Maryland Metals, Inc. v. Metzner

Levine, J., delivered the opinion of the Court. In this appeal we consider the extent to which officers and high-level managerial employees may, prior to termination of the employment relationship, make preparations to compete with their corporate employer without violating fiduciary obligations running to the corporation. The chancellor (Rutledge, J.), sitting in the Circuit Court for Washington County, denied the request of appellant, Maryland Metals, Inc., for injunctive relief and damages against two former employees and corporations formed by them (appellees here), ruling that the individual appellees had not acted wrongfully in merely preparing to form and finance a competitive enterprise before severing their ties with appellant. Upon issuance of an order dismissing its amended bill of complaint, appellant noted an appeal to the Court of Special Appeals, but we granted certiorari in advance of oral argument in that court.

We now affirm. I Appellant, located in Hagerstown, is engaged in the business of buying, processing and selling scrap metal obtained from automotive, industrial and miscellaneous sources. Prior to its incorporation in 1955, the company had been operated as a sole proprietorship by the late Harry Kerstein (Harry), who founded the business in the 1930’s and later became the corporation’s sole stockholder. On his death in June 1973, he was succeeded as president by his son, ³⁴ Robert Kerstein (Robert), a graduate of the University of Pennsylvania, Wharton School of Finance.

In 1951, Harry engaged, at a starting salary of $85 per week, appellee Sidney S. Metzner (Metzner), who was then recently graduated from college with a degree in business administration and had been employed by a national retail chain in its management training program. With Metzner playing a major role, the business grew and prospered in the ensuing years. On formation of the corporation in 1955, he was named secretary. By June 1974, when he resigned, Metzner had risen to the position of executive vice president and was earning in excess of $80,000 a year.

In 1970, appellant employed appellee George W. Sellers, III (Sellers), on Metzner’s recommendation, at a starting annual salary of $20,000. Initially Sellers occupied the position of operations manager because of his proven talents in maintaining heavy machinery. He gradually demonstrated managerial capability as well and at the time of his dismissal in late May 1974, held the position of vice president in charge of operations, earning in excess of $31,000 a year. Rapid technological advances in the design and manufacture of scrap processing machinery contributed significantly to the genesis of this dispute.

In 1966, appellant purchased at a total cost of some $400,000 a piece of equipment described in the trade as a guillotine shear. 1 Even as it was awaiting delivery of the shear, appellant was already studying the potential of a newer and more revolutionary machine known as a “shredder.” 2 ³⁵ Between 1966 and 1973, Metzner was dispatched on several assignments to inspect shredding operations in other parts of the country. On returning from certain key inspection trips, he submitted recommendations urging the acquisition of a shredder. His last such report and recommendation was dated May 1, 1974, only four weeks before he tendered his resignation. In September 1970, appellant’s board of directors authorized Harry Kerstein to purchase a shredding machine from Newell Manufacturing Company of San Antonio, Texas, one of two leading manufacturers of such machines, for the sum of $384,000.

Appellant thereupon entered into a cancellable purchase agreement with Newell and also acquired an option to purchase some 40 acres of land in the Hetzler Industrial Park near Hagerstown, which was suitable for a shredding operation from both a physical and a zoning standpoint. Several weeks later, however, appellant’s board of directors voted to defer purchase of the shredding machine, citing several reasons, including a downward trend in the market price for shredded scrap, which apparently proved to be temporary, and some uncertainty as to the proficiency of the machine. Consequently the order was cancelled and the option on the land allowed to expire without being exercised. Following Harry’s death in June 1973, appellant resumed its interest in a shredding operation.

Once again Metzner, now assisted by Sellers, was instructed to conduct an appropriate investigation in the summer and fall of 1973, and to report the outcome of those efforts to the corporation. Metzner and Sellers complied with these instructions in some detail and urged Robert to acquire a shredder immediately. What transpired beginning in November 1973, is the subject of some dispute in the testimony. Metzner maintains that he had a discussion with Robert in November during which he expressed his unwillingness to continue with ³⁶ appellant unless he could own some equity in the corporation.

Robert replied that this was impossible because his father, as sole stockholder, had transferred his holdings to a testamentary trust. According to his testimony, Metzner then proposed that a new corporation be formed to acquire and operate a shredder in which he, Sellers and Robert (or appellant) would each own a one-third interest, with the necessary initial capital investment of some $300,000 being advanced by Robert or appellant. Robert acknowledges the substance of this discussion, but beyond this point the Metzner-Sellers version of what occurred differs in one material respect from Robert’s account. Metzner testified that he than flatly advised Robert that if he would not join with Metzner and Sellers in the equal ownership of a shredder, they would purchase and operate one without his participation.

This was corroborated by Sellers who had held his own independent discussion with Robert. Conceding the first part of the discussion, Robert maintained that he never received explicit notice of any intention on the part of Metzner or Sellers to leave Maryland Metals and to start their own competing business. He testified that he had merely offered to consider the possibility of a profit-sharing plan for both Metzner and Sellers. Robert further claims to have informed them unequivocally in November that he would not consider any arrangement in which he or Maryland Metals did not own the entire shredding operation.

In the meantime Metzner and Sellers had initiated in November a series of steps preparatory to the establishment of a shredding facility independent of Maryland Metals. These measures, which we shall recount later, are the basis for the present dispute. Professing to be unaware of the preparations being made by Metzner and Sellers, Robert raised Sellers’ salary in March 1974 from $25,000 to $31,200. Despite the plans being made by Sellers and Metzner in 1974, they both continued until the very last day of. their employment, as they had throughout their careers, to apply their considerable talents and to work long hours in behalf of Maryland Metals. ³⁷ II Appellant’s principal contention on appeal is that by deliberately failing to disclose in detail their preliminary arrangements to enter into competition with Maryland Metals, while serving as appellant’s officers and employees, appellees committed a “gross breach of their fiduciary duty” of loyalty, thereby entitling appellant, as a matter of law, to an injunction restraining further operation of appellees’ rival scrap metal processing business.

In defining the scope of the right of an employee or corporate officer to enter into competition with Ms former principal and in delimiting the countervailing right of an employer to restrain his agent’s competitive endeavors both before and after termination of employment, the law seeks to harmonize two important and ofttimes conflicting policies. The first of these policy considerations is that commercial competition must be conducted according to basic rules of honesty and fair dealing. As we stated in Edmondson Vil. Theatre v. Einbinder, 208 Md. 38, 44 , 116 A. 2d 377 (1955), the tendency of the law, both legislative and common, has been in the direction of enforcing increasingly higher standards of fairness or commercial morality in trade.

In policing the ethics and conventions of the marketplace, courts have paid particular attention to problems associated with competition between employees and their former employers. Because corporate managerial personnel enjoy a high degree of trust and confidence in performing their assigned functions, a potential exists for serious abuse of confidentiality whenever personnel attempt to aggrandize their own economic interests at the expense of the employer. Fairness dictates that an employee not be permitted to exploit the trust of his employer so as to obtain an unfair advantage in competing with the employer in a matter concerning the latter’s business. Kademenos v. Equitable Life Assurance Soc. of U.S., 513 F. 2d 1073, 1076 (3d Cir. 1975); Restatement (Second) of Agency § 387, Comment b (1957).

This concern for the integrity of the employment relationship has led courts to establish a rule that demands *? of a corporate officer or employee an undivided and unselfish loyalty to the corporation. See Guth v. Loft, Inc., 23 Del. Ch. 255 , 5 A. 2d 503, 510 (S. Ct. 1939). Thus, we have read into every contract of employment an implied duty that an employee act solely for the benefit of his employer in all matters within the scope of employment, avoiding all conflicts between his duty to the employer and his own self-interest.

C-E-I-R, Inc. v. Computer Corp., 229 Md. 357, 366 , 183 A. 2d 374 (1962); Maryland Credit v. Hagerty, 216 Md. 83, 90 , 139 A. 2d 230 (1958); De Crette v. Mohler, 147 Md. 108, 115 , 127 A. 639 (1925) (“Experience has taught that no man can serve two masters”). And see Cumb. Coal & Iron Co. v. Parish, 42 Md. 598, 605-606 (1875) (recognizing a similar duty with respect to corporate directors and officers). A direct corollary of this general principle of loyalty is that a corporate officer or other high-echelon employee is barred from actively competing with his employer during the tenure of his employment, even in the absence of an express covenant so providing.

Ritterpusch v. Lithographic Plate, 208 Md. 592, 602 , 119 A. 2d 392 (1956); accord, Becker v. Bailey, 268 Md. 93 , 98-99 n.2, 299 A. 2d 835 (1973); Restatement (Second) of Agency § 393 (1957); 3 W. Fletcher, Cyclopedia of the Law of Private Corporations § 856 (Perm. ed. 1975). Thus, prior to his termination, an employee may not solicit for himself business which his position requires him to obtain for his employer. He must refrain from actively and directly competing with his employer for customers and employees, and must continue to exert his best efforts on behalf of his employer. C-E-I-R, Inc. v. Computer Corp., 229 Md. at 366 .

Once the employment relationship comes to an end, of course, the employee is at liberty to solicit his former employer’s business and employees, subject to certain restrictions concerning the misuse of his former employer’s trade secrets and confidential information. Ritterpusch v. Lithographic Plate, 208 Md. at 602; Abbott Redmont Thinlite Corporation v. Redmont, 475 F. 2d 85, 89 (2d Cir. 1973). The second policy recognized by the courts is that of safeguarding society’s interest in fostering free and vigorous competition in the economic sphere. Thus, as Judge ³⁹ Oppenheimer stated for this Court in Operations Research v. Davidson, 241 Md. 550, 575 , 217 A. 2d 375 (1966): “[I]t is important to the free competition basic to our national development as well as to the individual rights of employees who want to go into business for themselves that their spirit of enterprise be not unduly hampered.” Furthermore, courts have been receptive to the view that every person has or at least ought to have the right to ameliorate his socioeconomic status by exercising a maximum degree of personal freedom in choosing employment.

Travenol Laboratories, Inc. v. Turner, 30 N.C. App. 686 , 228 S.E.2d 478, 483 (1976); see Fulton Laundry Co. v. Johnson, 140 Md. 359, 362 , 117 A. 753 , 23 A.L.R. 420 (1922); Comment, 29 U. Chi. L. Rev. 339 , 351 (1962); Note, 4 Duke B. J. 16 (1954). But see 1 R. Callmann, The Law of Unfair Competition, Trademarks and Monopolies § 1.3, at 12 (3d ed. 1967) (“The theory that the employee enjoys the right to a free and open market flagrantly ignores reality”). This policy in favor of free competition has prompted the recognition of a privilege in favor of employees which enables them to prepare or make arrangements to compete with their employers prior to leaving the employ of their prospective rivals without fear of incurring liability for breach of their fiduciary duty of loyalty.

Operations Research v. Davidson, 241 Md. at 572 ; Ritterpusch v. Lithographic Plate, 208 Md. at 602; see also United Aircraft Corp. v. Boreen, 413 F. 2d 694, 700 (3d Cir. 1969); Keiser v. Walsh, 118 F. 2d 13, 14 (D.C. Cir. 1941) (“an agent need not wait until he is on the street before he looks for other work”); Bancroft-Whitney Company v. Glen, 64 Cal. 2d 327 , 49 Cal. Rptr. 825 , 411 P. 2d 921, 935 (1966). 3 “Admittedly the mere decision to enter into ⁴⁰ competition will eventually prove harmful to the former employer but because of the competing interests of allowing an employee some latitude in switching jobs and at the same time preserving some degree of loyalty owed to the employer the mere entering into competition is not enough. It is something more than preparation which is so harmful as to substantially hinder the employer in the continuation of his business.” (emphasis added). Cudahy Company v. American Laboratories, Inc., 313 F. Supp. 1339, 1346 (D. Neb. 1970).

Moreover, while an employee is under an obligation to be candid with his employer in preparing to establish a competing enterprise, C-E-I-R, Inc. v. Computer Corp., 229 Md. at 367 ; see also Community Counselling Service, Inc. v. Reilly, 317 F. 2d 239, 244 (4th Cir. 1963), he is not bound to reveal the precise nature of his plans to the employer unless he has acted inimically to the employer’s interest beyond the mere failure to disclose. Cudahy Company v. American Laboratories, Inc., 313 F. Supp. at 1346 ; Bancroft-Whitney Company v. Glen, 411 P. 2d at 936 . The right to make arrangements to compete is by no means absolute and the exercise of the privilege may, in appropriate circumstances, rise to the level of a breach of an employee’s fiduciary duty of loyalty. Thus, the privilege has not been applied to immunize employees from liability where the employee has committed some fraudulent, unfair or wrongful act in the course of preparing to compete in the future.

Robb v. Green, [1895] 2 Q. B. 1, 15, aff’d, [1895] 2 Q. B. 315. Examples of misconduct which will defeat the privilege are: misappropriation of trade secrets, Space Aero v. Darling, 238 Md. 93, 117 , 208 A. 2d 74 , cert. denied, 382 U. S. 843 (1965); misuse of confidential information, C-E-I-R, Inc. v. Computer Corp., 229 Md. at 368 ; solicitation of employer’s customers prior to cessation of employment, Ritterpusch v. Lithographic ⁴¹ Plate, 208 Md. at 602 ; conspiracy to bring about mass resignation of employer’s key employees, Duane Jones Co. v. Burke, 306 N. Y. 172 , 117 N.E.2d 237, 245 (1954); usurpation of employer’s business opportunity, Raines v. Toney, 228 Ark. 1170 , 313 S.W.2d 802, 809-810 (1958). See generally Comment, 22 U. Chi. L. Rev. 278 , 282-83 (1954).

Within these broad principles, the ultimate determination of whether an employee has breached his fiduciary duties to his employer by preparing to engage in a competing enterprise must be grounded upon a thoroughgoing examination of the facts and circumstances of the particular case. As the California Supreme Court has observed: “No ironclad rules as to the type of conduct which is permissible can be stated, since the spectrum of activities in this regard is as broad as the ingenuity of man itself.” Bancroft-Whitney Company v. Glen, 411 P. 2d at 935 . Accord, Operations Research v. Davidson, 241 Md. at 575 . Turning now to the facts in the case at hand, we consider the evidence produced at trial in a light most favorable to the prevailing party; and if substantial evidence is present to support the trial court’s determination, it is not clearly erroneous and hence will not be disturbed on appeal.

Maryland Rule 886. Ross v. Hoffman, 280 Md. 172, 186 , 372 A. 2d 582 (1977); Ryan v. Thurston, 276 Md. 390, 392 , 347 A. 2d 834 (1975); Delmarva Drilling Co. v. Tuckahoe, 268 Md. 417, 424 , 302 A. 2d 37 (1973). As we noted earlier, appellees Metzner and Sellers met with appellant’s president, Robert Kerstein, in mid-November 1973, after having recently completed a comprehensive study of shredding operations around the country on behalf of Maryland Metals. At the November meeting appellees demanded and were refused an equity participation in Maryland Metals because the company’s capital stock was completely tied up in Harry Kerstein’s testamentary trust.

The chancellor found from the evidence that upon receiving this initial rebuff, appellees then notified Robert that if Maryland Metals was not willing to take a part in a proposed ⁴² shredding operation, appellees would go into business for themselves without appellant. 4 Shortly thereafter appellees set in motion a scheme designed to permit them to establish an independent shredding business in the event appellant decided not to participate in the venture. It is this secretive, preparatory effort which appellant claims amounted to a breach of appellees’ fiduciary duty to the corporation. Appellees’ initial act was the formation of a Delaware corporation named “Conservit, Inc.” on December 11, 1973, which qualified to do business in Maryland on January 14, 1974. It is undisputed, however, that appellees never utilized the Delaware corporation to conduct any business in Maryland or elsewhere.

After having made contact with Henry Schloss, a prospective investor from Baltimore, and after having consulted with representatives of the Maryland Economic Development Commission late in 1973, Metzner filed a preliminary application with the Maryland National Bank on January 2,1974, for a loan to purchase a shredding machine. The loan request was approved on March 14,1974, in the amount of $1,300,000, but was not actually closed until August 1974, two months after Metzner had left Maryland Metals. As