June 8, 2011
***********
****************
A restrictive covenant in a contract is a provision that prohibits certain conduct. In the context of buy out agreements or employment agreements the restrictive covenant generally prohibits competition, often in a particularly described way. The restriction can pertain to solicitation or service, or both, to disclosure of confidential or proprietary information, or both, and can be for a specified time and geographic location.
Typically enforcement of the restrictive covenant will hinge on the needs of the buyer, or employer, to protect its business investment, weighed against the needs of the seller, or employee, to earn a living. The party who seeks to enforce the restrictive covenant, almost always the buyer of a business or the ex employer, will have to establish the business needs for the restriction.
A recent appellate court decision in Illinois, a copy of which is below, does a good job [though tedious] explaining the enforcement of restrictive covenants. A few words of caution to those interested enough to tackle the written decision. It's very lengthy. Yes, I could analyze, summarize and explain the decision, but I'd rather have those interested read it.
I will point out that here the ex employee originally sold the business to the buyer who then became his employer; there was a restrictive covenant in the buy out agreement and again in the employment agreement. The lower court denied a motion for a preliminary injunction preventing the employee from working, but the Appellate Court reversed and directed the lower court to issue the injunction.
Also, be ready to be thoroughly depressed because the first thing that's going to come to your mind is that you,- all of us and that includes me - are in the wrong business !!!!
************
WM RECYCLE AMERICA, LLC, Plaintiff-Appellant, v. SHAWN
LAVIN, Defendant-Appellee (David Pelz, Defendant.).
APPELLATE COURT OF ILLINOIS, SECOND DISTRICT
2011 Ill. App. Unpub. LEXIS 1067
May 13, 2011, Order Filed
NOTICE: This order was filed under Supreme Court Rule 23 and may not be cited
as precedent by any party except in the limited circumstances allowed under Rule
23(e)(1).
PRIOR HISTORY:
Appeal from the Circuit Court of Du Page County. 10-CH-6665. Honorable Bonnie
M. Wheaton, Judge, Presiding.
DISPOSITION: Reversed and remanded.
JUDGES: JUSTICE ZENOFF delivered the judgment of the court. Justices Schostok
and Birkett concurred in the judgment.
OPINION BY: ZENOFF
OPINION
ORDER
Held: Trial court erred in denying motion for preliminary
injunction; restrictive covenants in employment agreement were
reasonable as employment agreement and amendment to employment
agreement were ancillary to sale of a business.
Plaintiff, WM Recycle America, LLC. (WMRA), appeals from an order of the
circuit court of Du Page County denying its motion for a preliminary injunction
against defendant, Shawn Lavin, to enforce restrictive covenants in an
employment agreement. For the reasons that follow, we reverse and remand this
matter to the trial court with directions.
BACKGROUND
Waste Management's Acquisition of the Peltz Group
Waste Management, Inc. (WMI) is a provider of waste collection and disposal
services throughout the United States. WMI's services include the recycling of
paper. In general, the brokerage of recycled waste paper consists of purchasing
the waste material from various vendors, such as printers, making the material
market ready by processing it, if necessary, and then selling the product to a
consumer such as a paper mill. Prior to 2003, WMI's recycling arm, Recycle
America, LLC (RA), was a relatively insignificant presence in the market as it
related to the brokerage of waste paper.
In 2003, the Peltz Group, a Wisconsin corporation specializing in the
brokerage of waste paper, had a national presence with six or seven plants.
Defendant was a one-third owner of the Peltz Group. The Peltz Group was well
known and well respected in the industry, as were defendant and his partners at
the Peltz Group. In January 2003, the Peltz Group and RA formed an entity under
the WMI umbrella called Recycle America Alliance, LLC (RAA). Waste Management1
paid the Peltz Group approximately $60,000,000 and acquired a 91% interest in
RAA. Peltz acquired a 9% interest represented by membership shares in RAA. As a
one-third owner of the Peltz Group, defendant received approximately
$20,000,000. This transaction provided for Waste Management's eventual buyout of
Peltz's shares through a put/call agreement.2 Also as part of the transaction,
defendant (and the other Peltz shareholders) signed a business protection
agreement that contained restrictive covenants relating to competitive activity,
non-solicitation, and non-disparagement. Similar restrictive covenants were
contained in an employment agreement defendant (and certain other principals of
the Peltz Group) signed as a condition of the transaction's closing. Defendant's
position at RAA was vice-president of marketing. At first, defendant was in
charge only of the Midwest, but within 90 days his territory was national in
scope in keeping with his title.
- - - - - - - - - - - - - - Footnotes - - - - - - - - - - - - - - -1 The
acquisition of the Peltz Group was effected through the use of holding
companies, but for the purpose of clarity, we refer to the various Waste
Management entities, except WMI, generically as Waste Management.
2 We use Waste Management generically here because the put/call agreement is
not part of the record; therefore, we do not know the precise Waste Management
entity or entities named in that agreement.
- - - - - - - - - - - - End Footnotes- - - - - - - - - - - - - -
From Waste Management's perspective, its purchase of the Peltz Group was
going to expand its brokerage business greatly, and defendant was the most
important person in the acquisition of the Peltz Group. Defendant was regarded
as a solid, innovative, and creative participant in the brokerage business.
Defendant was the "architect" of Waste Management's expansion of the brokerage
business into a national business, the one responsible for managing, guiding,
and directing the business's development, the one with the relationships with
the nation's largest printers like RR Donnelly. According to Matthew Coz, WMRA's
vice-president of growth, commodity sales, and marketing at the time of trial,
defendant was able to see the complexities of the market, bring together assets
to solve problems in the marketplace, and do so in a financially meaningful way.
He was responsible for the financial results of the brokerage group. Defendant
was part of a team of Waste Management's top 200 managers who set the direction
and decision-making for the company. Defendant reported directly to the
president of RAA in Houston, Texas, where RAA's headquarters were located.
By May 2005, Waste Management and the Peltz Group were in negotiations for
Waste Management to buy the Peltz Group's membership shares in RAA, as
contemplated in the 2003 transaction. The buyout occurred on September 30, 2005.
On that date, Waste Management executed a promissory note for approximately
$17,000,000, defendant receiving his proportionate one-third share; the Peltz
Group assigned its membership shares in RAA to Waste Management; defendant
resigned from RAA's board of directors; and defendant signed a first amendment
to his employment agreement. Following the buyout, RAA changed its name to the
present WM Recycle America, LLC (WMRA).3
- - - - - - - - - - - - - - Footnotes - - - - - - - - - - - - - - -3 Prior to
the acquisition of the Peltz Group in 2003, Waste Management's recycling
business was known as Recycle America, LLC; following the acquisition, the
recycling business was known as Recycle America Alliance, LLC; after the 2005
buyout, the recycling business was known as WM Recycle America, LLC. According
to Waste Management's attorney, these were name changes only, but pertained to
the same company.
- - - - - - - - - - - - End Footnotes- - - - - - - - - - - - - -
Defendant's Employment Agreement
As a condition of the $60,000,000 acquisition, defendant signed an employment
agreement that became effective on January 1, 2003. Defendant's term of
employment was three years with automatic renewals for successive two-year
periods thereafter unless terminated pursuant to the agreement. Defendant could
voluntarily terminate his employment at anytime upon written 90-days' notice.
Defendant's duties and responsibilities were as vice-president-marketing,
reporting directly to the president of RAA. His base salary was $250,000 per
year with eligibility for an annual bonus equal to from 40% up to 80% of his
annual base salary.
Section 8 of the employment agreement was entitled "Restrictive Covenants."
For a period of the longer of one year after final payments under the agreement
or two years following termination of employment, defendant agreed not to engage
in competition with any business conducted or carried on by Waste Management or
any of its subsidiaries within 100 miles of any of Waste Management's operating
locations or marketing offices, including those of any Waste Management
affiliates. The employment agreement also contained restrictions against
solicitation of customers and disclosure of confidential information. The
agreement contained a provision that Texas law applied to disputes arising under
it.
By the fall of 2005, the other Peltz principals had left RAA. Defendant
testified that he, too, was planning to leave, but the president of WMI asked
him to stay for three years. Defendant agreed to stay for two years, and they
compromised at two and a half years. On September 30, 2005, defendant signed a
"First Amendment To Employment Agreement." That document amended the term of the
original employment agreement by extending it to March 31, 2008; it amended
defendant's compensation by providing, inter alia, that upon termination he
would be paid two times his annual base salary and one times his target annual
bonus. Paragraph 4 of the amendment provided: "Except as expressly modified or
amended herein, all provisions of the Employment Agreement shall remain in full
force and effect and continue to govern the parties thereto." The restrictive
covenants remained in full force and effect. The amendment provided that Texas
law applied.
Defendant left WMRA at the end of May 2008. WMRA paid defendant the benefits
under the amendment to the agreement. On August 16, 2010, while the restrictive
covenants were still in effect, defendant went to work for Pioneer Industries,
Inc. (Pioneer), located in Minneapolis, Minnesota, as its president and CEO.
Defendant testified that the offer of a $45 million bonus upon the sale of
Pioneer lured him out of retirement. Matthew Coz described Pioneer as a
recycling company with multiple locations that operates in a business format
comparable to Waste Management's recycling business. In Coz's opinion, Pioneer
Industries competes against WMRA for recyclable material. Michael Tunney, WMRA's
recycling operation's director for Illinois, Indiana, Michigan, and Ohio,
testified that anyone who participates in recycling is WMRA's competitor. James
Chafoulias, Pioneer's owner who recruited defendant, testified that anyone who
calls on a printer (WMRA does) is Pioneer's competitor. Defendant insisted that
Pioneer is a "niche" company that does not compete for the same waste materials
as WMRA.4
- - - - - - - - - - - - - - Footnotes - - - - - - - - - - - - - - -4 At trial,
the issue of competition was the subject of much discussion. On appeal, the
issues focus on the reasonableness of the restrictions in the employment
agreement. Therefore, we do not recount the voluminous testimony dealing with
competition.
- - - - - - - - - - - - End Footnotes- - - - - - - - - - - - - -
The Lawsuit
On November 24, 2010, WMRA sued defendant and David Pelz, who was one of the
principals of the Peltz Group, alleging violations of the restrictive covenants
in their respective employment agreements. WMRA moved for a temporary
restraining order, which the trial court denied. This court affirmed the trial
court's decision in WM Recycle America, LLC v. Lavin, No. 2--10--1216 (2010)
(unpublished order under Supreme Court Rule 23). Following this court's
decision, WMRA voluntarily dismissed Pelz from the suit and proceeded in the
trial court against defendant only. On January 24, 2011, defendant filed an
answer and affirmative defenses to the complaint, and, after discovery, the
parties proceeded to an evidentiary hearing on WMRA's motion for a preliminary
injunction. Following the hearing, the trial court took the case under
advisement and issued its written memorandum opinion and order denying the
preliminary injunction on February 3, 2011.
As stated above, the employment agreement contained a provision that Texas
law applied. WMRA argued for the application of Texas law, while defendant
argued for the application of Illinois law. The trial court did not expressly
rule on the choice of law issue, but found that Texas and Illinois law were both
governed by the guiding principle that restrictive covenants are enforceable if
they are reasonable. The court found that the main difference between Illinois
and Texas law is that Texas's law relating to restrictive covenants is codified.
Under both laws, the court stated, the question of the reasonableness of the
covenants is one of law. The trial court also found that both states have
similar requirements for preliminary injunctions. The court applied both Texas
and Illinois law.
Central to the trial court's analysis was its finding that the 2003
employment agreement was ancillary to the sale of a business while the 2005
amendment to the employment agreement was ancillary to employment and not to the
sale of a business. Pursuant to this analysis, the court examined whether the
restrictive covenants served to protect WMRA's confidential information or
customer relationships. The court found that defendant did not have confidential
information he gained as WMRA's employee. The trial court made no finding
regarding WMRA's customer relationships. The trial court found that there was no
reasonable relationship between the 100-mile restriction and any legitimate
interest of WMRA, given that WMRA's customers are located throughout the globe.
The court further found that the phrase "any operating location or sales or
marketing office of [WMRA] or any of its affiliates" is vague and ambiguous due
to the fact that many of WMRA's sales people worked from their homes and the
agreement did not define "operating location," "marketing office," or
"affiliate." The trial court concluded that the restrictive covenants were
unreasonable because they restricted defendant from "accepting employment
anywhere on the planet."
The trial court ruled that WMRA did not meet the requirements for a
preliminary injunction because it did not demonstrate a likelihood of success on
the merits or demonstrate that it would be irreparably harmed if an injunction
did not issue. The court acknowledged that Texas requires the court to reform
covenants it finds to be unreasonable, but held that to do so at the preliminary
injunction stage would be premature. This timely appeal followed.
ANALYSIS
WMRA contends that the trial court erred in denying the motion for
preliminary injunction on four grounds: (1) the covenants protected the value of
the business goodwill WMRA acquired through its acquisition of the Peltz Group;
(2) the covenants were reasonable considering the breadth of WMRA's operations
and the nature of defendant's high-level position; (3) absent an injunction,
WMRA will suffer irreparable injury to its business goodwill and competitive
edge; and (4) the harm to defendant is insignificant because he agreed to be
bound by the covenants and was handsomely compensated for doing so.
Choice of Law
We must first determine which law governs. WMRA contends that Illinois law
governs the standards for granting a preliminary injunction but Texas law
governs the issue of the reasonableness of the restrictive covenants. Defendant
agrees that Illinois law governs the standards for preliminary injunctions but
contends that Illinois law also governs the issue of whether the restrictive
covenants are enforceable. Accordingly, we will apply Illinois law to determine
the standards for granting or denying a preliminary injunction and then discuss
the parties' contentions regarding the law to be applied to the covenants.
A preliminary injunction is a provisional remedy to preserve the status quo
pending a hearing on the merits of a case. Hanchett Paper Co. v. Melchiorre, 341
Ill. App. 3d 345, 351 (2003). A court may not grant a preliminary injunction
unless the party seeking the preliminary injunction shows that (1) it possesses
a clear right or interest needing protection; (2) it has no adequate remedy at
law; (3) irreparable harm will result if the preliminary injunction is not
granted; and (4) there is a reasonable likelihood of success on the merits.
Hanchett, 341 Ill. App. 3d at 351.
Although the parties debate the standard of review and discuss it in
different terms, they essentially are in agreement on it. The issue in this case
is whether a preliminary injunction should issue to enforce a restrictive
covenant, the validity of which is in question. Therefore, under this court's
decision in The Agency, Inc. v. Grove, 362 Ill. App. 3d 206, 216 (2005), three
different standards of review apply. We review questions of fact under a
manifest weight standard; whether a covenant is enforceable is reviewed de novo;
and whether a preliminary injunction should issue to enforce a restrictive
covenant is reviewed for abuse of discretion. Grove, 362 Ill. App. 3d at 215 216
.
We turn now to the issue of which state's law applies to the restrictive
covenants. As we previously noted, the employment agreement and the amendment to
the employment agreement provided that Texas law applies. Illinois will give
effect to an express choice of law provision in a contract where (1) the law of
the chosen state does not contravene Illinois' public policy and (2) there is
some relationship between the chosen forum and the parties or the transaction.
Potomac Leasing Co. v. Chuck's Pub, Inc., 156 Ill. App. 3d 755, 757-759 (1987).
Public policy considerations must be "strong and of a fundamental nature" to
justify overriding the chosen law. Potomac, 156 Ill. App. 3d at 759.
We consider the public policy of each state. In Reliable Fire Equipment Co.
v. Arredondo, 405 Ill. App. 3d 708 (2010), this court reiterated the common law
principles relating to restrictive covenants, which our supreme court has
recognized. Foremost among those principles is the doctrine against restraint of
trade. Reliable, 405 Ill. App. 3d at 724. "'A promise is in restraint of trade
if its performance would limit competition in any business or restrict the
promisor in the exercise of a gainful occupation, and a promise that is
unreasonably in restraint of trade is unenforceable.'" Reliable, 405 Ill. App.
3d at 724, quoting E. Farnsworth, Contracts, § 5.3, at 19 (3d ed. 2004). In
order for a promise to refrain from competition to be reasonable, the promisee
must have an interest worthy of protection that may be balanced against the
hardship on the promisor and the likely injury to the public. Reliable, 405 Ill.
App. 3d at 724.
Texas has codified its law regarding restrictive covenants. Section 15.50(a)
of the Covenants Not to Compete Act (Act) provides:
(a) *** [A] covenant not to compete is enforceable if it is
ancillary to or part of an otherwise enforceable agreement at the time
the agreement is made to the extent that it contains limitations as to
time, geographical area, and scope of activity to be restrained that
are reasonable and do not impose a greater restraint than is necessary
to protect the goodwill or other business interest of the promisee."
Tex. Bus. & Com. Code § 15.50(a) (Vernon 2009).
Section 15.51(c) provides that if the limitations as to time, geographical area,
or scope of activity to be restrained are not reasonable and impose a greater
restraint than is necessary to protect the goodwill or other business interest
of the promisee, the court shall reform the covenant, may not award damages
before its reformation, and the relief granted to the promisee is limited to
injunctive relief. In section 15.52, the Texas legislature provided that the
criteria for enforceability of a covenant not to compete as stated in section
15.50 of the Act are exclusive and preempt any other criteria for enforceability
under common law or otherwise.
Under Texas law, covenants not to compete are generally considered restraints
of trade and are disfavored. Valley Diagnostic Clinic, P.A. v. Dougherty, 287
S.W. 3d 151, 155-56 (Tex. App. 2009). "It is evident that Texas has a
fundamental policy to enforce reasonable covenants not to compete." Intermetro
Industries Corp. v. Kent, 2007 WL 518345 (M.D. Pa. 2007). In interpreting the
provisions of the Act, the Court of Appeals of Texas stated:
"The Act balances both the interests of employees and their
employers, recognizing that restraints should be no greater than
'necessary to protect the goodwill or other business interest of the
promisee.' [Citation]. Thus, Texas will enforce reasonable restraints
on competition that protect legitimate business interests of the
employer." Holeman v. National Business Institute, Inc., 94 S.W. 3d
91, 98 (Tex. App. 2002).
The Texas Supreme Court held that the "core inquiry" of section 15.50(a) of the
Act is whether the restraints imposed by a covenant not to compete are
reasonable. Alex Sheshunoff Management Services, L.P. v. Johnson and Strunk &
Assoc., L.P., 209 S.W. 3d 644, 655 (Tex. Sup. Ct. 2006). Texas Supreme Court
Chief Justice Jefferson put it thusly in a concurring opinion: "In sum, section
15.50(a) seeks to enforce reasonable covenants that protect legitimate business
interests and are supported by valid consideration." Alex Sheshunoff, 209 S.W.
3d at 660 (Jefferson, C.J., concurring).
In our case, defendant contends that the Texas Act contravenes Illinois'
public policy in two regards: (1) the hardship to the employee is not expressly
considered, and (2) Texas courts must reform an unreasonable restraint to make
it reasonable rather than declare it unenforceable. Thus, defendant concludes
that Illinois has chosen to provide its workers greater protection than does
Texas. The Act takes into account the hardship to the employee because it first
requires that the covenant not to compete be ancillary to or part of an
otherwise enforceable agreement at the time the agreement is made. First,
section 15.50(a) does not permit the covenant to stand alone. Alex Shehunoff,
209 S.W. 3d at 658 (Jefferson, C.J., concurring.) It must arise out of a
relationship between the employer and the employee that safeguards a legitimate
business interest of the employer. Alex Sheshunoff, 209 S.W. 3d at 658-59
(Jefferson, C J., concurring.) Second, the covenant's restraints cannot be
greater than necessary to protect the legitimate business interest of the
employer. Taken together, this means what Holeman concluded, that the Act
balances the interests of both the employee and the employer. So, while the
Texas legislature did not use the words "hardship to the employee," it provided
for consideration of that factor.
Mandatory judicial reformation of an agreement gives us more pause. In
Cambridge Engineering, Inc. v. Mercury Partners 90 BI that allowing extensive
judicial reformation of blatantly unreasonable posttermination restrictive
covenants maycontravene Illinois public policy because of the potentially severe
effect it could have on employees subject to such covenants. Cambridge, 378 Ill.
App. 3d at 456. The Cambridge court was concerned that a policy allowing
extensive reformation would give employers an incentive to draft restrictive
covenants as broadly as possible, which could have a "severe chilling effect" on
an employee's posttermination activities. Cambridge, 378 Ill. App. 3d at 456.
The Cambridge court viewed judicial reformation of restrictive covenants with
suspicion because it increases the hardship to the employee. Cambridge, 378 Ill.
App. 3d at 456. At the same time, the court in Cambridge acknowledged that in
some circumstances courts may choose to modify an overbroad restrictive covenant
rather than invalidate it outright. Cambridge, 378 Ill. App. 3d at 456-57. The
court held that, in deciding whether modification is appropriate, the fairness
of the restraints contained in the contract is a key consideration. Cambridge,
378 Ill. App. 3d at 457. A court would not err in failing to modify an
unconscionable contract. Cambridge, 378 Ill. App. 3d at 457.
While we share the Cambridge court's reservations, we do not believe that
Texas' policy is so strongly and fundamentally contrary to the public policy in
Illinois that it overrides the instant parties' choice of law. Illinois allows
for modification, or blue-pencilling, albeit we are more circumspect in applying
the rule.
Having determined that Potomac's first test, public policy, does not require
that we apply Illinois law, we next consider Potomac's second test, whether
there is some relationship between the chosen forum and the parties or the
transaction. Defendant argues that the only relationship this case has to Texas
is that WMRA is headquartered there, defendant's paychecks were generated there,
and defendant visited there "from time to time." Defendant ignores that he
agreed to be bound by Texas law. This is not a case where, in the absence of a
choice-of-law provision in a contract, this court must decide the conflict
question. Here, the parties were of equal bargaining power, and in both the
employment agreement and the amendment, they agreed Texas law would apply.
Moreover, defendant's contacts with Texas were not casual. He reported directly
to the president of RAA who was in Texas. He traveled to Texas for meetings
monthly or every two months. Under Potomac, there must be "some" relationship
between the parties or the transaction and the chosen forum. Potomac, 156 Ill.
App. 3d at 757-59. The record here demonstrates "some" relationship between the
parties and Texas. Accordingly, we hold that Texas law governs the restrictive
covenants in this case.
Whether the Covenants Are Ancillary to the Sale of a Business or Ancillary to
Employment
The trial court found that the employment agreement defendant entered into in
2003 was ancillary to the sale of a business, because it was entered into in
conjunction with Waste Management's acquisition of the Peltz Group. The trial
court found that the 2005 amendment to the employment agreement was ancillary to
employment, not to the sale of a business. WMRA challenges the second finding as
being against the manifest weight of the evidence.
A covenant not to compete, ancillary to the sale of a business, is upheld as
a necessity to secure the goodwill the buyer purchases. Williams v. Powell
Electrical Manufacturing Co., Inc., 508 S.W. 2d 665, 667 (Tex. App. 1974). Put
another way, such restraints are justified by the buyer's need to protect the
value of the goodwill it purchased with the business. E. Farnsworth, Contracts §
5.3, at 22 (3d ed. 2004). Goodwill is an integral part of the business, which
includes the competitive advantages accruing to a business on account of its
name, location, reputation, and success. Airflow Houston, Inc. v. Theriot, 849
S.W. 2d 928, 933 (Tex. App. 1993). Absent a promise not to compete, the seller
is free to open a new business in competition with the buyer. E. Farnsworth,
Contracts § 5.3, at 23 (3d ed. 2004). An analogous situation arises where a
corporation's business depends heavily on the goodwill of one or more officers
or significant shareholders. When such a person, on the sale of a business,
promises not to compete, the promise is one ancillary to the sale. E.
Farnsworth, Contracts § 5.3, at 23 (3d ed. 2004). If the restraint is ancillary
to the sale of a business and its goodwill, the employer has a legitimate
interest in the protection of that goodwill. E. Farnsworth, Contracts § 5.3, at
29 (3d ed. 2004).
Promises not to compete ancillary to employment, however, are sustained only
if the employer stands to lose its investment in confidential information or in
customer lists or similar information. E. Farnsworth, Contracts § 5.3, at 24-25
(3d ed. 2004). In other words, the inquiry in analyzing a covenant not to
compete ancillary to employment is to what extent the employee has appropriated
an asset of the employer and used it against the employer. E. Farnsworth,
Contracts § 5.3, at 29 (3d ed. 2004). A post-employment restraint is scrutinized
with more care than are covenants in the sale of a business, because
post-employment restraints are often the product of unequal bargaining power. E.
Farnsworth, Contracts § 5.3, at 25 (3d ed. 2004).
This distinction reflects that over a long period of time courts have
consistentlyfound sale-ofbusiness covenants more acceptable. Budget Rent-A-Car
Corp. of America v. Fein, 342 F. 2d 509, 515 (5th Cir. 1965). A covenant
ancillary to the sale of a business enables the seller to capitalize on and
dispose of his goodwill, thereby receiving a higher price. Fein, 342 F. 2d at
515. A covenant is an inducement to a purchaser of a going concern who hopes to
retain the seller's customers. Fein, 342 F. 2d at 515. Far different
considerations adhere in covenants ancillary to employment, because such
contracts restrict an employee's choice of occupation after termination and may
produce severe hardship on some employees. Fein, 342 F. 2d at 516.
In a nutshell, the central issue in our case is whether the amendment to the
employment agreement was necessaryto protect the goodwill Waste Management
purchased when it acquired the Peltz Group and defendant, or whether WMRA had to
raise a fair question that defendant appropriated confidential information or
customers.
Rather than summarize, we set forth the trial court's findings:
"Testimony established that [defendant] owned approximately 1/3 of
the shares of the Pelz [sic] Group, and received a substantial sum of
money both when the merger5 occurred in January 2003 and in September
2005 when WMRA bought back the 9% interest in WMRA that the members of
the Pelz [sic] Group retained. It is clear, and the Court so finds,
that the initial Employment Agreement was ancillary to the purchase of
a business.
However, it is equally clear that the nature of the Employment
Agreement changed in September 2005 when [defendant] was preparing to
leave WMRA. His agreement to remain with WMRA for an additional 21/2
years was supported by ample consideration, i.e., the assurance that
he would receive two years' compensation when he voluntarily
terminated employment at the of the agreed period. By that time, the
nature of [defendant's] employment had changed and WMRA had reaped the
benefit of any goodwill and synergies achieved by its merger with the
Pelz [sic] Group. The Court finds that the Employment Agreement as
amended in 2005 was not an agreement ancillary to the sale of a
business." (Emphasis in original).
The trial court did not elaborate on its findings by citing testimony or
evidence in the record to support them. Specifically, the trial court did not
say why it concluded that the September 2005 buyout of the Peltz Group's
membership shares in RAA did not relate to the 2005 amendment to the employment
agreement, or why it concluded that in only two years Waste Management had
reaped the benefit of the goodwill it purchased for $60,000,000.
- - - - - - - - - - - - - - Footnotes - - - - - - - - - - - - - - -5
Throughout its memorandum opinion, the trial court mischaracterized the
transaction as a merger. Defendant, in his testimony and in his brief, similarly
mischaracterizes the transaction.
- - - - - - - - - - - - End Footnotes- - - - - - - - - - - - - -
Defendant asserts that WMRA has forfeited this issue because it does not
argue that the trial court's findings are against the manifest weight of the
evidence. At page 27 of its opening brief, WMRA states, "The trial court erred
in finding that while the restrictive covenants were originally ancillary to the
sale of the Peltz Group, they became ancillary to the employment agreement after
the 2005 amendment to [defendant's] contract." Defendant apparently believes
that the assertion the trial court "erred" in its findings is insufficient to
raise the issue. Defendant's argument is without merit. Accordingly, WMRA has
not forfeited the issue.
WMRA argues that Waste Management had a protectable interest in the goodwill
it purchased, which could be ensured by curtailing defendant's post-employment
activities. WMRA maintains that the amendment to the employment agreement had no
effect on the restrictive covenants because the amendment pertained solely to
compensation and benefits and provided that the remainder of the agreement
remained in full force and effect. Further, WMRA argues that there is no
evidence to suggest that Waste Management contemplated that it would have reaped
the goodwill it purchased in a mere two years. Had that been the case, WMRA
argues, Waste Management would have paid far less than $60,000,000 to acquire
the Peltz Group. Defendant argues that the amendment to the employment agreement
was ancillary to employment because it was supported by consideration and the
nature of defendant's employment changed.
Although WMRA contends that Texas law applies to the determination of the
enforceabiliity of the restrictive covenants, it relies on an Illinois case,
Hamer Holding Group, Inc. v. Elmore, 202 Ill. App. 3d 994 (1990), in which the
court held that a covenant was ancillary to the sale of business where execution
of an employment agreement was a condition precedent to the sale. Elmore was the
sole owner and CEO of a realty and management company he conveyed with all its
assets, including goodwill. Hamer, 202 Ill. App. 3d at 996-97. As a condition
precedent to the sale, Elmore was to execute and deliver an employment agreement
. Hamer, 202 Ill. App. 3d at 997. Thus, the purchaser deemed Elmore's services
an indispensable asset. Hamer, 202 Ill. App. 3d at 1008. As in Hamer, WMRA says
the purchase of the Peltz Group was conditioned on defendant's employment
agreement, and, like Elmore, defendant was an indispensable asset. Defendant
distinguishes Hamer on the basis that the closing documents in the instant case,
unlike those in Hamer, did not condition Waste Management's acquisition of the
Peltz Group on the execution of the employment agreement. Our research did not
uncover any Texas case on point. Therefore, we find Hamer persuasive.
Defendant would have us divorce the circumstances surrounding the 2005
amendment to the employment agreement from those that preceded it. This we
cannot do. The record shows that the amendment to the employment agreement was
tied to the buyout of the Peltz Group's shares in RAA, which was the culmination
of the transaction in which Waste Management acquired the Peltz Group.
Waste Management's waste-paper recycling business was negligible as of 2003.
In order to make its paper brokerage business a market force, Waste Management
acquired the Peltz Group, a paper recycler with a national presence. According
to Waste Management's Matthew Coz, this acquisition was "very significant." Coz
also made it clear that gaining defendant was no less significant. Coz testified
that "[defendant] was the most important person in the acquisition." Defendant
had the contacts with the largest printers, like RR Donnelly, and the market
knowledge to transform Waste Management into a major competitor. To acquire this
stature and competitive edge, Waste Management spent approximately $60,000,000.
Waste Management obtained 91% of the membership shares in the newly formed
RAA, while the Peltz Group obtained 9%. At the time of this transaction in 2003,
the parties obviously contemplated and expected that Waste Management would buy
the Peltz Group's shares, because the parties entered into a put/call agreement
for those shares.6 Simultaneously, defendant, as a shareholder in the Peltz
Group, entered into a Business Protection Agreement with Waste Management, and
defendant (as well as the other Peltz Group principals) signed an employment
agreement. The Business Protection Agreement recited that the put/call agreement
was in "furtherance of and in connection with" the transaction and further
recited that the transaction would not occur unless defendant entered into the
Business Protection Agreement, which contained restrictive covenants identical
to those in the employment agreement. While the employment agreement contained
no language making it a condition of the transaction, Mary Kliesmet, an attorney
for the Peltz Group who worked on the transaction, testified that defendant's
employment agreement was a condition of the sale. Defendant counters this
testimony by arguing that it lacked foundation, an objection the trial court
overruled. The record shows that Kliesmet did the due diligence for the
transaction, reviewed the documents exchanged between the parties, and was part
of the negotiations. After the acquisition, she became a senior attorney for
Waste Management. Therefore, the record demonstrates the foundation for her
testimony.
- - - - - - - - - - - - - - Footnotes - - - - - - - - - - - - - - -6 The
put/call agreement was not introduced in evidence. It was mentioned in
testimony, and there is a letter in evidence that gives some insight into the
put/call agreement.
- - - - - - - - - - - - End Footnotes- - - - - - - - - - - - - -
Nevertheless, defendant asserts that two facts refute the evidence that the
employment agreement was a condition precedent to the sale, the business
protection agreement and his right to leave at any time upon 90-days' notice.
Defendant posits that if the employment agreement were a condition precedent,
there would have been no need for the business protection agreement because it
contained restrictive covenants of its own. Moreover, defendant argues, pursuant
to the 90-day notice provision of the employment agreement, he could have given
notice the day after the closing and still have collected his share of the
$60,000,000 purchase price. WMRA contends that the business protection agreement
was an example of prudent "belt-and-suspenders-drafting" and that the 90-day
notice requirement meant that defendant could not leave immediately upon signing
the closing documents. We are not persuaded by defendants' arguments. First, it
is not clear how Waste Management could have provided that defendant could never
leave its employ; second, the time restrictions in the business protection
agreement and the employment agreement were not coextensive. The business
protection agreement provided that the restrictions were tied to the periods
defendant had an interest in the distributions under the put/call agreement or
otherwise beneficially owned an interest in the Peltz Group, whereas the
restrictions in the employment agreement were tied to the periods of defendant's
employment. Tying the restrictions to the period of defendant's employment in
the employment agreement was in furtherance of Waste Management's purchase of
goodwill in the transaction. Consequently, Kliesmet's testimony that the
employment contract was a condition of the sale was not refuted by the existence
of the business protection agreement.
The term of defendant's employment agreement was three years, automatically
renewable for two-year increments. Between January 1, 2003, the beginning of the
term of the agreement, and September 30, 2005, the effective date of the
amendment, defendant had become the "architect" of Waste Management's brokerage
business, which grew to be national, even international, in breadth. According
to Coz, defendant was "a significant force for our company during that
time--still today."
On May 1, 2005, a letter from the Peltz Group to Waste Management detailed
that negotiations were underway for Waste Management's "early" buyout of the
Peltz Group's shares in RAA pursuant to the put/call agreement signed in 2003.
The buyout was effected on September 30, 2005, when Waste Management gave the
Peltz Group a promissory note for approximately $17,000,000; the Peltz Group
assigned its shares in RAA to Waste Management; defendant resigned from RAA's
board of directors; and defendant signed an amendment to the employment
agreement. Defendant testified that the divestiture of his shares in RAA was
"written into" the "original" agreement, meaning the 2003 transaction. As for
the amendment to the employment agreement, Kliesmet testified that the amendment
was done in conjunction with the buyout.
As a one-third owner of the Peltz Group, defendant was compensated in the
amount of approximately $20,000,000 in 2003 and approximately $6,000,000 in 2005
(these sums were paid over time instead of in a lump sum.) The timing of the
other principals of the Peltz Group's departure from Waste Management coincided
with the buyout. It was against this scenario that defendant and Waste
Management negotiated the amendment to defendant's employment agreement. The
record does not support defendant's assertion, and the trial court's finding,
that the nature of defendant's employment changed. Defendant testified that
Patrick De Rueda, RAA's president, gave defendant additional responsibilities,
but defendant also testified that his assignment remained the same upon
execution of the amendment. "***[The president of Waste Management] wanted
[defendant] to do the same thing, manage the brokerage business and sell all the
volume out of [Waste Management.]"
Similarly, we do not find support in the record for the trial court's finding
that Waste Management had reaped the benefit of the goodwill it purchased with
its 2003 acquisition of the Peltz Group by the time it entered into the
amendment to defendant's employment agreement. The term of the employment
agreement was three years; the three years had not expired at the time of the
amendment. Therefore, Waste Management had not realized its investment in
defendant as of the date of the amendment. Moreover, Waste Management was
willing to invest another $17,000,000 to acquire the Peltz Group's shares in RAA
plus additional consideration to keep defendant.
As in Hamer, Waste Management would not have proceeded with the acquisition
of the Peltz Group without the execution of the employment agreement, and it
deemed defendant's services an indispensable asset. Waste Management spent
handsomely to ensure that its acquisition was not an illusory one.
Just as we cannot ignore the significance of the 2003 acquisition having been
completed by the 2005 buyout, we cannot ignore the significance of an amendment
to the employment agreement instead of the execution of a new agreement. The
amendment showed an intention to change some provisions in the original document
instead of an intent to supercede the original document. See In re Oceanside
Properties, Inc., 1 B.R. 747, 749 (D. Hawaii 1980). ("There is a difference
between a 'First Amendment to [a document]' and a 'First Amended [document]. The
first shows merely an intent to change some provisions in the original document,
whereas the second shows an intent to supercede the original document with the
amended document.").
We also cannot ignore that the bargaining position of the parties here was
not uneven, as it often is in an employer/employee relationship. See Hamer, 202
Ill. App. 3d at 1007-08. The acquisition of the Peltz Group was negotiated, as
was the buyout, and defendant negotiated the terms of the amendment directly
with the president of Waste Management. Defendant accepted over $20,000,000 in
exchange for his promise not to compete against his former employer. None of the
concerns inherent in an employment agreement ancillary to employment, such as
hardship to the employee or injury to the public, is present in this case.
WMRA cites Business Records Corp. v. Lueth, 981 F. 2d 957 (7th Cir. 1992),
which we find instructive. In Lueth, the defendant who had, over many years,
become prominent selling election equipment to state and local governments,
worked for Thornber at the time it was acquired by the plaintiff. Lueth, 981 F.
2d at 958-59. The plaintiff sold election equipment nationwide, and it required
the defendant to sign a noncompetition agreement as a condition precedent to its
purchase of Thornber. Lueth, 981 F. 2d at 959. The defendant signed the
agreement and received as consideration stock in the plaintiff. Lueth, 981 F. 2d
at 959. He became vice-president of the plaintiff. Lueth, 981 F. 2d at 959.
Before the expiration of his employment agreement, the defendant went to work
for one of the plaintiff's competitors, and the plaintiff sued the defendant,
alleging a violation of the noncompetition agreement. Lueth, 981 F. 2d at 959.
The district court granted an injunction in the plaintiff's favor, and the
defendant appealed. The Seventh Circuit first held that the noncompetition
agreement was made ancillary to the sale of a business because it was signed as
part of the sales agreement. Lueth, 981 F. 2d at 960. "[T]he noncompetition
agreement and the sales agreement were executed simultaneously; and [the
plaintiff] gave [the defendant] 3750 shares of its parent's common stock."
Lueth, 981 F. 2d at 960. The court noted that the defendant accepted the
restraints voluntarily at the bargaining table and enthusiastically accepted
valuable consideration. Lueth, 981 F. 2d at 960. The court upheld the restraint
imposed upon the defendant for two years past his quitting time on the basis
that the defendant had worked for the plaintiff for only six years and the
plaintiff still had goodwill it needed to protect. Lueth, 981 F. 2d at 960-61.
In our case, as in Lueth, defendant signed the employment agreement as part
of the sale of the Peltz Group to Waste Management. Then in 2005, defendant
signed the amendment to the employment agreement in conjunction with the Peltz
Group's sale of its shares in RAA, which represented the culmination of the 2003
transaction. As in Lueth, Waste Management "invested in preserving" defendant's
loyalty. In addition to the millions defendant was paid as his share of the
initial sale and then the buyout, he received two years' salary plus a bonus as
consideration for the amendment to the employment agreement. If, under similar
circumstances, the goodwill attached to the transaction was intact after six
years in Lueth, it follows that Waste Management would not have reaped the
benefit of the goodwill it purchased after less than three years.
Accordingly, we determine that the trial court's finding that the 2005
amendment to the employment agreement was ancillary to employment was against
the manifest weight of the evidence. Waste Management's legitimate business
interest was the value of the goodwill it purchased. It was entitled to protect
that interest. Thus, defendant's inquiry into whether defendant appropriated
confidential information, or whether Waste Management enjoyed a near-permanent
relationship with its customers, is irrelevant.
Whether the Restrictive Covenants Are Overbroad
Having determined that defendant's employment agreement was ancillary to the
sale of a business, we proceed to the issue of whether the restrictive
covenants' limitations as to time, geographical area, and scope of activity were
reasonable and did not impose a greater restraint than necessary to protect
Waste Management's goodwill.
Section 8 of the employment agreement contained the restrictive covenants.
Section 8(a), the noncompetition agreement, provided in relevant part as
follows:
"Employee *** agrees that for a period of one (1) year after the
date payments made to, or benefits received by, Employee pursuant to
this Agreement cease, or for a period of two (2) years following the
date of termination of Employee's employment whichever is later
(whether such termination is voluntary or involuntary by wrongful
discharge, or otherwise), Employee will not, directly or indirectly
through other persons, within 100 miles of any operating location or
sales or marketing office of the Company or any of its affiliates,
engage in, assist (whether Employee receives a financial benefit or
not), or have any active interest or involvement, whether as an
employee, agent, consultant, creditor, advisor, officer, director,
stockholder (excluding holdings of less than 1% of the stock of a
public company), partner or proprietor of, or any type of principal
whatsoever in, any person, firm, or business entity which, directly or
indirectly, is engaged in a business competing with any business
conducted and carried on by the Company or any of its subsidiaries,
without the Company's prior written consent."
Section 8(b) of the employment governed non-solicitation, and for the same time
periods as section 8(a) provided:
"***Employee will not, directly or indirectly through others, (i)
induce any customers of the Company or its affiliates to patronize any
similar business which competes with any business of the Company or
its affiliates to patronize any similar business which competes with
any business of the Company or its subsidiaries; (ii) canvass, solicit
or accept any similar business from any customer of the Company or its
affiliates; (iii) request or advise any customers of the Company or
its affiliates to withdraw, curtail or cancel such customer's business
with the Company or its affiliates; (iv) disclose to any other person,
firm or corporation the names or addresses of any of the customers of
the Company or its subsidiaries; or (v) cause, solicit, entice, or
induce any present or future employee of the Company or any of its
subsidiaries to leave the employ of the Company or such subsidiary or
to accept employment with, or compensation from, the Employee or any
other person, firm, association, or corporation, without the Company's
prior written consent."
Section 8(c) was a non-disparagement clause, and section 8(d) prohibited the
disclosure of confidential information.
The non-disparagement clause was not a subject of the litigation. However, in
its complaint, WMRA alleged that defendant breached the non-disclosure clause
and requested that injunctive relief include prohibiting defendant from
disclosing confidential information. In this appeal, WMRA reiterates its
position that the non-disclosure clause, which is indefinite in duration, is
enforceable. WMRA argues that the non-disclosure clause is not in restraint of
trade and, therefore, its reasonableness is not at issue. It appears that the
trial court in its memorandum opinion did not address this issue. The trial
court's discussion of confidential information was directed toward whether
defendant had appropriated confidential information for purposes of determining
whether WMRA possessed a legitimate business interest that would justify the
restraint imposed by the restrictive covenants in the noncompete and
non-solicitation clauses. In his brief, defendant similarly addresses only the
legitimate-business-interest.
The trial court found that the restrictions in the noncompete and
non-solicitation clauses of the employment agreement amounted to an
industry-wide exclusion in that it prohibited defendant from engaging in any
activity in any business entity that is engaged in a business competing with any
business conducted by Waste Management or any of its subsidiaries. Given that
Waste Management operates around the world in all areas of recycling, the court
found that defendant would act at his peril in accepting employment "anywhere on
the planet."
WMRA argues that the restrictions are reasonable. It maintains that the time
restriction is three years after termination of employment, which is reasonable.
It asserts that the geographical restriction is reasonable because WMRA conducts
business nationwide and defendant's duties as vice-president of sales and
marketing extended to the entire country. WMRA argues that one of its business
interests is the goodwill it acquired through the purchase of the Peltz Group,
which did business throughout the country. Therefore, WMRA concludes that the
restrictions are not greater than necessary to protect its goodwill.
On its face, section 15.50 of the Act does not apply to non-solicitation
agreements. However, Texas courts apply the same analysis to non-solicitation
agreements as to covenants not to compete. Shoreline Gas, Inc. v. McGaughey,
2008 WL 1747624, at *10 (Tex. App. 2008); Miller Paper Co. v. Roberts Paper Co.,
901 S.W. 2d 593, 600 (Tex. App. 1995).
We first consider the time restriction. Defendant's employment agreement
prohibited him from competing or soliciting for a period of one year following
his receipt of payment and benefits under the agreement, or for a period of two
years after termination from employment, whichever is later. In Gallagher
Healthcare Insurance Services v. Vogelsang, 312 S.W. 3d 640, 655 (Tex. App.
2010), the court stated "[t]wo to five years has repeatedly been held as a
reasonable time in a noncompetition agreement." Consequently, we hold that the
time restriction is reasonable.
We next consider the geographical restrictions. WMRA disputes the trial
court's finding that the restriction was national in scope, arguing that
defendant could work in Kansas City, Missouri, because WMRA does not operate
within 100 miles of that city. However, for purposes of our discussion, we will
accept the trial court's finding. Generally, a reasonable area for purposes of a
covenant not to compete is the territory in which the employee worked while in
the employment of his employer. Curtis v. Ziff Energy Group, Ltd., 12 S.W. 3d
114, 119 (Tex. App. 2000). In our case, defendant began his employment as
vice-president of sales and marketing in the Midwest, but within 90 days, he was
made vice-president of sales and marketing nationwide. Consequently, the
territory in which he worked was the entire country.
We are persuaded by the facts of this case that it is governed by Powell. In
Powell, the issue was whether the trial court erred in issuing a nationwide
injunction. Powell, like the present case, involved a restrictive covenant
ancillary to the sale of a business. "When a business is sold, a reasonable area
is that which is no larger than necessary to protect the business sold." Powell,
508 S. W. 2d at 667-68. Faced with an issue of first impression, the appellate
court upheld the injunction. The court stated that it would have agreed that a
nationwide restriction was unreasonable "if appellees had not demonstrated that
the business sold was national in character." Powell, 508 S.W. 2d at 668. Here,
the evidence showed that the Peltz Group, the business sold to Waste Management,
was national in character. "In an era of national and international
corporations, a modern court of equity cannot feel constrained by past
precedents involving the sale of barber shops and livery stables." Powell, 508
S.W. 2d at 668. Consequently, the territorial restrictions in the instant case
are reasonable.
We reiterate that the instant case does not present us with a situation in
which defendant had no bargaining power, or where to abide by the restrictions
visited harm on defendant. Indeed, defendant testified that he had looked
forward to retirement and was lured out of retirement by the prospect of a $45
million bonus upon the sale of Pioneer. Defendant argues that in balancing the
harms, we should take into account that Waste Management is a
multi-billion-dollar company. If this were not an employment agreement ancillary
to the sale of a business, and if defendant had been a mere salaried employee,
this argument might carry weight. However, defendant was paid over $20,000,000
plus two years' salary and a bonus to keep a three-year promise. Accordingly, we
determine that the restrictive covenants in the noncompete and non-solicitation
clauses are enforceable. Whether the Trial Court Abused Its Discretion In
Denying the Motion for Preliminary Injunction
The trial court held that WMRA could not demonstrate a likelihood of success
on the merits. The trial court also held that WMRA did not demonstrate
irreparable harm. Defendant contends that WMRA has no protectable interest
because defendant did not appropriate or use confidential information and
because WMRA did not have near-permanent relationships with its customers.
However, as we have determined that WMRA's protectable interest was the goodwill
it purchase upon its acquisition of the Peltz Group, defendant's arguments lack
merit.
Defendant further argues that WMRA cannot meet the irreparable harm criterion
because WMRA has suffered no economic disadvantage as a result of defendant's
activities. WMRA contends that injunctive relief is appropriate because it is
difficult to quantify its damages. WMRA relies on Agrimerica, Inc. v. Mathes,
170 Ill. App. 3d 1025 (1988). In Agrimerica, the plaintiff, who appealed from
the trial court's denial of its motion for a preliminary injunction,
demonstrated that the restrictive covenants in its employment agreement with the
defendant were reasonable and that the restrictions were necessary to protect
its legitimate business interest. Agrimerica, 170 Ill. App. 3d at 1033-34. The
appellate court held that, even if the plaintiff could calculate with precision
its lost profits, it was still entitled to injunctive relief because the court
could not compensate the plaintiff for the loss of competitive position it
sustained. Agrimerica, 170 Ill. App. 3d at 1035. We agree with WMRA. When WMRA
acquired the Peltz Group, it purchased the goodwill, which consisted, in part,
of a competitive edge. The evidence showed that the Peltz Group was a national
presence in the waste-paper recycling industry, whereas Waste Management was
insignificant. The evidence also showed that, through defendant's contacts and
innovative and creative approach, Waste Management expanded into a national and
international market force. According to Coz, defendant remained an important
figure in the industry "right to this day." Thus, WMRA had the expectation,
having purchased the goodwill, that defendant would not do for a competitor what
he did for Waste Management. Accordingly, we hold that the trial court abused
its discretion when it denied WMRA's motion for a preliminary injunction.
We remand this matter to the trial court with instructions to issue a
preliminary injunction in favor of WMRA and against defendant. On remand, we
direct the trial court to determine whether the injunction shall include a
prohibition against defendant's violation of section 8(d) of the employment
agreement, the non-disclosure of "protected information" clause.
CONCLUSION
For the foregoing reasons, the judgment of the circuit court of Du Page
County is reversed, and the cause is remanded with directions.
Reversed and remanded.