What is a Non-Compete Agreement?
A non-compete agreement is a type of restrictive covenant between an employer and an employee. As with any contract, the terms and conditions of a non-compete agreement govern the actions of both parties, which can include, but are not limited to, the employer’s ability to prevent former employees from competing against them. It is also important to note that in Texas, the restrictions outlined in a standard non-compete agreement carry over into the competitive market for independent contractors as well . Typically, an employer will request that a new employee sign a non-compete agreement during the onboarding process. However, it can also be inserted into professional licenses and other situations in which a strict employer/employee relationship does not exist if both parties agree upon its terms. It should be noted that in order for a non-compete agreement to be enforceable in Texas, it must be part of a legal business transaction or deal having a lawful purpose, with restrictions that are reasonably limited in duration, geographical area, and scope of activity covered by the competition clause.
Enforceability of Non-Compete Agreements in Texas
When an employee enters into a non-compete agreement in Texas, he or she is actually agreeing to a legally enforceable contract if certain conditions are met. The standard for enforceability of a non-compete agreement in Texas is based in the Texas Business and Commerce Code Section 15.50 which states: "Presenting or attempting to enforce an agreement is not a waiver of or estoppel to a later assertion that the agreement is void or unenforceable. The Texas non-compete statute also deals with the enforceability of covenants not to compete with former employees: "(a) …A covenant not to compete is enforceable if it is ancillary to or part of an otherwise enforceable agreement, including a complementary agreement or a separate instrument, if the promise given by the promise or the restraint imposed on the promisor is ancillary to a legitimate interest of the promisee. The legitimate interest of the promisee need not be a common interest of the promisee and one or more others. (b) For purposes of this chapter, a covenant not to compete is ancillary to an otherwise enforceable agreement if it is given with or as part of an agreement. An otherwise enforceable agreement may be an offer to provide an employment for consideration that includes a covenant not to compete, such as an offer to provide an employment in conjunction with the execution of a covenant not to compete. (c) The agreement otherwise enforceable … whether the covenant not to compete is prepared later and included with a subsequent agreement or memorandum from one party and signed by another party.
Texas law also requires that the non-compete agreement is reasonable in its duration and geographical scope. These restraints are usually measured in terms of time and geographic proximity. There are no hard and fast rules to determine these limitations, however, and many factors must be taken into account in order to establish an appropriate scope. Courts will weigh the benefit to the employer and the harm to the employee in order to determine if the restrictions are reasonable. Furthermore, the appropriate time duration and geographic area must be defined in the language of the non-compete agreement itself. Texas courts construe non-competition agreements strictly, supporting the fact that a non-compete type of agreement may only be used to protect a legitimate interest by the employer.
Requirements For Enforceability In Texas
In Texas, there are requirements for a non-compete agreement to be enforceable. First, the restriction it imposes must be "no greater than necessary to protect the goodwill or other business interest of the promisee." An employer’s goodwill includes its "advantageous position of being able to protect itself from embarrassment and conveyance of information to competitors by the fact that its employee, having signed a useful restrictive covenant, is legally bound to act in the employer’s best interests." A customer list is a protectable form of goodwill if it is "a secret list of actual customers … that was of substantial value from the continued use in the seller’s business."
Second, the restriction must not impose a greater restraint than necessary to do so. Thus, if an employer assigns an employee a geographical territory, the employee "may not contract with the employer a larger area, and, if the area is unreasonably large, the restriction may be unenforceable." An employer may not impose a restriction that is greater than necessary to protect its goodwill, to protect its ability to train new employees, or to protect its confidential information.
Third, the restriction must allow the employee to pursue his or her profession. Some cases have noted a rule of thumb: "If a restraint completely precludes one form of employment that the individual has trained for and an economically viable alternative form of employment did not exist, then … the restraint is overly broad." In Texas, the critical question is whether the restraint is reasonable – i.e., does it serve a legitimate business interest? "A promise is unreasonably broad ‘when it includes activities the promisee has no legitimate interest in restraining.’ For example, a former restaurant employee could not be prohibited from working in a non-Texas restaurant chain or at a dentist office in Texas because doing so would have no impact on the former employer’s business."
Fourth, the promise cannot reduce competition in the market for labor. Accordingly, an agreement that reduces an employee’s access to his or her chosen field or profession has been held to be unenforceable. Thus, "[a] covenant preventing competition in the sale of stores may not prevent competition through franchising."
Common Challenges and Disputes
Common Issues and Legal Disputes Arising From Texas Non-Compete Agreements
Despite their frequent use in Texas, non-compete agreements may be challenged legally for various reasons. Some common issues include: Generally, to support litigation based on the absence of consideration, a party must show that no salary or bonus was paid after the employee was terminated. "Independent" or "some other consideration" does not constitute "independent" consideration for all purposes, as that term is defined under Texas law. Non-competition agreements that do not meet the requirements of several statutes may be declared unenforceable by a Texas court, on a number of different grounds, which vary based on the applicable statute; however, litigation is not required. Further, a potential employer may "refuse" the possibility of having to litigate with a former employee over a non-competition agreement by "buying-out" an agreement (in exchange for other compensation and/or benefits) or "waiving" it (i.e., promising not to enforce it). In some circumstances, Texas courts must find a non-compete agreement to be unenforceable, as they would if the agreement fails to meet the requirements for its application, such as prior employment or the former employee’s duties with a competitor. Some typical defenses against a non-compete agreement in Texas focus upon the contention that the former employee is not violating the agreement and is otherwise free to work. Thus, a former employer/independent contractor has the burden to prove a violation is occurring. Common legal disputes involve whether an agreement is enforceable given its alleged over-breadth, scope, and duration. If the clause was enforced as written and applied as allegedly intended, the result would be unreasonable. A finding that a non-compete agreement is unenforceable does not prevent most potential plaintiffs from attempting to "reform" the agreement (i.e., court-ordered revision), according to Texas case law. The employee sought "injunctive relief," which is used to protect against or to prevent any harm, but generally may not be obtained against any employer where an agreement is unenforceable or already defaulted. Employees seeking injunctive relief following a non-compete violation, nonetheless, have the burden of proving that it should apply in a dispute and will continue to apply (until withdrawn or modified by a court) even when there is no "good cause."
Recent Case Law and Court Judgements
As Texas employers know, non-compete agreements are tricky. Many Texas cases have invalidated such agreements because they were either deemed to be overbroad or not supported by legitimate business interests. Such a case was ProCom Telecom, LLC v. Doe, a July 2014 opinion from the Dallas Court of Appeals. The Plaintiff, ProCom, was in the business of buying and selling telecom equipment over the internet. The Plaintiff hired the Defendant, a senior manager who worked for the Plaintiff for 11 months until he began a competing business in violation of his non-compete agreement.
The Plaintiff sued the Defendant for breach of the agreement. The Defendant moved for summary judgment on several grounds, but the trial court denied the motion as to the non-compete claim. The Defendant won the case at trial and the jury awarded him damages, but refused to award the Plaintiff attorney’s fees. Once again, the Defendant moved for a summary judgment on the remaining non-compete claim without a jury as well as on his request for attorney’s fees, arguing that the non-compete agreement unenforceable as being too broad under Texas law. The trial court granted the Defendant’s motions. In reversing the trial court, the Dallas Court drew a distinction between the burden of proof on the initial motion for summary judgment and then at the summary judgment hearing without a jury. The Dallas Court held that a defendant moving for summary judgment on the grounds that the agreement is unenforceable does have the initial higher burden of conclusively proving the unenforceability of the agreement. The Dallas Court held that the non-movant employer need not file an affidavit or other evidence in support of its response and that it should have no burden to respond unless the movant meets its burden to conclusively establish the invalidity of the agreement as a matter of law on the initial filing. In other words, the Plaintiff would not have the initial burden of conclusively showing the reasonableness of the covenants and the reasonableness of the restrictions. The decision of the Dallas Court overturned the trial court judgment granting summary judgment in favor of the Defendant on the non-compete allegations. Subsequently, the Dallas Court of Appeals certified the case to the Supreme Court of Texas , which reversed the Dallas Court and agreed with the trial court on the issue of the burden of proof. This was only the second case at the Supreme Court level addressing the issue of the burden of proof with respect to non-compete agreements. In a 2015 case out of the Houston Court of Appeals, a senior HR manager was ordered to divulge her trade secrets on employees in her new role with a competitor. A long time HR manager, the Plaintiff knew how to best sell the Defendant’s most successful products to their existing customers as well as prospective customers. While her knowledge made her an invaluable asset to her new employer, revealing that information to anyone else would violate her non-compete agreement and also subject her to a claim for misappropriation of trade secrets. The Plaintiff had been working for the Defendant since 1999 where she developed, grew and ran the division that became the Defendant’s most lucrative business line. In 2009, the Plaintiff left to join a company that exclusively competed with the Defendant until 2012 when the two companies thus merged, making the Plaintiff’s role unnecessary. As a result of the merger, the Plaintiff returned to the Defendant but in a lesser role and at a lower salary. After one year, the Plaintiff left the Defendant and joined the same former competitor only to be terminated three months later for directing the former Defendant’s former customers to her former employer. The Defendant sued its former employee, claiming she violated her non-compete agreement as well as her fiduciary obligations. The Defendant is seeking not only an injunction but also what it has lost in the interim, which is its revenues from those sales. The importance of this case is that it analyzed one of the restrictions contained in almost every non-compete agreement, which is the no-hire provision that prevents the former employee from contacting their former employer’s customers. Because a violation of the no-hire provision may also serve as a violation of the duty of loyalty, the former employee could be liable for both tortious interference and misappropriation of trade secrets. The Texas Supreme Court’s decision to rule in favor of the former employee places limits on the enforcement of non-compete agreements to situations where traditional trade secrets are involved.
Drafting a Non-Compete that Complies
An essential consideration in preparing a non-compete agreement that is at least potentially within Texas law is whether the agreement is executed upon initiation of the employment relationship or during continuation of employment. Non-compete agreements that are entered into upon initial employment are much more difficult for the employer to support since they do not provide for new independent consideration. For example, an existing employee presented with a non-compete agreement specifying his or her continued employment as consideration would be required to draft a response to the employer like this one:
OK, you want my hand-written acknowledgment that you can fire me at any time for any reason, including "for no reason at all." Or I can sign this agreement promising to quit or to voluntarily refrain from working for any competitor for two years after leaving your employ. OR I can have a job with your firm. What will it be? Personally, I think I’ll keep my options open. Three additional weeks of PTO aren’t worth giving up the chance to establish a career.
This example demonstrates the kind of negotiation that occurs with existing employees once they have past the best practices step of avoiding coercion and the other non-compete requirements. Instead, employers who are drafting non-compete agreements with existing employees should consider providing additional consideration in return for signing the non-compete agreement. For example, the employer may promise not to contest a change in the location of the employee’s place of work, offer additional paid time off or provide a signing bonus.
Employers that are preparing noncompete contracts with new hires, or preparation of a document upon offer of employment, should specifically identify the confidential information and/or trade secrets that will be considered proprietary information of the employer and under the protection of the non-compete agreement in the context of the position to be filled. In other words, the contract should describe information that the new employee will have access to if hired. In many cases, it may not be possible to have a complete set of proprietary information before the new employee starts work. When this is the case, the employer can add a short (i.e., one page) list of the areas that the parties intend at the outset to treat as proprietary information. Later, when the entire list is available, the employer should deliver the entire list to the employee and require the employee to sign an amendment acknowledging the employer’s policy concerning the information as private and proprietary information. The non-compete agreement and the policy that is the basis for the non-compete relationship are both subject to scrutiny so the more explicit the description of the information, the better the chances that it will be treated as legally protectable. By preparing a policy like this in advance of hiring, it is possible that the employer will avoid becoming embroiled in litigation concerning whether particular information is subject to protection under the non-compete agreement. The employer should also review the agreement with the new employee by explaining it face to face to confirm the new employee’s understanding of the agreement. Providing the employee with face to face examples and describing the information that is considered confidential and/or a trade secret will help the employee to understand the employer’s expectations and facilitate compliance with the terms of the non-compete agreement.
If the employer already has a general written policy describing confidential and proprietary information, it should determine whether there are any explicit or implicit limits on use of the information contained in the policy. In many cases, it is not possible to have a broad non-compete agreement and a general policy describing what types of information are confidential.
Alternatives To Non-Compete Agreements
A non-compete agreement doesn’t have to be an all or nothing proposition. If you or your employer has decided that a complete restriction on your future activity in the same field is not negotiable, there are several alternatives that can be considered.
For most employers, something is better than nothing. Going through the motions of negotiating a non-compete agreement that can’t possibly be enforced is ultimately a waste of time. However, potential employees can arm themselves with information about how and why various alternatives are more appropriate in their case.
The first potential alternative to a traditional non-compete agreement is a non-disclosure agreement. A non-disclosure agreement is an appropriate alternative when the employer is primarily concerned with protecting its proprietary, confidential business information. These are the types of trade secrets that do not include customer lists but may include other customer specific information: such as pricing, source suppliers, or expenses. Employees who are not privy to this kind of information have no real incentive to divulge it to others and it is reasonable to ensure that employees whose jobs do give access to this information will not disclose it. The non-disclosure agreement (also called a confidentiality agreement) simply allows you to accept a job with this company without fear of being charged with mimicking their practices and using their trade secrets to build another business . The non-disclosure agreement can also be written so as to protect any confidential information you are exposed to while employed by your employer.
The next potential alternative is a non-solicitation agreement. These agreements are appropriate for the industry in which you are employed if the primary concern is that you will mimic your current employer’s business practices in order to build your own competing business. Non-solicitation agreements work like a non-compete agreement but they generally focus only on a narrow category of restrictions. Employers with this type of concern can structure the agreement to prevent former employees from soliciting customers, clients, or other individuals in a list specifically provided to the employee prior to accepting employment. They may also require employees not to use the company’s confidential information contained on the list of contacts.
Ultimately, the best person to speak with to determine what type of agreement will best suit your needs is an experienced attorney. While non-compete agreements are often useful tools for employers, they are not always appropriate and experienced employment counsel can work with you to determine whether a non-disclosure agreement, a non-solicitation agreement, or even an independent contractor agreement might be a better fit.