39 Wn.2d 321, MANAGEMENT, INC., Appellant, v. ANNE SCHASSBERGER et al., Respondents
[No. 31602. Department One. Supreme Court September 6, 1951.]
MANAGEMENT, INC., Appellant, v. ANNE SCHASSBERGER et al.,
Respondents.«1»

[1] GOOD WILL - CONTRACTS NOT TO ENGAGE IN BUSINESS - ACTION FOR BREACH - EVIDENCE - SUFFICIENCY. In an action for breach of a covenant by the sellers of a laundry and dry cleaning business not to engage in such business for five years, the trial court properly dismissed the action as to one of the defendants, where the evidence only shows that she purchased certain real property and immediately leased it to third parties who operated a laundry and dry cleaning business thereon, there being no evidence that she had an interest in such business.

[2] SAME. In such an action, held that the evidence sustains the finding of the trial court that one of the defendants violated the restrictive covenant by becoming a part owner in a laundry and dry cleaning business.

[3] DAMAGES - LIQUIDATED DAMAGES OR PENALTIES - DISTINCTION. As distinguished from liquidated damages, a penalty is a sum inserted in a contract, not as the measure of compensation for its breach, but rather as a punishment for default or by way of security for actual damages which may be sustained by reason of nonperformance; whereas the essence of liquidated damages is a genuine covewanted pre-estimate of damages.

[4] SAME - LIQUIDATED DAMAGES OR PENALTIES - OPERATION AND EFFECT OF STIPULATIONS. The fact that the parties to a contract call a sum stipulated to be paid in case of a breach of the contract liquidated damages, is a circumstance to be given serious consideration in determining whether it is in fact liquidated damages: however, such a designation by the parties is not necessarily controlling or conclusive.

[5] SAME - LIQUIDATED DAMAGES OR PENALTIES - DETERMINATION. An agreement made in advance of a breach fixing the damages therefor is not enforcible as a contract and does not affect the damages recoverable for the breach unless the amount so fixed is a reasonable forecast of just compensation for the harm that is caused by the breach and such harm is incapable or very difficult of accurate estimation.

[6] SAME. In determining whether a sum stipulated to be paid in case of a violation of a restrictive covenant was enforcible as liquidated damages or unenforcible as exacting a penalty, each case must depend upon its own facts and circumstances; and where a laundry and dry cleaning business was sold for one hundred thousand

«1» Reported in 235 P. (2d) 293.

[6] See 59 A. L. R. 1135; 15 Am. Jur. 693.

322 MANAGEMENT, INC. v. SCHASSBERGER. [39 Wn. (2d)

dollars, with an agreement that the seller would pay ten thousand dollars if he violated a covenant not to engage in such business for five years, the controlling fact which makes the ten thousand dollars a penalty rather than liquidated damages is that the seller was permitted to remain in such business as an employee, with no limitation except that "he shall not, directly or indirectly, have an interest in the business as an owner or part-owner thereof."

[7] SAME - LIQUIDATED DAMAGES OR PENALTIES - REOPENING CASE FOR PROOF OF DAMAGES AFTER RULING UPON ORIGINAL ISSUE. In an action for breach of a covenant not to engage in a certain business for five years, with a provision for the payment of ten thousand dollars in case of a breach, the plaintiff was entitled to a ruling on the question of whether such provision was in fact an agreement for liquidated damages or was a penalty provision before being required to go forward with evidence as to actual damages; and where the trial court properly held that the defendant had breached the covenant and that the payment provision was in fact a penalty, but only awarded nominal damages because no actual damages were shown, the plaintiff should be given permission to reopen the case for the taking of further testimony on that issue only.

Appeal by the plaintiff from a judgment of the superior court for Yakima county, Willis, J., entered June 29, 1950, in favor of the plaintiff, in an action for breach of a covenant not to compete, tried to the court. Affirmed as to respondent Schassberger; conditionally affirmed as to respondents Bryant.

Halverson & Applegate and Jack M. King, for appellant.

Mark C. Delle, for respondent Schassberger.

George W. Wilkins, for respondents Bryant.

HILL, J. -

Two questions are presented: (1) Did the defendants or any of them violate an agreement not to engage in the laundry or dry cleaning business for a period of five years? and, (2) if so, could a covenant to pay liquidated damages of ten thousand dollars for the breach of the agreement be enforced, or did it constitute a penalty?

In March, 1946, Management, Inc., purchased from Anne Schassberger, a widow, and Frank H. Bryant and Carolyn F. Bryant, his wife (the latter being a daughter of Mrs. Schassberger), a laundry and dry cleaning business in the city of

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Yakima, the purchase price being one hundred thousand dollars. The bill of sale contained the following provision:

"In consideration of the sale of the foregoing business and property, Vendors agree not to engage in the laundry or dry cleaning business in Yakima, Washington, for a period of five (5) years after March 18, 1946, directly or indirectly; EXCEPT that Vendor, Frank H. Bryant, shall have the right to engage in such laundry or dry cleaning business as an employee as long as he shall not, directly or indirectly, have an interest in the business as an owner or part-owner thereof.

"In the event either of said Vendors shall breach this agreement, he or she shall be liable to Vendee in the sum of Ten Thousand ($10,000.00) Dollars, which is hereby agreed to be liquidated damages for the breach of said agreement." (Italics ours.)

In August, 1946, the Bryants purchased, for twelve thousand dollars, certain real property hereinafter referred to as the Moxee avenue property, which included a building that had been erected to house a dry cleaning and laundry business. In October of that year, the Bryants sold the property to Mrs. Schassberger, likewise for twelve thousand dollars. She immediately leased the property for five years to another daughter and her husband, Clarence D. Purkhiser, Jr. The lease required that "the premises during the term of this lease shall be used for the conduct of a dry cleaning and laundry business and none other," but Mrs. Schassberger denies any knowledge that that provision was in the lease.

Beginning November 17, 1946, Purkhiser operated a dry cleaning and laundry business on that property, under the name of Star Dry Cleaners and Shirt Laundry, which will be hereinafter referred to as "the Star," with Bryant as manager. Five months later (April 12, 1947) the Purkhisers sold the Star to Alvin V. Ross and his wife and terminated their lease with Mrs. Schassberger. By the same instrument that terminated the Purkhiser lease, Bryant was given possession of the premises at a monthly rental of one hundred fifty dollars, with an option to buy the premises, the price again to be twelve thousand dollars,

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". . . on the first date reasonably possible after said premises have been cleared and released from the probate proceedings of the Estate of the late husband of the Party of the First Part [Mrs. Schassberger] of which said premuses are now for certain purposes considered a part of the assets of said estate."

The Bryants immediately signed their possessory rights and option to purchase to Ross and his wife.

Mrs. Schassberger deeded the Moxee avenue property to the Bryants September 11, 1947, for twelve thousand dollars; and on the same day and for the same consideration, the Bryants deeded the property to Mr. and Mrs. Ross. Ross was employed in a meat packing business in Yakima and, although he was at the Star every day, he devoted no time to the business and Bryant continued as the active manager.

Management, Inc., commenced this action against Mrs. Schassberger, Mr. and Mrs. Bryant, and Mr. and Mrs. Ross, alleging that Mrs. Schassberger and Mr. Bryant had violated the restrictive covenant in conspiracy with Mr. and Mrs. Ross through the operation of the Star. Plaintiff requested injunctive relief and ten thousand dollars as liquidated damages from each of the defendants.

After the commencement of the action, the Moxee avenue property, together with the laundry and dry cleaning business conducted thereon, was sold, so that, when the case was tried, none of the defendants had any interest therein and there was no necessity for injunctive relief.

The testimony on behalf of the plaintiff, which takes up 316 pages of the statement of facts, is practically all from defendants Frank H. Bryant, Anne Schassberger, and Alvin V. Ross, who were called as adverse witnesses. At the conclusion of the plaintiff's case, all the defendants challenged the sufficiency of the evidence.

Referring to the sufficiency of the evidence against Mrs. Schassberger, the trial court said:

"I believe that the evidence fails to establish that Mrs. Schassberger was engaged in the dry cleaning or laundry business, this business which is shown to have existed here,

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the Star Dry Cleaning and Shirt Laundry. I don't believe that she had an interest in that business, and I think that the evidence utterly fails to show that she did have an interest in that business."

As to Mrs. Schassberger, the challenge was sustained and the action was dismissed.

The other defendants presented no additional evidence, and the trial court found that Mr. Bryant had acquired an interest as part owner of the Star and that there had been a violation of the covenant not to enter into the laundry or dry cleaning business as owner or part owner, and that Mr. and Mrs. Bryant and Mr. and Mrs. Ross had conspired to violate the restrictive provision of the bill of sale. The trial court, however, held that the ten thousand dollars referred to as liquidated damages in the bill of sale was actually a penalty, and, there being no proof of any actual damage, it allowed nominal damages only, to wit, a judgment of ten dollars against Mr. and Mrs. Bryant and Mr. and Mrs. Ross. The plaintiff appealed.

[1] There was ample evidence to support the conclusion of the trial court and the dismissal of the action as to Mrs. Schassberger. On that phase of the case the trial court relied upon McKeighan Wachter Co. v. Swanson, 138 Wash. 682, 245 Pac. 10, which is directly in point. In the two cases urged by the appellant as a basis for holding that Mrs. Schassberger had violated the restrictive covenant against engaging in the dry cleaning and laundry business by acquiring the Moxee avenue property and leasing the building for the purpose of conducting a dry cleaning and laundry business therein (Merager v. Turnbull, 2 Wn. (2d)711, 99 P. (2d) 434, 127 A. L. R. 1142; Lyle v. Haskins, 24 Wn. (2d) 883, 168 P. (2d) 797), we had situations in which the persons held liable were actively participating in the conduct of the competing business. The trial court in its memorandum opinion quite properly distinguished those cases on that basis. We affirm the dismissal of Mrs. Schassberger.

[2] We come now to a consideration of whether Bryant violated the restrictive covenant, and that depends upon

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whether he became the owner or part owner of the Star. There was evidence which would have supported a conclusion that Bryant was always an employee, first of Purkhiser and then of Ross; but there was also ample evidence to support the trial court's conclusion that he became a part owner of the business. We are content to accept the facts as found by the trial court, and to hold that Bryant did become a part owner of the Star and that, consequently, he violated the restrictive covenant against engaging in the laundry and dry cleaning business.

We find no merit in the claim by the Bryants of estoppel or laches as barring the prosecution of this action.

There remains the question of whether the appellant was entitled, as it contends, to a judgment of ten thousand dollars against the Bryants, and that, in turn, depends upon whether the ten-thousand-dollar payment provided for in the bill of sale in the event of a breach of that covenant was intended as liquidated damages or as a penalty.

[3] The distinction between liquidated damages and a penalty is well stated in 15 Am. Jur. 672, Damages, § 241:

"As distinguished from liquidated damages, a penalty is a sum inserted in a contract, not as the measure of compensation for its breach, but rather as a punishment for default, or by way of security for actual damages which may be sustained by reason of nonperformance, and it involves the idea of punishment. It is the payment of a stipulated sum on breach of contract, irrespective of the damage sustained. Its essence is a payment of money stipulated as in terrorem of the offending party, while the essence of liquidated damages is a genuine covenanted pre-estimate of damages."

[4] We are loathe to interfere with the rights of parties to contract as they please between themselves, and the fact that the parties to a contract call a sum stipulated to be paid in case of breach of the contract liquidated damages is a circumstance to be given serious consideration in determining whether it is in fact liquidated damages. However, the fact that the parties have so designated the sum to be paid is not necessarily controlling or conclusive. Courts looking to the intent of the parties have not hesitated to

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hold that express stipulations for liquidated damages were really stipulations for penalties, and vice versa. Smith v. Lambert Transfer Co., 109 Wash. 529, 187 Pac. 362; 15 Am. Jur. 677, Damages, § 246.

In 1827 it was said in Crisdee v. Bolton, 3 Car. & P. 240, 172 Eng. Rep. 403, that the law relative to liquidated damages has always been in a state of great uncertainty, occasioned by judges' endeavors to make better contracts for parties than they have made for themselves. The intervening years and decisions have not resolved that uncertainty, but have compounded it. However, there is a notable trend away from what at one time seemed to be a disposition to look with disfavor upon provisions for stipulated damages, and to treat them as penalties, so that only such losses as could be proved could be recovered. At the present time it may be said that the courts "'. . . look with candor, if not with favor, upon such provisions in contracts when deliberately entered into between parties who have equality of opportunity for understanding and insisting upon their rights, as promoting prompt performance of contracts and because adjusting in advance, and amicably, matters the settlement of which through courts would often involve difficulty, uncertainty, delay and expense.'" Wise v. United States, 249 U. S. 361, 63 L. Ed. 647, 39 S. Ct. 303, as quoted in Meuwissen v. H. E. Westerman Lbr. Co., 218 Minn. 477, 484, 16 N. W. (2d) 546.

[5] We have had occasion in the recent case of Mead v. Anton, 33 Wn. (2d) 741, 207 P. (2d) 227 (a case on which appellant relies heavily, devoting fifteen pages of its brief to it and quoting from it extensively), to discuss the general principles applicable to agreements made in advance of a breach and fixing the damages therefor. We there used the following quotation from 1 Restatement of the Law of Contracts 552, § 339:

"Liquidated Damages and Penalties.

"(1) An agreement, made in advance of breach, fixing the damages therefor, is not enforceable as a contract and does not affect the damages recoverable for the breach, unless

328 MANAGEMENT, INC. v. SCHASSBERGER. [39 Wn. (2d)

"(a) the amount so fixed is a reasonable forecast of just compensation for the harm that is caused by the breach, and

"(b) the harm that is caused by the breach is one that is incapable or very difficult of accurate estimation."

This we adopt as a statement of the rule applicable to the present case. We have no question about (b), as it must be conceded that, in this type of case, the harm caused by the breach usually is incapable of accurate estimation. Our difficulty is with (a), i.e., whether the amount, ten thousand dollars, is a reasonable forecast of just compensation for the harm caused by the breach.

In the case of Mead v. Anton, supra, we held that five hundred dollars a month as liquidated damages for the violation of an agreement made, in connection with the sale of a restaurant business, not to open, for a ten-year period, a competing restaurant within a radius of five hundred yards of the restaurant sold "was not unreasonable; that the agreement provides for the recovery of liquidated damages and not a penalty." The trial court in the present case pointed out a factor that distinguishes it from Mead v. Anton, supra, when it said:

". . . The provision of liquidated damages calls for the payment of a definite sum of $10,000.00, regardless as to whether the breach occurred during the first month of the five year period when the damages, if any, would have been comparatively large, or during the last month thereof when such damages, if any, would have been relatively small."

Certainly a provision that makes the amount of the damages commensurate with the extent of the breach, as in Mead v. Anton, supra, is an important factor in determining whether the amount of damages agreed upon in advance of breach is a reasonable forecast of just compensation for the harm caused by the breach. However, we are aware that damages fixed on a daily, weekly, or monthly basis may be excessive, just as we are aware that there may be circumstances where, if there is damage at all, it may be of a character that can be properly compensated for by a lump sum payment.

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[6] It must be conceded that there is substantial modern authority for holding that, when a business is sold for one hundred thousand dollars, the amount of ten thousand dollars specified as liquidated damages for vendor's breach of an agreement not to engage in a competing business in the same community for five years, would be held enforcible as liquidated damages, and not unenforcible as exacting a penalty. See Beiser v. Kerr, 107 Ind. App. 1, 20 N. E. (2d) 666. However, each case must in a great measure depend upon its own facts and circumstances, and what seems to us the controlling fact and circumstance in this case which makes the ten thousand dollars a penalty rather than "a reasonable forecast of just compensation for the harm that is caused by the breach" is that Bryant was permitted to remain in the laundry and dry cleaning business in Yakima as an employee, with no limitation except that "he shall not, directly or indirectly, have an interest in the business as an owner or part-owner thereof." As the trial court pointed out, it must have been contemplated that he would continue in a managerial capacity, for that had been his position and the appellant itself employed him in that capacity for a time.

Cases dealing with the extent of the right of one who has sold his business and has entered into a covenant not to engage in a competitive business (for a reasonable time and within a reasonable area) to accept employment from a competitor, are numerous. The weight of authority, as indicated by the annotation in 93 A. L. R. 121, is that such employment will not constitute a breach of the covenant unless it is likely to result in substantial interference with the business sold. In Haley Grocery Co. v. Haley, 8 Wash. 75, 35 Pac. 595, we held that employment as a salesman with a competing company did not constitute a violation of a covenant not to engage in the grocery business. In both Canady v. Knox, 48 Wash. 685, 94 Pac. 652, and Nelson v. Brassington, 64 Wash. 180, 116 Pac. 629, we held that such covenants were violated when the employment was as manager of the competing business.

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Cases dealing with the extent of the right of one who has sold his business and has entered into a covenant not to engage in a competitive business, but has reserved the right to become an employee of a competitor, are few in number. The case of General Bronze Corp. v. Schmeling, 213 Wis. 150, 250 N. W. 412, 93 A. L. R. 114, supports the trial court in the instant case in its position that, where a covenant not to engage in a certain business permits the covenanter to become an employee of a competitor of the covenantee, he may be employed in a managerial capacity. The Wisconsin case holds that his compensation as such employee may even include a percentage of the profits without there being any violation of the covenant.