Source: s3://data.kl3m.ai/documents/govinfo/USCOURTS/USCOURTS-ca8-06-03896/USCOURTS-ca8-06-03896-0/pdf.json

Nature of Suit Code: 190
Nature of Suit: Other Contract Actions
Cause of Action: 

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1

The Honorable G. Thomas Eisele, United States District Judge for the Eastern

District of Arkansas.

United States Court of Appeals

FOR THE EIGHTH CIRCUIT

___________

No. 06-3896

___________

Guardian Fiberglass, Inc., a * 

Delaware corporation; Guardian * 

Fiberglass Service Corporation, a * 

Delaware corporation, * 

* 

Appellants, * 

* Appeal from the United States 

v. * District Court for the 

* Eastern District of Arkansas.

Whit Davis Lumber Company, an * 

Arkansas corporation, * 

* 

Appellee. * 

___________

Submitted: September 27, 2007

Filed: December 12, 2007

___________

Before MURPHY, MELLOY, and SMITH, Circuit Judges.

___________

SMITH, Circuit Judge.

Guardian Fiberglass, Inc. and Guardian Fiberglass Service Corp. (collectively

referred to as "Guardian") sued Whit Davis Lumber Company ("Whit Davis") to

enforce a restrictive covenant. The district court1

 granted Whit Davis's motion for

summary judgment, finding that Guardian was unable to demonstrate a legitimate

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business interest to justify its restrictive covenant and that the covenant was

overbroad. We affirm.

I. Background

Guardian is a national manufacturer and distributor of fiberglass insulation

products. Whit Davis operates two lumber yards and retail stores in central Arkansas.

Prior to its relationship with Guardian, Whit Davis sold insulation but did not sell

insulation services to its client base of builders. 

Guardian ranks fourth in the national market for insulation product sales.

Guardian implemented its "Dealer Installed Insulation Program" (DIIP) to enhance its

market share. The program targeted lumber yards, including Whit Davis, that sold

insulation at retail. Through the DIIP, Guardian assisted the lumber yards in becoming

insulation installers. To better market the program, Guardian provided a notebook

containing extensive information about installed insulation sales, including an analysis

of the fiberglass insulation market and Guardian's products. The notebook also

informed potential program participants of recommended trucks and equipment,

staffing, compensation and incentive programs, as well as a list of current dealers.

Guardian gave this notebook to Whit Davis as it reviewed the program, and Guardian

placed no restrictions on the use of the notebook. 

Guardian's competitors also courted Whit Davis, but Whit Davis chose

Guardian based on the strength of Guardian's program. Guardian and Whit Davis

entered into a trial relationship in March 1998. The trial period went well, and the

parties signed a three-year agreement in 1999. Under the terms of the agreement, Whit

Davis agreed to exclusively purchase Guardian fiberglass insulation products. 

The agreement included a covenant not to compete if Whit Davis terminated the

agreement before the end of the term. Although the agreement had a three-year term,

at expiration, the agreement would automatically renew for an additional term unless

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one of the parties chose to terminate it. The agreement could be terminated with ninety

days notice, but if Whit Davis exercised its right to terminate, the covenant not to

compete would be triggered. Under the covenant, Whit Davis, along with its officers,

directors, shareholders, partners, owners, principals, and other affiliates, agreed not

to provide installation services or own, manage, operate, assist, train or advise any

person or entity that provides installation services for a period of two years. If

Guardian terminated the agreement, the covenant did not apply. 

The parties performed under the agreement from 1998 until 2004 without

significant controversy. In fact, Whit Davis purchased approximately $2.2 million of

insulation products from Guardian under the agreement. However, in mid-January

2004, Whit Davis began purchasing additional insulation products from Johns

Mansville, one of Guardian's major competitors. Whit Davis continued to purchase

insulation products from Guardian until March 2004 when Guardian refused to sell

any more product to Whit Davis. 

Guardian then sued Whit Davis in the United States District Court for the

Western District of Michigan for breach of contract and sought enforcement of the

non-compete covenant. The Michigan court transferred the case to the Eastern District

of Arkansas because the Michigan court determined that it did not have personal

jurisdiction over Whit Davis. 

Guardian sought a preliminary injunction, which the court denied. The court

doubted whether Guardian could justify its no-competition covenant with a legitimate

business interest. Subsequently, Whit Davis moved for summary judgment. Guardian

filed a counter motion for summary judgment contending that no fact dispute existed

as to whether Whit Davis breached the agreement. The court granted Whit Davis

partial summary judgment declaring the restrictive covenant unenforceable because

Guardian lacked a legitimate business interest. The court also granted partial summary

judgment to Guardian finding that Whit Davis was in breach of contract. 

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II. Discussion

A. Choice of Law

Federal district courts sitting in diversity, as the district court in this case, must

apply the forum state's substantive law, including its conflict of law rules. Nesladek

v. Ford Motor Co., 46 F.3d 734, 736 (8th Cir. 1995). Therefore, Arkansas substantive

law applies. However, the parties' contract included a choice of law provision that

declared that Michigan law governed all questions regarding the validity, construction,

enforcement of, and the remedies under the agreement. Arkansas courts will honor a

choice of law provision, "provided that the law selected is reasonably related to the

transaction and does not violate a fundamental public policy of the state." Arkansas

Civil Practice and Procedure § 6:7 (citing Nursing Home Consultants, Inc. v. Quantum

Health Servs., Inc., 926 F.Supp. 835 (E.D. Ark. 1996)); see also Southern Farm

Bureau Cas. Ins. Co. v. Craven, 89 S.W.3d 369, 372–73 (Ark. Ct. App. 2002).

Michigan law has a reasonable relationship to this business transaction—

Guardian is based out of Michigan, and its DIIP was administered from that state.

Further, application of Michigan law on this issue would not violate a fundamental

public policy of Arkansas. Therefore Michigan law governs.

B. Legitimate Business Interest

 We review de novo the district court's grant of summary judgment. Palmer v.

Arkansas Council on Econ. Educ., 154 F.3d 892, 895 (8th Cir. 1998). Summary

judgment is appropriate when a party can demonstrate that there is no genuine issue

of material fact, and the moving party is entitled to judgment as a matter of law. JN

Exploration & Production v. Western Gas Resources, Inc., 153 F.3d 906, 909 (8th Cir.

1998). "When reviewing a grant or denial of summary judgment, this Court considers

the evidence in the light most favorable to the nonmoving party and draws all

reasonable inferences in that party's favor." Mettler v. Whitledge, 165 F.3d 1197, 1200

(8th Cir. 1999).

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Under Michigan law, a covenant will be upheld provided that the covenant is

reasonable. See St. Clair Medical, P.C. v. Borgiel, 715 N.W.2d 914, 918 (Mich. 2006).

To be reasonable, the covenant must protect a legitimate business interest, and the

duration, geographic area, and scope of the prohibition must be reasonable. Id. at

918–19. Guardian's covenant forbids competitive conduct and is thus in restraint of

trade. See Minn. Stat. Ann. § 325D.53(1) (prohibiting unreasonable restraints on trade

including "[a] contract, combination, or conspiracy between two or more persons in

competition").

Because Guardian's covenant operates in restraint of trade, Guardian's business

interest justifying the covenant must be greater than merely preventing competition.

St. Clair Medical, 715 N.W.2d at 919. Whether a party has a legitimate business

interest is a question of law to be decided by the court. See e.g. Woodward v. Cadillac

Overall Supply Co., 240 N.W.2d 710, 714 (Mich. 1976) (stating the balancing test

Michigan courts use to determine whether a restrictive covenant is reasonable).The

district court held that Guardian failed to demonstrate a legitimate business interest

and therefore granted summary judgment to Whit Davis, concluding that the covenant

was unenforceable. On appeal, Guardian argues that the district court erroneously

granted summary judgment based upon disputed facts. We disagree.

Covenants not to compete commonly appear in employment contracts, sales of

businesses, and franchise agreements. They are generally justified as effective means

for: (1) protecting the goodwill in a business that was recently sold; (2) protecting a

franchisor's goodwill in the franchise; or (3) protecting an employer from unfair

competition from a previous employee. See Worgess Agency, Inc. v. Lane, 239

N.W.2d 417, 421–22 (Mich. 1976) (dealing with a covenant not to compete in relation

to the sale of a business); H & R Block Tax Servs., Inc. v. Circle A Enter., 693 N.W.2d

548, 557 (Neb. 2005) (concerning a covenant not to compete in a franchise

agreement); St. Clair Medical, 715 N.W.2d at 920 (discussing the risk of unfair

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competition in employment contracts); see also Franchise and Distribution law and

Practice § 8:56 (discussing the franchisor's protectable interest in the franchise).

The business relationship between Guardian and Whit Davis differs from that

seen in many covenant-not-to-compete cases. Guardian and Whit Davis are

sophisticated commercial entities with bargaining power parity. Nevertheless,

Guardian's obligation to demonstrate a legitimate business interest remains. Such an

interest can be demonstrated by a showing that the covenant is necessary to protect the

goodwill of its business or to prevent unfair competition by Whit Davis. See Worgess

Agency, 239 N.W.2d at 421–22; H & R Block Tax Servs., 693 N.W.2d at 557; St. Clair

Medical, 715 N.W.2d at 920. 

We hold that Guardian cannot show that the covenant serves either purpose;

therefore, the district court did not err in determining that Guardian did not have a

legitimate business interest to protect the covenant. Guardian cannot show that its

covenant is justified by a need to protect its goodwill. Guardian was not selling its

assets or its goodwill to Whit Davis. Under the terms of the agreement, Whit Davis

was expected to attract business clients using knowledge of the industry obtained from

Guardian without using the Guardian name. In fact, Guardian relied on Whit Davis's

retail business success to ensure the success of this venture. 

Whit Davis received training from Guardian regarding the successful

management of a fiberglass installation business. Guardian, in turn, benefitted from

the exclusivity clause that required Whit Davis to use only Guardian products for its

installations. Barring Whit Davis from conducting installation business for two years

does nothing to protect Guardian's goodwill. The record does not show that Whit

Davis ever used the Guardian name to promote its business. Consequently, there is no

risk to the Guardian name if Whit Davis continues to install fiberglass insulation

under its own name.

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Guardian also cannot show that its covenant is necessary to protect it from

unfair competition by Whit Davis. To prove that there is a risk of unfair competition,

Guardian must show that it has entrusted to Whit Davis a trade secret, permitted close

contact with Guardian customers, or provided some other confidential information that

would give Whit Davis an unfair competitive advantage in the marketplace. See St.

Clair Medical, 715 N.W.2d at 919 (finding a risk of unfair competition where an

employer sought to retain customers that were brought into the business by virtue of

advertising dollars or marketing funds spent by the employer); Woodward, 240

N.W.2d at 721 (recognizing a legitimate need to protect an employee from disclosing

an employer's trade secrets or other confidential information to a competitor).

As proof of the confidential information provided to Whit Davis, Guardian

contends that it provided Whit Davis "a business in a box." Construing the facts in the

light most favorable to Guardian, the general business knowledge Guardian provided

to Whit Davis is insufficient to support the covenant. The knowledge provided by

Guardian amounts to ordinary knowledge, and Michigan courts have said that an

agreement that merely prohibits an employee from exercising the use of general

knowledge or a skill is invalid. St. Clair Medical, 715 N.W.2d at 919. Guardian argues

that because Whit Davis was licensed to use the name of the Guardian Ultra Fit®

system, it shared confidential information. However, this permission would be

necessary for anyone seeking to install a Guardian product. The information Guardian

provided to Whit Davis is more analogous to general information obtained through

on the job training than to confidential information or trade secrets. The information

provided to Whit Davis, while helpful in establishing the business, would not give

Whit Davis an unfair competitive advantage.

Because Guardian cannot show that the covenant is necessary to protect its

goodwill or to prevent Whit Davis from engaging in unfair competition, Guardian is

unable to demonstrate a legitimate business interest justifying the restrictive covenant.

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The district court did not err in finding the covenant unenforceable given Guardian's

failure of proof.

C. Scope of the Restrictive Covenant

Whit Davis also argues that the covenant is not enforceable because the

covenant is overly broad. Because we have determined that Guardian does not have

a legitimate business interest to protect, we need not address this issue.

III. Conclusion

Accordingly, we affirm the district court's grant of summary judgment. 

______________________________

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