If you have followed the steps in Part I, you might now be in possession of evidence confirming that your ex-employee is violating his or her non-compete agreement. Such evidence will do you no good, however, if the non-compete agreement that you are relying upon is not enforceable. So, before you race to the courthouse asking for a temporary injunction, an assessment of enforceability is in order. This analysis needs to be done quickly, if not simultaneously, with the steps described in Part I.
Over the years, Texas courts have steadily moved toward making the enforceability of non-compete agreements easier. This post addresses the most current general requirements as spelled out by the Texas Supreme Court over the last decade, but beware of the old cases that used to impose additional requirements, but are no longer good law.
In Texas, non-competition agreements are governed by Section 15.50(a) of the Texas Business & Commerce Code, which states that “a covenant not to compete is enforceable if it is ancillary to or part of an otherwise enforceable agreement at the time the agreement is made to the extent that it contains limitations as to time, geographical area, and scope of activity to be restrained that are reasonable and do not impose a greater restraint than is necessary to protect the goodwill or other business interest of the promisee.”
Thus, Texas courts require two factors to enforce a non-compete agreement:
1. There must be consideration.
2. The limitations on time, geographical area, and scope of activity to be restrained must be reasonable.
Question 1: Did the Employee Receive Adequate Consideration for His/Her Promise Not to Compete?
Because Texas is an at will employment state, an employer’s offer of employment can be terminated at any time, is illusory, and does not by itself constitute sufficient consideration for an employee’s promise not to compete. Therefore, an employer must promise its employees something other than an offer of employment in exchange for their signature on the non-compete.
Types of Acceptable Consideration
An employer’s promise to provide confidential information, trade secrets, or specialized training that directly makes an employer competitively vulnerable has been recognized as adequate consideration in the context of non-compete agreements. See Alex Sheshunoff Mgmt. Serv’s, L.P. v. Johnson, 209 S.W.3d 644 (Tex. 2006) and Mann Frankfort Stein & Lipp Advisors v. Fielding, 289 S.W.3d 844 (Tex. 2009). The employer does not have to provide the confidential information or trade secrets to the employee at the time the non-compete agreement is signed, but can promise to provide it at some time in the future. See Sheshunoff Mgmt.
Consideration Can Be Implied
A promise to provide the confidential information, etc., does not have to be express to constitute sufficient consideration, but can be implied. The Texas Supreme Court in Mann explained that even where the employer did not specifically promise to provide confidential information to the employee, an implied promise to do so (by virtue of the employee’s specific promise to protect confidential information he actually needed and received for his job) was enough to support the enforce ability of the non-compete agreement.
Consideration Must be Reasonably Related to Employer’s Business Interest
Consideration can also include stock options or other financial incentives that are “reasonably related” to the employer’s interest that is worthy of protection. See Marsh USA Inc., et al. v. Cook, 354 S.W.3d 764 (Tex. 2011). The Court in Marsh, found that an employer’s stock option plan for key employees, which required a non-compete covenant in exchange for the exercise of stock options at a discounted strike price, was “reasonably related” to the business goodwill that the company sought to protect.
Consideration Can be Provided Before, During or at the Termination of Employment
The Marsh court also held that the employer’s interest in restraining the employee can exist before the consideration for the non-compete is given. Thus, a non-compete agreement entered into during, or at the end of, the employment relationship may be enforceable as long as there was consideration.
Question 2: Are the Limitations on Time, Geography and Scope Imposed by the Non-Competition Agreement Reasonable?
Non-competition agreement must restrain no more activity than is necessary to protect the legitimate business interest of the employer. Texas courts have consistently refused to enforce agreements that prohibit all competitive activity or prohibit employment in any capacity for a competitive entity. The courts have also refused to enforce agreements that prohibit activity unrelated to the work the employee preformed for the former employer.
Similarly, Texas courts have also determined that non-competition agreements that contain no geographical limitations or fail to limit the scope of activity to be restrained are unreasonable and unenforceable. Generally, a reasonable area of restraint consists of only the territory in which the employee worked for the former employer. Thus, courts in the past have refused to enforce non-competition agreements with nationwide applicability when the employee did not have nationwide responsibilities for the former employer.
While the court in Texas have authority to reform a non-competition agreement to narrow the scope or the geographical area of the agreement so as to make it enforceable, they will not always do so.
For example, the district court in Kenyon Int’l Emergency Servs. V. Malcolm, 2010 U. S. Dist. LEXIS 55283 (S.D. Tex. June 7, 2010) held that Kenyon’s non-compete agreements were too broad because they failed to limit the area, the tasks or the time the employees were prohibited from competing, and refused to reform the agreement. This ruling was affirmed by the Fifth Circuit in an unpublished opinion. The Court of Appeals not only agreed that the non-compete was overbroad, but also affirmed the award of $142,000 in attorney’s fees incurred by the defendant after finding that plaintiff knew that the non-compete was unreasonable and tried to enforce it anyway.
The Court of Appeals concluded that Kenyon knew that non-compete was overbroad and non-enforceable based on the testimony of its own CEO who testified that: (1) he understood that the agreement was “‘worldwide’ until [the district court] told [them] otherwise;” (2) the non-compete agreement was intended to keep Kenyon’s contractors from working for a competitor in any capacity, even if they had not performed the same function for Kenyon; and (3) the non-compete was meant to “run indefinitely.”
So, hopefully, you had legal advice regarding the non-compete agreements when they were drafted and the above issues are not going to prevent you from enforcing them. If not, you need to revise your current non-compete agreements and the employment policies that affect the exchange of consideration to ensure that the above-described requirements are met.
If, after conducting the above enforceability analysis, you believe that your non-compete agreements contain reasonable limitations and the former employee was given some sort of consideration in exchange for signing the non-compete agreement, you might have an enforceable agreement on your hands.
I will discuss the next steps of enforcing a non-compete agreement in Part III. Meanwhile, if you have any questions about non-competes in Texas, please contact Leiza Dolghih.
