Written by:
Frank L. Broyles
Goins, Underkofler, Crawford & Langdon LLP
Dallas
frankb@gucl.com

A. The Law Prior to 2006.

 The basis for this belief arose from a 1994 Supreme Court of Texas case known as Light v. Centel¹ In the Light case, the Court created new standards not found in the statute governing non-compete agreements to measure whether the non-compete was enforceable.  The standards were based on arcane reasoning and created some confusion, but at least it gave lawyers and their clients some objective standards to be able to draft employment agreements and be able to predict whether non-compete covenants could be enforced.  The confusion and consequent issues arose about what information or training was required to be given, and when it was required to be given, to constitute “valid consideration” for the employee’s return promise to not compete after the employment ended. “Valid consideration” is a necessary element in order to make this or any other type of contract enforceable. 

B. Changes in 2006 – 2009.

 Much of the confusion regarding the “valid consideration” issue began to be cleared away in 2006 by a Supreme Court case referred to as Sheshunoff.² It was further clarified in 2009 by a Supreme Court case referred to as Mann Frankfort.¹ These cases modified Light v. Centel by holding that “valid consideration” was found in the employer’s express or implied promise to disclose to the employee the employer’s “trade secrets” or proprietary confidential information and/or to provide customized, valuable training to the employee within a reasonable time after the employment agreement was signed. Trade secrets include any formula, data, or compilation of information that is not generally known and that gives the employer an advantage over competitors who do not have such information.  Trade secrets may include the employer’s customer lists, marketing plans or strategies, information about pricing and profit margins, and other information that the employer keeps confidential.  These two cases made clear that even though the employee was “at-will” and could be terminated at any time without cause, the trade secrets to be supplied to the employee during his employment provided the “valid consideration,” which would justify the restrictions on competition placed on the employee after his/her termination.  Though there was some confusion created by different cases, it also appears clear now that courts consider covenants not to solicit an employer’s customers in the same way as broader covenants not to compete in a certain geographic area. 

C. Broader Expansion in a 2011 Supreme Court Decision.

 In a case referred to as Marsh USA ⁴ and decided in June 2011, the Supreme Court went much further and held that the employer’s need to protect its “goodwill” may provide the  “valid consideration” for the employee’s return promise not to compete.   The conclusion that protection of “goodwill” alone, may justify the restriction on competition returned Texas law to what it had been before Light, according to the majority opinion.⁵  Thus, the Marsh USA Court found that an employee who exercised a stock option which contained the restriction on competition, could be bound by the non-compete covenant in the stock option agreement because such a covenant was needed to protect the employer’s goodwill.   

D. What has Actually Changed and the Road Ahead? 

 1.  Employers

 The holding in Marsh USA seems to eliminate many of the arguments previously raised regarding the basic validity of these non-compete restrictions.  The case returns the Courts to analyzing whether the non-compete agreement is necessary to protect a legitimate interest of the employer, including its goodwill, its trade secrets, or its valuable training on a case by case basis.  The facts of each case, and the philosophy of the trial court judge concerning non-compete agreements, will determine the outcome of each case, rather than the Court following a more objective test to measure the facts against.   Thus, obtaining enforcement of these provisions by an injunction now will focus on the issues of whether the employer needs to enforce the restrictive covenant to protect its business, which may include its goodwill, or its trade secrets or its unique, valuable training program , and whether the restrictions called for in the agreement are “reasonable.”  The courts will continue to evaluate whether the geographic restriction and the time the restriction is in place are reasonable or necessary to protect the employer and modify these restrictions as needed.  In the event a court finds an employer knowingly sought to enforce a restriction that is not reasonable, it can award attorney’s fees to the employee.

 How these subjects are dealt with in the agreement itself is the first subject of importance.  Companies need to resist the temptation to simply copy a standard non-compete form found on the Internet, or one designed by some other employer.  At an injunction hearing, the employer will need to show that the company gave specific thought to which employees were given access to confidential information (that is not every employee had access to it), and that the company gave specific thought to making the restrictions evenly balanced between the company’s right to protect its “trade secrets” and the employee’s right to earn a living.

For a company that is in the initial hiring process of an employee, a question should be asked on the application form (and also asked in the interview of the applicant) whether such a contract was signed with the prior employer?  If so, a copy thereof should be obtained and reviewed by and discussed with the company’s attorney prior to making any employment decision.  Otherwise, the company may be faced with a lawsuit filed by the former employer alleging the company wrongly interfered with an enforceable contract.   

 2. Employees

If asked to sign restrictive provisions limiting their ability to compete after termination, employees should not assume such agreements cannot be enforced.  Each case will be different and be evaluated on particular facts.  Employees need to carefully consider an employment agreement with a covenant not to compete before signing the agreement.  If employees have previously signed such an agreement and plan to leave to join a competitor, they should review the situation with an attorney with experience in this area of law. 

CONCLUSION

 As a result of the Marsh USA decision, some companies may be encouraged to expand the scope of the groups of employees who are asked to sign non-compete agreements.  The Marsh USA decision expanded the situations where agreements not to compete will be enforced, but the outcomes will be less predictable. Courts will evaluate each agreement on a case by case basis and generally will consider whether enforcement is necessary to protect the employer’s business including its goodwill.    Not all employees that contribute to a company’s “goodwill” will meet this amorphous test.

Durwood D. Crawford
James W. Morris
 John D. Rosenberg

¹ Debbie Light v. Centel Cellular Company of Texas, 392211 WL (Oct. 1993) 

² Alex Sheshunoff Management Services, L.P., 209 S.W.3d 644 (2006)

³ Mann Frankfort Stein & Lipp Advisors, Inc. MFSL, GP, L.L.C. and MFSL Employee Investments, Ltd. v. Brendan J. Fielding, 289 S.W.3d 844 (2009)

⁴ Marsh USA Inc. and Marsh & McLennan Companies, Inc. v. Rex Cook, 2517019 WL (June, 2011)

⁵ Three [3] Judges dissented, saying that “goodwill” was too vague and remote, as a matter of law, to supply the “valid consideration” for the employee’s non-compete promise to be enforceable.  The dissenting Judges also felt that exercising a stock option was too unconnected with any type of “trade secrets” to warrant enforcement of a non-compete provision.