintain the secrecy of the trade secret or limit the use of the trade secret.”  “Improper means” was defined to “include[] theft, bribery, misrepresentation, breach or inducement of a breach of a duty to maintain secrecy, or espionage through electronic or other means” but “does not include reverse engineering, independent derivation, or any other lawful means of acquisition.”  The DTSA does not preempt state law or change the burden of providing that particular information is, in fact, a trade secret.

In order to obtain an ex parte seizure order, the plaintiff needs to show that a TRO (i.e., temporary restraining order) would be inadequate because the defendant ‘would evade, avoid, or otherwise not comply with such an order and the plaintiff would suffer immediate and irreparable injury if the property were not seized.  The plaintiff need also show that the harm to the defendant and third parties is outweighed by the plaintiff’s harm, that the defendant has possession of the trade secret and property to be seized, and that it is likely that information is in fact a trade secret which was misappropriated through improper means (or through such a conspiracy).  Finally, the plaintiff needs to show that the application for a seizure order has not been publicized and, if it were, that the defendant (and/or his/her co-conspirators) would move or destroy or make inaccessible the property to be seized.  The property seized is then placed in the custody of the court.  The defendant could have an action for wrongful seizure against the plaintiff.

In order to obtain treble damages or attorney’s fees following the successful prosecution of a trade secret theft action, the employer must have first provided notice of the DTSA’s statutory immunity to defendant through “any contract or agreement with an employee that governs the use of a trade secret or other confidential information”  which is signed or modified after May 11, 2016 or through “a cross-reference to a policy document provided to the employee that sets forth the employer's reporting policy for a suspected violation of law.”   “Employees” includes contractors and consultants.  This statutory immunity protects individuals from being held criminally or civilly liable under any federal or state trade secret law if the individual’s otherwise unlawful disclosure was made in confidence to a federal, state or local government official or any attorney solely for the purpose of reporting or investigating a suspected legal violation, or was disclosed in a complaint or other document filed under seal in a lawsuit or, if the individual  files a whistleblower retaliation lawsuit for retaliation against his or her employer, was disclosed to the individual’s own attorney  or used in the court proceeding if the information is filed under seal and only disclosed pursuant to a court order.

As for non-competition agreement cases, the first case involves a non-competition provision inserted in a severance agreement.  Saunier v. Stark Truss Co., Inc., 2016-Ohio-3162.  The non-competition clause was not very strict.  The employee agreed to not work for any competitor for a year, but even if he did, he would only lose his severance pay.  In addition, the Agreement permitted him to work for a competitor in certain non-sensitive positions (i.e., maintenance), but again, if he did so, his severance pay would cease.  The determination of what entity was a “competitor” was left to the “sole discretion” of the employer without any reasonableness standard.   The employee obtained a job shortly thereafter and, wouldn’t you know it, the employer deemed that entity to be a competitor and cut off his severance pay.  The employee sued and lost because the Court found that the Agreement gave the employer the “sole discretion” to deem the entity a competitor.

In the second case, the employer lost in attempting to keep its temporary employees from continuing to work for its client through a competitor.  Drone Consultants, L.L.C. v. Armstrong, 2016-Ohio-3222.  The plaintiff employer provided temporary employees to a client.  Those employees were required by contract to provide two weeks advance notice of resignation so that their replacements could be recruited and trained and then precluded from returning to their temporary assignment with that client through a competitor.   After the client terminated its contract with the plaintiff employer, the employer notified the six defendant employees that their employment was being terminated and they could collect unemployment.  Instead, they were hired by a competitor who placed them right back in their previous assignments with that client and the plaintiff employer sued.  The Court interpreted the contract to only require the employees to provide notice if they voluntarily resigned, which they had not.  Similarly, the restriction against returning to their previous assignments through a competitor also only applied in the event of their voluntarily resignation and, therefore, did not apply in the event of their involuntary termination.    Although the court ultimately did not discuss or apply it, the plaintiff employer’s contract to provide contingent workers to that client provided that it was required to waive any restrictive covenants that would preclude those workers from continuing to work for the client in the event the plaintiff employer’s contract was terminated by the other party without cause (which it had been).

The final case from earlier this month reversed the trial court’s shortening of the non-compete period from one year to six months.   AK Steel Corp. v. Arcelormittal USA, L.L.C., 2016-Ohio-3285.  In that case, a senior executive with knowledge of the plaintiff employer’s strategic plans for the future was subject to a one-year world-wide non-competition agreement and was recruited to the be the COO of a larger competitor.   The trial court reduced the restrictive period to six months on the grounds that it constituted an undue hardship to the defendant employee without a corresponding benefit to the plaintiff employer.  The appeals court found the restrictive period to be reasonable in light of his confidential knowledge of strategy, business plans, manufacturing processes for current and next generation products, future plant locations, pricing and awarding of contracts, etc.

To be sure, there is no allegation that Howell has in any way attempted to steal confidential or trademarked information for the benefit of ArcelorMittal. Furthermore, it is acknowledged among the parties that certain information available to Howell, such as highly complex and detailed manufacturing processes and patented technology, are simply not capable of reproduction from memory. Rather, the pertinent concerns related to confidential information involving company strategy and information that is relied upon at such a fundamental level that makes non-disclosure nearly impossible. Although there is no evidence to suggest any malicious intent on the part of ArcelorMittal, as competing multibillion dollar companies operating worldwide, there is a certain amount of information, in particular strategic decisions, that the companies have a legitimate interest in remaining confidential. The record establishes that AK Steel has a legitimate interest in restricting Howell, the fourth-highest executive within the company, from accepting employment from a competitor for a one-year period.

Finally, the Court rejected the trial court’s concern with hardship on the defendant employee because every employee suffers some hardship from these covenants, but they can only be modified or eliminated when the hardship is undue:

 . . the trial court failed to consider that "sole means of support," as noted by the Raimonde decision is not limited to employment income. The record here supported a finding that Howell was a highly sought after senior executive of a major steel company, and was recruited by an even larger competitor. Although there was testimony that Howell had a family that depended on his income, there was also testimony that Howell had a large, vested retirement plan from AK Steel, and his new employment with ArcelorMittal would include a $900,000 signing bonus. In resolving the issue of "undue hardship," we find the trial court erred by failing to consider the additional resources in determining whether the noncompete provision deprived Howell of his sole means of support.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can be changed or amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Fayette County Appeals Court Affirms Non-Competition Damages and Prevailing Party Attorney Fee Award

On Monday, a unanimous Fayette County Court of Appeals addressed the other half of the non-compete/tortious interference case between dental practices blogged about here last May.  In it, the Court affirmed the $125,000 jury verdict against the defendant dentist for breaching the non-competition clause in his sales agreement with the plaintiff dentist and the reduction of the successful dentist’s attorney fees award (pursuant to the loser pay provision in the contract) to $95,988 based on prevailing attorney fee rates in Fayette County of $250/hour.  Ginn v. Stonecreek Dental Care, 2015-Ohio-4452.  The Court found that the 30-mile non-compete restriction was clear on its face in a contract containing an integration clause and could not be clarified with extrinsic evidence to mean anything other than 30 straight-line miles.  Finally, the jury was entitled to base its damage award on the plaintiff’s testimony of lost revenue.

According to the Court’s opinion, the defendant dentist sold his Washington Court House practice to the plaintiff dentist in 2010 and, as part of that sale, agreed to work one day per week for the plaintiff dentist and not otherwise practice dentistry for 5 years within 30 miles of the plaintiff’s practice.  The contract also provided that the prevailing party would be entitled to attorneys’ fees in the event of litigation over a breach of the agreement. The defendant dentist resigned six months later and began working for StoneCreek Dental in Chillicothe.  StoneCreek’s office was less than 30 straight line miles from the plaintiff dentist’s office, but was more than 30 driving miles.  The plaintiff dentist brought suit and the jury awarded him $125K plus interest.  The trial court dismissed the claims against StoneCreek, but that dismissal was reversed in part on appeal in May.

First, the Court held that it was not an abuse of discretion to reduce the attorneys’ fees to $250/hour based on the prevailing rates in Fayette County instead of the actual rates of the Franklin County attorneys. The plaintiff’s attorneys had requested $143,595 plus expenses.  The trial court based its analysis on the factors listed in Professional Rule of Conduct 1.5.  In addition, the trial court properly excluded litigation expenses because the contract only required the payment of fees and not expenses.  Without a controlling contract or statute, the American Rule requires each party to pay their own fees and expenses. 

Second, the Court held that it was proper for the jury to base its award on the plaintiff’s testimony about the revenue he lost when the plaintiff resigned to work for a competitor.  Damages for breach of a non-competition clause is generally based on lost profits.   As the Court held last May, mathematical certainty is not required.  The plaintiff dentist testified about his past revenue and the increase in revenue he realized while the defendant worked for him for six months.  He doubled that amount to show how the revenue would have increased in a year.  Because his overhead did not change, the increased revenue constituted profit that he lost when the defendant began competing against him during the five-year non-competition period. “Whether the revenues actually represented lost profits as testified to by Dr. Ginn relates to Dr. Ginn's credibility and was for the jury to decide.”    

Finally, the Court rejected that defendant’s argument that the 30-mile territorial restriction was ambiguous where the parties each had different interpretations of the restriction.  It also refused to consider extrinsic evidence – i.e., evidence outside the four corners of the contract – to interpret the 30 mile restriction because it was plain on its face and unambiguous.   The contract contained an integration clause which precludes the parties from attempting to contradict its terms with other evidence about other side-agreements.  Further, Ohio courts have routinely interpreted similar restrictions to refer to straight-line miles instead of driving miles.

 

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can be changed or amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Ohio Court of Appeals Shows that Violating a Non-Compete and Court Order Can Be More Trouble Than It’s Worth

In my experience, there are few industries where employers are more aggressive in enforcing non-competition agreements than in than beauty salons. This week, the Hamilton County Court of Appeals addressed another case involving a hair stylist who just could not say no to his former clients for the non-competition period and ended up paying a steep price for breaching his former employment agreement. Mitchells Salon & Day Spa, Inc. v. Bustle, 2010-Ohio-1880 (4/30/10).

According to the Court’s opinion, the defendant stylist began working for the employer salon soon after graduating from cosmetology school and before he had developed any clients. He signed an employment agreement with a non-competition clause barring him for one year from providing any hair styling, hair care or related services to any client which he had served at the employer at any point during his employment. After working for the employer salon for more than 12 years, he quit in August 2007 and opened his own salon. The employer became suspicious when most of the stylist’s former clients ceased patronizing the employer’s salon and filed suit in January 2008 to enforce the non-competition clause. The trial court entered a TRO in February 2008 prohibiting him from providing any beauty services to the employer’s former clients. The parties then negotiated an injunction which prohibited the stylist from providing for one year – from the date of the February 2008 injunction –any hair styling, hair care or related services to any of the employer’s clients which the stylist had ever served. He also agreed to send each of his clients a letter prepared by the salon informing them that he could no longer serve them and recommending another stylist currently employed by the salon.

The employer salon even offered these clients a discount or free service if they returned. However, it was apparently not enough to shake their loyalty to the errant hair stylist. (I can certainly relate to this). When most of the former clients did not return, the employer hired a private investigator in September 2008 which apparently confirmed that the hair stylist was continuing to routinely serve former clients of the employer. Accordingly, in December 2008 the employer filed a motion to hold him in contempt of the agreed injunction. During the April 2009 contempt hearing, the stylist admitted that he had violated the non-compete and unintentionally violated the TRO and agreed injunction because he had trouble saying “no” to his former clients. He produced a list of 180 clients whom he had served since August 2007 which had been former clients of his employer, but argued that 63 of them were procured personally by him and not by any advertising or promotional campaign by the employer. In all, he claimed that he had made a profit of approximately $37K by serving former clients of his employer in violation of the non-compete, the TRO and the injunction. In response, the employer produced evidence of 39 additional clients which were not on the stylist’s list which the PI had found on a paper calendar in the stylist’s trash.

The employer wanted to be paid for the entire lost profit of $74.1K caused by the stylist’s resignation (i.e., by taking the entire profit he had generated during his last year of employment less the cost of his commission and products) and did not limit itself to the profit lost by the 219 clients served in violation of the non-compete agreement. It also asked to be reimbursed for the $52.6K cost of the PI firm hired to uncover and prove his duplicity and $15.8K in legal fees. The trial court found the stylist in contempt, ordered the stylist to reimburse his former employer only $139K (of the requested $142.5K) and again ordered him to cease serving the clients of his former employer for one year from the date of the contempt order – i.e., until April 2010.

On appeal, the Court affirmed the contempt order. It rejected the stylist’s objections to the salon’s calculation of lost profits on the grounds that he was not provided with the underlying original documents. There is no discussion of the fact that the salon could not have lost all of the profit from his resignation when it still continued to serve and profit from some of his former clients. There is also no discussion of the fact that many – if not most -- of the disputed customers would likely refuse to return to the salon under any circumstances after learning that the salon was more interested in its profits than the condition and style of their hair. However, the court found the salon’s estimate was reasonable in light of the fact that the stylist’s list of the employer’s former clients was materially incomplete in leaving off 39 names.

The court also rejected the stylist’s objection to being required to both pay $139K and cease serving the employer’s former clients for a year. A double penalty is not something that would have been enforced if it had merely been an obligation of the contract. He felt that this was a double punishment and he should only have to pay or cease serving the clients; not both. However, the court of appeals saw it differently:

This is exactly what the trial court did here. The trial court required [the stylist] to disgorge his profits and then ordered [the stylist] to comply with the noncompete clause, which was incorporated into the trial court's agreed entry, for the period of time that [the stylist] had disobeyed the TRO and the agreed entry. These sanctions essentially put the parties in the position they would have been in if [the stylist] had abided by his original agreement for a period of one year not to serve clients to whom he had provided hairstyling services while employed at [the salon]. The extension of the agreed entry for an additional 11 months compensates [the salon] for its future loss of profits. The whole point of the noncompete clause was to give [the salon] the opportunity to retain a client base that it had built through its investment of time, money, and training. The extension gives [the salon] the benefit of its bargain. Accordingly, we cannot say that the trial court abused its discretion in ordering [the stylist] to disgorge his profits and in extending the agreed entry for an additional 11 months. The fourth assignment of error is overruled.

Thus, if the stylist had complied with his non-compete, he would have been free to serve anyone and everyone beginning in August 2008 and would not have owed anything to his former employer. Instead, by continuing to violate the non-compete after agreeing to an injunction, he was barred from serving his former clients until April 2010 and required to pay his former employer over $139K. While it is true that an employer cannot have both an injunction and damages as a matter of contract law, the court refused to permit him to benefit from violating both his contract and a court order. Therefore, he was ordered to comply with his contract, to disgorge any profit he made from violating the contract and court order and to compensate the employer for having to enforce the agreement.

Interestingly, one of the appellate judges indicated that he had sympathy for the stylist’s double penalty argument and would have preferred that the employer elect between the two remedies, but could not undo the injunction period once it had already been completed. In other words, the injunction expired before the court of appeals issued its decision.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can change or be amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Cuyahoga Court of Appeals Limits Unfair Competition and Inevitable Disclosure Claims to Duration of Non-Competition Agreement.

In October, the Cuyahoga Court of Appeals ruled on a dispute between coffee barons which arose out of the division of a coffee business in a divorce (in which the wife’s attorney ended up with the business) after the husband began a new coffee venture (at the urgings of his disinherited children) following the expiration of his non-compete agreement. Berardi's Fresh Roast, Inc. v. PMD Enterprises, Inc., 2008-Ohio-5470 (8th Dist. 10/23/08). The courts agreed with the husband that his preparations to begin his new coffee business did not violate the non-competition agreement and he was entitled to engage in fair competition with his former business by promoting his “better” and “less expensive” coffee. The court also ruled that the inevitable disclosure doctrine did not justify relief for the plaintiff company because the confidentiality obligation did not survive the expiration of the non-compete.

Like most businesses, the Company started in happier days when the Executive and his wife began with a small retail store in Cleveland and the Executive’s talent with coffee blends grew the business to a nationwide scope. Fourteen years later, the Executive sold his share in the Company to his wife in a divorce, agreed to a three-year non-competition agreement (containing a perpetual confidentiality clause) and accepted a deferred compensation arrangement. However, after the wife sold the business to her attorney (thus disinheriting their children), the Executive’s sons asked him to re-enter the coffee business, which the Executive agreed to do following the expiration of his non-compete agreement. In the meantime, he lined up the financing and suppliers for his new business, investigated prices and blends, purchased the necessary equipment and signed an office lease. The day after the non-compete agreement expired, the Executive opened his new coffee business and he hired three former employees (who then worked for the Company). One of the Company’s major grocer clients then began buying its coffee from the Executive based on his reputation, his lower price and the taste of his coffee. The Company then filed suit against the Executive, his new company and its former employees.

“In its complaint, [the Company] alleged tortious interference with business, breach of the noncompetition agreement, theft of trade secrets, deceptive trade practices, civil conspiracy, and destruction or conversion of [the Company’s] personal property. The Executive counterclaimed for failure to pay the remainder of his deferred compensation. The trial court granted summary judgment to the Executive on all claims and the Court of Appeals affirmed that judgment, except that it reversed summary judgment on the conspiracy and on one of the trade secret claims.

Trade Secrets Claim. The Company’s trade secrets consisted of the coffee blend formulas the Executive developed when he owned the Company. “The formulas consist of both the origin of the beans (i.e. Africa, Columbia, Brazil) and percentage used of each type of bean.” Although the Executive’s new company created a sales cheat sheet to indicate which of its blends most closely approximated the Company’s coffee blends, a comparison of the formulas showed that the Executive’s coffee blends used different beans and percentages than the Company’s blends – with one exception. In that case, the Executive admitted that the formulas were identical, although he used a different roasting method which changed the taste. In addition, the Executive claimed that the formula for that blend actually belonged – in whole or in part – to the client who helped develop the blend and was its exclusive buyer. The client supported this contention. However, because the Company pointed out that the client was not even aware of the blend’s formula and had asked for a copy of the formula only a few months before the Executive opened his new coffee business, there was a disputed issue of material fact as to whether the Executive misappropriated this particular trade secret formula.

The courts rejected the remaining trade secret claims involving the confidential client list because the Executive showed that he created his new client list (of names and telephone numbers) from researching the yellow pages, the internet and client referrals and making cold calls, etc. There was no evidence that the Executive’s new client list overlapped identically with the Company’s client list or contained other information unique to the Company’s clients (such as buying habits, prices, etc.).

Conspiracy. Because the court of appeals resurrected this trade secret claim, it felt compelled to resurrect the civil conspiracy claim based on the alleged misappropriation of trade secret. “The elements of civil conspiracy are: (1) a malicious combination of two or more persons, (2) resulting in injury to person or property, and (3) existence of an unlawful act independent of the conspiracy.” In that the Executive is alleged to have conspired with his new employees to misappropriate the single coffee blend, that claim would be sent to a jury to decide its merits.

Inevitable Disclosure. The Company argued that the doctrine of inevitable disclosure should bar the Executive from hiring its former employees since those employees possessed trade secret information and could use it to compete against the Company. The courts indicated that this doctrine is limited to when “a threat of harm warranting injunctive relief exists when an employee with specialized knowledge commences employment with a competitor.” Because those employees were apparently not subject to a non-compete agreement and the Executive’s non-compete agreement had expired, the courts held that the doctrine was inapplicable to this situation.

Unfair Competition. The court rejected the Company’s arguments that the Executive’s preparations in forming his new business constituted a violation of the non-compete and unfair competition because there was no evidence that he was competing, was soliciting customers, was hiring or recruiting employees or advertising before the expiration of the non-compete agreement. The fact that the Executive’s son mentioned his father’s future venture to a Company employee a few months before the business opened was irrelevant.

Similarly, the court rejected the Company’s arguments that the Executive and its former employees tortiously interfered with its contracts with its customers by persuading them to switch suppliers (i.e., to buy from the Executive instead of the Company). Under Ohio law, competitors are permitted to engage in fair competition without actual malice. There was no evidence that any of the customers breached any contracts with the Company when they switched coffee suppliers. Rather, their contracts were terminable at will. Moreover, “informing potential clients that its coffee tastes better and was less expensive, does not constitute ‘actual malice.’"

The courts also rejected for lack of evidence claims that the Executive was providing customers with “cheat sheets” indicating that his coffee was the same as the Company’s or was placing his coffee in grocery bins identified for the Company’s coffee.

Deferred Compensation. The Company argued that it was not required to make the remaining payments of deferred compensation to the Executive because he allegedly breached the non-compete agreement. However, as discussed above, the court rejected all arguments that he breached the non-compete agreement. In any event, the courts found this to be irrelevant because, pursuant to the contractual terms, the deferred compensation obligation was independent of the non-compete obligation. The compensation was due because of past services rendered, not because of the non-compete provision.

Insomniacs may read the full decision at http://www.sconet.state.oh.us/rod/docs/pdf/8/2008/2008-ohio-5470.pdf.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can change or be amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Ohio Appeals Court: Employers Should Sometimes Leave Competing Former Employees Well Enough Alone.

In early July, the Ohio Court of Appeals in Stark County not only affirmed the trial court’s refusal to enforce the plaintiff-employer’s non-competition agreement against a competing, former employee, but the court also affirmed a significant damage award of $180,000 against the employer and in favor of the former employee on the employee’s unfair competition claim. United Studios of America v. Laman, No. 2007CA00277, 2008-Ohio-3497 (7/7/08). The basis for the employee’s successful counter-claim was that the employer only brought the non-competition lawsuit to cause the employee to incur legal fees.

In Laman, the employer operated a mobile photography studio which provided portraits at grocery stores and shopping malls, etc. in several states. Since at least 2000, the employer required all employees to sign an employment agreement which contained the following non-competition clause:

“Employee acknowledges that Company will expend considerable time, effort and expense in the training of employee and the methods used by Company; that Employee will acquire confidential and valuable knowledge and information as to Company's accounts, customers and business patrons, as well as confidential and valuable knowledge and information concerning the methods and forms developed and used by Company; and that Employee will acquire such knowledge and experience that upon leaving Company's employment for any reason, his engaging directly or indirectly, either alone or in association with any other person or firm, in the family portrait photography business will cause unfair disclosure of such valuable knowledge and information, irreparable harm and financial loss to Company."

The defendant employee signed such a clause when he was hired and he was later promoted to Vice President of the Company. Nonetheless, he eventually resigned from the plaintiff employer and formed his own photography business in Colorado. He then obtained a contract to provide portraits to customers of Safeway of Colorado. There is no discussion in the court’s opinion whether the plaintiff employer operated in Colorado or whether the employee competed against the employer in other states.

The court explains that the plaintiff employer filed suit against the former employee for breach of his non-competition agreement. The lawsuit apparently only sought monetary damages and did not seek equitable relief. When the employee failed to respond to the complaint, the employer moved for default judgment. However, on the same date, the employee requested and later obtained permission to not only file an answer to the complaint, but to file counter claims against the plaintiff employer for, among other things, unfair competition. The trial court granted summary judgment to the employee on the non-competition claims and on his counterclaims. Following a damages hearing, the court awarded damages to the employee in the amount of $180,260.39, including $116,468 in punitive damages and $58,234 in attorney fees.

The employer argued on appeal that the trial court erred in dismissing its non-competition claim on the grounds that the employer failed to prove that it suffered any damage from the breach of the non-competition clause. After all, according to the employer, the contract itself acknowledged that the employer would suffer harm from any breach of the non-competition provision. The court was unmoved:

“A contractual provision acknowledging harm will occur in the event of a breach, without more, is insufficient to withstand summary judgment. Where, as here, a party makes a claim for money damages, the party must demonstrate actual damages. [The employer] filed the within action alleging claims for breach of contract, breach of fiduciary duty, breach of Ohio Trade Secrets Act and intentional interference with contractual relationships. [The employee] moved the trial court for summary judgment on all of the above claims alleged in the complaint, and for summary judgment as to its counterclaim for unfair competition. [The employee’s] motion for summary judgment raises the issue that [the employer’s] claims must fail because Appellant has no evidence demonstrating damage or injury resulting from [the employee’s] actions. In response, [the employer] merely cites the contract provision stipulating damage to[the employer]. The contract did not include a provision for liquidated damages. While the contract provision stipulating to damages and irreparable harm may well provide grounds for an equitable injunction, we find [the employer’s] claims require proof of actual damages, and [the employer] failed to meet the burden.”

In contrast, the court affirmed the employee’s damage award because the employee “presented admissible evidence establishing [the employer’s] motives in filing the instant action were to cause [the employee] to incur legal fees and costs. Accordingly, the trial court properly granted summary judgment in favor of” the employee on his counterclaim for unfair competition against the plaintiff employer.

Insomniacs can read the court’s decision in full at http://www.sconet.state.oh.us/rod/docs/pdf/5/2008/2008-ohio-3497.pdf.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can change or be amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Ohio Appeals Court: Employee Handbook is Not a Binding Non-compete Agreement.

Last month, the Lake County Court of Appeals affirmed the dismissal of a fraud lawsuit brought by an employer against an employee after the plaintiff-employer incurred substantial litigation expenses in an earlier case brought by the employee’s former employer. Freedom Steel, Inc. v. Rorabaugh, 2008-Ohio-1330 (3/21/08). The employee salesperson left his long-time employer and was hired by the plaintiff-employer after assuring it that he had never signed a non-competition agreement with his long-time employer. However, he did not inform the plaintiff-employer that he had signed an employee handbook acknowledgment because it was not a non-compete agreement and he did not think that handbook’s non-competition provision was enforceable. The court ultimately ruled that the employee was correct.

When the employee resigned his long-time employment, he did not reveal the identity of his new employer. When the long-time employer asked him to not call on any of their customers, he responded that he did not have a non-compete and would do what he had to do to get and keep a job. In response, the long-time promised that it would sue him if he competed against it.

Not surprisingly, the employee generated sales by means of his prior customer relationships. In “March of 2005, [the employee] was served with a lawsuit filed by [his long-time employer] in Summit County. In the complaint, [the long-time employer] alleged violations of Ohio's Trade Secrets Act, interference with contractual business relations, conversion, and breach of contract. Shortly after being served, [the employee] notified [the plaintiff-employer] of the pending lawsuit [and was] questioned . . . again regarding whether he had signed anything "that would drag us into a lawsuit." [The employee] again denied signing such a document insisting "I will prove it to you, and you're going to apologize to me ***." Based on these assurances, the plaintiff-employer did not fire the employee at that time.

“Eventually, however, [the plaintiff-employer] was served with a subpoena from [the long-time employer] seeking disclosure of . . . . the names of ‘customers, where they are located, their addresses, who they are, what they buy, what you're selling them price wise, everything about the customers, it's an open book in other words.’ [The plaintiff-employer] fought the subpoena by filing a motion for protective order; however, the trial court overruled the motion. The trial court rendered the ruling a final appealable order and appellant subsequently filed an appeal with the . . . Court of Appeals. Before the appeal was heard,” the employee settled the lawsuit with his long-time employer.

On April 4, 2006, after the dismissal, [the plaintiff-employer] filed suit against [the employee] in the Lake County Court of Common Pleas alleging fraud. [The plaintiff-employer] asserted [the employee] defrauded [the plaintiff-employer] by concealing relevant information regarding his past employment which caused it to expend over $18,000.00 in attorney's fees to defend against the subpoena issued by [the long-time employer] in the Summit County case. . . . In February of 2007, the matter proceeded to jury trial. After deliberating, the jury returned a verdict” in favor of the employee.

During the trial, the trial court had instructed the jury that as a matter of law the employee handbook signed by the employee was not a binding non-compete or trade secrets agreement. Therefore, the employee had truthfully denied ever signing a non-compete agreement. On appeal, the Court of Appeals agreed that the employee handbook could NOT constitute a binding contract because the Acknowledgment page signed by the employee contained the following disclaimer:

"NOTHING CONTAINED IN THIS HANDBOOK IS INTENDED AS A CONTRACT AND THE POLICIES, RULES AND BENEFITS DESCRIBED IN IT ARE SUBJECT TO CHANGE AT THE SOLE DISCRETION OF FAMOUS ENTERPRISES WITHOUT NOTICE AT ANY TIME."

“Although the document indicates, by signing the receipt, [the employee] agreed to be bound by the statements contained within it, the document does not mention and thus does not bind [the employee] (or any acknowledging employee) to a non-compete clause. Moreover, although the document indicates that, by signing the document, [the employee] would not disseminate or use confidential information "CRITICAL TO THE SUCCESS OF FAMOUS ENTERPRISES" (emphasis sic), it does not use the term nor set forth any general trade secrets any current or past employee must not publish. The document merely states that confidential information, e.g., customer lists, pricing policies or other sensitive information, shall not be disseminated or used "OUTSIDE OF COMPANY PREMISES." As this statement appears in an employee handbook and, moreover, is vague as to what it specifically relates, it is reasonable to conclude that it simply reflects a policy requiring current and past employees not to disclose the information it stipulates as confidential.”

Not discussed by the Court is the fact that the plaintiff-employer likely would have been subpoenaed regardless of the arguable existence of a non-compete agreement because the trade secrets claim does not require the existence of an underlying breach of contract. However, the court of appeals incorrectly noted in a footnote that the use of the customer information from memory (as opposed to taking a list) was not actionable under Ohio's Trade Secret Act. (This issue was previously the subject of an earlier Ohio Supreme Court opinion on February 6, 2008 in Al Minor & Assoc., Inc. v. Martin, 2008-Ohio-292).

Insomniacs can read the full decision at http://www.sconet.state.oh.us/rod/docs/pdf/11/2008/2008-ohio-1330.pdf .

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can change or be amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Ohio Appellate Court: It Takes More Than Sour Grapes To Prove Tortious Interference and Fiduciary Breach

Late last month, the Cuyahoga County Court of Appeals rejected the claims of a disappointed parts distributor against a former executive and his new employer (a used parts distributor). N. Coast Engines, Inc. v. Hercules Engine Co., 2008-Ohio-793 (2/28/08). In that case, the plaintiff company (the parts distributor) had an exclusive distribution agreement with a manufacturer. The plaintiff-company had promoted the defendant executive to president of the company because of his years of experience selling that manufacturer’s parts and because he had been an excellent employee for five years. The executive was employed at will for $50,000/year and, importantly, did not have any non-competition, confidentiality or non-solicitation agreements with the plaintiff company. The defendant-company was a used parts distributor, who hired the defendant executive (at the same salary, but subject to a non-compete agreement, and a three- year employment agreement with health insurance benefits) on January 10, 2005 and then shortly thereafter – on January 25, 2005 -- won the exclusive right to resell the manufacturer’s new parts. The plaintiff company ended up without a talented president and without its exclusive deal with the manufacturer.

The plaintiff company had considered selling itself to its former president during the prior year. However, when the defendant company learned of that possibility, it expressed its interest in buying the plaintiff instead. When the plaintiff presented the defendant with a confidentiality agreement before permitting due diligence, the defendant company realized that it did not want the business that much and withdrew its interest. Learning that the plaintiff company was for sale, the defendant executive then began exploring other employment opportunities, including going to work for defendant-company. He gave his notice of resignation to the plaintiff-company on January 17 and continued working for the plaintiff through January 28. The last few days were spent helping transfer its inventory to his new employer, which had won the exclusive distribution agreement from the manufacturer on January 25 when the manufacturer learned that it had hired defendant executive.

The Court rejected the breach of fiduciary duty claim against the executive because there was no evidence that the executive “sustained any financial gain, any kickback, or any promotion for joining: the defendant-company or showing that he “intentionally changed employment in order to divest the” plaintiff employer of its exclusive agreement with the manufacturer. As an at-will employee, he was free to resign at any time. In the absence of a restrictive covenant, he was also free to begin working for a competitor following his employment and to continue serving former business contacts also served by his new employer. There was no evidence of any secret dealing or conflict of interest.

The Court rejected the claim that the defendant-employer tortiously interfered with the executive’s fiduciary duty because there was no breach of fiduciary duty. Moreover, there was no tortuous interference with the plaintiff’s exclusive distributorship arrangement with the manufacturer because there was no evidence that the executive had been hired with the intent of inducing the manufacturer to terminate its relationship with the plaintiff company. Rather, the defendant company hired the executive because of his extensive knowledge of the manufacturer’s parts (which the defendant company sold used).

Insomniacs may read the full decision at http://www.sconet.state.oh.us/rod/docs/pdf/8/2008/2008-ohio-793.pdf.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can change or be amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.

Franklin County Court of Appeals Reads Geographic Restriction Out of Non-Compete Agreement.

Late last month, the Franklin County Court of Appeals reversed a trial court and enforced a non-competition agreement against a hair stylist who did not solicit, but did continue to serve, customers of her former employer – outside the geographic scope of the non-competition clause. Penzone, Inc. v. Koster, 2008-Ohio-327. The court also extended the term of the non-compete by the amount of time which the stylist had continued to serve customers who sought her out at her new salon.

In that case, the stylist was hired directly from beauty school and worked for Penzone’s for 11 years until her resignation in 2006. When she was hired and when she was subsequently promoted, she signed a non-competition clause which prohibited her for eight months from serving any current or former customers of Penzone’s whom she had personally served during her employment “without regard to where those customers or the Employee's post-employment competition may be situated.” The agreement also contained a nine-mile geographic scope against competing against Penzone’s after her employment.

The stylist set up shop in Pickerington -- outside the nine-mile geographic radius of the non-competition agreement. Although she denied soliciting any former Penzone customers, about 95 former customers sought her out. (She had previously served about 200 customers each year). Approximately six months later, Penzone’s filed suit, alleging a breach of the non-competition agreement and theft of trade secrets. After discovery and a hearing, the trial court denied injunctive relief to Penzone’s and the salon appealed.

The contract term at issue is neither a non-solicitation clause nor a pure non-compete clause. Because the stylist’s new shop was outside the agreement’s nine-mile radius (which the court found to be reasonable), she could continue to work as a hair stylist in competition with Penzone’s as early as the day after her resignation. Non-solicitation clauses are typically not subject to a geographic limitation, but there was no evidence that the stylist had solicited any former Penzone clients. However, even though she did not solicit former Penzone customers, she did serve almost 95 of them -- in violation of the clear terms of the agreement – but outside the nine-mile geographic limitation on competition. According the agreement, there was no geographic limitation of any kind on this restriction to serve former clients, but there was a temporal restriction of only eight months. Apparently confused, the trial court found this restriction to be unreasonable (since she was required to screen her appointments as they arrived) and/or treated it as a non-solicitation clause which she had not violated.

The Court of Appeals seemed to be oblivious to the real issue in the case. While, on one hand, it paid lip service to the fact that the nine-mile restriction on competition was reasonable on its face, on the other hand, it provided absolutely no analysis as to why it was reasonable to prohibit the stylist from serving customers outside that nine-mile radius. For instance, the court noted that the “agreement allows Penzone a time period and a distance restriction to allow Penzone to retain clients as loyal Penzone customers.” (emphasis added).

What’s troublesome about the court’s decision is that the clause at issue is more akin to a non-compete clause than a non-solicitation clause because its violation does not depend on the employee misusing the employer’s customer information against its financial interest. Rather, the employee can violate the agreement by passively serving whatever customer comes through her door. “[W]hen faced with a covenant not to compete that imposes restraints that exceed what is necessary to protect the employer's legitimate business interests, the courts are empowered to modify the terms to create a reasonable covenant between the parties.” Nonetheless, there was no finding by the Court of Appeals that it was reasonable to restrict the hairstylist from serving customers beyond the nine-mile radius of the non-compete clause. There was not even a discussion by the court of its intent to enforce the agreement as written despite any reasonableness requirement.

Rather, the Court focused on a lack of harm to the public because the agreement did not materially affect the availability of hairstylists in the area. Moreover, the court found the potential harm to the stylist was minimal in light of the short eight-month restriction. Finally, the court found that Penzone’s invested significant sums in developing and promoting relationships between its stylists and its customers. While it could not be quantified how long any of the lost customers would have remained with Penzone’s or how many services they would have purchased from Penzone’s if they had not followed the stylist to Pickerington, the court was satisfied that Penzone’s had shown irreparable harm.

So, your happiness with this decision will depend on whether you are an employer which is considering enforcement of a non-compete clause against a former employee with a loyal customer base or whether you are an employer which is considering whether it can accept new, unsolicited customers from a competitor after hiring a new employee from that same competitor. Employers who hire employees subject to such a non-compete clause will need to take extraordinary steps for the duration of the non-competition period to ensure that unsolicited customers were never served by the new employee during his or her prior employment.

Insomniacs may read the decision in full at: http://www.sconet.state.oh.us/rod/docs/pdf/10/2008/2008-ohio-327.pdf.

NOTICE: This summary is designed merely to inform and alert you of recent legal developments. It does not constitute legal advice and does not apply to any particular situation because different facts could lead to different results. Information here can change or be amended without notice. Readers should not act upon this information without legal advice. If you have any questions about anything you have read, you should consult with or retain an employment attorney.