Court Watch

Finally, the court found that the lack of a time limitation in the third restriction, the non-disclosure provision, was unenforceable except as to information that met the definition of a trade secret under Georgia law. The general covenant against disclosure of confidential information was unenforceable because it lacked a time limitation. Because there were issues of fact as to whether Smith used Atlanta Bread's trade secrets in his work in developing the coffee shop's operating manual, the court affirmed the denial of Smith's motion for judgment on the pleadings and preserved the issue for trial.

Cynthia M. Klaus is a shareholder at Larkin Hoffman in Minneapolis. She can be contacted at [email protected] or 952-896-3392.

The Georgia Court of Appeals found that both in-term and post-termination covenants not to compete in a bakery/deli business franchise agreement were unreasonable and unenforceable in Atlanta Bread Co. Int'l, Inc. v. Lupton Smith, CCH 13,911 (Ga. App. May 14, 2008).

Sean Lupton-Smith owned several Atlanta Bread Company franchises. On Feb. 14, 2006, Atlanta Bread Company notified Smith that it intended to terminate his franchise effective Feb. 24. Atlanta Bread stated that the termination was due to Smith operating a competing business called PJ's Coffee Shop using Atlanta Bread's methods and proprietary information. Smith filed a lawsuit seeking to enjoin the termination and obtained a temporary restraining order. Eventually, the TRO was lifted, and Atlanta Bread purchased the assets of the former franchised stores. Smith then amended his complaint to seek damages for wrongful termination of the franchise agreement. The trial court entered partial summary judgment for Smith, denied Smith's motion for partial judgment on the pleadings, and denied Atlanta Bread Company's motion cross-motion for summary judgment.

The Georgia Court of Appeals was presented with the issue of whether the trial court erred in concluding that the covenants not to compete in the franchise agreement violated public policy and whether the court erred in denying Smith's motion for partial judgment on the pleadings with respect to his wrongful termination claim. The appellate court found no error and affirmed the trial court.

The appellate court examined the three restrictions that were at issue in the franchise agreement. The first restriction prevented Smith from directly or indirectly engaging in, acquiring, or advising any “bakery/deli business” similar to those run by Atlanta Bread during the time when the franchise agreement was in effect. The second restriction placed similar restrictions on Smith for one year after the termination of the agreement and within a 20-mile radius of any Atlanta Bread store. The third restriction was designed to prevent the misappropriation of Atlanta Bread's trade secrets and proprietary information. Atlanta Bread justified the termination of the franchises on the first and third restrictions ' the in-term covenant not to compete and the non-disclosure provision ' arguing that Smith breached those violations when he opened the coffee shop.

In considering the first restriction, the Court of Appeals determined that the in-term covenant not to compete was an unenforceable restriction on trade under Georgia law. Its holding was based on the lack of any territorial limitation in the restriction and the lack of clarity as to the scope of activities that would violate the restriction. Covenants that lack any territorial restriction are unenforceable in Georgia, and the court refused to analyze this restriction more leniently than a post-term restriction not to compete.

The court noted that even if Smith opened up a coffee shop that sold baked goods from other suppliers and was located far outside of Atlanta Bread's territory or worked as a janitor in a coffee shop, he would be in violation of the in-term non-compete. Because of the lack of particularity as to the nature and kind of businesses and activity that were prohibited, the restriction imposed a greater limitation than necessary to protect the franchisor, and was an unenforceable restraint of trade.

The court also struck down the second restriction, the post-termination non-competition covenant, because it was legally related to the in-term covenant, and Georgia does not have the blue-pencil doctrine which would allow the court to preserve the valid terms while negating the invalid ones. In addition, the court found the territorial limits to be too vague. Because the 20-mile radius could change as new Atlanta Bread stores were added, the court relied on Kroger Properties v. Adams-Cates Co. , 422 S.E.2d 529 (Ga. 1992), a case that found that shifting territorial limitations were not enforceable under Georgia law. “A territorial restriction which cannot be determined until the date of the franchisee's termination is too indefinite to be enforced.”

Finally, the court found that the lack of a time limitation in the third restriction, the non-disclosure provision, was unenforceable except as to information that met the definition of a trade secret under Georgia law. The general covenant against disclosure of confidential information was unenforceable because it lacked a time limitation. Because there were issues of fact as to whether Smith used Atlanta Bread's trade secrets in his work in developing the coffee shop's operating manual, the court affirmed the denial of Smith's motion for judgment on the pleadings and preserved the issue for trial.

Cynthia M. Klaus is a shareholder at Larkin Hoffman in Minneapolis. She can be contacted at [email protected] or 952-896-3392.