In re Hughes

• Citation: 166 BR 103
• Decision Date: 30 March 1994
• Docket Number: Bankruptcy No. 93-32657.
• Parties: In re Barry G. HUGHES, Debtor.
• Court: United States Bankruptcy Courts. Sixth Circuit. U.S. Bankruptcy Court — Southern District of Ohio

166 B.R. 103 (1994)

In re Barry G. HUGHES, Debtor.

Bankruptcy No. 93-32657.

United States Bankruptcy Court, S.D. Ohio, W.D.

March 30, 1994.

Jeffrey P. Albert, Dayton, OH, for debtor.

Dawn S. Garrett, Dayton, OH, for movant.

George W. Ledford, Englewood, Ohio, Chapter 13 Trustee.

DECISION AND ORDER GRANTING MOTION OF MENDELSON ELECTRONICS COMPANY, INC., TO MODIFY AUTOMATIC STAY OF 11 U.S.C. § 362(a)

WILLIAM A. CLARK, Bankruptcy Judge.

Before the court is a "Motion for Relief from Automatic Stay" (Doc. # 10) filed by Mendelson Electronics Company, Inc. The court has jurisdiction pursuant to 28 U.S.C. § 1334 and the standing order of reference entered in this district. This matter is a core proceeding under 28 U.S.C. § 157(b)(2)(G) — motions to terminate, annul, or modify the automatic stay.

FACTS

On July 10, 1989, Barry G. Hughes ("Debtor") entered into an "Employment and Non-Disclosure Agreement" with Mendelson Electronics Company, Inc. ("Movant") whereby Debtor became employed by Movant as a Sales Manager for a base salary of $50,000 per year. The contract provided that the Debtor's employment could be terminated upon 14 days written notice by either party. Regardless of the manner of termination, the contract provided that Section 6 of the contract ("Confidentiality") and Section 7 ("Covenant Not to Compete") "remain in full force and effect." Section 7 reads, in part, as follows:

The Employer and Employee agree that the foregoing restrictions shall apply for a period of ten (10) years from the date of termination of the employee\'s employment with Employer for any reason and shall be effective throughout the United States of America, it being recognized by Employer and Employee that the business of Employer is nationwide both in terms of purchase and sale of surplus electronics as previously described.

Debtor submitted a written "Notice of Termination" to the Movant on June 8, 1993, and resigned as Movant's Sales Manager. On July 20, 1993, Debtor filed a petition in bankruptcy pursuant to chapter 13 of the Bankruptcy Code.

Movant has moved the court to modify the automatic stay of § 362(a) of the Bankruptcy Code so that Movant may "seek injunctive relief in State Court against the Debtor ... in relation to the non-disclosure and noncompete contract with the debtor" (Doc. # 10).

CONCLUSIONS OF LAW

Debtor contends that the non-competition agreement is an executory contract, that he is rejecting such contract, and therefore Movant should merely be treated as a prepetition creditor with a disputed and unliquidated claim. Although § 365 of the Bankruptcy Code permits rejection of executory contracts, the Bankruptcy Code does not define "executory contract." Bankruptcy Courts, however, have frequently utilized a definition formulated by Professor Vern Countryman, who defines an executory contract as:

A contract under which the obligation of both the bankrupt and the other party to the contract are so far unperformed that the failure of either to complete performance would constitute a material breach excusing the performance of the other. Countryman, Executory Contracts in Bankruptcy, Part I, 57 Minn.L.Rev. 439, 460 (1973).

For § 365 to be applicable, there must, of course, be a contract in existence. If a contract has been terminated prior to the commencement of the bankruptcy case, then there is no contract for a trustee or debtor to reject. 2 Collier on Bankruptcy § 365.02 (15th ed. 1993). Here, Debtor terminated his employment relationship with Movant prior to filing bankruptcy. As a result, the contract is not executory in the sense of Professor Countryman's definition and is, thus, not subject to rejection under § 365. Matter of Howard Industries, Inc., 56 B.R. 5, 6 (Bankr. N.J.1985). Although questions remain as to whether the noncompetition covenant is enforceable or whether Movant is entitled to damages, the contract was otherwise at an end prior to the filing of Debtor's petition in bankruptcy:

That Debtor remains subject to the terms of the restrictive covenant (assuming its enforceability under state law) does not make the contract executory within the meaning or intent of § 365 of the Bankruptcy Code. In re Hawes, 73 B.R. 584, 586 (Bankr.E.D.Wisc.1987).

It has also been found that for purposes of determining whether to modify the automatic stay it is of no consequence whether a contract is classified as executory or not. This is because rejection of a contract does not rescind a contract or the obligations found therein (e.g., a restrictive covenant):

Rather, rejection constitutes nothing more than a prepetition breach of the contract. As another bankruptcy court recently reasoned:

Consistent with the bankruptcy law\'s general deference to state-law rights in or to specific property, rejection of a contract does not terminate such rights that arise from rejected contracts. Rejection is not itself an avoiding power. Rights in property that arise from a contract may, however, be terminated by bankruptcy law\'s normal avoiding powers.

In re Drexel Burnham Lambert Group, Inc., 138 B.R. 687, 709 (Bankr.S.D.N.Y. 1992), quoting Andrew, Executory Contracts Revisited; A Reply to Professor Westbrook, 62 U.Colo.Rev. 1, 17 (1991).

Therefore, ... regardless of whether the contract is executory and could be rejected by Debtor, the case turns on whether Debtor\'s potential Chapter 13 discharge would encompass the restrictive covenant\'s obligation, since rejection does not destroy the contract obligations. Udell v. The Standard Carpetland USA, Inc. (In re Udell), 149 B.R. 908, 911 (N.D.Ind.1993).

The central issue, then, is whether a covenant not to compete is a "debt" subject to discharge in the Debtor's chapter 13 plan. Generally, after a chapter 13 debtor completes all plan payments, ...