Colorado Non-Compete Law Blog : Denver Non-Compete Lawyer & Attorney : Dan Warden : Bond & Morris Law Firm : Adams County, Brighton, Aurora, Bow Mar, Lakeside

Damages may be awarded for breach of a non-compete agreement even if the agreement is  modified after the breach occurs, according to the recent First Circuit decision in Astro-Med v. Nihon Kohden. 

In Astro-Med, the trial court modified the scope and range of the prohibited conduct set forth in the non-compete when it issued a preliminary injunction. Instead of North America and Europe, the trial court limited the prohibited conduct to a specific state and a limited subset of customers.  Such limitation was consistent with Rhode Island law which disfavors non-compete agreements -- as Colorado law does. Later, at trial, damages were awarded for breach of the modified non-compete. The opinion isn't clear, but presumably the breach and resulting damages occurred prior to the preliminary injunction.  

On appeal, defendants sought to have the damage award vacated as they argued that the non-compete was not enforceable until it had been modified by the district court.  In the words of the First Circuit, defendants were seeking the application of the "one free breach" rule, which would bar damages for breach of a non-compete if the non-compete was subsequently modified by a court. At first blush, this argument seems plausible. As the First Circuit noted: "We have no quarrel with the defendant's general contention that under the partial enforcement rule, an overly broad noncompetition provision cannot be enforced until it is modified, a proposition that seems self-evident". 

The First Circuit rejected defendants' argument, however, as it reasoned that the one free breach rule "would eviscerate all but the most narrowly tailored non-competition agreements, since a modification of any term of the provision would justify a breach of all its terms".   

This case raises some perplexing issues. The First Circuit may be right that employees should not be able to enjoy the benefits associated with the "one free breach" rule. On the other hand, there may be situations where it would be unfair to ask employees to anticipate whether and how an unreasonable restraint will be construed. And, in those situations, a court may not be inclined to award damages against a former employee when the employee guesses wrong about how the restrictions in a non-compete should be enforced. 

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Profits lost on specific orders are recoverable for breach of a non-compete agreement, according to the recent Tenth Circuit decision in Southwest Stainless v. Sappington.

Oklahoma law was applied to determine that the non-compete was enforceable. As a result, the trial court's reasoning about why the non-compete was enforceable has limited value for a case governed by Colorado law. Oklahoma's non-compete statute differs from Colorado's. Nonetheless, the Tenth Circuit's damages analysis may provide guidance in Colorado cases. 

In Sappington, the trial court rejected the plaintiff's claim for "general lost profits"; that is, plaintiff's claim for lost profits on all the business done by its former employees' new employer. Other jurisdictions have similarly concluded that damages should not be measured by the benefit to the party in breach. The trial court awarded damages, however, on two contracts where there was evidence that the former employees' breach of their non-compete had caused damages.

On appeal, the defendants challenged the ruling that lost profit damages were recoverable on the two contracts at issue. The former employees argued that any breach of their non-competes had not caused damages to their former employer because the plaintiff had not shown exactly what the defendants had done or how the damages had resulted. The Tenth Circuit rejected this evidentiary argument with little difficulty, as it noted that Oklahoma law provided that a causal connection could be proved by circumstantial evidence.  

While the decision is not surprising, it does include lessons for both employees and employers. Employees subject to non-competes should recognize that there are times when damages have been awarded for the breach of a non-compete. Employers should recognize, on the other hand, that their case for damages may depend on showing how the employee's conduct caused it to incur damages. It is often not enough for a former employer to show that the new employer of its former employee has been successful.

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In a November 2008 decision, TruGreen Companies v. Mower Brothers, the Utah Supreme Court ruled that lost profits is the appropriate measure of damages for breach of a contractual non-compete provision. 

In TrueGreen, TruGreen Companies had argued that an unjust enrichment or restitution measure of damages should be used. TruGreen sought to recover the economic benefit realized by its employees' breach of their non-compete agreements. The Utah Supreme Court rejected this argument  as it expressly held that restitution or unjust enrichment was not an appropriate measure in non-compete actions. The court reasoned that restitution and unjust enrichment  should only be used when no express contract is present. The use of these equitable remedies would "punish" the breaching party, according to the TruGreen court, and would be inconsistent with the basic rule of contract damages that the non-breaching party should be placed in the position that it would have enjoyed if the contract had been performed. 

In reaching its decision, the court in TruGreen relied heavily on the 2007 decision by the Idaho Supreme Court in Trilogy Network Systems v. Johnson. The TruGreen court approved of the ruling in Trilogy that a plaintiff could "examine" the defendant's profits in an attempt to assess it own economic loss. A plaintiff can not rely solely on the defendant's gains to prove its lost profits, however, and must submit proof of its own costs and profits. Because the plaintiff in Trilogy had failed to introduce evidence about its own costs and profits, the Idaho Supreme Court declined to award damages because the plaintiff had failed to "to take the measure of its damages out of the realm of speculation". 

In rejecting the use of restitution as a measure of damages for breach of non-compete provisions, Utah joins not only Idaho, but also a number of other states, including Wyoming, Alaska and Connecticut. 

For those with non-competes governed by Colorado law, it is worth noting that Utah has not adopted a statute governing non-competes comparable to Colorado's. In that sense, Utah is generally more favorably inclined to enforce non-competes. It is also worth noting that the Utah Supreme Court's decision was limited to the question of the appropriate measure of damages for breach of a non-compete. Any employer seeking to recover damages in a non-compete case may face additional hurdles. 

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A recent decision from the Third Circuit illustrates the price an employee can pay for violating a temporary restraining order precluding competition with a former employer.

In the fall of 2006, a federal district court in Pennsylvania granted the employer's motion for a temporary restraining order pending a hearing on the employer's motion for preliminary injunction. Several months later, the district court granted the motion for preliminary injunction. Applying Colorado law in accordance with the choice of law provision in the employee's employment agreement, the court found that the employee's non-compete was enforceable because the non-compete fell within two of the exceptions to Colorado's general rule barring enforcement of non-competes. The court found that the employee's agreement was a "contract for the protection of trade secrets"  and that the employee was an executive or manager.

In its Order granting the motion for preliminary injunction, the court also found that, despite its entry of a temporary restraining order several months earlier, the employee had performed services for a "handful" of former clients. Later, in an unreported order, the district court found the employee in contempt and awarded the employer over $130,000 in attorneys fees and over $180,000 in lost revenue. 

In a decision issued earlier this month, the Third Circuit in AMG National Trust Bank v. Ries was faced with the employee's appeal of the order granting the preliminary injunction and the order imposing sanctions. The Third Circuit affirmed the award of the preliminary injunction with little hesitation, but the sanctions presented a more difficult issue. The Third Circuit ultimately affirmed the award of attorneys fees but remanded the issue of lost revenue with instructions that the district court reconsider its order after a final determination of the merits of the case. 

Even though the employee won a minor victory in the Third Circuit when the court ruled that the award of lost revenue should be reconsidered, the Third Circuit decision provides a valuable lesson for employees faced with a temporary restraining order. In AMG National Bank, it appears as if the employee only performed services for a few former clients who contacted him. Nonetheless, the employee was held in contempt and damages were awarded against him. Any employee, or employer for that matter, needs to understand and comply with any order issued by a court considering a non-compete. Damages can and will be awarded for the violation of a court order. In addition, an employee's violation of a court order will cast the employee in a negative light, damage the employee's credibility and lead to the enforcement of the disputed non-compete.  

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