Antitrust Law Daily Wrap Up, ANTITRUST—TexCtApp: Public’s Interest in Access to Cardiology Services Invalidates Cardiologists’ Agreement Not to Compete in Texas City, (Feb 7, 2013)

By Tobias J. Gillett, J.D., LLM.

A cardiologist’s agreement not to practice medicine in the Nagodoches, Texas, area after leaving employment with a clinic in the city was unenforceable because the covenant was too broad and because the public’s interest in access to cardiology services outweighed the public’s interest in freedom of contract and the clinic’s business interests, a Texas Court of Appeals has ruled (Nagodoches Heart Clinic, P.A. v. Pokala, February 6, 2013, Hoyle, B.). In addition, an agreement under which the cardiologist would give up his right to compensation for shares in the clinic if he did not resign from hospitals where he worked for the clinic amounted to a covenant not to compete, and was unenforceable for the same public policy reasons.

Nacogdoches Heart Clinic (NHC) opened in 1984, and added an additional cardiologist in 1989. With the new cardiologist, NHC opened a catheterization laboratory called East Texas Cardiovascular Labs, L.L.C. with the new cardiologist as 35% owner. The new cardiologist later paid $1,050,000 to acquire a 45% stake in NHC.

In 2006, the doctor who owned the remaining 55% of NHC had a dispute with the new cardiologist, and the cardiologist left to open a competing catheterization laboratory. The 55% owner of NHC brought suit, alleging, among other claims, that the cardiologist’s actions violated a covenant not to compete in the cardiologist’s employment agreement and that, pursuant to a buy-sell agreement, the cardiologist’s shares in NHC were cancelled and had no value.

The trial court concluded that the covenant not to compete was unenforceable, but that NHC only had to pay $100 to cancel all of the cardiologist’s shares and did not have to repurchase them.

Covenant not to compete. On appeal, NHC contended that the trial court had erred in concluding that NHC could not receive liquidated damages for the cardiologist’s alleged breach of the covenant not to compete because the trial court inappropriately considered a public interest not within the statutory framework, “impermissibly stacked inferences” regarding that interest, and did not consider the public’s interest in freedom of contract.

The court upheld the trial court’s decision, concluding that the covenant not to compete impinged on the public’s interest in having adequate access to cardiac care in the Nacogdoches area. In the court’s view, the covenant was overbroad, in that it prevented the cardiologist from practicing any medicine within ten miles of Nagodoches, not merely the cardiology and internal medicine that he practiced at NHC. Since this prohibition went beyond that necessary to protect NHC’s business interests, the covenant was overbroad, and thus did not comply with Texas law.

Moreover, even though Texas statute did not include the public interest as a factor for determining the validity of a covenant not to compete, the court appropriately considered it in striking down the covenant here. The statute was merely a codification of the rule of reason, of which the public interest is a factor, and the employment agreement was governed by contract law, in which the public interest “is a valid consideration when determining the enforceability of a contract,” according to the court.

Although the public also had an interest in freedom of contract, that interest was “not unbounded.” Texas law prohibited contracts in restraint of trade, and those were therefore “against public policy.” The court concluded that the trial court had “implicit[ly]” considered the public’s interest in freedom of contract and the benefits of physician noncompete agreements, and had appropriately balanced the interests at stake in its ruling.

Furthermore, the trial court had not based its decision “on mere suspicion and surmise” regarding the public interest, and the trial court’s conclusion that “for one doctor to be taken out of the equation hurts the medical care of the people” in Nagodoches was “based on the evidence.” The cardiologist was one of three cardiologists in Nagodoches, his catheterization laboratory was one of four available in the city, and he saw many indigent and emergency patients in his internal medicine practice.

Moreover, the hospital administrator of the Nagodoches Hospital District testified that the cardiologist “leaving would have destabilized the availability of cardiovascular care in Nagodoches County, and certainly the coverage of the emergency room.” Testimony suggested that the hospital district had considered intervening in the case “due to its concern for the continuity of care of [the cardiologist’s] patients.” Finally, if NHC did not want to bear the costs of the cardiologist’s competition, “it was incumbent on it to draft a covenant that did not violate public policy.”

In addition, the liquidated damages provision was calculated as the amount NHC paid to the cardiologist each month, not the amount of its actual damages. The amount was due only if the cardiologist breached the covenant, and the damages could not “be predicated upon the breach of an unenforceable noncompetition agreement.” Moreover, since the amount the cardiologist would have to pay was not based on NHC’s actual damages, it constituted an unenforceable penalty. Therefore, the cardiologist did not have to pay NHC liquidated damages.

Buy-sell agreement. The court also addressed the buy-sell agreement, concluding that the trial court had erred in refusing to grant a directed verdict to the cardiologist on NHC’s claim that he was not entitled to recover the value of his shares. The trial court had determined that the cardiologist had not satisfied a condition precedent in the agreement requiring him to resign from the medical staff of all hospitals where he provided services as an employee of NHC.

The court overturned this decision, concluding that, although the cardiologist did not satisfy the condition precedent, the agreement amounted to a covenant not to compete. The court declined to follow Texas appellate case law concluding that a clause providing that an employee would lose all interest in a profit sharing pension plan if he became a competitor, and a contractual condition that an employee had to refrain from competition in order to receive commissions on renewal premiums, were valid agreements. Instead, the court followed a separate line of Texas appellate case law concluding that such a forfeiture clause is “no different from a covenant by which the employee agrees not to become employed by a rival company and to pay a penalty for doing so.”

As a covenant not to compete, the agreement had to meet the reasonableness requirements of such covenants, in the court’s view. The court noted that a cardiologist must have staff privileges at any hospital where he practices in order to practice medicine. Since the agreement would prevent the cardiologist from seeing patients at Nagodoches hospitals, the covenant raised the same public policy concerns as the covenant not to compete in the employment agreement. Therefore, the buy-sell agreement amounted to an unenforceable covenant not to compete, and the cardiologist was entitled to payment for his shares.

The case is No. 12-11-00133-CV.

Attorneys: J. Mark Mann for Nacogdoches Heart Clinic, P.A. Darrin Walker for Vijay R. Pokala, M.D.

Companies: Nacogdoches Heart Clinic, P.A.; East Texas Cardiovascular Labs, LLC; Nacogdoches Cardiac Center

Cases: Antitrust TexasNews