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LEON M. REIMER & CO., P.C. v. CIPOLLA

UNITED STATES DISTRICT COURT FOR THE SOUTHERN DISTRICT OF NEW YORK


June 5, 1996

LEON M. REIMER & CO., P.C., Plaintiff,
v.
JOSEPH P. CIPOLLA, JR, Defendant.

The opinion of the court was delivered by: PARKER

MEMORANDUM DECISION AND ORDER

 Plaintiff, Leon Reimer & Co., P.C. ("Reimer") brings this diversity action against pro se Defendant, Joseph P. Cipolla, Jr., ("Cipolla") seeking declaratory and injunctive relief and damages arising out of an alleged breach of contract and breach of fiduciary duties. Cipolla moves for summary judgment pursuant to Rule 56 of the Fed.R.Civ.P. For the reasons stated below, the motion is denied in part and granted in part.

 BACKGROUND

 Cipolla, a certified public accountant, worked for Reimer, a Certified Public Accounting firm, from October 7, 1990 through July 15 1994. The present dispute arises from two provisions in Reimer's employment agreement. *fn1" The first,

 Section 3, provides:

 

(a) In the event Employee accepts an engagement from a client of the Corporation during the two (2) year period following the Termination Date, Employee shall immediately advise the Corporation and pay to the Corporation, one and one half (1-1/2) times the annual gross fees charged to such client by the Corporation during the last full year (twelve consecutive months) in which such client employed the services of the Corporation. Such payment to the Corporation shall be made by Employee within fifteen (15) days of his/her accepting any such engagement.

 

(b) Employee shall be exempt from paying such amount described in Section 3(a) above if: (i) Employee has obtained Leon Reimer's express written confirmation that Employee was responsible for bringing said client to the Corporation; and (ii) said written confirmation was given to Employee prior to said client becoming a client of the Corporation.

 The second, Section 2, provides in part:

 

Employee will use the Confidential Information only while working for the Corporation and only in connection with his/her duties related thereto and will cease using said information on the day that Employee ceases to work for the corporation. Employee agrees to promptly return all books, records, documents, and property of the Corporation on the Termination Date. Furthermore, such Confidential Information shall at no time be disclosed to any unauthorized person.

 Cohane Rafferty was a client of Reimer, serviced by Cipolla. When Cipolla left Reimer in July, 1994, he told certain of his clients, including Cohane Rafferty, that he was leaving Reimer and joining a new partnership, Cipolla, Burke, Grbelja & Co. ("Cipolla Burke"). Subsequently, certain clients retained Cipolla Burke Cipolla's solicitation and retention of these clients occurred without the knowledge and consent of Reimer. Moreover, before leaving Reimer, Cipolla apparently copied and took with him certain Reimer files generated as a result of its work for Cohane Rafferty. This litigation followed.

 DISCUSSION

 A. Summary Judgment Standard

 Under Rule 56(c) of the Federal Rules of Civil Procedure, a "motion for summary judgment must be granted if the pleadings, depositions, answers to interrogatories, and admissions on file, together with affidavits, if any, show that there is no genuine issue as to any material fact and that the moving party is entitled to a judgment as a matter of law." Fed.R.Civ.P. 56(c). The moving party must initially satisfy a burden of demonstrating the absence of a genuine issue of material fact. Celotex Corp. v. Catrett, 477 U.S. 317, 323-25, 91 L. Ed. 2d 265, 106 S. Ct. 2548 (1986), see also Gallo v. Prudential Residential Servs. Ltd., 22 F.3d 1219, 1223 (2d Cir. 1994). The nonmoving party must meet a burden of coming forward with "specific facts, showing that there is a genuine issue of fact for trial," Fed.R.Civ.P. 56(e) by a showing sufficient to establish the existence of [every] element essential to the party's case, and on, which the party will bear the burden of proof at trial.

 In deciding whether a genuine issue of material fact exists, "the court is required to draw all factual inferences in favor of the party against whom summary judgment is sought." Ramseur v. Chase Manhattan Bank, 865 F.2d 460, 465 (2d Cir. 1989). The Court is to inquire whether there is sufficient evidence favoring the nonmoving party for a jury to return a verdict for the party," Anderson v. Liberty Lobby, Inc., 477 U.S. 242, 249, 91 L. Ed. 2d 202, 106 S. Ct. 2505 (1986), however, and to grant summary judgment where the nonmovant's evidence is merely colorable, conclusory, speculative or not significantly probative. Knight v. United States Fire Ins., 804 F.2d 9, 12-15 (1986), cert denied, 480 U.S. 932, 94 L. Ed. 2d 762, 107 S. Ct. 1570 (1987).

 B. Section 3

 Counts (sic) One and Three *fn2" of the complaint allege that Cipolla violated Section 3 of the Agreements. *fn3" Cipolla argues that since Section 3 is overly broad and overly restrictive, it is unenforceable. At the outset, we note that Section 3 does not expressly prohibit Cipolla from providing accounting services to Reimer's clients. Rather it provides that if he does so in the absence of advance, written permission, Cipolla must pay Reimer one and one half times the annual gross fees charged to that client by Reimer during the last full year in which that client employed Reimer's services. Most courts have analyzed such provisions in accounting firm agreements as covenants not to compete that must be reasonable in terms of restraint of trade principles in order to be enforceable. See Rhoads v. Clifton Gunderson & Co., 89 Ill. App. 3d 751, 411 N.E.2d 1380, 44 Ill. Dec. 914 (1980); Holloway v. Faw, Casson & Co., 319 Md. 324, 355, 572 A.2d 510, 514-15 (Md. Ct. App. 1990); Philip G. Johnson & Co. v. Salmen, 211 Neb. 123, 127-28, 317 N.W.2d 900, 903 (Sup.Ct. Neb.1982); Smith, Batchelder & Rugg v. Foster, 119 N.H. 679, 683-84, 406 A.2d 1310, 1312-13 (Sup.Ct. N.H. 1979); McElreath v. Riquelmy, 444 S.W.2d 853 (Tex. Civ. App. 1969); Foti v. Cook, 220 Va. 800, 263 S.E.2d 430 (Sup.Ct. Va. 1980); Perry v. Moran, 109 Wash. 2d 691. 748 P.2d 224 (1987), modified on other grounds on reconsideration, 111 Wash. 2d 885, 766 P.2d 1096 (1987), cert. denied, 492 U.S. 911 (1989); see also Olliver/Pilcher Indus. v. Daniels, 148 Ariz. 530, 531-32, 715 P.2d 1218, 1219-20 (Ariz. 1986).

 Both Reimer and Cipolla, however, seem to agree that Section 3 is appropriately characterized as something other than a covenant not to compete. Cipolla argues that it is an unenforceable penalty and Reimer argues that it is a reimbursement clause. Nonetheless, even those courts that have declined to define similar provisions as restraints on trade have still required them to be reasonable to be enforced. See Follmer Rudzewicz & Co. v. Kosco, 420 Mich. 394, 408, 362 N.W.2d 676, 683 (1984) ("whether such an agreement is characterized as in restraint on trade or not, it must be reasonable to be enforced"); Dobbins, DeGuire & Tucker, P.C. v. Rutherford, MacDonald & Olson, 218 Mont. 392, 708 P.2d 577 (Sup.Ct.Mont. 1985); Isler v. Shuck, 38 Ore. App. 233, 589 P.2d 1180, 1182-83 (Ore. Sup. Ct. 1979). The reasonableness test adopted by those courts, however, are "essentially indistinguishable from the ones applied to covenants not to compete." See Peat, Marwick Main & Co. v. Haass, 818 S.W.2d 381, 385 (Sup. Ct. Tex. 1991) (citing Annotation, Covenants To Reimburse Former Employer For Lost Business, 52 A.L.R. 142 (1987)). *fn4" Accordingly, we analyze the Agreements in question for their reasonableness.

 Parties to employment contracts have considerable latitude in structuring and controlling their relationships. However, it is well established that agreements which restrict employment opportunities are generally disfavored. See Consol. Brands, Inc. v. Mondi, 638 F. Supp. 152, 156 (E.D.N.Y. 1986) ("such covenants are viewed unfavorably by the New York Courts and are not liberally construed"); Columbia Ribbon & Carbon Mfg. Co. v. A-1-A Corp., 42 N.Y.2d 496, 398 N.Y.S.2d 1004, 1006, 369 N.E.2d 4 (Ct.App. 1977) ("Restrictive covenants which tend to prevent an employee from pursuing a similar vocation after termination of employment are disfavored by the law"); Contempo Com. v. MJM Creative Services, 182 A.D.2d 351, 582 N.Y.S.2d 667 (A.D. 1 Dept. 1992); Metropolitan Medical Group v. Eaton, 154 A.D.2d 252, 546 N.Y.S.2d 90 (A.D. 1 Dept. 1989).

  To be reasonable, an agreement not to compete must satisfy each of four conditions: "(1) the time and geographical scope of the restriction must be reasonable; (2) the burden on the employee must not be unreasonable; (3) the general public must not be harmed; and (4) the restriction must be necessary for the employer's protection. Mallory Factor, Inc. v. Schwartz, 146 A.D.2d 465, 536 N.Y.S.2d 752, 753 (1989) (citations omitted) *fn5" ; American Institute of Chemical Engineers v. Reber-Friel Co., 682 F.2d 382, 387 (2d Cir. 1982); Innovative Networks Inc. v. Satellite Airlines Ticketing Centers, 871 F. Supp. 709, 728 (S.D.N.Y. 1995).

 The record does not suggest that enforcement of Section 3 imposes unreasonable time limitations, nor does Cipolla document general harm to the public. *fn6" The relevant concerns here are the related questions of whether the means Reimer fashioned are reasonable ones for the protection of its business.

 We will first examine the legitimate business interests that Reimer needs to protect. New York courts typically do not require any novelty in the ex-employees services nor must any confidential or customer information be demonstrated before a restrictive covenant may be enforced. See Arthur Young & Co. v. Black, 96 A.D.2d 784, 97 A.D.2d 369, 466 N.Y.S.2d 10 (1st Dept. 1983), appeal dismissed, 61 N.Y.2d 712, 472 N.Y.S.2d 620, 460 N.E.2d 1105 (1984) and Arthur Young & Co. v. Galasso, 142 Misc. 2d 738, 538 N.Y.S.2d 424 (Sup.Ct. 1989).

 Here, Reimer placed Cipolla in a position of trust and confidence that permitted him to establish a professional rapport with Reimer clients. Consequently, Reimer was clearly entitled to set the terms on which it would employ Cipolla and Reimer was also entitled reasonably to protect itself from the risk that an employee such as Cipolla may later abuse his position and misappropriate the benefits of relationships developed at Reimer's expense. See Singer v. Habif. Arogeti & Wynne P.C., 250 Ga. 376, 297 S.E.2d 473 (Sup.Ct.Ga. 1982); and Rhoads v. Gunderson, 89 Ill. App. 3d 751, 411 N.E.2d 1380, 44 Ill. Dec. 914 (Ill.App.1980).

 Reimer, however, has done far more than protect itself against these risks. First, the agreement provides that Cipolla must reimburse Reimer for all fees earned from Reimer clients. This provision would prohibit Cipolla from accepting an engagement from a Reimer client who voluntarily and without any prior solicitation by Cipolla contacts him and seeks to retain him. See Deloitte & Touche L.L.P. v. Chiampou, 636 N.Y.S.2d 679 (4th Dept.App.Div. 1995) (preliminary injunction to enforce covenant not to compete proper to extent that it exempted "plaintiff's former clients who had voluntarily and without solicitation sought out defendants after defendants left plaintiff's employ"). To the extent that this provision prohibits considerably more than the active solicitation or diversion of clients, we find it unreasonable. It overprotects Reimer's interests and unreasonably limits Cipolla's and former Reimer clients' ability to choose professional services. See Peat Marwick Main & Company, 818 S.W.2d at 388; Singer, 250 Ga. at 37; 297 S.E.2d at 475 (Sup.Ct.Ga. 1982). *fn7"

 In addition, this covenant is unreasonable "considering the business sought to be protected" because it prohibits Cipolla from working for entities with whom he had no contract while at Reimer. Reasonable attempts to limit a former employee's solicitation of client's he was exposed to is one thing. Expanding that restriction to any of the firm's clients regardless of the nature of the work done or the identity of the professional who may have performed the services and then buttressing the restrictions with the requirement of a potentially large advance payment bearing no reasonable relation to any gain to Cipolla or loss to Reimer is quite a different thing. See Polly v. Ray D. Hilderman & Company, 225 Neb. 662, 667, 407 N.W.2d 751, 755 (Sup. Ct. Neb. 1987) (agreement is "valid only if it restricts the former employee from working for or soliciting the former employee's accounts with whom the former employee actually did business and has personal contact").

 Moreover, the agreement does not specify whether Cipolla is precluded from serving any dormant or occasional clients the Reimer firm ever had or only its active clients. While a relationship with present clients may be an interest that is properly protectible in some fashion, Section 3 (a), to the extent that it can be read broadly to restrain former employees from serving any dormant client without restriction, is overbroad. See Seach v. Richards Dieterle & Co., 439 N.E.2d 208 (Ct.App. In. 1982); Smith Batchelder & Rugg v. Foster, 119 N.H. 679, 406 A.2d 1310 (Sup. Ct. N.H. 1979); see also NCR Corp. v. Rotondi, 88 A.D.2d 537 450 N.Y.S.2d 198 (App. Div. 1982).

 The damage formula is an even more troublesome feature of Section 3(a). The clause would require Cipolla, before he does any work on a former Reimer client, to pay to Reimer one and one half times Reimer's annual fees for the last 12 months in which it serviced the client. While, to be sure, Reimer has an important interest in protecting its client base, this clause is so exceptionally aggressive as to have lost the requisite reasonable relationship to legitimate business interests Reimer is entitled to protect. Any work by Cipolla on a large Reimer client would, by the terms of Section 3(a), require substantial up-front payments to Reimer with no regard to the harm or loss to Reimer, the benefits to Cipolla or, for that matter, the interests of the client. If enforced, the clause would transfer to Reimer substantially more income than it recently earned from the particular client. These features mark the agreement as a penalty clause, and penalty clauses are not enforceable. Jacobs v. Citibank N.A., 61 N.Y.2d 869, 474 N.Y.S.2d 464, 462 N.E.2d 1182 (1984); Fifty States Mgt. Corp. v. Pioneer Auto Parks, Inc., 46 N.Y.2d 573,; 415 N.Y.S.2d 800, 389 N.E.2d 113 (1979); In Re West 56th Street Associates, 181 Bankr. 720 (S.D.N.Y. 1995).

 Reimer argues that the clause is a liquidated damage clause of the type that has been enforced by other jurisdictions. However, none of those liquidated damages clauses cited by Reimer enforces the type of damage formula at issue here. For example, in Dobbins, supra, 708 P.2d at 580, the Supreme Court of Montana held that a damages provision which required the employee to pay the firm 100% of the gross fees generated by the firm's former client from the preceding twelve months, payable in monthly installments was not an unreasonable restraint on trade. In Isler, 38 Ore. App. at 233, 589 P.2d at 1180, the Oregon Court of Appeals found that a fee of fifty percent of the gross fees earned from services rendered in the three years following termination for clients of the employer and ten percent of the gross fees earned from his own clients was reasonable. In Foti, 220 Va. at 806, 263 S.E.2d at 433-34, the Supreme Court of Virginia found that a charge to former partners of one third of each year's fee from firm's former clients was not unreasonable. Finally, in Miller v. Williams, 300 So. 2d 752, 753-54 (Fla.App.lst 1974), a Florida court enforced a provision which obligated mutually, the employer and the departed employee to pay, over a period of time, one-third of any fees generated over the three years following termination, if he engaged the other's client.

 Finally, we note that Section 3(a) contains no geographic limitation. Cipolla is restricted from competition with Reimer in Hong Kong as well as Miami, in Seattle as well as White Plains. It is well settled that, to be enforceable, restrictions on the activities of former employees must be reasonable in terms of geographic application. Columbia v. Ribbon & Carbon Mfg., 42 N.Y.2d at 499, 398 N.Y.S.2d at 1006, 369 N.Y.S.2d at 6; Ivy Mar Co. v. C.R. Seasons Ltd., 907 F. Supp. 547, 558 (E.D.N.Y. 1995). No attempt is made in Section 3(a) to impose any geographic limitation. This is an additional indicia of unreasonableness and unenforceability. Ivy Mar Co., 907 F. Supp. at 558-59 (E.D.N.Y. 1995).

 Reimer suggests that if the Court finds certain aspects of the agreement unreasonable, it may modify the agreement so as to make it reasonable since both the 1991 Agreement and the 1992 Agreement contain judicial modification clauses. New York law permits courts, under certain circumstances, to rewrite unreasonable contracts into reasonable ones. See Karpinski v. Ingrasci, 28 N.Y.2d 45, 51, 320 N.Y.S.2d 1, 6, 268 N.E.2d 751 (1971); Coolidge Co. v. Mokrynski, 472 F. Supp. 459, 463 (1979); USAchem Inc. v. Goldstein, 512 F.2d 163, 168 (2d Cir. 1973); Deloitte & Touche, supra, 636 N.Y.S.2d 679.

 Here the infirmities of Section 3(a) are simply too patent for this type of restructuring. To bring Section 3 into conformity with the law would require this Court essentially to rewrite the entire section, an exercise not appropriate here. See Philip G. Johnson & Co. v. Salmen, 211 Neb. 123, 317 N.W.2d 900, 904 (court declined to modify restrictive covenant where "far too many variables" were unreasonable). For all of these reasons, the Court concludes that Section 3 is unenforceable.

 C. Fiduciary Duty

 In Counts (sic) Two, Five *fn8" and Six *fn9" Reimer seeks damages and injunctive relief for Cipolla's alleged breach of fiduciary and contractual duties arising out of his alleged copying of certain Cohane Rafferty files before he left the Reimer firm. In Count Two, Reimer charges that Cipolla violated the confidentiality clause of the contract because he copied client files for his own use. While Cipolla concedes that he copied the files, he argues that these counts should be dismissed because the files did not contain any trade secrets. *fn10" However, the unauthorized use of client files need not always contain trade secrets. See Leo Silfen Inc. v. Cream, 29 N.Y.2d 387, 391-92 328 N.Y.S.2d 423, 278 N.E.2d 636 (Ct.App. 1979) ("If there has been a physical taking or studied copying, the court may in a proper case enjoin a solicitation, not necessarily as a violation of a trade secret, but as an egregious breach of trust and confidence"); Ecolab v. Paolo, 753 F. Supp. 1100, 1111 (E.D.N.Y. 1991) ("the unauthorized physical taking and exploitation of internal company documents. . . by an employee for use in his future business or employment is to be considered unfair competition."); Giffords Oil Inc v. Wild,, 106 A.D.2d 610, 483 N.Y.S.2d 104, 106 (2d Dept. 1984) ("information such as fuel oil capacity of customer's tanks, and the amount certain customers are willing to pay, which aid the plaintiffs in establishing prices and which could only be achieved through personal solicitation is confidential"); Velo-Bind v. Scheck, 485 F. Supp. 102, 109 (S.D.N.Y. 1979).

 Moreover, Cipolla argues that he was not in breach because he acting at the direction of the clients. In support, Reimer has provided an affidavit from Steven Sprague, the Chief Financial Officer of Cohane Rafferty. Apparently, sometime before Sprague knew that Cipolla would be leaving the firm, Sprague asked Cipolla to provide him with a copy of the Cohane, Rafferty files. Reimer, however, contends that the files included not only client records, which it concedes belong to client, but also Reimer workpapers, which it argues were the property of the Reimer firm. *fn11" Because the contents of the files and other facts surrounding Cipolla's conduct have not been fully developed, we believe that Reimer's contract and fiduciary duty claims, raise issues of material fact and thus, we deny summary judgment.

 CONCLUSION

 For the reasons set forth above, the Court grants summary judgement as to Counts (sic) One, Three and Four, and denies summary judgment as to Counts (sic) Two, Five and Six.

 SO ORDERED

 BARRINGTON D. PARKER, JR.

 U.S.D.J.

 Dated: White Plains, New York

 June 5, 1996


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