Interoffice Memorandum

Statement of Facts

Our client Cameron Radford, a licensed massage therapist, became an employee with Bodyworks Rehabilitation and Therapy, Inc. (Bodyworks) in Cary, N.C. on January 25, 1999. The employment contract contains a non-competition agreement prohibiting Radford from owning or operating a competing business in Wake, Durham, and Orange counties for 18 months after terminating employment. The contract also prohibits solicitation of clients and employees from Bodyworks. A liquidated damages clause requires payment of $20,000 for breach of contract. Radford believes Bodyworks did not sign the employment contract. Our interview with Radford did not determine if Radford signed the contract and if so, the date signed.

Radford had no work experience in the massage profession before joining Bodyworks. However, Radford attained the necessary educational credentials and state licensure before joining Bodyworks. Radford's work was solely in Wake County. Radford did not indicate in the interview if Bodyworks has locations in Durham or Orange counties. Bodyworks receives the majority of clients through referrals from local physicians with whom Radford networked as part of the position. Physicians refer clients for therapy as part of their recovery from various injuries and/or treatment for chronic pain. The majority of clients reside in the Triangle area of N.C. although some referrals come from eastern North Carolina.

Radford and a business partner incorporated Rebound and Recover Therapeutic Massage, Inc. (Rebound) on September 23, 2002. Radford gave a two-week notice of termination to Bodyworks on October 1, 2002. Rebound opened for business on November 1, 2002. It is located nine miles from Bodyworks in Wake County and focuses on injury recovery and sports medicine. Radford believes Rebound is the only massage practice focused on injury-recovery in Wake County. A majority of Radford's prior clients at Bodyworks are now clients of Rebound.

Bodyworks sent Radford a letter in mid-November alleging breach of the covenant not to compete. Bodyworks has not yet initiated legal action against Radford. The purpose of this memorandum is to: 1) analyze the possible breach of contract claim against Radford for breach of non-compete covenant, and 2) Radford's defenses to Bodywork's claims. The scope of this memorandum narrowly relates to claims and defenses arising from the alleged breach of the covenant. It does not consider remedies or solicitation of Bodyworks clients by Radford. The discussion focuses primarily on state case law as there is no basis for federal jurisdiction.

Whether the covenant not to compete in the Radford-Bodyworks' employment contract is enforceable in North Carolina given that Radford established a massage therapy business within the scope of the time and territory restrictions contained in the covenant.

Yes. North Carolina courts enforce covenants not to compete. The court will not enforce the covenant if: 1) Radford did not sign the employment contract; or 2) the contract was signed after Radford began employment and was not part of a prior oral offer of employment. It is also possible, although unlikely, a court will declare the agreement void as a matter of public policy if enforcement would negatively affect the community's options for massage therapy.

General Enforcement: North Carolina enforces covenants not to compete in equity. See Triangle Leasing Co. v. McMahon, 327 N.C. 224, 229, 393 S.E.2d 854, 858 (1990); Hartman v. Odell & Assocs., 117 N.C. App. 307, 311, 450 S.E.2d 912, 916 (1994), review denied, 339 N.C. 612, 454 S.E.2d 251 (1995). North Carolina did not originally enforce covenants not to compete at common law because such agreements constitute restraint of trade and were therefore void as a matter of public policy. See Mar-Hof Co. v. Rosenbacher, 176 N.C. 330, 331, 97 S.E. 169, 169 (1918). A few states such as Alabama, California, and North Dakota refuse enforcement. See Travenol Labs., Inc. v. Turner, 30 N.C. App. 686, 690, 228 S.E.2d 478, 482 (1976); Barnes Group, Inc. v. C & C Prods., Inc., 716 F.2d 1023, 1032 (4th Cir. 1983); Spectrum Emergency Care v. St. Joseph's Hosp. & Health Ctr., 479 N.W.2d 848, 851 (N.D. 1992). While North Carolina does consider them an illegal partial restraint on trade under N.C. Gen. Stat. § 75-1 (2002) and such agreements are "not viewed favorably in modern law," they are enforceable in equity. Hartman, 117 N.C. App. at 311, 450 S.E.2d at 916. Bodyworks may seek to enforce the covenant with Radford.

Requirements for Enforcement: Courts enforce covenants not to compete when they are reasonable and necessary to protect a substantial interest of the employer. See Brooks Distrib. Co. v. Pugh, 91 N.C. App. 715, 718-719, 373 S.E.2d 300, 303 (1988), rev'd on other grounds, 324 N.C. 326, 378 S.E.2d 31 (1989); Manpower of Guilford County, Inc. v. Hedgecock, 42 N.C. App. 515, 521, 257 S.E.2d 109, 114 (1979). North Carolina courts consider the protection of customer relationships against misappropriation by departing employees as a well recognized legitimate protectable interest. See Whittaker Gen. Med. Corp. v. Daniel, 324 N.C. 523, 526, 379 S.E.2d 824, 826 (1989), reh'g denied, 325 N.C. 231, 381 S.E.2d 792 (1989); United Lab. v. Kuykendall, 322 N.C. 643, 651, 370 S.E.2d 375, 381 (1988). "When an employee, during the course of his or her employment, develops or improves customer relationships, the employee is establishing business goodwill, which is a valuable asset of the employer…." Id. at 652, 370 S.E.2d at 382. Courts also recognize a legitimate protectable interest when an employee has access to trade secrets or unique business information. See Id. at 656, 370 S.E.2d at 384; Starkings Court Reporting Servs., Inc. v. Collins, 67 N.C. App. 540, 541; 313 S.E.2d 614, 615 (1984). The employer, however, must meet the burden of proof to show a legitimate protectable interest. See Wilmar, Inc. v. Liles, 13 N.C. App. 71, 76, 185 S.E.2d 278, 281 (1971), cert. denied, 208 N.C. 305, 186 S.E.2d 178 (1972). Since an employer, by acting to enforce a non-competition agreement, seeks to deprive the employee of the right to earn their livelihood, equity places the burden on the employer to show the contract was fair, reasonable, related to, and necessary for the employer's protection. Id.

Bodyworks will likely argue it developed Radford's professional status and skills through on-the-job training especially since Radford had no professional experience before employment with Bodyworks. It will argue Radford worked closely with Bodyworks customers and had access to unique information including knowledge of the physician referral network through which Bodyworks receives a majority of its clients. The court will find strong evidence for a necessary and substantial interest on the part of Bodyworks in enforcing its covenant with Radford. Bodyworks, however, has the burden of proving not only a necessary and substantial protectable interest, but also the reasonableness of the agreement itself. To balance the interests of the employer in enforcing the covenant with the interests of the employee in earning a livelihood, North Carolina courts consider five factors for enforceability. See Triangle Leasing Co., 327 N.C. at 228, 393 S.E.2d at 857; Precision Walls, Inc. v. Servie, ___ N.C. App. ___, 568 S.E.2d 267 (2002).

Five Factors: Enforceability of the non-competition clause rests on the likelihood the plaintiff will be able to show the covenant is: 1) in writing; 2) ancillary to the employment contract; 3) reasonable as to terms, time and territory; 4) based on valuable consideration; and 5) not against public policy. See Triangle Leasing Co., 327 N.C. at 228, 393 S.E.2d at 857; Precision Walls, Inc. v. Servie, ___ N.C. App. ___, 568 S.E.2d 267 (2002).

Many courts consider a sixth factor – whether the contract is fair to the parties. See U-Haul Co. of N.C., Inc. v. Jones, 269 N.C. 284, 286; 152 S.E.2d 65, 67 (1967); Orkin Exterminating Co. v. Griffin, 258 N.C. 179, 181, 128 S.E.2d 139, 140-141 (1962); Asheville Assocs., Inc. v. Miller, 255 N.C. 400, 402, 121 S.E.2d 593, 594 (1961); New Hanover Rent-A-Car, Inc. v. Martinez, 136 N.C. App. 642, 644, 525 S.E.2d 487, 489 (2000); Mkt. Am., Inc. v. Christman-Orth, 135 N.C. App. 143, 152, 520 S.E.2d 570, 577 (1999); review denied, 351 N.C. 358, 542 S.E.2d 213 (2000); Starkings Court Reporting Servs., Inc., 67 N.C. App. at 541; 313 S.E.2d at 615. While all of the courts noted above cite this sixth factor, only one court defines fair to the parties and it does so in terms of reasonableness. See Starkings Court Reporting Servs., Inc., 67 N.C. App. at 541; 313 S.E.2d at 615. It stated:

[T]he restraint is unreasonable and void if it is greater than is required for the protection of the promisee or if it imposes an undue hardship upon the person who is restricted. Owing to the possibility that a person may be deprived of his livelihood, the courts are less disposed to uphold restraints in contracts of employment than to uphold them in contracts of sale.

Id. quoting Liles, 13 N.C. App. at 75, 185 S.E.2d at 281 (Citations omitted). The cases suggest this sixth factor, fair to the parties, is not a separate factor but a function of reasonableness as embodied by the five factors. The remainder of this memorandum discusses each of the five factors and their relation to our facts in detail.

#1 - Writing: Covenants not to compete must be in writing to be valid. See N.C. Gen. Stat. § 75-4 (2002). A court enforces these covenants when the party against whom enforcement is sought signs the writing. See Manpower of Guilford County, Inc., 42 N.C. App. at 519, 257 S.E.2d at 113. It is not necessary that the person seeking enforcement also sign the writing. Id. When applying this rule to our facts, it is irrelevant whether Bodyworks signed the contract yet highly relevant whether Radford signed the contract. If we can prove that Radford did not sign the contract, Bodyworks cannot legally enforce the contract. See N.C. Gen. Stat. § 75-4.

#2 - Ancillary to Employment Contract: A non-competition agreement not ancillary to the employment contract is unenforceable. See Kadis v. Britt, 224 N.C. 154, 159; 29 S.E.2d 543, 546 (1944); Collier Cobb & Assocs., Inc. v. Leak, 61 N.C. App. 249, 253, 300 S.E.2d 583; 585 (1983), review denied, 308 N.C. 543, 304 S.E.2d 236 (1983); Wilmar, Inc. v. Corsillo, 24 N.C. App. 271, 272, 210 S.E.2d 427, 429 (1974), cert. denied, 286 N.C. 421, 211 S.E.2d 802 (1975). Radford's non-competition agreement with Bodyworks is part of the employment contract. The contract is enforceable under this requirement. Id.

#3 - Reasonableness: The reasonableness of a non-competition agreement is a matter of law for the court to decide. See Shute v. Heath, 131 N.C. 281, 282, 42 S.E. 704, (1902); Hartman, 117 N.C. App. at 311, 450 S.E.2d at 916. The reasonableness of time and territory are not independent and unrelated aspects of restraint. Courts must consider each element as to time and territory in combination together. See Farr Assocs., Inc. v. Baskin, 138 N.C. App. 276, 280, 530 S.E.2d 878, 881 (2000); Hartman, 117 N.C. App. at 311, 450 S.E.2d at 916.

"The North Carolina Supreme Court has stated that only ‘extreme conditions' will support a five-year covenant." Id. at 315, 450 S.E.2d at 918, quoting Eng'g Assocs., Inc. v. Pankow, 268 N.C. 137, 139, 150 S.E.2d 56, 58 (1966). See also Prof'l Liab. Consultants v. Todd, 122 N.C. App. 212, 219, 468 S.E.2d 578, 582-83 (1996), rev'd adopting dissent, 345 N.C. 176, 478 S.E.2d 201 (1996), (holding eight-year restriction in undefined geographical area patently unreasonable). The courts will uphold time restrictions longer than five years in non-competition agreements which are included in the sale of a business. See Jewel Box Stores Corp. v. Morrow, 272 N.C. 659, 158 S.E.2d 840 (1968) (upholding 10-year restriction within city and 10 miles thereof in sale of business); Morehead City Seafood Co. v. Way, 169 N.C. 679; 86 S.E. 603 (1915) (upholding a 10-year restriction within 100 miles in sale of business).

North Carolina courts have upheld territorial limits reaching the entire U.S. when the time restrictions were under two years. See Harwell Enters., Inc. v. Heim, 276 N.C. 475; 173 S.E.2d 316 (1970). See Mkt. Am., Inc., 135 N.C. App. 143; 520 S.E.2d 570 (holding a six month restriction covering the entire United States reasonable); Elec. South, Inc. v. Lewis, 96 N.C. App. 160; 385 S.E.2d 352 (1989), review denied, 326 N.C. 595, 393 S.E.2d 876 (1990) (holding a 2-year restriction within a 200-mile radius of plaintiff's office reasonable). "[T]o prove that a geographic restriction in a covenant not to compete is reasonable, an employer must first show where its customers are located and that the geographic scope of the covenant is necessary to maintain those customer relationships." Prof'l Liab. Consultants, 122 N.C. App. at 218, 468 S.E.2d at 582. A six-part factor analysis is sometimes employed to determine whether the geographic scope of a covenant not to compete is reasonable: (1) the area or scope of the restriction; (2) the area assigned to the employee; (3) the area where the employee actually worked or was subject to work; (4) the area in which the employer operated; (5) the nature of the business involved; and (6) the nature of the employee's duty and knowledge of the employer's business operation. See Farr Assocs., Inc., 138 N.C. App. at 281, 530 S.E.2d at 882; Hartman, 117 N.C. App. at 312, 450 S.E.2d at 917. "[W]hen the primary concern is the employee's knowledge of customers, the territory should only be limited to areas in which the employee made contacts during the period of his employment." Manpower of Guilford County, Inc., 42 N.C. App. at 522, 257 S.E. 2d at 114-115.

Analysis of Reasonableness: In this case, the non-competition agreement time restriction was 18 months from termination of employment, covering the area of Wake, Durham, and Orange counties. On its face, the time restriction is far below the five year outer limit cited in Hartman. In determining the reasonableness of this covenant, however, the court must consider the time and territory restrictions together. Farr Assocs., Inc., 138 N.C. App. at 280, 530 S.E.2d at 881. Applying the rule in Manpower of Guilford County, Inc., Radford's customer contacts were solely in Wake County and therefore, the restriction as to Durham and Orange counties may be unreasonable. If found unreasonable, a court may apply a blue pencil rule to sever the unreasonable terms while enforcing the remaining reasonable terms. See Welcome Wagon Int'l, Inc. v. Pender, 255 N.C. 244, 248, 120 S.E.2d 739, 742 (1961); Schultz v. Ingram, 38 N.C. App. 422, 430, 248 S.E.2d 345, 351 (1978). Other courts refuse to apply the blue pencil rule to unreasonable terms and therefore refuse enforcement of the entire covenant. See Prof'l Liab. Consultants, 122 N.C. App. at 218, 468 S.E.2d at 582, rev'd adopting dissent, 345 N.C. 176, 478 S.E.2d 201; Hartman, 117 N.C. App. at 317, 450 S.E.2d at 920. The court in Prof'l Liab. Consultants, however, suggests the geographic scope of the employer's entire customer base is reasonable. Moreover, one would expect Bodyworks to raise the argument that Radford had unique knowledge of the physicians referral network, which presumably extends to all three counties. When considering the restrictions together, North Carolina courts will likely find them reasonable.

#4 - Consideration: A promise of new employment made in exchange for signing a non-competition agreement represents mutual promises which are valid consideration. See James C. Greene Co. v. Kelley, 261 N.C. 166, 168, 134 S.E.2d 166, 167 (1964); Precision Walls, Inc., ___ N.C. App. at ___, 568 S.E.2d at 267; Robins & Weill, Inc. v. Mason, 70 N.C. App. 537, 542, 320 S.E.2d 693, 697 (1984), review denied, 312 N.C. 495, 322 S.E.2d 559 (1984) (holding covenant valid when verbal offer of employment is later reduced to writing). New consideration is required to enforce a non-competition covenant entered into after an employment relationship exists. See Whittaker Gen. Med. Corp., 324 N.C. at 527, 379 S.E.2d at 827; Worth Chem. Corp. v. Freeman, 261 N.C. 780, 781; 136 S.E.2d 118, 119 (1964). If Radford agreed to sign a non-competition agreement in consideration for the position at Bodyworks, valid consideration exists. If however, the request to sign the non-competition agreement was after acceptance of employment, the non-competition agreement is unenforceable for lack of consideration. As noted, our interview did not disclose whether Radford actually signed the agreement and if so, the date it was signed.

Public Policy: Non-competition agreements that are otherwise enforceable may be void if against public policy. See Elec. South, Inc. v. Lewis, 96 N.C. App. 160, 385 S.E.2d 352 (1989), cert. denied, 326 N.C. 595, 393 S.E.2d 876 (1990) (holding covenant unenforceable where terms are overly broad such to bar family members from competing with plaintiff); Starkings Court Reporting Servs., Inc., 67 N.C. App. at 542, 313 S.E.2d at 615 (holding covenant unenforceable where they act to stifle competition). They have also been void as a matter of public policy when enforcement results in a reduction of medical services to a community. See Iredell Digestive Disease Clinic, P.A. v. Petrozza, 92 N.C. App. 21, 373 S.E.2d 449 (1988), aff'd, 324 N.C. 327, 377 S.E.2d 750 (1989). But See Beam v. Rutledge, 217 N.C. 670, 9 S.E.2d 476 (1940) (holding restrictive covenant valid, as doctor could be as useful to the public in another town as the one in which the restriction applied). N.C. Gen. Stat. § 90-270.24 defines physical therapy as a medical occupation which includes the treatment of a person using massage. One can argue enforcement of the Bodyworks covenant will harm the public if we can show substantial need for an injury-recovery focused massage practice as Radford operates the only such facility in Wake County. The court in Iredell Digestive Disease Clinic, P.A. upheld a similar argument, and Radford's profession is defined by state statute as a medical occupation. This will not be a strong argument, however, without significant evidence of a public need. The court in Iredell Digestive Disease Clinic, P.A. found that:

Forty-one physicians in Statesville signed affidavits in support of defendant stating that in their view one gastroenterologist would not be able to meet the community's demand for such services; that losing defendant Petrozza's services would create an excessive workload on plaintiff; and would "likely result in undesirable and possibly critical delays in patient care and treatment."

Iredell Digestive Disease Clinic, P.A., 92 N.C. App. at 28, 373 S.E.2d at 453. Cameron needs similar evidence to prevail on this public policy argument. He needs to rebut the dissent's position in Iredell – that the lost employee could be replaced with a new hire satisfying the restricted area's needs. The Beam court rejects the public policy argument because it considers that other communities outside the restricted area could benefit from medical services and their lives and health are as important as those in the restricted area. Beam, 217 N.C. at 672, 9 S.E.2d at 477. To counter this argument, evidence of underserved communities within North Carolina as to massage therapy could be helpful. On the whole, however, this argument appears weak.

North Carolina courts uphold covenants not to compete as long as they are: 1) in writing; 2) ancillary to the employment contract; 3) reasonable as to terms, time, and territory; 4) based on valuable consideration; and 5) not against public policy. The review of applicable law and the facts of this case suggest Radford's agreement was ancillary to the employment contract and reasonable. Cameron may challenge the reasonableness of the territory restriction as overly broad and argue against a blue pencil approach that would hold the reasonable portions of the contract enforceable in favor of one which holds the entire contract void. This defense strategy is marginal, however. The strongest defense is to show that Radford did not sign the contract or that the covenant lacks consideration as a result of its execution after Radford began work but these facts are unknown. There is a slight possibility that we could show the contract to be against public policy and therefore, void. However, the likelihood of success with this attack is not significant. Courts will enforce this contract unless new facts show the lack of Radford's signature or a lack of consideration.