Nationwide Covenant Not To Compete Enforced By North Carolina Federal Court

It's hard to get an injunction enforcing a covenant not to compete that has a nationwide territory, but the Plaintiff was successful at that in the Middle District's decision last week in Philips Electronics North America Corp. v. Hope.  The injunction was also based on the North Carolina Trade Secrets Protection Act.

This was a thorough 44 page opinion addressing a number of non-compete and trade secrets issues, so this is a long post.  You'll have to read to near the end to see why the post gets a picture of, of all things, a sausage?

Background

Hope was the Executive Vice President of Sales for DLO, responsible for the company's sales of iPod accessories throughout the United States and Canada.  Hope had substantial interaction in that position with a $75 million customer, Best Buy, and other major DLO customers.

In December 2006, Hope signed a Letter Agreement containing a broad covenant not to compete.  It prevented him from working in the same or similar position for a DLO competitor anywhere that DLO conducted business, potentially throughout the entire world, for a two year period.

The stock of DLO was purchased by Phillips Electronics six months later.  Phillips operated DLO as a separate entity until January 2009, when DLO was merged into Phillips.  (This created an interesting standing issue regarding the right of a corporate acquirer to enforce a non-compete, discussed below under the heading "Standing").

In 2008, while still employed by DLO, Hope began planning to compete with the company.  He contacted others at DLO about the possibility;  began discussions with a manufacturer about making competing products; and used confidential DLO materials in his efforts, including DLO's business plan and internal financial information.

Hope resigned from DLO months later, the day after his new company obtained financing.  He misled his old employer about his intentions, saying he was going to work with his father.  The new company immediately began selling to some of DLO's customers, including Best Buy.  Several months later, DLO discovered Hope's involvement with the new competitor.

Irreparable Harm to DLO

Judge Schroeder found that DLO would suffer irreparable harm, as "loss of permanent relationships with customers and loss of proprietary information may constitute irreparable harm."  DLO had established that "Hope's alleged breach of the Non-Competition Agreement undermines its relationship with its customers, including its most significant -- Best Buy, and could result in the further loss of customer relationships and goodwill."

Likelihood of Harm to Hope

Hope argued that he would be deprived of a livelihood if the covenant were enforced, but the Court pointed to Hope's written acknowledgment in the Letter Agreement that it would "not prevent [him] from earning a livelihood or otherwise impose undue hardship on [him]."  Judge Schroeder said that the entry of an injunction would "only require Hope to do that which he agreed to do" in the Letter Agreement.

Standing

Judge Schroeder held that the covenant was enforceable by Philips, the acquirer of DLO's stock.  He ruled that "a non-competition agreement is enforceable by an entity acquiring the agreement through a stock purchase,"  and noted that Hope had consented in the Letter Agreement to its assignment.

The Court also observed that when there is a merger, "the surviving corporation succeeds to 'all real estate, and other property owned by each merging corporation' by operation of law, without the need for an express assignment."

(Note: There are two Business Court opinions on the right of an asset purchaser to enforce a non-compete, Better Business Forms and Covenant Equipment Corporation,  If this had been an asset purchase instead of a stock transaction, the covenant might not have been enforceable under those decisions).

Reasonableness of Territory

DLO's covenant prohibited Hope from competing where "(i) the Company carriers on or transacts its business, (ii) the Company sells or markets its products or services, or (iii) the Company's customers are located; including without limitation (A) the world, (B) the United States of America [and then a shrinking range of territories down to] (I) the territory within a 100 miles radius of each other office of the Company."

Plaintiff presented a list of thousands of specific locations throughout the country where its products were sold, including retail stores in every state and a store in the District of Columbia, as well as evidence of Hope's extensive involvement in its nationwide sales efforts.

The Court noted that "though certainly not the norm, North Carolina courts have upheld nationwide restrictions on former employees in at least three reported cases," and that a countrywide restriction was warranted "based on Hope's client contacts, his knowledge of DLO's business, the area assigned to Hope and the nature of his duties, and the fact that DLO competes nationally."

The Court wasn't troubled by the worldwide restriction in subsection (iii) of the non-compete.  It held that "under North Carolina law, the court may use its 'blue pencil' to excise subsection (iii) from the definition of territory, particularly where this provision is separated by the term 'or,' indicating that the three parts are distinctly separable."  The Court also observed that the Letter Agreement had a provision providing that the parties intended to sever any unenforceable provisions.

Reasonableness of Restriction as to Time

The Court found the two-year restriction to be reasonable, stating that "a non-competition agreement of two years is 'well within the range that the North Carolina courts have deemed reasonable.'"

Judge Schroeder further found that the two year period should be tolled for the eleven month period during which Hope had been in breach of the agreement, based on language in the agreement that "[t]he periods of protection . . . shall not be reduced by any period of time during which [Hope is] not in compliance therewith."

Legitimate Business Interest

The Court held that the covenant protected a legitimate business interest as it protected customer relations and goodwill against misappropriation," and that it "merely prevents Hope from working for a direct competitor in substantially the same or similar position as he held within the twelve months prior to his resignation from DLO."

Trade Secrets Protection Act

The Court also held that the Plaintiff had shown a likelihood of success on its claim under the North Carolina Trade Secrets Protection Act, ruling that Hope had access to a variety of trade secret information, including the DLO business plan, customer preferences, DLO's financial calculator to determine profitability (which was known internally for some reason as "the sausage"), new packaging plans, product costs, pricing information. and market share data that DLO had obtained from a third-party vendor. 

Judge Schroeder held that "customer pricing lists, cost information, confidential customer lists, and pricing and bidding formulas may constitute trade secrets," and that "special knowledge of customer needs and preferences is a trade secret."

The Hope opinion also contains a discussion of whether the holder of the trade secret had taken reasonable steps to protect the information.  Judge Schroeder held that Philips had taken such steps, although he said they were "not robust."  These included a training course titled "Ethics and Business," where Hope and other employees had been counseled about the need to protect business information against improper use and disclosure; Hope's execution of a confidentiality agreement; and independent steps taken by Philips to maintain secrecy of proprietary information within the company. 

A factor contributing to the trade secrets injunction was Hope's efforts to hide his competitive activities from his employer.  Judge Schroeder held that "injunctive relief may be appropriate where the departing employee is not forthright as to his intentions," or when "there is a showing of bad faith, underhanded dealing, or inferred misappropriation (justified by circumstances tending to show the new employer plainly lacks comparable technology."   He described the case as "a sad example of an overzealous employee's egregious disregard for his obligations to his current employer."

Public Interest

The Court found that the public interest would be served by the entry of an injunction, because Philips had "a legitimate interest in developing its customer relationships and being able to share confidential and proprietary information with its employees without fear it will end up in the hands of a competitor."

It determined also that the public interest would be served by "ensuring that contracts are enforced" and "preventing unethical business behavior."

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