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Comedy Club, Inc. v. Improv West Associates, USCA Ninth Circuit

The Ninth Circuit reviewed a district court’s order confirming an arbitration award in a trademark licensing dispute. The arbitrator had broadly construed an in-term covenant not to compete so that the plaintiff was prohibited from opening a new comedy club anywhere in the entire United States until 2019. The Ninth Circuit held that the covenant not to compete as interpreted by the arbitrator violated Cal. Bus. and Prof. Code § 16600 and ordered the district court to partially vacate the arbitrator’s injunctive relief so that it does not prevent the plaintiff from opening a new comedy club in counties where it does not currently operate a club.

Comedy Club and Improv West entered into a trademark licensing agreement in 1999 granting Comedy Club an exclusive, nationwide license to use Improv’s trademarks for new restaurants and comedy clubs. The license agreement included a schedule for opening new comedy clubs, prohibited Comedy Club from opening non-Improv clubs during the term of the agreement, provided that failure to comply with the schedule would result in revoking the use of Improv’s trademarks (but not termination of the agreement), and contained an arbitration clause. The license agreement was to remain in effect until 2019.

Comedy Club breached the agreement by failing to open at least four new clubs or restaurants each year between 2001 and 2003. Improv notified Comedy Club that it was withdrawing the license to use its marks, and Comedy Club filed a declaratory action, asking the court to hold that the provision prohibiting Comedy Club from opening any non-Improv clubs was void under Cal. Bus. and Prof. Code § 16600 and that Comedy Club’s failure to open new clubs pursuant to the schedule did not permit Improv to revoke the license to use Improv’s marks. Improv then filed a demand for arbitration and the district court ordered the parties to arbitrate.

The arbitrator concluded, among other things, that Comedy Club defaulted on the trademark licensing agreement, that Comedy Club forfeited its rights to open Improv clubs and its use of the Improv marks, and that Comedy Club was enjoined from opening any non-Improv clubs for the duration of the agreement. The district court confirmed the arbitration award, and Comedy Club appealed.

Comedy Club argued that if it lost the licensing rights, then the licensing agreement was no longer in effect. However, the Ninth Circuit explained that a breach of a contract does not necessarily cancel the contract, that neither party sought to terminate the agreement in the arbitration or court proceedings, and, therefore, Comedy Club was still bound by other provisions in the agreement.

The court then turned to Comedy Club’s argument that the in-term covenant not to compete was void under Cal. Bus. and Prof. Code § 16600 which provides “Except as provided in this chapter, every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void.” Relying on case law interpreting in-term covenants not to compete, the court held that such covenants are not necessarily invalid, but they are prohibited when they foreclose competition in a “substantial share of the affected line of commerce.”

In this case, Comedy Club’s business is operating full-service comedy clubs, and the arbitrator’s award interpreted the in-term covenant not to compete to apply geographically to the contiguous United States, and to remain in effect until 2019. “Thus, the covenant not to compete has dramatic geographic and temporal scope. Combined with the arbitrator’s ruling that Comedy Club forfeited its rights to use the Improv marks license in any new location, the practical effect of the arbitrator's award enforcing § 9.j. is that for more than fourteen years the entire contiguous United States comedy club market, except for Comedy Club’s current Improv clubs, is off limits to Comedy Club. This ‘foreclose[s] competition in a substantial share’ of the comedy club business.”

The Ninth Circuit ordered the district court to vacate the arbitrator's injunctive relief as to any county where Comedy Club does not currently operate an Improv club, but to apply the covenant not to compete in those counties where Comedy Club currently operates Improv clubs.