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TMFS Holdings, LLC v. Capace

United States District Court, D. Kansas

February 7, 2017

TMFS HOLDINGS, LLC, FINANCIAL ENGINES ADVISORS, LLC, AND FINANCIAL ENGINES, INC., Plaintiffs,
v.
SCOTT M. CAPACE AND JOSEPH G. ZINSEL, Defendants.

          MEMORANDUM AND ORDER

          JULIE A. ROBINSON UNITED STATES DISTRICT JUDGE.

         Plaintiffs TMFS Holdings, LLC, Financial Engines Advisors, LLC, and Financial Engines, Inc. filed this action in Johnson County, Kansas District Court on January 31, 2017, alleging breach of contract and misappropriation of trade secrets under Kansas law by two former employees that resigned on January 25, 2017, Defendants Scott Capace and Joseph Zinsel. Plaintiffs filed a motion for temporary restraining order along with the Petition, and that motion was set for hearing in state court on February 2, 2017. But on February 2, Defendants removed the case on the basis of diversity jurisdiction.[1] This matter is before the Court on Plaintiffs' Motion for Temporary Restraining Order (Doc. 6), which was refiled after removal. The motion is fully briefed and the Court heard argument on February 6, 2016. The Court has considered the parties' submissions and their oral argument and is prepared to rule. For the reasons explained more fully below, the Court grants Plaintiffs' motion for a temporary restraining order.

         I. Background

         The following facts are alleged in the Petition and attachments thereto, or are contained in Capace's declaration, attached to Defendants' response. Plaintiff Financial Engines, Inc. operates a nationwide system of investment advisers, including a business formerly known as The Mutual Fund Store. The Mutual Fund Store was founded in 1996 in the Kansas City area, and eventually became part of TMFS Holdings, LLC, which Financial Engines acquired in February 2016. Plaintiffs refer to themselves, as well as “their direct and indirect subsidiaries, including Plaintiff FE Advisers” as “TMFS.” Defendants are former employees of Plaintiffs, who started their employment with TMFS in November 2011 and January 2012, respectively.[2]At the time of their resignations, Defendants held the title Senior Vice-President, Financial Planning. Defendants each entered into the same standard language employment agreement sent to them by TMFS. Capace's agreement is undated; Zinsel's agreement is dated January 11, 2012. By the end of 2016, Capace was managing approximately $87 million and Zinsel was managing approximately $50 million in Assets Under Management for TMFS. They collectively generated over $1 million in revenue for TMFS over the last two years of their employment.

         Defendants resigned on January 25, 2017, and started a new investment-advisory firm called Open Source Investments, LLC (“Open Source”). Plaintiffs allege that Defendants took customer lists and solicited at least two of TMFS's former clients in violation of restrictive covenants included in their identical employment agreements. Section 2 of the agreement prevents Defendants from using or disclosing TMFS's confidential information, and requires them to promptly return confidential and proprietary information at the end of their employment. Section 3 of the agreement prohibits Defendants from soliciting, diverting, or taking away TMFS's customers for one year after their date of resignation. It also prevents them from causing or attempting to cause TMFS customers to terminate or reduce their relationship with TMFS, and from soliciting TMFS employees to work for a competitor. The agreement provides for injunctive relief in the event of breach or threatened breaches of sections 2 or 3.

         Defendants' resignation letters, attached to the Petition, state: “In accordance with Broker Recruiting Protocol, I am taking a paper copy of my clients' names, addresses, phone numbers, and email addresses. Also in accordance with the Protocol I am leaving an exact copy of this information with the office.”[3] The Petition alleges that Capace told TMFS that he scrubbed his TMFS computer prior to leaving. Defendants started working for Open Source one week before they resigned. Open Source will provide independent wealth management services, the same types of services offered by TMFS. Defendants contacted their former clients by email, advising them that they left TMFS, that the clients are still enrolled with TMFS, and that they have formed a new company, which “can offer a better array of services and products best suited for our clients' investments needs through our own investment advisory firm.” They provided their new contact information at Open Source to these customers. At least two of TMFS's clients are in the process of switching their accounts to Open Source.

         Capace's declaration states he and Zinsel took hard copy lists of their own clients, as described in their resignation letters. Capace's declaration also states that, “on January 28, 2017, Joseph Zinsel and I returned all paper copies of the client list to Financial Engines/TMFS by Federal Express and destroyed the electronic copies of the list including any documents using information from the list.”[4]

         Defendants' employment agreement contains a forum selection clause in section 9, specifying that Kansas law will apply to disputes relating to the contract. The contracts were performed in whole or in part in Kansas. TMFS provided Defendants with administrative, regulatory, and customer-related support and information (including confidential, competitively-valuable information) from Kansas; Capace repeatedly traveled to Kansas in connection with his employment; TMFS provided Zinsel with training in Kansas; and Defendants allegedly took customer lists held in servers located in Kansas. Defendants live and work in Louisiana. They were recruited by TMFS in Louisiana and most of their clients are located in that state.

         II. Standard

         A TRO preserves the status quo and prevents immediate and irreparable harm until the court has an opportunity to pass upon the merits of a demand for preliminary injunction.[5] Where the parties have notice of and an opportunity to respond to a motion for TRO, courts generally apply the standards governing issuance of preliminary injunctions.[6] “A plaintiff seeking a preliminary injunction must establish that he is likely to succeed on the merits, that he is likely to suffer irreparable harm in the absence of preliminary relief, that the balance of equities tips in his favor, and that an injunction is in the public interest.”[7] This standard “requires plaintiffs seeking preliminary relief to demonstrate that irreparable injury is likely in the absence of an injunction.”[8] A relaxed standard applies if the movant can show that the harm and public interest factors “tip strongly in its favor.”[9] If the movant can make this showing, it can meet the likelihood of success on the merits prong “by showing that questions going to the merits are so serious, substantial, difficult, and doubtful as to make the issue ripe for litigation and deserving of more deliberate investigation.”[10]

         III. Discussion

         A. Irreparable Harm

         To constitute irreparable harm, the injury “must be both certain and great.”[11] It “is often suffered when ‘the injury can[not] be adequately atoned for in money, ' or when ‘the district court cannot remedy [the injury] following a final determination on the merits.'”[12] “Loss of customers, loss of goodwill, and threats to a business' viability have been found to constitute irreparable harm.”[13] On the other hand, wholly conclusory statements alone will not constitute irreparable harm.[14]

         Defendants argue that there is no indication of irreparable harm to Plaintiffs if this Court does not issue a temporary restraining order, and that Plaintiffs' claims are based on wholly conclusory statements. The Court disagrees. Plaintiffs allege that Defendants were managing tens of millions of dollars' worth of Assets Under Management for TMFS at the time of their resignations, and collectively generated over $1 million in revenue for TMFS. And case law from the Tenth Circuit explicitly acknowledges that loss of customers and goodwill may constitute irreparable harm. This is precisely the type of harm claimed by Plaintiffs, and for which the restrictive covenants in Defendants' employment agreements seek to protect. The Court easily finds that this is the type of damage that cannot be remedied after a final determination on the merits, or with damages. Indeed, the Tenth Circuit has recognized that “[o]ne such situation in which damages may not fully compensate a plaintiff is when the business at issue ‘is based on personal contacts and a knowledge of the special needs and requirements of customers, a fact which complicates any damage estimate.'”[15] The Court further finds that Plaintiffs' claims of harm are not merely conclusory-they submitted emails showing Defendants communicated with their former clients, and Defendants have admitted multiple times that they took with them their clients' names and contact information when they resigned. In fact, Defendants maintain that they were entitled to this information under industry standards. Plaintiffs have met their burden of demonstrating irreparable harm.

         B. Balance of Harms and Public Interest

         The Court must weigh the irreparable harm to Plaintiffs without the injunction against the harm to Defendants if the injunction issues. Defendants characterize their harm as “hardship that Defendants and their families would suffer if they are denied the protections afforded to Louisiana employees, and enjoined from working as financial advisors in the state and area where they have lived and worked their entire lives.”[16] But this mischaracterizes section 3 of the employment agreement. The restrictive covenant is a nonsolicitation clause; it does not prohibit Defendants from working as financial advisors in Louisiana. Sections 2 and 3 restrict the information Defendants could take with them when their employment ends, and prevents them from soliciting TMFS customers, or causing them to leave TMFS. Defendants are permitted to work as financial advisors so long as they develop new client relationships. Such hardship does not outweigh the irreparable harm to Plaintiffs without a TRO-a loss of goodwill that could not be compensated through monetary damages. The TRO freezes the status quo until the Court can determine whether Defendants' choice of law argument, and thus their entitlement to “the protections afforded to Louisiana employees, ” is dispositive without risking further loss of customers and goodwill to Plaintiffs.

         The Court also finds that the TRO is in the public interest. Generally, there is a public interest in upholding enforceable contracts.[17] Here, the Court determines that a TRO is an appropriate remedy to freeze the status quo by enforcing the parties' contracts based on the forum selection clause in those contracts. Indeed, the parties' contracts provide for injunctive relief in the event of a breach or a threatened breach. The Court finds that both the balance of harms and the public interest factors tip strongly in Plaintiffs' favor.

         C. Likelihood of Success on the Merits

         Because the Court finds that the balance of harms and public interest factors tip strongly in their favor, a relaxed standard applies to the likelihood of success on the merits prong of the TRO analysis. Plaintiffs base their request for injunctive relief on their breach of contract claim under Kansas law. Defendants only challenge to whether Plaintiffs are likely to succeed on the merits of this claim is that the choice of law provision in section 9 of the agreement is unenforceable. “[A] federal court sitting in diversity must apply the substantive law of the state in which it sits, including the forum state's choice-of-law rules.”[18] Both parties invite the Court to consider the Kansas Supreme Court's decision in Brenner v. Oppenheimer & Co.[19] In that case, the court was called upon to consider whether a choice of law provision specifying that New York law would govern standard form client agreements for certain brokerage accounts is enforceable given Kansas's strong public policy favoring securities regulation.[20] As a threshold matter, the court discussed the constitutional limitations on choice of law questions, recognizing that choice of law must not be “arbitrary nor fundamentally unfair, ” and thus, Kansas must have “significant contact or significant aggregation of contacts.”[21] The court found sufficient minimum contacts with the State of Kansas to satisfy that constitutional inquiry.[22]

         Next, the court determined that there was an actual conflict between New York and Kansas securities law requiring it to determine which law should govern the dispute.[23] The court recited the general rule under Kansas law that a contractual choice of law provision controls.[24] A narrow exception applies to this general rule where enforcing a contractual choice of law provision “engenders a result contrary to public policy.”[25] The brokerage firm urged the court to apply the test used in Altrutech, Inc. v. Hooper Holmes, Inc., that “the enforceability of a contractual choice-of-law provision turns on whether the forum selected bears a reasonable relation to the contract at issue, ” which is found in the Restatement (Second) of Conflict of Laws.[26] But the Kansas Supreme Court declined, stating that Altrutech did not consider whether the public policy exception to Kansas choice of law rules applies. Brenner neither endorsed nor applied that test. Ultimately, the court determined that Kansas public policy strongly favors the regulation of securities transactions, and thus application of New York law, which does not allow redress for the sale of unregistered securities, would violate Kansas public policy.[27] The court found the forum selection clause invalid under the public policy exception.[28]

         Defendants in this case mistakenly focus on language in Brenner discussing the Altrutech reasonable relation standard and argue that this test determines whether a choice of law provision should be enforced under Kansas law. The Court acknowledges that the reasonable relation test has been recited and applied in several past opinions in this district.[29] But none of the cited cases invalidated a forum selection clause on these grounds, nor provide any analysis of a reasonable relation test under the Restatement (Second) Conflict of Laws.[30] The Court has reviewed the cases cited by the parties and agrees with Plaintiffs that this language appears to derive from a prior Kansas case construing the UCC.[31]

         The Court is satisfied at this juncture that Kansas has significant contacts with this dispute to satisfy due process. There is no question that The Mutual Fund Store was based in Kansas at the time Defendants entered into their employment agreements. Plaintiffs also allege that at least for a period, Defendants traveled to Kansas, received documents in Kansas, and reported to managers in Kansas. The computer servers that house Plaintiffs' customer data are located in Kansas. This is not a situation, as suggested by Defendants, where an employer specified the law of an entirely unconnected forum that favors restrictive covenants. And Defendants do not offer the Court authority to support their argument that the parties' past ties with Kansas have no bearing on constitutional significant contacts analysis; that if a party's contacts with a state dissipate over time, it can render a forum ...


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