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VERSON WILKINS LTD. v. ALLIED PRODS. CORP.

September 21, 1989

VERSON WILKINS LIMITED and VERSON [U.K.] LIMITED, formerly VERSON INTERNATIONAL LIMITED, Plaintiffs,
v.
ALLIED PRODUCTS CORPORATION, Defendant


James B. Moran, United States District Judge.


The opinion of the court was delivered by: MORAN

JAMES B. MORAN, UNITED STATES DISTRICT JUDGE.

 We have before us the summary judgment motions of plaintiffs Verson Wilkins Limited and Verson [U.K.] (collectively "VIL") applicable to count V of the verified third amended complaint *fn1" and the amended counterclaim submitted by defendant Allied Products Corporation ("Allied"). *fn2" Resolution of these motions centers on the legality of various contractual arrangements under both the common law (as unreasonable restraints of trade) and also under the antitrust laws of the United States and the State of Illinois. VIL contends summary judgment is appropriate because the context in which the contracts at issue were negotiated -- both as incidental to a business sale and also as ancillary to know-how license agreements -- legitimizes their restrictive nature.

 FACTS

 Verson Allsteel Press Company ("VASP") presently operates as a division of defendant Allied. VASP sells products both under its own name and also that of F. J. Littell Machine Co. ("Littell"). Littell was formerly a direct subsidiary of VASP and now operates as a division of Allied. Littell builds coil-handling and coil-processing equipment including press automation coil feeds, scroll sheeting and other cut-to-length lines.

 In the mid-1970s VASP began experiencing erratic swings in profitability. It made a belated entry into the international market in 1968-69 by acquiring Verson Europa and entering into an exclusive license and cross-distribution agreement with Hindustran Machine Tool Company of India. In 1979 VASP separated out its international operations by incorporating Verson International Ltd. ("VILTD") in Delaware. *fn3" These two corporate entities executed an Assignment and Transfer Agreement dated September 9, 1980. In consideration of VILTD's entire capital structure, VASP agreed therein to transfer ownership of all its technology, including patents and know-how relating to the manufacture of presses and auxiliary equipment to VILTD for all countries of the world save the United States and Canada. VASP also contracted to pay VILTD a 5% commission on foreign sales of VASP products. The latter thus effectively became a holding company for VASP's international operations.

 Together, VILTD and the subsidiaries it thereafter created to license, contract, distribute and manufacture VASP equipment overseas became known as Verson International ("VIL"). T. S. Kelleher was appointed managing director of each VIL company, including VILTD. Allied denies VIL's claim that it, VIL, thereafter acted as VASP/Littell's exclusive agent and distributor outside the United States and Canada.

 After VASP acquired Littell on December 1, 1980, VIL saw opportunities for the manufacture and marketing of Littell products overseas. Its efforts in this regard included submissions to the Belgian government in an attempt to begin European production. In 1982 and 1983 VIL obtained two orders for a Littell decoiler from Ford U.K. Production of those orders took place at Verson Europa's plant in Belgium using Littell know-how. According to VIL, this effort was a financial failure because of equipment inefficiencies and a lack of engineering expertise. VIL also contends a decision was then made to halt further efforts to manufacture Littell products until investment in the necessary plant, equipment and manpower was possible.

 In 1983-84, after it had acquired the outstanding capital stock of F.J. Littell, VASP's financial condition worsened. These problems reached an apex in mid-1984 when the Continental Illinois Bank, VASP's principal banker, went through its own financial crises and was unwilling to lend additional funds to VASP.

 In the summer of 1984 VASP, and a group comprised of its international managers, agreed to a buyout of VIL ("management buyout" or "MBO"). The purchase price of $ 2,859,000 was derived from the firm's book value and represented approximately $ 1.5 million over the liquidation value. The MBO was approved in principal by the VASP board of directors at their September 10, 1984 meeting and formally approved on December 10, 1984. The deal was closed on March 8, 1985.

 The MBO consisted of 23 separate contracts, the most important of which for these purposes are arrangements specifying restrictions controlling the operations of the resulting entities -- the management-owned VIL and the now smaller VASP. Four contracts are particularly relevant: the VASP/VIL License Agreement, the VASP/VIL Marketing Agreement, the VIL/VASP License Agreement, and the VIL/VASP Marketing Agreement. Those contracts, inter alia, ensured that the management-owned VIL retained the former VIL's rights respecting VASP's patents and know-how. The VASP/VIL Marketing Agreement provides:

 
3.01
 
On the tenth day of each month during the term of this License Agreement, except after notice of termination is given, Verson shall provide Licensee with such know-how and other technical data, drawings and information as has been developed, utilized, produced or completed during the previous month as will enable Licensee, using competent personnel, to prepare appropriate technical quotations and to calculate the prices for the sale of Equipment, and as will enable Licensee, using competent personnel, equipment, processes and material, to Manufacture Equipment. The documentation to be delivered under this Section 3.01 shall include but not be limited to the following: Profit planners of equipment sold by Verson, cost estimates and quotations for Equipment quoted by Verson, and for which Licensee is asked to quote to Verson, Production and change orders, complete engineering drawings and calculations and modifications if applicable, complete manufacturing drawings and modifications if applicable . . . .

 The reciprocal contract, the VIL/VASP Marketing Agreement, guarantees VASP similar access to VIL technology, predominantly improvements in VASP know-how. Both License Agreements define terms such as "Equipment," "Know-How" and "Improvements" in Article One at 1.0., 1.03 and 1.05, respectively.

 The geographic divisions gave each company a right of first refusal: VIL was permitted to do business in the United States and Canada (VASP's exclusive territory) and VASP was permitted to operate outside that region (VIL's exclusive territory), but only after the other party was given the option to manufacture and sell. Section 3.01 of the VASP/VIL Licensing Agreement gives VIL "the exclusive right and license to Manufacture, use and sell the Equipment in the Territory which is covered by the Patents and/or by utilizing the Know-How." And the comparable Section of the VIL/VASP Licensing Agreement provides VASP with the same. Only the definition of "Territory" changes: in the VASP/VIL Marketing and Licensing Agreements as "all nations, countries and states of the world, except the United States of America and Canada," §§ 1.02 and 1.07, respectively, and in the VIL/VASP agreements as "the United States and Canada."§§ 1.02 (Marketing Agreement) and 1.07 (Licensing Agreement). Put another way, outside the United States and Canada, VIL may either procure orders for its own account by fabricating the equipment in its own facilities, or it may refer the business to VASP. Under the second alternative, VIL acts as VASP's agent and receives a commission if VASP secures the order. *fn4"

 In July 1985 Melvin Verson, then VASP's chairman and chief executive officer, referred an order from the A. G. Simpson Company of Scarbrough, Canada ("Simpson"), to VIL. Acting as VIL's agent, VASP subsequently negotiated an agreement in VIL's name to produce three 1600-ton presses. The contract was executed on August 13, 1985. Nine months later, in April 1986, VIL again secured an order from the same firm, this time for six 900-ton presses. Both sides dispute the degree to which VASP assisted in this purchase.

 When Simpson expressed a desire to purchase an additional five 900-ton machines, VASP invoked its rights under the contracts signed pursuant to the MBO. The president of VASP, a Mr. German, asserted his company's exclusive rights to orders supplied within the United States and argued that VASP should therefore be permitted to fill the Simpson order. Simpson's purchase was effected through VASP for approximately $ 3,485,000.

 In the period since the MBO, VIL has conducted significant operations outside the United States and Canada. It has expended considerable sums -- including the cost of maintaining sales offices and employing third party agents worldwide -- to further the sales and licensing of VIL/VASP/Littell products, including scroll sheeting lines.

 In May 1986 Allied acquired all the assets of VASP, and thereby Littell. Pursuant to the Asset Acquisition Agreement, Allied expressly assumed all the obligations and liabilities of the acquired firms. Allied has submitted a listing of prospective scroll sheeting line business in VIL's territory, consisting of 21 orders in 14 countries. VIL, in turn, has compiled a list of its quotes in those countries in the period 1980-1985. No. of Value of Country Quotes Quotes (000) Argentina 20 7,094 Belgium 52 12,599 Brazil 48 25,004 Indonesia 36 25,541 Italy 36 39,279 Korea 32 33,265 Malaysia 12 1,361 Netherlands 32 20,530 Poland 38 19,482 Singapore 28 18,829 Spain 26 15,931 Taiwan 43 39,926 Thailand 8 1,958 United Kingdom 755 297,307

 PROCEDURAL HISTORY

 Certain disputes developed with respect to the restrictions adopted incident to the MBO, though the parties disagree as to exactly what precipitated this lawsuit. Be that as it may, VIL filed suit on June 15, 1987, alleging, inter alia, Allied's failure to adhere to its contractual obligations under the agreements negotiated incident to the MBO. A preliminary injunction hearing was held over several days in July 1987, in which VIL sought the immediate transfer of various know-how pertaining to the transmat press technology at issue in count I. *fn5" Allied claimed the agreements violated both The Treaty of Rome -- which governs corporate affairs within the European Economic Community ("EEC") -- and also the antitrust laws of the United States. This court's order of July 16, 1987, granted the preliminary injunction and required Allied to transfer the transmat press technology to VIL.

 Allied took its Treaty of Rome concerns directly to the Commission of the European Communities (the "Commission"), the body which enforces the rules and regulations of the EEC. In April 1987 Allied "notified" the Agreements to the Commission and on October 19, 1987 submitted a complaint and application pursuant to Article 3(2) of Council Regulation No. 17/62, alleging that the Agreements violated Article 85(1) of the Treaty of Rome. *fn6" VIL contended the restrictions at issue were not only consistent with 85(1) but also fell within the EEC's antitrust exemption under Article 85(3). Pursuant to Article 6 of Commission Regulation No. 99/63 a letter was issued on November 24, 1988 (the EEC letter), describing why there were insufficient grounds for granting the application. Allied was given six additional weeks, or until approximately January 10, 1989, to submit "any further comments."

 While the case was pending before the Commission we considered another preliminary injunction motion. Throughout March the parties submitted materials pertaining to Allied's purportedly illegal refusal to transfer Littell's scroll sheeting technology to VIL. A hearing was held at the end of the month and, after receiving post-hearing memoranda, this court granted the preliminary injunction on August 12, 1988 and ordered the technology there at issue transferred.

 We now consider the territorial restrictions adopted at the time of the MBO. VIL contends Allied/Littell has marketed its scroll sheeting lines to overseas customers in VIL's exclusive territory and it therefore seeks over $ 3.4 million in damages pursuant to count V alone. Allied submits that those provisions are unenforceable as a matter of law. We agree in part and disagree in part.

 DISCUSSION

 I. Legal Standards

 A. Federal Antitrust Legislation

 By its terms, Section 1 of the Sherman Act literally prohibits "every contract . . . in restraint of trade or commerce among the several States, or with foreign nations. . . ." But elementary principles of antitrust law make clear that § 1 outlaws only certain contractual arrangements. "Read literally, § 1 would outlaw the entire body of private contract law. Yet it is that body of law that established the enforceability of commercial agreements and enables competitive markets -- indeed, a competitive economy -- to function effectively." National Society of Professional Engineers v. United States, 435 U.S. 679, 688, 55 L. Ed. 2d 637, 98 S. Ct. 1355 (1978). Section 1 consequently is understood to prohibit only unreasonable restraints of trade. See Board of Trade of City of Chicago v. United States, 246 U.S. 231, 238, 62 L. Ed. 683, 38 S. Ct. 242 (1918).

 Scrutiny under the antitrust laws takes two separate paths. First, certain activity is so predominantly anticompetitive to be considered per se illegal. When "the practice facially appears to be one that would always or almost always tend to restrict competition and decrease output," courts invoke the per se rule. Broadcast Music, Inc. v. Columbia Broadcasting System, Inc., 441 U.S. 1, 19-20, 60 L. Ed. 2d 1, 99 S. Ct. 1551 (1979). In such circumstances, any pro-competitive rationale that may arguably justify the restraint is not evaluated. Because the court does not look at the totality of circumstances surrounding the restraint, the per se analysis, which bypasses the comprehensive scrutiny contemplated by the rule of reason, can therefore be viewed as a "truncated rule of reason analysis applicable to those restraints 'which because of their pernicious effect on competition and lack of any redeeming virtue are conclusively presumed to be unreasonable and therefore illegal without elaborate inquiry as to the precise harm they have caused or the business excuse for their use.'" Lektro-Vend Corporation v. Vendo Co., 660 F.2d 255, 265 (7th Cir. 1981), cert. denied, 455 U.S. 921, 71 L. Ed. 2d 461, 102 S. Ct. 1277 (1982) (quoting Northern Pacific Railway Co. v. United States, 356 U.S. 1, 5, 2 L. Ed. 2d 545, 78 S. Ct. 514 (1958)).

 Treatment under the per se standard, however, is more the exception than the rule. Unless the challenged activity falls within one of relatively few categories, such as horizontal price-fixing, the conduct at issue is scrutinized under the rule of reason. Continental T.V., Inc. v. GTE Sylvania, Inc., 433 U.S. 36, 49-50, 53 L. Ed. 2d 568, 97 S. Ct. 2549 (1977). Put succinctly, the trier of fact determines "whether under all the circumstances of the case the restrictive practice imposes an unreasonable restraint on competition." Arizona v. Maricopa County Medical Society, 457 U.S. 332, 343, 73 L. Ed. 2d 48, 102 S. Ct. 2466 (1982). Justice Brandeis' seminal pronouncement summarizes the inquiry:

 
The true test of legality is whether the restraint imposed is such as merely regulates and perhaps thereby promotes competition or whether it is such as may suppress or even destroy competition. To determine that question the court must ordinarily consider the facts peculiar to the business to which the restraint is applied; its condition before and after the restraint was imposed; the nature of the restraint and its effect, actual or probable. The history of the restraint, the evil believed to exist, the reason for adopting the particular remedy, the purpose or end sought to be attained, are all relevant facts. This is not because a good intention will save an otherwise objectionable regulation or the reverse; but because knowledge of intent may help the court to interpret facts and to predict consequences.

 Board of Trade, 246 U.S. at 238.

 Non-competition agreements do not fall within the category of restraints for which evaluation under the per se rule would be appropriate. Quite simply, "legitimate reasons exist to uphold noncompetition covenants even though by nature they necessarily restrain trade to some degree. The recognized benefits of reasonably enforced noncompetition covenants are by now beyond question." Lektro-Vend, 660 F.2d 255, 265. Such agreements often encourage what Judge Bork has called "desirable transfers of property":

 
The most valuable asset of a business might be the good will of the public toward its owner. Should he wish to sell the business the owner could not get a price reflecting the asset of good will or the true going concern value of his business unless he could promise the purchaser not to return to compete with the business sold.

 Bork, Ancillary Restraints & the Sherman Act, 15 ABA Section of Antitrust Law Proceedings, 211, 213 (1959), quoted in Lektro-Vend, 660 F.2d at 265 n. 12.

 Recognizing the legitimacy of some covenants not to compete, however, does not mean that all must be tolerated. A court must first determine that the legitimate reasons behind the restraint as to survive the rule of reason. The Seventh Circuit has outlined our inquiry:

 
Covenants not to compete are valid if (1) ancillary to the main business purpose of a lawful contract, and (2) necessary to protect the covenantee's legitimate property interests, which require that the covenants be as limited as is reasonable to protect the covenantee's interests.

 Lektro-Vend, 660 F.2d at 265, (invoking United States v. Addyston Pipe & Steel Co., 85 F. 271, 281-82 (6th Cir.), aff'd as modified, 175 U.S. 211, 20 S. Ct. 96, 44 L. Ed. 136 (1899)).

 B. Illinois Antitrust Legislation/Common Law7

 Illinois courts have reviewed non-competition restrictions under criteria similar to the second prong of the Lektro-Vend test, but somewhat more expansive, requiring that the covenants at issue must be as limited as is reasonable to protect the covenantee's interests:

 
It is an accepted principle that the enforceability of a restrictive covenant "in restraint of competition is conditioned upon its reasonableness in terms of its effect upon the parties to the contract and the public."

 Boyar-Schultz Corp. v. Tomasek, 94 Ill. App. 3d 320, 322-23, 418 N.E.2d 911, 913, 49 Ill. Dec. 891, 893 (1st Dist. 1981) (quoting House of Vision, Inc. v. Hiyane, 37 Ill. 2d 32, 37, 225 N.E.2d 21, 24 (1967)). They have enunciated a three-part test of "reasonableness": the restraint must be (1) necessary in its full extent for the protection of the buyer; (2) simultaneously not oppressive to the seller; and (3) not injurious to the public interest. See, e.g., Boyar-Schultz, 94 Ill.App.3d at 323, 418 N.E.2d at 913, 49 Ill.Dec. at 893 (citations omitted); see also O'Sullivan v. Conrad, 44 Ill. App. 3d 752, 756, 358 N.E.2d 926, 3 Ill. Dec. 383 (1976); McCook Window Co. v. Hardwood Door Corp., 52 Ill. App. 2d 278, 287, 202 N.E.2d 36, 41 (1st Dist. 1964). We decide these state law questions now, before trial, because the determination of "whether the contract under consideration is reasonable or contrary to public policy is a question of law." Barrington Trucking Co. v. Casey, 117 Ill. App. 2d 151, 156, 253 N.E.2d 36, 38, leave to appeal denied, 42 Ill. 2d 586, 248 N.E.2d 661 (1969).

 While the federal and state standards differ in some respects, they both look to the reasonable protection of legitimate business interests and we therefore discuss them together. VIL contends that the restrictions on VASP are ancillary both to covenant sufficiently outweigh the anticompetitive features of a legitimate business sale and to a license of know-how. We consider each of those ...


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