Ferrofluidics Corp. v. Advanced Vacuum Components, Inc.

• Decision Date: 05 June 1992
• Docket Number: No. 92-1594,92-1594
• Citation: 968 F.2d 1463
• Parties: , 7 IER Cases 1124 FERROFLUIDICS CORPORATION, Plaintiff, Appellee, v. ADVANCED VACUUM COMPONENTS, INC., et als., Defendants, Appellants. . Heard
• Court: U.S. Court of Appeals — First Circuit

Page 1463

968 F.2d 1463

23 Fed.R.Serv.3d 481, 7 IER Cases 1124

FERROFLUIDICS CORPORATION, Plaintiff, Appellee, v. ADVANCED VACUUM COMPONENTS, INC., et als., Defendants, Appellants.

No. 92-1594.

United States Court of Appeals First Circuit.

Heard June 5, 1992.

Decided Aug. 6, 1992.

Edward W. Smithers, San Jose, Cal., with whom Merrill & Broderick, Manchester, N.H., and Gibson, Dunn & Crutcher, San Jose, Cal., were on brief, for defendants, appellants.

E. Donald Dufresne, with whom George R. Moore and Devine, Millimet & Branch, Manchester, N.H., were on brief, for plaintiff, appellee.

Before CYR, Circuit Judge, RONEY, ^* Senior Circuit Judge, and PIERAS, ^** District Judge.

CYR, Circuit Judge.

Plaintiff Ferrofluidics Corporation (Ferro) is a Massachusetts corporation which has its principal place of business in New Hampshire. Ferro developed, and now makes and markets, an item called a magnetic fluid rotary seal for use in the manufacture of semiconductor chips. The magnetic fluid rotary seal is a state-of-the-art gadget, and Ferro invests upwards of a million dollars a year to refine the technology and diversify its applications. Ferro dominates the American market, accounting for about ninety-five percent of the magnetic fluid rotary seals sold in the United States.

At one time, Nippon Ferrofluidics Corporation (NFC) was Ferro's Japanese subsidiary. In 1987, Ferro sold NFC to Japanese investors. Akira Yamamura is NFC's chief executive officer. Ferro gave NFC a license to manufacture and sell its magnetic fluid rotary seals, and has since delivered to NFC updated product formulas. The license appears to limit NFC's territory to Japan and Asia. NFC, however, has disputed that territorial restriction and evidenced a desire to sell in the United States.

Ferro hired defendant Todd Sickles in December 1985 as a product manager in its "Seals Division," which handled the manufacture and marketing of magnetic fluid rotary seals. On his first day at work, Sickles signed a document that contained both a nondisclosure agreement and a covenant prohibiting him from competing with Ferro for five years after he left the company's employ (the "restrictive covenant" or the "covenant not to compete"). According to the document, both the nondisclosure provision and the restrictive covenant were to "be governed by the laws of Massachusetts," and the parties were to submit any disputes for arbitration in Boston.

Sickles prospered in his work, and Ferro eventually promoted him to general manager of the Seals Division. By 1990, however, Ferro was suffering, along with much of the New England high-tech industry, from a downturn in the economy. The company had laid off employees and cut back salaries and other benefits. Morale was low, and many employees were looking for work elsewhere. Sickles was among them. His duties as general manager included maintenance of corporate relations with NFC, and on two occasions he had been told by representatives of the Japanese company that if he ever decided to leave Ferro and wanted another job, he should get in touch with them.

Now, in 1990, Sickles took up the offer, although he had not yet left Ferro's employ. He met with Akira Yamamura, and with Yamamura's lieutenant, Dr. Goto, and began to work out a plan under which he would set up a company to market magnetic fluid rotary seals in the United States. NFC would provide both the financing and the seals--seals manufactured, it should be noted, according to the formulas supplied to NFC by Ferro itself. In other words, Sickles intended not merely to compete with his soon-to-be-former employer, but to compete with it using its own product.

Sickles did not scheme alone. At one time or another, four other Ferro employees were members of the cabal: Timothy Barton, the Northeast Regional Sales Manager of the Seals Division; defendant Perry Barker, Regional Sales Manager for the Southeast, Southwest and Rocky Mountain regions; Mark Granoff, Product Manager of the Seals Division; and Robert Kuster, then manager of Ferro's customer service department. At length, however, Granoff, afflicted by his conscience, dropped out of the group and quit his job at Ferro; Sickles rescinded the invitations to Barton and Kuster; and only Sickles and Perry Barker remained.

The planning was marked by a number of underhanded tactics. A few examples will illustrate. Sickles did much of the groundwork for the new venture on Ferro's company time using company resources, including business trips to California and Japan at Ferro's expense. In deciding where to trim his department's payroll during a second round of layoffs, Sickles spared Barton, Barker and Granoff and let the axe fall on two employees who had shown no interest in leaving Ferro and who Sickles's machinations also reflect his awareness of the covenant not to compete and his concern that it might interfere with his ambitions. He received advice from lawyers on several occasions, some of which he in turn related to NFC, including the nugget that "[l]egal complications will be greatly reduced by incorporating [the new venture] in California since this state strongly protects the entrepreneur and, in general, does not recognize non-compete agreements...." Not surprisingly, then, when the new venture finally took shape in April 1991 as Advanced Vacuum Components, Inc. (AVC), it was incorporated and headquartered in California. Sickles owned 75% of the voting stock in AVC; Barker the remaining 25%.

                were not involved in the new venture.   Finally, the district court found, and we have no reason to doubt, that when Sickles left Ferro he carried with him two copies of the company's customer list
                

Advanced Vacuum Components dwells in NFC's shadow, though there is no direct link between the companies. AVC obtains its magnetic fluid rotary seals from NFC through a second Japanese company, Advanced Vacuum Seals. A Hong Kong firm called Advanced Materials Research Limited, termed a "front" for NFC by the district court, is AVC's source of financing. It has paid AVC's legal fees and provided it with several hundred thousand dollars in financing; in return, Advanced Materials Research Limited receives 70% of AVC's operating income and owns preferred stock which it can convert into a controlling percentage of voting stock were AVC to go public.

Sickles and Barker quit Ferro in late May 1991 and AVC began operating soon after. Between May 1991 and the trial of this case in April 1992, AVC sold only about $34,000 worth of magnetic fluid rotary seals, a minuscule amount compared with Ferro's $7,400,000 in rotary seal sales during 1991. The district court found, however, that "AVC is a definite threat to Ferrofluidics," noting that AVC eventually expects to capture 54% of a market in which Ferro currently enjoys a 95% share.

Under the circumstances, litigation probably was inevitable. Ignoring the arbitration clause in the document containing the restrictive covenant, both sides filed lawsuits. Seemingly, AVC and Sickles won the race to the courthouse, by filing a declaratory judgment action in the United States District Court for the Northern District of California in November 1991. The complaint requested a judicial declaration invalidating the restrictive covenant under California law.

After initiating the California declaratory judgment action, however, AVC and Sickles hung fire. They did not serve the complaint on Ferro until after Ferro had filed the instant lawsuit in the United States District Court for the District of New Hampshire. Ferro's complaint, naming AVC, Sickles, Barker and Akira Yamamura as defendants, contained six counts: (1) misappropriation of trade secrets by Sickles and Barker, (2) breach of Sickles's nondisclosure agreement and covenant not to compete, (3) breach of Sickles's and Barker's fiduciary duties to Ferro, (4) false representations to Ferro customers in violation of the Lanham Act, 15 U.S.C. § 1125(a), (5) unfair competition, and (6) tortious interference, by Yamamura and AVC, with Ferro's employment contracts with Sickles and Barker, and by Yamamura, AVC, Sickles and Barker, with the employment contracts of Barton, Kuster and Granoff.

The district court heard Ferro's motion for a preliminary injunction on March 16, 1992. Rather than rule on the motion, the court set trial for March 25. As service of process could not be obtained on Yamamura during the short interval prior to trial, he was dropped as a defendant. At the same time, the defendants moved to dismiss under Fed.R.Civ.P. 19 for failure to join an indispensable party (identified not as Yamamura but as NFC).

The trial began on March 25 and lasted five days. On April 22, the district court issued its findings of fact and conclusions of law. Briefly put, the court ruled (1) that NFC was not an indispensable party under Rule 19, (2) that the enforceability of the restrictive covenant should be determined

                under New Hampshire law, rather than either Massachusetts law, as specified in the document, or California law, as urged by the defendants, (3) that the five-year term of the covenant was excessive, but that the covenant should be enforced for a three-year term, (4) that Sickles had violated the covenant, and (5) that both Sickles and Barker had violated their fiduciary duties to Ferro.   The court granted Ferro no relief on its other claims, but issued a permanent injunction prohibiting the defendants from engaging in the magnetic fluid rotary seal business until June 1994, 789 F.Supp. 1201 (D.N.H.1992).   This appeal followed;  we expedited the hearing, and now affirm
                

DISCUSSION

The defendants assert three claims on appeal: first, that the district court erred when it decided to apply New Hampshire law; second, that it erroneously modified the term of the restrictive covenant; and third, that it abused its discretion by denying defendants' motion to dismiss for failure to join an indispensable party.

1. Choice...