Opinion ID: 751696
Heading Depth: 2
Heading Rank: 2

Heading: Rothenberg's appeal

Text: 29 As indicated in our summary of the proceedings below, the magistrate judge determined that Rothenberg had both violated his fiduciary duty to AFG and Herman and breached the non-compete covenant which was enforceable against Rothenberg as an implied-in-fact contract. He then determined that the only damages proven with sufficient certainty as to either claim were those based upon lost earnings from commissions on business represented by broker of record letters transferred from AFG to TMI, and that these were most certainly recoverable on the basis of Rothenberg's breach of the implied covenant not to compete. 30 Reflecting an understandable uncertainty as to whether the award of damages was based upon breach of fiduciary duties as well as breach of implied non-compete covenant, Rothenberg challenges the imposition of liability in any amount under either theory and, in the alternative, the amount of the damages recoverable under either. We take these in turn, after first setting out in more detail the magistrate judge's analysis leading to the challenged rulings. 31 Addressing the breach of fiduciary duty claim, the magistrate judge first accurately identified the controlling legal principles under New York law. We summarize them here as the controlling principles for our application in review. 32 First, and fundamentally, one who, like Rothenberg, is a shareholder, officer and director of a closely held corporation, is under a duty to deal fairly, in good faith, and with loyalty to the corporation and other shareholders. See, e.g., Benson v. RMJ Sec. Corp., 683 F.Supp. 359, 375 (S.D.N.Y.1988). This requires that he exert his best efforts in behalf of the corporation and not compete with it or profit at its expense, or place his private interests in conflict with its. See Ability Search, Inc. v. Lawson, 556 F.Supp. 9, 15 (S.D.N.Y.1981), aff'd, 697 F.2d 287 (2d Cir.1982). The scope of this fundamental duty is determined, however, by the circumstances of each case, and does not run to every act having any semblance of employee self-interest. See Burg v. Horn, 380 F.2d 897, 900 (2d Cir.1967). Thus, merely taking steps not involving any dereliction of positive duties to a current employer in preparation for engaging in competition with that employer after leaving its employ may not involve any breach of fiduciary duty. See, e.g., Abraham Zion Corp. v. Lebow, 593 F.Supp. 551, 571 (S.D.N.Y.1984) (filing for and obtaining trademark registration), aff'd, 761 F.2d 93 (2d Cir.1985); Schneider Leasing Plus, Inc. v. Stallone, 172 A.D.2d 739, 741, 569 N.Y.S.2d 126, 128 (1991) (incorporating later competing business). One, however, clearly crosses the line by going further in preparatory steps by actively soliciting the customers of his current employer and diverting his current employer's business to himself. See, e.g., AGA Aktiebolag v. ABA Optical Corp., 441 F.Supp. 747, 754 (E.D.N.Y.1977). 33 Further, the corporate opportunity doctrine prohibits a corporate employee from utilizing information obtained in a fiduciary capacity to appropriate a business opportunity belonging to the corporation. See, e.g., Alexander & Alexander, Inc. v. Fritzen, 147 A.D.2d 241, 246, 542 N.Y.S.2d 530, 533 (1989). And, this doctrine applies even after one owing fiduciary duties leaves his corporate employment. See Abbott Redmont Thinlite Corp. v. Redmont, 475 F.2d 85, 88 (2d Cir.1973). The doctrine's application is limited, however, to business opportunities in which a corporation has a tangible expectancy which means something much less tenable than ownership, but, on the other hand, more certain than a desire or a hope. Alexander, 147 A.D.2d at 247-48, 542 N.Y.S.2d at 534 (quotation omitted). 34 Finally, even former employees may not misappropriate and utilize confidential information, such as customer lists and other confidential information not generally known to the public, but available only to employees in their endeavors for the company. See, e.g., Abraham Zion Corp., 593 F.Supp. at 569-70. 35 Applying these principles, the magistrate judge first dismissed as a possible breach of fiduciary duty the fact alone that Rothenberg had taken the preparatory step of incorporating and securing a license for TMI while still employed by AFG. But he then found clear breaches of fiduciary duty in two aspects of Rothenberg's pre-termination conduct. First, he found that by various contacts with Ulph of THB, particularly during his deliberately concealed trip to London, Rothenberg had let it be known that he planned to leave AFG and had sought and received assurances that when he did he, rather than AFG or Herman, would maintain the established relationship with THB which insured for him the valuable access to the London special risk business. This, the magistrate judge concluded, was a breach of his fiduciary duty to AFG, constituting as it did an active diversion of AFG's business to his own business entity, TMI. See AGA Aktiebolag, 441 F.Supp. at 754. 36 Next, he found that Rothenberg breached his fiduciary duty by encouraging Susan Burnham to secure broker of record transfers from AFG to TMI, and by taking with him or having Burnham bring with her to TMI production reports and client expiration lists. Because these materials belonged to AFG, not Rothenberg or Burnham, taking them for use by TMI constituted a breach of Rothenberg's fiduciary duty. See, e.g., Abraham Zion Corp., 593 F.Supp. at 569-70. 37 Turning then to the contention that Rothenberg also had breached his fiduciary duty by soliciting, while still employed by AFG, the business of various insurance broker clients of AFG, the magistrate judge found this evidence murkier. Conceding that there was no direct evidence of any specific solicitation by Rothenberg while still employed by AFG and that Rothenberg denied any, the magistrate judge nevertheless noted strong indirect evidence that there was such solicitation. There was Rothenberg's less than credible testimony about his behavior in other contexts; there was the fact that within a few days of Rothenberg's departure from AFG, AFG began receiving virtually identical broker of record letters from different insurance agencies, transferring their business to Rothenberg's new venture; and there was the fact that many of these letters were transmitted by Ulph, some dated as early as November 14 and 15, 1991. 38 Observing that [t]he content and timing of these letters strongly suggest that the brokers who issued them had initiated steps to withdraw their business from AFG before Rothenberg actually departed, and that, [n]o doubt, this resulted from discussions with Rothenberg prior to his departure that went beyond passively responding to self-initiated broker requests to accept their accounts, the magistrate judge opined that from all this he could reasonably draw the inference that prior to his departure from AFG, Rothenberg solicited the business of at least some of its clients. Then, however, in an ambivalent observation that, as will appear, left the parties in obvious uncertainty as to his ultimate ruling on this issue, he opined that in the end the record is less clear on whether Rothenberg breached his fiduciary duty to AFG in securing broker of record letters than it is on other acts of misconduct by Rothenberg and that [u]ltimately, however, Rothenberg can still be held responsible to AFG for the loss of the business accounted for by the broker of record letters. Two reasons for the latter conclusion were given: (1) because much of the business transferred to TMI by broker of record letters involved insurance secured by AFG through THB, Rothenberg's improper disruption of AFG's relationship with THB can thus reasonably be viewed as a substantial factor in bringing about the loss of that business, and (2) even if the broker of record letters were secured after Rothenberg left AFG, in accepting that business Rothenberg breached the AFG restrictive covenant to which he was bound. 39 Turning then to the post-termination non-compete covenant claim, the magistrate judge held that even though Rothenberg never had signed the covenant exacted from some key employees pursuant to the asserted corporate policy, he was bound by it as a contract implied in fact from his conduct and, alternatively, that he was estopped by that conduct from denying its enforceability against him. And, he found that, within the thirteen-month period of the covenant's duration, Rothenberg accepted broker of record letters, transferring AFG business to TMI in breach of that provision of the covenant which prohibited any employee bound by it from soliciting or accepting ... any broker of record letter concerning any insurance policy ... written by or through AFG as producer of record. 40 Addressing the damages properly recoverable for either the found violations of fiduciary duty or the non-compete covenant, the magistrate judge first noted that AFG and Herman sought recovery both for the impaired value of AFG's business and for lost earnings caused by Rothenberg's conduct. Rejecting as flawed in methodology and too speculative the expert opinion evidence offered to prove impaired value, the magistrate judge found properly recoverable only those damages based upon lost profits. 6 Such damages, he accurately noted, are recoverable under New York law both for breach of contract, see, e.g., Lee v. Joseph E. Seagram & Sons, Inc., 413 F.Supp. 693, 705 (S.D.N.Y.1976), aff'd, 552 F.2d 447, 455 (2d Cir.1977), and for breach of fiduciary duty, see, e.g., Stoeckel v. Block, 170 A.D.2d 417, 566 N.Y.S.2d 625, 626 (1991). Properly noting that to recover damages for lost earnings or profits one must prove with certainty that the loss was caused by a breach of contract, see, e.g., Kenford Co., Inc. v. County of Erie, 67 N.Y.2d 257, 261, 502 N.Y.S.2d 131, 132, 493 N.E.2d 234 (N.Y.1986) (per curiam), or fiduciary duty, see, e.g., Stoeckel, 170 A.D.2d at 417-18, 566 N.Y.S.2d at 626, 7 and must prove with reasonable certainty, though not mathematical precision, the amount of the loss, see, e.g., Ashland Mgmt. Inc. v. Janien, 82 N.Y.2d 395, 403, 604 N.Y.S.2d 912, 915-16, 624 N.E.2d 1007 (N.Y.1993), the magistrate judge then concluded that only the loss of commission revenue represented by the broker of record letters transferred from AFG to TMI immediately following Rothenberg's leaving AFG met these proof requirements of causation and amount. 8 Specifically respecting that loss, the court concluded that it warranted recovery of the sum of $517.128. This was computed by taking the total annual commission revenues represented by the transferred broker of record letters as $444,000 (rounded), assuming a retention rate on existing business of 70%, applying an earnings margin of 60% on business renewed at that rate from year to year, and projecting the resulting discounted figures forward for five years. 41 There remained the question whether damages for these sufficiently proven lost earnings could be awarded for any found violation of fiduciary duty, or for the found breach of the implied non-compete covenant (or, theoretically, for both in the alternative). On that question, the magistrate judge's opinion is at best unclear--with critical consequences for this appeal. The problem of causation was the principal concern. With damages limited to the losses represented by the transferred broker of record letters, applicable damages law required that the transfers be traceable to specific conduct of Rothenberg that either violated his fiduciary duty, or breached the implied covenant, or did both. In addressing that causation question, the magistrate judge's opinion equivocates. We will have to return to the exact nature and consequences of the equivocation in later discussion. It suffices at this point to say only that the court found causation sufficiently proven with respect to Rothenberg's breach of the implied non-compete covenant and less clearly proven with respect to any of the found pre-termination breaches of fiduciary duty, so that judgment could most confidently be entered on the basis of the former. 42 We turn now to Rothenberg's specific assignments of error. 43
44 Without questioning whether the conduct found to have breached the implied non-compete covenant was properly found as fact or whether, if properly found, it would have breached the covenant, Rothenberg contends more fundamentally that such a covenant was not, as a matter of law, enforceable against him. He argues, alternatively, that (1) it could not properly be implied under controlling New York law which disfavors, as a matter of policy, the implication of post-employment non-compete covenants; (2) its enforcement is barred by New York's statute of frauds; (3) it is unenforceable because its subject matter is directly addressed in the express written Shareholders' Agreement; and (4) it is unenforceable by virtue of a merger clause in the Shareholders' Agreement. 45 We need not address the two contentions based upon the Shareholders' Agreement because we agree with Rothenberg's other two: that such a covenant could not properly be implied under New York law, and that, in any event, enforcement of the one implied here is barred by that state's statute of frauds. 46 As this court has noted, New York courts take a strict approach to enforcement of restrictive covenants because their enforcement conflicts with the general public policy favoring robust and uninhibited competition and powerful considerations of public policy which militate against sanctioning the loss of a man's livelihood. American Inst. of Chem. Eng'rs v. Reber-Friel Co., 682 F.2d 382, 386 (2d Cir.1982) (quotations omitted). The New York Court of Appeals has indeed put it flatly that [a]lthough in a proper case an implied-in-fact covenant not to compete for the term of employment may be found to exist, anticompetitive covenants covering the postemployment period will not be implied. American Broadcasting Companies v. Wolf, 52 N.Y.2d 394, 406, 438 N.Y.S.2d 482, 488, 420 N.E.2d 363, 369 (1981) (emphasis supplied). 47 In holding that such a covenant might properly be implied here, the magistrate judge did not advert to the New York policy specifically disfavoring post-employment anticompetitive covenants, relying only on decisions dealing with implied contracts in various other contexts. AFG and Herman have not brought to our attention any New York decision specifically implying a post-employment covenant or drawing in question the continued vitality of the general policy disfavoring their implication that was recognized in Reber-Friel and Wolf. We therefore assume the continued authority of those cases and on that basis conclude that the magistrate judge erred as a matter of law in implying the covenant here. 9 48 We also conclude that, aside from the general policies against implying such covenants, the particular covenant implied here could not be enforced against Rothenberg under New York's statute of frauds which, in relevant part, makes void [e]very agreement, promise or undertaking which [b]y its terms is not to be performed within one year from the making thereof, unless it or some note or memorandum thereof be in writing, and subscribed by the party to be charged therewith. N.Y.Gen.Oblig.Law § 5-701 (McKinney 1989). Non-compete covenants having the requisite duration, as does the thirteen-month covenant implied here, are covered by this provision. See, e.g., McKay v. Communispond, Inc., 581 F.Supp. 801, 806 n. 5 (S.D.N.Y.1983). If the covenant signed by others in this case can be taken as a memorandum in writing of the implied covenant, it nevertheless is void as to Rothenberg because, indisputably, he never subscribed any such covenant. 49 AFG attempts to avoid application of the statute of frauds on the basis that it is an affirmative defense which was waived by Rothenberg's failure to plead it as required by Fed.R.Civ.P. 8(c). Waiver by failure to plead is indeed the general rule, but it is a rule not applied automatically and as a practical matter there are numerous exceptions to it. 5 Charles Alan Wright and Arthur R. Miller, Federal Practice and Procedure § 1278, at 491 (2d. ed. 1990) (citing cases). Critical among those exceptions is one applicable here: that waiver may not be proper where the defense is raised at the first pragmatically possible time and applying it at that time would not unfairly prejudice the opposing party. See, e.g., Lucas v. United States, 807 F.2d 414, 418 (5th Cir.1986). Here, as earlier noted in Part II, AFG's claim of breach of the non-compete covenant sought only injunctive relief, and at trial both parties and the magistrate judge proceeded on the assumption that only those claims seeking damages remained for trial. In that situation, as Rothenberg plausibly contended in this court, it was only when the magistrate judge unexpectedly entered judgment awarding damages on the breach of covenant claim (actually, only when the judgment was later clarified in a post-judgment hearing as resting solely on that claim, Appellant's Br. at 17 n. 5) that the applicability of the statute of frauds defense to that claim first assumed critical importance. While this contention glosses over the fact that the defense could have been pleaded even when the claim sought only injunctive relief, and that it could have been raised in a post-judgment motion to amend the clarified judgment, we nevertheless think it is well taken. Under the circumstances, Rothenberg justifiably could have assumed up until the judgment was entered and later clarified that the breach of covenant claim was out of the case, see supra note 2, so that his first effective opportunity to raise the statute of frauds defense arose only then. When he did then raise it in his brief in this court, it presented a pure question of law requiring no further factual development for its resolution, so that it could be, and was, fairly addressed by AFG in brief and oral argument in this court. We therefore conclude that the defense should not be deemed waived by procedural default. 50 Aside from this rejected procedural objection, AFG challenges application of the statute of frauds only on the unsupported, and insupportable, assertion that the defense is not available against implied-in-fact contracts. Appellee's Br. at 25. That, of course, cannot be, and we therefore conclude that the statute of frauds provides an independent basis for rejecting the magistrate judge's determination of liability for breach of an implied covenant not to compete. 10
51 On the prudent assumption that the damage award may have been based alternatively upon the found breaches of fiduciary duty, or that affirmance by this court might in any event be sought on that basis, Rothenberg challenges the imposition of liability in any amount under that theory. Specifically, he contends (1) that the magistrate judge erred as a matter of law in one of its findings of breach of fiduciary duty in Rothenberg's pre-termination conduct, and (2) that there was insufficient evidence of the required causal link between the breaches found and the specific losses for which damages were awarded to support any award. 52 AFG and Herman in response contend that the judgment in their favor may properly be affirmed on this alternative basis and they directly contest Rothenberg's two challenges to its entry on that basis. In this posture of the appeal, whether or not the judgment was in fact entered on this alternative basis, AFG and Herman as appellees properly may urge affirmance on that alternative basis. See SEC v. Chenery Corp., 318 U.S. 80, 88, 63 S.Ct. 454, 459-60, 87 L.Ed. 626 (1943). We must therefore address that counter-contention by appellees in considering Rothenberg's specific challenges. 53
54 Rothenberg's challenge to the findings of specific breaches of fiduciary duty is a narrow one. It addresses only the finding that he improperly usurped AFG's relationship with THB. And it challenges that finding only on the legal basis that, as a matter of law AFG lacked the requisite 'tangible expectancy' in retaining the THB relationship, to meet the requirements of the corporate opportunity doctrine. Specifically, the contention is that in the highly competitive insurance industry in which they were engaged, AFG had no tangible expectancy that it could indefinitely retain the usurped THB relationship, so that to usurp it violated no fiduciary duty. 11 Appellant's Br. at 18, 31-36. 55 To the extent Rothenberg's contention is that the lack of tangible expectancy, hence of corporate opportunity, in AFG's maintenance of the THB relationship was established as a matter of law on the evidence of record, we disagree. Rothenberg relies principally upon S.W. Scott & Co., Inc. v. Scott, 186 A.D. 518, 174 N.Y.S. 583 (1919), for the proposition that in a highly competitive insurance brokerage business such as that involved in this case, there can be no tangible expectancy in the indefinite continuation of such relationships. We do not understand Scott to lay down any such general rule for the insurance--or any other concededly competitive--industry. Scott did reject a breach of fiduciary duty claim based upon allegations of improper solicitations by a corporate officer of his employer's insurance clients. But, it did not do so on the basis that a tangible expectancy could never exist in the insurance industry because of its highly competitive nature. Special relationships giving rise to the requisite expectancies may of course arise even in highly competitive business contexts. In Scott, no such special relationship was suggested; the only expectancy of continued corporate opportunity was whatever could be inferred from general business practices, and in that highly competitive business, those did not rise to the level of tangible expectancy. See Abbott Redmont, 475 F.2d at 88-89 (so distinguishing Scott from case involving diversion of corporate opportunity by former employee who was, as to that particular opportunity, the sole competitor). 56 We therefore reject Rothenberg's contention that Rothenberg's usurpation of the THB relationship could not, as a matter of law, constitute a breach of fiduciary duty. We do not, however, hold to the contrary that as a matter of law it did. Whether it did or did not depends upon whether, as a matter of fact, the requisite expectancy existed by virtue of any special relationship that may have developed between AFG and THB. Presumably because he had concluded to base liability upon breach of implied covenant, the magistrate judge did not address that factual issue--certainly not as directly as was needed, Rothenberg having raised the issue. 57 On the present record, this remains an open, unresolved issue of fact to whose resolution in further proceedings we will return. 58
59 Invoking the requirement that to recover damages for lost earnings on a breach of fiduciary duty claim one must prove with certainty that any losses sustained were caused by the breaches alleged, see Stoeckel, 170 A.D.2d at 417-18, 566 N.Y.S.2d at 626, Rothenberg contends that there is not such proof in this record. Specifically, he points out that, as the magistrate judge recognized, there was no direct evidence that Rothenberg ever solicited any of AFG's insurance broker clients during his employment by AFG. And, he further points out that the magistrate judge made no specific finding of the requisite causal link between any of the breaches of fiduciary duty that he did find and any of the broker of record transfers upon which the damages award was based. 60 Against this conceded lack of any direct evidence of pretermination breach by solicitation and of any specific breach-damage causation findings, there are, however, some countervailing intimations of what might have been found had not the magistrate judge concluded that liability could more soundly be based upon breach of an implied covenant. In opting to give judgment on that basis, the magistrate judge did not affirmatively find the required causal link not present with respect to the fiduciary duty claim, but only that it could more confidently be found with respect to the implied covenant claim. And, though he declined in the absence of direct evidence to find any pre-termination solicitation of AFG clients by Rothenberg, the magistrate judge opined that from the circumstantial evidence before him he could reasonably draw the inference that prior to his departure from AFG, Rothenberg solicited the business of at least some of its clients. Beyond these intimations of what might have been found had not the magistrate judge erroneously concluded that it was not needed, there are also some critical unchallenged findings that at least point in the direction of the required causal link. These include the findings that while still employed by AFG, Rothenberg had Susan Burnham actually effect some of the broker of record transfers at issue; that either Rothenberg, or Burnham at his direction, or both, took with them to TMI AFG production records and client expiration lists that could aid in soliciting such transfers; and that within thirteen months after his departure from AFG, Rothenberg at TMI acquired some of the former AFG insurance broker business for whose loss damages were awarded. 61 From these findings and near-findings, AFG and Herman in effect invite us to draw the necessary inferences that the magistrate judge intimated might be drawn and on that basis affirm the judgment on this alternative ground. There is enough of substance in the possibility that we have given it serious consideration. In the end, however, we conclude that to justify even partial affirmance on this alternative basis would require an improper incursion by this court into first-instance fact-finding. Cf. Anderson v. City of Bessemer City, 470 U.S. 564, 573-74, 105 S.Ct. 1504, 1511-12, 84 L.Ed.2d 518 (1985) (emphasizing, in discussing clearly erroneous standard of review, impropriety of appellate incursions into fact-finding function of trial courts). 62 This does not, however, lead to the opposite conclusion urged by Rothenberg--that because the present record does not permit affirmance on this alternative basis, it should now be ruled out as a possible basis for any recovery of damages. We believe another course is proper. 63 Our review of the record persuades us that the magistrate judge failed, for the reason suggested, to give the fiduciary duty claim the full consideration to which AFG and Herman are entitled. They had pleaded and pursued it throughout the district court proceedings as an alternative basis for recovery of the monetary relief they claimed. They have properly continued as appellees in this court to pursue it as an alternative basis for relief. They are therefore entitled to have the claim thoroughly considered in the first instance--as it has not yet been--in the district court. Accordingly, in exercise of our appellate power under 28 U.S.C. § 2106 to remand [a] cause and ... require such further proceedings to be had as may be just under the circumstances, we will remand the fiduciary duty claim for consideration under instructions to be given.
64 Rothenberg contends that even if liability is affirmed under either theory, the damage award based upon lost earnings is tainted by legal and fact-finding errors that require either outright reversal of the judgment or vacatur of the damage award and remand for reconsideration. Appellant's Br. at 36, 48. 65 Specifically, he contends (1) that the evidence of AFG's lost earnings was too speculative to meet the substantive requirement that the amount of damages be proved with reasonable certainty and (2) that the findings of fact as to the amount of earnings lost were clearly erroneous. Though we are vacating the judgment and remanding on other grounds, we address the issues raised because of their bearing on decision in remanded proceedings. 66 The contention that the evidence of lost earnings was too speculative to support any award is based essentially on the dearth of any hard evidence of AFG's established earnings history. Rothenberg asserts that this is the most reliable (and perhaps only) basis for determining an established business' loss of profits. We reject this contention. 67 The magistrate judge noted the lack of earnings history evidence and, largely because of its absence, declined to award damages based upon the impaired value of AFG's business resulting from Rothenberg's conduct. But, when making the quite different assessment of lost profits by looking directly to the commission revenue lost by the broker of record letter transfers, the court considered the evidence sufficient, without any need for previous earnings history, to prove those damages with sufficient certainty. Specifically, the court considered the proof methodology employed, which projected over a five-year period the total annual commission revenues reflected in the transferred broker of record letters, discounted for retention and earnings rates, sufficient for the purpose. There was no legal error in relying upon this method of proof to establish lost profits under the circumstances of the case. Hard evidence of a claimant's earning history may surely be an aid to proof of lost profits, but as surely it is not a sine qua non for such proof. Indeed, in many cases, the most probative evidence of lost profits may well be exactly that utilized by the methodology employed here: direct evidence of earnings specifically diverted from a claimant by culpable conduct of another which, but for the diversion, would have come to the claimant. There is no per se rule of damages law that lost profits may not be proved in this way, nor that such proof must always include a claimant's earnings history. 68 Rothenberg's other challenge to the damages awarded on the basis of this methodology is that the magistrate judge's acceptance of the methodology's critical premises of a 70% retention-of-business rate and a 60% earnings rate were based upon clearly erroneous fact findings as to those rates. We cannot declare those findings clearly erroneous. They were based on conflicting evidence and involved mathematical computations which Rothenberg argues are demonstrably wrong as mathematical fact. We are satisfied, however, that the retention and earnings rate figures accepted by the magistrate judge are plausible--though surely not inarguable--inferences from the evidence. We cannot, therefore, reject them and the computations based upon them as clearly erroneous. See Anderson, 470 U.S. at 573-74, 105 S.Ct. at 1511-12.