Tennessee Court of Appeals Rules Regionally Restrictive Condition to Redeeming a Physician’s Partnership Shares Does Not Violate Public Policy
In February 2017, in Edwards v. Urosite Partners, 2017 WL 1192109, No. M2016–01161–COA–R3–CV (Tenn. Ct. App. March 30, 2017), the Tennessee Court of Appeals ruled that a partnership had the right to redeem the shares of a former partner who violated the terms of his Separation Agreement and Partnership Agreement.
The plaintiff, Dr. Robert Edwards, was a former partner in Urology Associates, P.C. (“UA”). Dr. Edwards and the other partners at UA were also all partners in Urosite, L.P., which was formed for the purpose of purchasing, owning, managing, and operating the real and personal property located at Urology Associates’ primary location.
The Partnership Agreement for Urosite required continued employment with UA. Should one of the Urosite partners terminate their employment with UA for any reason other than death, disability, or retirement from the practice of medicine, Urosite would have the right to redeem the exiting partner’s shares.
In December 2013, Dr. Edwards left the employment of UA. On January 10, 2014, Dr. Edwards executed a Separation Agreement with UA and Urosite, which provided that Urosite would not exercise its right to redeem his shares if he would limit his new practice to Giles and Hickman Counties. In other words, UA agreed that it would not redeem Dr. Edwards’ shares despite his departure so long as he would agree to restrict his practice to those two counties.
In the spring of 2014, the Veterans Administration requested that Dr. Edwards provide medical care to veterans in Rutherford and Davidson Counties. Dr. Edwards complied with this request. On March 31, 2015 (nearly a year later), Urosite informed Dr. Edwards that it was exercising its rights in accordance with the Partnership Agreement and Separation Agreement.
Dr. Edwards objected and filed a complaint for declaratory relief requesting the court to declare that Urosite had no right to redeem his shares because his work for the VA was not a material breach of the agreement; that the attempt to redeem his shares was untimely even if it did; and that the Separation Agreement’s geographically restrictive clause constituted an unenforceable restriction on his practice of medicine that violated public policy.
The trial court ruled against Dr. Edwards on all counts, and he appealed. The Court of Appeals affirmed the trial court’s decision in all respects.
- “If” and “When” Signal Conditions, Not Covenants—For Conditions “Materiality” of a Breach is Immaterial (pardon the pun)
First, the Court decided that under the plain language of the Separation Agreement, the geographic restriction to Giles and Hickman Counties was a condition precedent, not a covenant. The Court ruled that the use of “if and when” in the Separation Agreement’s clause regarding Dr. Edwards practicing outside of Giles and Hickman Counties meant the parties intended this to be a condition.
Further, the Court ruled that when “enforcing the consequences of fulfilled conditions, a court does not consider materiality unless there are extraordinary circumstances of unfairness or injustice which demand equitable relief.” Therefore, the Court did not need to engage in the calculus of whether Dr. Edwards performing services for the VA constituted a material breach.
- If the Plain Language of an Agreement Does Not Set a Temporal Limitation on Exercising a Right, a Court Will Not Enforce One
The Court next weighed Dr. Edwards’s argument that Urosite’s exercise of its rights was untimely. The Court reviewed the plain language of the Agreement and noted that there is no temporal limitation on when Urosite can redeem an exiting partner’s shares. While Tennessee courts can ensure that restrictive covenants, such as non-competition and non-solicitation provisions have reasonable temporal restrictions, Tennessee law generally does not allow a Court to insert a term into the agreements where there was not one originally even if the contract as agreed to later becomes burdensome or unwise. So, here, the Court did not put a deadline on Urosite’s ability to redeem Dr. Edwards’ shares.
- Urosite’s Right to Redeem Dr. Edwards’ Shares Was Not an Unenforceable Restraint on Competition.
Finally, the Court decided that Urosite’s right to redeem Dr. Edwards’s shares conditioned on his practice outside of Giles and Hickman Counties was not an unenforceable restraint on competition.
Under Tennessee law, there is strong public interest (and case law) preventing restrictive covenants against physicians and other medical providers. This interest allows patients to exercise their fundamental right of selecting the physician they believe is best able to treat them, and restrictive covenants can interfere with that right. The Court determined, however, that the Separation Agreement’s geographical condition was not a restrictive covenant as it did not actually impede Dr. Edwards’s right to practice. Instead it merely provided Urosite the opportunity to redeem his interest in the partnership should he elect to practice outside of Giles and Hickman Counties. Therefore, the Separation Agreement did not constitute a restrictive covenant that violated public policy. This provides a way that physician groups can restrict a physician’s ability to practice in geographic areas without violating the terms of Tenn. Code Ann. 63-1-148, which defines the limits on physician non-competition agreements.
Appraisal Company Must Show More Than Ordinary Competition to Prevent Appraiser from Working for Competitor
Davis v. Johnstone Group, Inc. involved a battle between two appraisal firms for the services of one John Jason Davis. Mr. Davis was hired by Johnstone Group, Inc. (“JCI”) in 1998 as a real estate appraiser trainee. JCI required Mr. Davis to sign an employment agreement that contained a non-competition clause.
Over the next seven years, Mr. Davis completed 180 hours of classroom training and 3,000 hours of practical appraisal experience under the supervision of Mark Johnstone, the owner of JCI. In November of 2005, Mr. Davis became a licensed Certified General Real Estate Appraiser. At that point, JCI had Mr. Davis sign a new employment agreement, which also contained a non-competition agreement.
Mr. Davis continued working for JCI until April 13, 2015, when have gave notice of his intention to go to work for Appraisal Services Group, Inc. (“ASG”). JCI sent a cease and desist letter to Mr. Davis and ASG on April 20, 2015. Shortly thereafter, on May 1, 2015, Mr. Davis filed a complaint in the Chancery Court for Madison County seeking a declaration that the non-compete agreement was unenforceable. Not surprisingly, JCI countersued Mr. Davis and ASG. On June 1, 2015, Mr. Davis filed an answer to JGI’s counter-complaint in which he denied liability. Following a hearing, on July 6, 2015, the trial court granted the declaratory judgment requested by Mr. Davis and denied JCI’s request for injunctive relief and damages.
So how did JCI lose so quickly? First, it failed to show special facts above and beyond ordinary competition that would give Mr. Davis an unfair advantage over it. In other words, Tennessee courts believe that ordinary competition is a good thing, but they will restrict unfair competition:
Of course, any competition by a former employee may well injure the business of the employer. An employer, however, cannot by contract restrain ordinary competition. In order for an employer to be entitled to protection, there must be special facts present over and above ordinary competition. These special facts must be such that without the covenant not to compete the employee would gain an unfair advantage in future competition with the employer.
Davis v. Johnstone Grp., Inc., No. W201501884COAR3CV, 2016 WL 908902, at *4 (Tenn. Ct. App. Mar. 9, 2016) (citing Hasty v. Rent–A–Driver, Inc., 671 S.W.2d 471, 473 (Tenn.1984)).
In an effort to show that Mr. Davis was engaging in unfair competition, JCI argued that he received specialized training, had access to its trade secrets, and that its customers associated Mr. Davis with its business. The Court spent little time discussing the second and third factors. There was no evidence that Mr. Davis took any of JCI’s information. Even if he had, bidding and pricing factors change rapidly. The Court also found that Mr. Davis was not the “face of the business” since his work was signed off on by Mr. Johnstone, he was not an owner of the business, and he was not involved in running the business.
That meant that JCI’s hopes rested on the third factor - specialized training. JCI argued that the 180 hours of classroom training and 3,000 hours of supervised appraisal experience constituted specialized training that gave Mr. Davis an unfair advantage. There are many problems with this argument. Most of the training took place before JCI had Mr. Davis sign the new employment agreement in 2005. Even if it took place after 2005, every appraiser is required to receive the same training in order to be licensed. There was nothing unique or proprietary about that training. The same is true of JCI’s method of appraising. No evidence was presented that JCI’s method of appraising was unique or secret such that others did not use the same method. Because JCI failed to establish that it had a protectable business interest in preventing Mr. Davis from working for ASG, the Court did not reach the issue of whether the temporal (two-year) and geographic (150 mile radius from JCI’s office in Jackson, TN) restrictions were reasonable.
The second reason that JCI lost is that it failed to provide the Court of Appeals with a transcript or statement of the evidence. That meant that the Court was forced to presume that there was sufficient evidence to support the trial court’s judgment. It's tough to win when the Court must presume that you lost for good reason.
What are the lessons for employers? Well, if it’s worth appealing it’s worth doing right. If there is a transcript of the hearing, include it in the record on appeal so there’s no presumption in favor of the trial court’s ruling against your client. Employers also need to keep in mind that training, no matter how extensive or expensive, will not demonstrate a protectable business interest if it is not unique. If every appraiser is required to obtain it, then it isn’t unique to the employer for whom the employee worked when obtaining it. It’s just the general knowledge and skill of the employee, which does not create unfair competition: “[G]eneral knowledge and skill appertain exclusively to the employee, even if acquired with expensive training, and thus does not constitute a protectable interest of the employer.” Davis v. Johnstone Grp., Inc., No. W201501884COAR3CV, 2016 WL 908902, at *4 (Tenn. Ct. App. Mar. 9, 2016) (citing Hasty v. Rent–A–Driver, Inc., 671 S.W.2d 471, 473 (Tenn.1984)).
What are the lessons for the employee? Don’t be afraid to call the employer’s bluff if you believe its non-competition agreement is unreasonable. JCI tried to bluff Mr. Davis into compliance by threatening him and his new employer. Mr. Davis didn’t blink. He filed his declaratory judgment action and after just over two months of litigation (excluding the resulting appeal), he had his freedom. This goes to show that some jobs are worth fighting for. It is also worth pointing out that there was no indication of wrongdoing by Mr. Davis. If JCI had been able to show that he stole company data on the way out the door, I suspect the result would have been different.
Does The "Sale of Insurance Products" Include "Telemedicine"? Not Unless Your Agreement Says So
The Tennessee Court of Appeals recently issued a ruling in John Hammer v. Southeast Resource Group, Inc., et al, which was appealed from the Chancery Court for Williamson County. The Plaintiff, John Hammer, founded a limited liability company called Action Financial Company, LLC (“Action”). Other than Plaintiff, the only member of the LLC is Defendant Southeast Resource Group, Inc. (“Southeast”). Action sells insurance products to credit union members. The operating agreement entered by Plaintiff and Southeast stated:
Except as otherwise provided in this Section . . . each Member may engage in whatever activities they choose, whether the same are competitive with [Action] or otherwise . . . without any obligation to offer any interest in such activities to [Action] or any Member. Notwithstanding the foregoing, the Members hereby acknowledge and agree that each Member owes to [Action] and each Member the highest fiduciary loyalty and duty. In furtherance, and not in limitation, of such loyalty and duty:
(a) Each Member covenants and agrees to disclose and make available to [Action] each and every business opportunity that is within the scope and purpose of [Action] that such Member becomes aware of in his capacity as Member or otherwise; provided, however, no such disclosure or offer shall be required with respect to business opportunities that are not within the scope and purpose of [Action].
Five years after founding Action, Plaintiff was introduced to a “telemedicine opportunity,” which was a telephone and videoconferencing consultation service. Telemedicine counseling is not an insurance product. Shortly thereafter Plaintiff filed a declaratory judgment action seeking a judicial determination that the “telemedicine opportunity” was not within the “scope” of Action’s business, as contemplated by the operating agreement.
Defendants’ opposed the motion for summary judgment filed by Plaintiff in the declaratory judgment action, citing the statement of Southeast’s president, David Kelly, that “[i]n addition to Action’s historical business, it has and intends to continue to expand its business lines to other areas.” The trial court ruled that the “the only business [Action] has engaged in, since its inception . . . is the sale of regulated insurance-related products” and that the scope of Action’s business was the sale of insurance and insurance-related products. Accordingly, Plaintiff’s motion for summary judgment was granted.
The trial court’s ruling was affirmed on appeal. The Court of Appeals interpreted the language of the operating agreement by giving ordinary words their ordinary and common meanings. Thus, “scope” and “purpose,” as used in the operating agreement, were interpreted to mean “the range or breadth of the business that Action is engaged in at the relevant time.” Southeast argued that “scope” should be interpreted to mean each and every business opportunity available to be marketed to credit union members, regardless of whether they were currently part of Action’s business. However, the court rejected this argument and held that if the parties intended for words to have uncommon meanings, they should have defined them in the agreement. Accordingly, the court determined that telemedicine counseling did not fall within the scope of Action’s business—the sale of insurance products to credit union members—and, therefore, Plaintiff was not required to disclose the opportunity to Action.
Good Article from Knoxville News Sentinel Regarding Non-Compete Agreements
The Knoxville News Sentinel published a good article by attorney Chris McCarty regarding the enforceability of non-compete agreements in Tennessee. Courts disfavor them but will enforce them if they are reasonable. While the article discusses the reasonableness of time and geographic restrictions, the scope of the client restrictions must be considered as well. And I wholeheartedly agree that employers should use well drafted non-competition agreements tailored for various positions or tiers of employees rather than using a "one size fits all" form obtained from the internet. I've had cases with attorneys representing employers seeking to enforce non-competes who made it clear very early on in the case that they didn't prepare the poorly drafted agreement sought to be enforced by their clients. This really is an area where if you don't pay now, you will pay more later.
Ignorance of the Enforceability of a Contract is No Excuse
In Commil USA, LLC v. Cisco Systems, Inc., 2015 WL 2456617, *9 (U.S. March 31, 2015), a patent infringement action, the United States Supreme Court discussed the rule that ignorance of the law is no defense. In doing so, it noted that per the Restatement (Second) of Torts, Section 766, while the invalidity of a contract is a defense to a claim of tortious interference, the belief that the contract is invalid is not. Even if you interfered while innocently believing that the contract was not enforceable, you can still be held liable for tortious interference. So if you're going to assume the contract is not enforceable, you better be right or you better be willing to accept the consequences.