In many disputes over non-competition agreements, the litigation focuses on obtaining the temporary restraining order and/or preliminary injunction to stop the competition before the real damage is done. However, in cases where preliminary injunctive relief cannot be obtained and/or is not appropriate (e.g., because the competition has already taken place and the damage has been already done), the question of what damages were actually caused by the breach of the agreement can be a thorny one. One possible way around this “thorny” issue, as recently examined by the United States Court of Appeals for the Fifth Circuit, is the inclusion of a liquidated-damages clause.
The non-competition agreement examined by the Fifth Circuit in International Marine, L.L.C. v. Delta Towing, L.L.C., 704 F.3d 350 (5th Cir. 2013), was not an employment non-compete but rather formed part of an agreement for the sale of tugboats. Delta Towing was in the business of chartering tugboats and sold two of its tugboats to International Marine. Delta Towing understood that International Marine was looking to purchase the tugboats for “in house use” only and that it would not directly compete with Delta Towing by chartering out tugboats to third parties. The combined sales price for the two tugboats was $4 million, which, as noted in the district court’s ruling appealed to the Fifth Circuit, represented a significant discount on their fair market value. However, Delta Towing got something in return for the lower price, namely, International Marine’s agreement that it would not use the tugboats to compete with Delta Towing. As part of its agreement to purchase the tugboats, International Marine agreed to give Delta Towing the right of first refusal before International Marine could charter its vessels out to third parties. International Marine’s agreement was backed by a liquidated-damages provision, under which International Marine agreed to pay Delta Towing $250,000 per violation of these non-compete provisions.
Following the sale, Delta Towing discovered, after the fact, that International Marine had been chartering out the tugboats it had purchased and had not informed Delta Towing of these charters such that it could have exercised its contractual right of first refusal. Delta Towing sued in the United States District Court for the Eastern District of Louisiana, and the district judge ruled that the liquidated-damages provision was enforceable. International Marine appealed this ruling to the Fifth Circuit, but the Fifth Circuit affirmed, noting the difficulty inherent in calculating damages for breaches of covenants not to compete. Given this inherent difficulty, the Fifth Circuit determined that the liquidated-damages provisions were “reasonably related” to anticipated damages in this case and that International Marine had failed to show that these provisions provided for an impermissible “penalty.”
So what “take aways” can be made from an agreement for the sale of tugboats, and can these same principles be applied to employment non-competes? Although “liquidated damages” clauses may be less helpful in the case of an agreement between an employer and employee — in part because a departing employee may lack the financial resources to pay monetary damages — similar provisions are often found in the agreements that staffing agencies and consulting companies enter into with their clients. For example, a consulting company providing specialized “manpower” to a client may be concerned that the client might decide “to cut out the middleman” by hiring the consulting company’s employees directly. As a result, the consulting company may require its clients to sign “no hire” agreements backed by a liquidated-damages clause. In other words, what works for the sale of tugboats may sometimes work for employment-related agreements as well.