Court Opinion

ID: 9633597
Source: CourtListenerOpinion
Date Created: 2023-08-22 11:53:59.879099+00
Date Added: 2024-06-11T18:08:38.283612
License: Public Domain

Utter, J.
(dissenting) — This case concerns the reasonableness and enforceability of an employment contract's restrictive covenant amd liquidated damages provision. In holding the noncompetition covenant reasonable and enforceable as written, the majority fails to consider the covenant's terms, ignores the trial court's findings of fact, and rules contrary to this State's generad policy disfavoring contracts in restraint of trade. In addition, the primary cases relied on by the majority do not support the result reached. Unlike the majority, I agree with the triad court *706that the covenant's terms were more restrictive than necessary to protect the employer's business and goodwill. However, I find the trial court's covenant modifications unreasonable and would alter them accordingly. As to the enforceability of the liquidated damages provision, on which the trial court did not entertain evidence or rule, I think it inappropriate for this court to decide a factual matter without a remand to the trial court. Because I would reach a result different from the majority, I must dissent.
Well established public policy in Washington disfavors contracts in restraint of trade. See, e.g., RCW 19.86.030; Organon, Inc. v. Hepler, 23 Wn. App. 432, 436 n.1, 595 P.2d 1314 (1979). This court has repeatedly recognized that covenants not to compete constitute contracts in restraint of trade. Wood v. May, 73 Wn.2d 307, 308-09, 438 P.2d 587 (1968); Racine v. Bender, 141 Wash. 606, 611, 252 P. 115 (1927). Consequently, we enforce such covenants only to the limited extent that they constitute partial restraints and meet the test of reasonableness. Sheppard v. Blackstock Lumber Co., 85 Wn.2d 929, 931, 540 P.2d 1373 (1975); Wood, at 308. To further the public policy disfavoring restraints of trade, we should carefully examine and narrowly construe all covenants not to compete. See Knight, Vale & Gregory v. McDaniel, 37 Wn. App. 366, 370, 680 P.2d 448, review denied, 101 Wn.2d 1025 (1984).
Essentially, the majority concludes that the challenged covenant "is valid and enforceable" because it "is consistent with Racine ..." Majority, at 697. To the extent that Racine recognized that an accounting firm had a legitimate interest in protecting its existing client base, I agree with the majority. However, the validity of the covenant's specific restrictions depends in part upon whether the restrictions "are not greater than are reasonably necessary to protect the business or good will of the employer ..." Racine, at 611. If this court intends to continue adhering to the approach adopted in Racine and Wood, the reasonableness of each specific restriction must be tested under the particular circumstances of each case as demonstrated by *707the evidence presented. Sheppard, at 933; Wood, at 312.
The majority never discusses the covenant's specific terms. The restrictive covenant in question forbids Ms. Moran for 5 years from servicing any clients who were clients of Perry, Whittemore & Tanner (PWT) during her term of employment. I believe both the scope of the service restriction and its duration to be in conflict with Racine and Wood, and not reasonably necessary to protect PWT's business or goodwill.
We have found service restrictions reasonable in general, and particularly so in the accounting context, because it would be natural for a client to shift its accounting business from an employer's firm to follow a trusted accountant with whom it has a working relationship and who has valuable knowledge of the client's business and internal operations. Racine, at 612-13; Knight, at 370. Service restrictions are intended to prevent the employee from gaining unfair advantage from his or her knowledge of, or acquaintance with, the former employer's clients. Racine, at 611; Wood, at 310. Here, Ms. Moran worked not as a general accountant, but rather in the very specialized PWT Retirement Department, which serviced a limited number of PWT clients. Report of Proceedings vol. II, at 136, 207. Yet, the service restriction extends to all clients serviced by the various PWT departments. Even as to Retirement Department clients, the restriction applies regardless of whether Ms. Moran had gained specific knowledge of the client's accounting needs and regardless of whether she had any contact with the client or a party closely identified with the client. Consequently, despite the majority's unsupported conclusion, the PWT service restriction conflicts with the covenants upheld in Racine and Knight, both of which were limited to clients with which the employee had come in contact. Racine, at 607; Knight, at 369. Moreover, the restriction covers clients who terminated their relationship with PWT prior to Ms. Moran's leaving, as well as clients that had taken all of their accounting work to other firms, and later decided to have Ms. Moran handle their retire*708ment plan work. Findings of fact 16, 20, Clerk's Papers, at 5-6.
Based upon these facts, the trial court concluded that the service restriction was greater than that reasonably necessary to protect PWT's business and goodwill. Conclusions of law 5, 6, Clerk's Papers, at 7. I find the trial court's conclusions supported by substantial evidence, and uncontro-verted by the majority opinion, which concentrates its analysis solely on the reasonableness of the trial court's modification and the liquidated damages provision.
The majority also failed to consider the reasonableness of the 5-year period during which the service restriction continues to apply. Although the trial court reached no conclusion concerning the service restriction's duration, I would find 5 years unreasonable as a matter of law. See Wood, at 311. Presumably, the restriction's duration should reflect the time PWT needs to reestablish a client-accountant relationship, independent from the departing employee. Ms. Moran's term of employment lasted approximately 1 year. Findings of fact 5, 7, Clerk's Papers, at 4. Yet for the covenant to be reasonable, this court must be convinced that PWT needs 5 years to reestablish client trust. Albeit in a different context, we held in Wood that a 5-year duration was unreasonable for an employee's covenant not to compete with his employer. Rather than dictating a reasonable time period, I would follow the procedure established in Wood, where we remanded for the trial court to determine whether " 1 year, 3 years or some other period of time is reasonable under the facts in this case." Wood, at 312. I would note in passing that Racine and Knight approved 3-year covenants, but given that retirement accounting is cyclical, consisting mostly of tax filings, Report of Proceedings vol. III, at 391-96, a 2- or 3-tax-return limit may be more appropriate in this case.
Having found the covenant unreasonable, the trial court modified the restrictive provision so that Ms. Moran would only be restricted from "soliciting or diverting" active clients. Clerk's Papers, at 6, 8. I agree with the majority's *709conclusion that while the trial court had authority to modify, the covenant as modified "would not adequately safeguard the employer's interest in retaining its clients." Majority, at 701. When an employee leaves an employer, especially in the accountant context, clients would often choose to follow, not because of solicitation or diversion, but because of the nature of their relationship with, and the confidential knowledge of, the employee. As this court observed in Racine, clients do not desire the departing employee's services because he or she is the only person who has the ability to perform them, "but because they know him [or her] well and he [or she] knows all about their business." Racine, at 612-13.
I would require the trial court to modify the covenant so that Ms. Moran would be prohibited from servicing clients about whom she had gained confidential information or whom she served previously as a PWT employee. The modified covenant would be subject to two exceptions: (1) clients that affirmatively and independently terminated their relationship with PWT prior to Ms. Moran's leaving; or (2) clients that left after Ms. Moran to have their entire accounting needs serviced by an accountant other than PWT, and subsequently transferred their retirement accounting to Ms. Moran. To address the majority's concern with the fairness of PWT's burden of proof, I would require Ms. Moran to demonstrate that a particular client covered by the covenant comes within one of the exceptions. With these modifications, I believe the covenant can protect PWT's legitimate interest, without imposing undue hardship on Ms. Moran and without injuring the public's interest. See Racine, at 611-12; Knight, at 369.
Finally, I must also disagree with the majority's treatment of the liquidated damages provision. Under the employment contract, if Ms. Moran serviced clients in violation of the covenant, she would have to pay PWT 50 percent of her billings to the client for 3 years, or a total of 150 percent of the annual fees. Because the trial court ruled immediately after PWT presented its case, Ms. Moran had *710no opportunity to present evidence on the reasonableness of the 150 percent requirement and the trial court entered no findings and made no ruling on the issue. Finding of fact 28, Clerk's Papers, at 7. In fact, the trial court precluded Ms. Moran's counsel from exploring the reasonableness of the 150 percent figure during cross examination of PWT witnesses. Report of Proceedings vol. II, at 270-73.
Nevertheless, the majority has concluded that 150 percent of annual fees "is within the range of reasonable agreements for the transfer of the right to service accounts." Majority, at 704-05. I think the majority's conclusion is both inappropriate and inaccurate for several reasons. The majority relies on Knight where the court found 105 percent of annual fees reasonable. Knight, at 372. However, in Knight the parties had litigated the issue. There, the court based its decision on expert opinion in the record, which established 105 percent as a reasonable forecast of harm to the employer and as based on a general formula in the accounting field for purchases of an ongoing practice. Knight, at 371-72. By contrast, here the majority relies on a single piece of evidence culled from the record, demonstrating that PWT recently purchased the right to service accounts for 135 percent of annual fees. Majority, at 704. By basing its determination of reasonableness not on objective market information, but on what PWT has paid, the majority works an injustice on Ms. Moran, who has never had the opportunity to litigate the issue.
I also think the 150 percent figure inappropriate because it is based on the amount Ms. Moran bills each year for 3 years, rather than on the amount PWT billed prior to losing its client. As the Knight court recognized, the amount of liquidated damages must be "a reasonable forecast of just compensation for the harm that is caused by the breach ..." Knight, at 371. I think it relevant that PWT, in purchasing client accounts from other firms, limits its payments to a percentage of what the seller firm billed the client, rather than a percentage of what PWT bills in the *711future. Exhibit 17, Report of Proceedings vol. III, at 407-11.
Because this case concerns a restrictive covenant, I think it also appropriate to ensure that the liquidated damage provision does not impose an undue hardship on the employee. Thus, I agree in principle with the New Hampshire approach enunciated in Smith, Batchelder & Rugg v. Foster, 119 N.H. 679, 406 A.2d 1310, 1313 (1979). However, I also agree with the majority, when it rejects certain specific considerations used by the New Hampshire court, such as the respective incomes and comparative sizes of the parties. Majority, at 705. Instead, I would limit the amount paid by Ms. Moran in any one year to no more than a reasonable percentage of the amount billed by PWT in the last year it serviced the client. In this way, PWT would be compensated for the harm it suffered, while any additional business generated by Ms. Moran's efforts would be protected. As I have indicated, the reasonableness of the 150 percent figure should be left to the trial court to determine after the parties have had a full opportunity to litigate the issue.
In summary, the majority has failed to recognize that the covenant's terms conflict with those approved in Racine, Wood, and Knight. By also failing to recognize the essentially factual nature of the inquiry required, the majority has acted inconsistently with our approach set down in Racine and Wood. Moreover, by failing to remand the issue of the liquidated damages provision, the majority does a great injustice both to Ms. Moran and to our adversarial fact-finding procedures. Consequently, I must dissent.
Pearson, C.J., Brachtenbach, J., and Schumacher, J. Pro Tern., concur with Utter, J.
Reconsideration granted June 9,1988.