Wolfe’s First Law of Texas Non-Compete Litigation

Wolfe’s First Law of Texas Non-Compete Litigation

It’s my anniversary. Two years ago today I launched this blog with What a Litigator Looks For in the Typical Texas Non-Compete. I thought it best to start with a topic I know. I outlined the five things I look for to determine if a non-compete is enforceable under Texas law.

That post has held up pretty well. Since then, I’ve seen plenty more non-competes. Texas non-compete law hasn’t fundamentally changed, and I still look for those five things. So, if you want an intro to Texas non-compete law, that post is still a good place to start. Or you can watch a video version here.

But two more years have taught me there is a simpler question to ask when a client brings me a non-compete. As a general rule, you can boil down the practical effect of Texas non-compete law to just seven words: you can’t take your customers with you.

What do I mean? If you’re a sales person who has a non-compete and relationships with customers—the most common situation—it is likely a judge will order you not to do business with your customers from your previous company. But the judge shouldn’t completely bar you from working for a competitor.

In other words, you can compete for new customers, but you can’t take your old customers with you. I call this Wolfe’s First Law of Texas Non-Compete Litigation.

It’s really more of a general rule, but I like the sound of “First Law” more than “First General Rule.”

It’s just a rule of thumb because like most legal rules, it has exceptions, and the whole truth is more complicated. Still, experience has taught me that nine times out of ten, my First Law will hold true.

This means if you’re an employer trying to stop an employee from violating a non-compete, you can probably prevent the employee from taking her customers with her, but you probably can’t do more than that.

If that’s all you need to know, you can stop here. If you want to understand why, read on.

The reasoning behind Wolfe’s First Law of Texas Non-Compete Litigation

Here’s how I get there. The Texas non-compete statute has two requirements: (1) a non-compete must be “ancillary to an otherwise enforceable agreement,” and (2) it must be reasonable.

Employers usually meet the first requirement by (a) expressly stating in the non-compete that they will give the employee confidential information, and (b) actually giving the employee confidential information. A Texas Supreme Court case called Sheshunoff clarified that this will do the trick.

This is where the first big exception comes in. You will sometimes run across a non-compete that does not expressly promise to give the employee confidential information. Usually when you see that it’s either a really old non-compete, or a non-compete drafted for a multi-state company without Texas in mind.

If there is no express promise, you have to look at whether there was an implied promise to provide confidential information. A case called Mann Frankfort said the promise is implied if the nature of the employee’s work necessarily involves providing confidential information. That can be a fact-intensive issue.

Most employers avoid this detour by including an express promise to provide confidential information in the non-compete. Then the second big exception comes into play: did the employer actually provide confidential information to the employee?

I have had cases where there was a genuine dispute about whether the information was really confidential. You are more likely to see this in situations where an employee already had a book of business when he joined the company, or where sales people are entirely responsible for generating their own leads and customers. If the employer didn’t provide confidential information, the non-compete is unenforceable.

But most of the time, it’s pretty easy for the company to show that it provided some confidential information to the employee.

Now that we’ve cleared those possible exceptions out of the way, it’s time to turn to reasonableness.

Let’s be reasonable

Like most states, Texas requires a non-compete to be reasonable in time period, geographic area, and scope of activity restrained.

The good news for employees is that there is almost always at least a decent argument that some aspect of the non-compete is unreasonably broad. Especially the “scope of activity” part. While most Texas lawyers are pretty good about including a reasonable time period and geographic limitation, Texas non-competes are often too broad in the scope of activity they restrict.

Maybe this is because the scope of activity limitation is largely defined by the case law, so a lawyer who only reads the statute won’t get the whole picture. The case law says that an “industry-wide exclusion”—a restriction that prevents the employee for working in the same industry in any way—is too broad.

That’s because a non-compete should be limited to protecting the employer’s goodwill, i.e. its relationships with existing customers. The simplest way to do this is to say–usually in one really long sentence with fancier words–that the employee can’t take her customers with her. That’s a reasonable scope (generally). On the other hand, a non-compete that bars the employee from working for a competitor in any way is usually too broad and therefore unenforceable as written.

But employees shouldn’t get too excited. There is also good news for the employer.

First, note I said unenforceable “as written.” The non-compete statute says that if the non-compete is too broad, the judge must reform it—i.e., rewrite it—to the extent necessary to make it reasonable.

Second, even if the non-compete is too broad, as a practical matter a judge can still issue a temporary injunction to enforce the non-compete to a reasonable extent.[1] (A temporary injunction is an order that applies while the lawsuit is pending.)

Now you can see Wolfe’s First Law coming into focus. When you put all this together, you get two likely scenarios. If the non-compete is reasonable in scope because it is limited to preventing the employee from taking her customers with her, then the judge is likely to grant a temporary injunction that enforces the non-compete as written. If the non-compete is unreasonable in scope because it is not so limited, the judge is likely to limit the injunction to a reasonable scope, i.e. preventing the employee from taking her customers with her.

In either case, the effect is the same. And Wolfe’s First Law of Texas Non-Compete Litigation holds true.

Caveat Five-or

Again, there are exceptions. For example, some judges take the “irreparable injury” rule seriously. That rule says that a court should not grant an injunction if damages would be adequate to compensate the company for the employee’s violation of the non-compete.

My personal view—perhaps a post for another day—is that courts should apply this requirement more strictly. In most cases damages would be adequate to compensate the employer for any lost customers.

But most judges are not so fastidious about the irreparable injury rule. If the judge thinks the employee is violating the non-compete by steering competitors to the employee’s new company, a temporary injunction is likely.

Of course, a temporary injunction is not the end of the story. It is temporary, after all.

Still, in most cases a temporary injunction enforcing the non-compete might as well be a permanent injunction. Why? Remember that a non-compete must be reasonably limited in time. Time periods of three years or longer have sometimes been held reasonable, but most non-competes are limited to one or two years.

How long do you think it usually takes for a case to get to trial? (Hint: at least one or two years.) That means that in many cases, the non-compete will expire before the case goes to trial, or around that time. That’s why I say a temporary injunction might as well be a permanent injunction.

So maybe we should modify Wolfe’s First Law to say this: you can’t take your customers with you, until a year or two after you leave.

But that just doesn’t have the same ring to it.

___________________________________________________________________

IMG_4571Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC. Someday he will come up with a “Wolfe’s Second Law” for something.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Reformation is a remedy that typically would not be granted until a final judgment after trial. There is some legal question about whether the judge at a temporary injunction hearing should (1) reform the non-compete as a temporary remedy and enter a temporary injunction enforcing the reformed non-compete, or (2) simply enter a temporary injunction that only partially enforces the non-compete to a reasonable extent. The distinction seems largely academic.

Blown Call: The Thing Texas Courts Get Wrong About Non-Competes

Blown Call: The Thing Texas Courts Get Wrong About Non-Competes

Is the reasonableness of a Texas non-compete a question of law or a question of fact?

I was once defending a Texas non-compete lawsuit and taking the deposition of the business owner who was trying to enforce the non-compete. I asked if he had any view of what a reasonable length of time for the non-compete would be. His answer: “when hell freezes over.”

That’s why I love litigation.

Recalling that answer got me thinking about an important issue in non-compete law: Is the reasonableness of a non-compete a question of law or a question of fact? If you’ve read a few Texas non-compete cases, you may already know the answer. There are dozens of cases reciting that the reasonableness of a non-compete is a question of law.

And all of those cases are wrong.

Or at least they are only partially correct. Why?

Before we can answer that question, we need to tackle a deeper jurisprudential question, the kind that law professors love: what is the difference between a question of law and a question of fact?

Deep thoughts on questions of law and fact

Let’s start with the easy part. A pure question of law is a legal issue that can be stated entirely in the abstract, without any reference to the particular facts of a case. Let’s say you’re in a car crash and the question is “what is the statute of limitations for a negligence claim?” That’s a pure question of law.

That doesn’t necessarily mean the question has a simple answer. It just means you can answer the question without knowing anything about any facts. For example, the general rule in Texas would be that you have to file a negligence lawsuit within two years of the car accident.

A pure question of fact, on the other hand, has nothing to do with law. “Did the defendant run a red light?” is a pure question of fact. (There are also “mixed” questions of law and fact, the classic example being whether a defendant was negligent, but let’s put that aside for the moment.)

It gets more complicated when the question applies an abstract legal principle to a particular scenario. Let’s take the question “does the statute of limitations start running at the time of the accident, or when the plaintiff discovered the extent of his injuries?” That sounds more factual, but it’s still a question of law, because it simply applies an abstract principle to a given factual situation.

Now let’s make it harder. My lawyer readers will know the “discovery rule.” The discovery rule is an exception that keeps the limitations clock from starting until the plaintiff discovered, or reasonably should have discovered, the injury. Is applying the discovery rule in a particular case a question of law or a question of fact?

This is where judges tend to go wrong. Perhaps nothing provides a better opportunity for superficial judicial analysis than whether an issue is a question of law or fact.

For example, if the judge thinks it’s a question of fact, she will typically write “the discovery rule is a question of fact for the jury,” cite some cases that said it was a question of fact, and be done with it. Similarly, if the judge thinks it’s a question of law, the judge will write “the discovery rule is a question of law,” cite some cases that said that, and move on.

This is superficial, and wrong. If judges would only remember what their law school professors said, they would say the answer is “it depends.”

It depends. Of course, it depends! It depends on what the evidence is. For example, if the undisputed evidence shows that the plaintiff discovered his injury more than two years before filing suit, then it’s a question of law. You’re just applying a legal principle to an undisputed set of facts. But if there is conflicting evidence about when the plaintiff discovered his injury (or should have discovered it), it’s a question of fact.

Pretty simple, right? But trust me, courts mess this up all the time. Sometimes it may just be intellectual laziness. But often it’s more than that.

Does it matter whether it’s a question of law or fact?

You may be wondering why it matters. What difference does it make whether we call an issue a question of law or a question of fact? Isn’t this just philosophical musing?

No. It matters whether an issue is a question of law or fact because that determines who gets to decide the issue. If it’s a question of law, the judge decides. But if it’s a question of fact, that means the factfinder gets to answer the question. Depending on the type of proceeding, the factfinder could be the judge, the jury, or an arbitrator.

Now, I know a lot of my Fivers are stone-cold realists. You may question whether there is any principled distinction between a question of law and a question of fact. You might say that asking “is it a question of law or fact?” is nothing more than asking “does the judge or the jury get to decide the question?”

That would be going too far. The distinction between a question of law and a question of fact is real, even if it is sometimes difficult to draw that line. But it is important to understand that the practical effect of the answer is to determine whether the judge or the jury gets to decide.

Whether the issue is a question of law or question of fact also determines who gets to decide the issue on appeal. Generally, the appellate court will defer to the factfinder on questions of fact but will decide questions of law de novo. “De novo” is a Latin phrase that means “I don’t care what a lowly trial court judge thinks.”[1]

Is the picture coming into focus now? If I’m the judge and I have a certain view of what a fair outcome would be, might that have some effect on whether I characterize an issue as a question of law or question of fact?

Let’s take our statute of limitations example. If I think the case should go to trial, I might be inclined to simply proclaim that the discovery rule is a question of fact for the jury and leave it at that. Conversely, if I think the case has no merit, I might be inclined to say it’s a question of law and grant summary judgment for the defendant.

I’m not necessarily suggesting there is anything sinister about this. Even the most impartial judges will tend to characterize the issue in a way that favors an outcome they sincerely believe is fair and just. That’s true even before you add external forces to the mix—say, campaign contributions from “tort reform” groups or plaintiff’s lawyers.

But there is a better way: it depends. It depends on the evidence. If the relevant evidence is undisputed, it’s a question of law. If the relevant evidence is conflicting, it’s a question of fact.

This proposition, though often ignored, shouldn’t be controversial. If you think it’s wrong, please tell me why.

Let’s apply what we’ve learned 

Now let’s apply this not-so-controversial principle to a typical Texas non-compete.

Texas, like most states, requires a non-compete to be reasonable in time period, geographic area, and scope of activity restrained. So, is the reasonableness of a Texas non-compete a question of law or a question of fact?

You already know where this is headed, but let’s break it down.

What do we mean by “reasonable,” as applied to a non-compete? Fortunately, the Texas non-compete statute gives us a clue. It says the non-compete must have “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.”[2] For the typical Texas non-compete, which is tied to a confidentiality agreement, reasonableness comes down to whether the limitations are no greater than necessary to protect the company’s goodwill and confidential information.

So how about a three-year time period? Is that reasonably necessary to protect the employer’s goodwill and confidential information? And what about a geographic area of the State of Texas? Is that reasonable?

You’re probably having trouble answering these questions in the abstract. That’s because you don’t know anything about the facts of the case. It would make a difference whether it takes three months or three years for the confidential information to become outdated and useless. It matters whether the company sells products to customers throughout the State of Texas or in just one city.

If you don’t know the answers to these questions, there is no way you can know if the time period and geographic area are reasonable. You simply cannot determine the reasonableness of the non-compete in the abstract.

And yet, many Texas cases recite that the reasonableness of the non-compete is a question of law. As I said earlier, that is either wrong or only partially correct. Reasonableness could only be a question of law if the facts concerning reasonableness are not in dispute. If there is conflicting evidence material to reasonableness, it’s a question of fact.

And I can prove it. My witness is the Texas legislature, and my Exhibit 1 is Section 15.51 of the Texas Business and Commerce Code. It says:

If the primary purpose of the agreement to which the covenant is ancillary is to obligate the promisor to render personal services, for a term or at will, the promisee has the burden of establishing that the covenant meets the criteria specified by Section 15.50 of this code. . . . For the purposes of this subsection, the “burden of establishing” a fact means the burden of persuading the triers of fact that the existence of the fact is more probable than its nonexistence

Let me translate. This means that for a non-compete in a typical employment agreement, the employer has the burden of proving the non-compete is reasonable.

This proves my point that the reasonableness of a non-compete can be a question of fact, provided there is conflicting evidence. How else could there be a burden of proof on the issue? Questions of law don’t have a burden of proof.

Why this matters in non-compete litigation

This explains why I was asking that deposition question about a reasonable time period for the non-compete. I knew it was the employer’s burden to prove that the time period in the contract was reasonable. I wanted to nail down whether the employer had any evidence to offer that the time period was reasonable. He didn’t.

Wait a minute, you say. Even if you’re technically correct, isn’t this just a case of sloppy language? Opinions that say it’s a question of law may still be getting the result right, if the undisputed facts of the case establish that the non-compete was either reasonable or unreasonable.

True. But the issue is not academic. For one thing, treating reasonableness of a non-compete as a question of law tends to favor enforcement of the non-compete. In theory, the judge could just as easily find a non-compete unenforceable as a matter of law. But in practice, the vast majority of cases that say reasonableness is a question of law also say the non-compete was reasonable, and therefore enforceable. So, the outcome of this philosophical issue can make a real practical difference.

Now that I’ve cleared this up, when can we expect Texas appellate courts to stop proclaiming without qualification that the reasonableness of a non-compete is a question of law for the court?

I’d say probably when hell freezes over.

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head-shot-photo-of-zach-wolfeZach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Appellate lawyers call this the “standard of review.” Standard of review is one of those issues that is really, really exciting for appellate lawyers and boring for just about everyone else.

[2] Tex. Bus. & Com. Code § 15.50(a).

Texas Court Finds Indentured Servitude Contract Illegal

Texas Court Finds Indentured Servitude Contract Illegal

TexasBarToday_TopTen_Badge_VectorGraphicDo you have a college degree in restaurant and hotel management? Have I got a deal for you.

Work as an assistant manager at Buc-ee’s, the well-known Texas highway stop with the clean restrooms, massive selection of snacks, and funny billboards. On top of a weekly salary of $862.75, you will get a monthly bonus, I mean, “retention payment,” of 1.2652% of the store’s monthly net profit.

Naturally, your employment will be at-will, meaning Buc-ee’s can fire you at any time for any reason, or for no reason. That’s ok, because you can also quit for any reason, or for no reason.

But here’s the catch. If you quit or get fired in less than four years, or if you don’t give Buc-ee’s written notice at least 6 months before quitting, you have to pay back all of the retention payments you received, plus interest and attorneys’ fees.

In other words, you can check out any time you like, but you can never leave.

That was the basic deal in Rieves v. Buc-ee’s, a case recently decided by the Houston Court of Appeals (14th District).[1] Rieves, the employee, received about $67,000 in retention payments, paying federal income taxes on them, but quit the job three years in. Buc-ee’s sued her to recover the $67,000 plus interest and attorneys’ fees.

That doesn’t sound fair, you may be thinking, but this is Texas, and a deal’s a deal, right?

Well, yes, “that’s not fair” is usually not a defense to enforcement of a contract, and “unfairness” is not an exception to the at-will employment doctrine.

But it’s not just a question of enforcing the parties’ contract. The public’s interest in free competition is also at stake. That’s why Texas has a statute that says every contract in restraint of trade or commerce is illegal. The statute has an exception for non-competes, but the non-compete has to be reasonable in scope.

So, Rieves argued that the contract’s requirement to pay back the retention payments was an unenforceable restraint of trade, and the Houston Court of Appeals agreed.

Limitations on employee mobility must meet the reasonableness requirement for non-competes

Under Texas case law, the court said, limitations on employee mobility are unenforceable unless they fall within the statutory exception for non-competes. This rule applies not only to provisions that expressly limit employee mobility, but also to damages clauses that impose a “severe economic penalty” on a departing employee. Because the contract imposed a severe economic penalty on Rieves for exercising her right to quit, the court reasoned that the contract was unlawful unless it met the reasonableness requirements for non-competes.

The problem for Buc-ee’s? The contract had no limits on the employee’s repayment obligation based on whether her new employment involved competitive activities or was located within certain areas. Not only that, the contract gave Buc-ee’s the right to enforce the repayment provision even if, for example, Buc-ee’s fired the employee without cause on the last day of the four-year period, or if the employee quit to take a noncompeting job, or no job at all.

This was just too much, even for the relatively conservative 14th Court of Appeals.

“These provisions go far beyond protecting any legitimate competitive interest of Buc-ee’s,” Justice Busby wrote for the court, “impose significant hardship on Rieves by clawing back substantial compensation already paid to her and on which she had paid taxes, and injure the public by limiting choice and mobility of skilled employees.” The court therefore rendered judgment that the repayment provision of the contract was unenforceable.

That sounds like a fairly common-sense application of Texas law, right?

What about ExxonMobil v. Drennen?

But those of you who follow Texas non-compete law may be thinking, what about Drennen?

Exxon Mobil v. Drennen was a Texas Supreme Court case decided in 2014.[2] Technically, it addressed a narrow issue only a lawyer could love: choice of law. The contract at issue in Drennen required an executive to forfeit stock options if he went to work for a competitor. New York law allows that sort of thing, and the legal issue presented was whether the Texas court should apply New York law or Texas law.

I won’t get down in the weeds of the choice of law analysis, but the key was that one step was to ask whether Texas has any “fundamental policy” against this kind of forfeiture provision.

Some of you may recall a certain statute that says something about, what was it, restraints of trade or commerce being unlawful? That kind of sounds like a “fundamental policy” to me.

But the Texas Supreme Court didn’t see it that way. It held in Drennen that there was no fundamental Texas policy that would bar the forfeiture clause, and that cleared the way for New York law to apply.

As explained here, I thought Drennen got it wrong on this point. In my view, Texas courts should take the legislature’s ban on restraints of trade more seriously. But of course I don’t get to make the rules. And while bloggers and pundits are free to criticize, the Texas Courts of Appeals have to follow what the Texas Supreme Court says.

So if Drennen said the forfeiture of employee benefits does not violate Texas public policy, why didn’t that control the outcome in the Buc-ee’s case?

The Buc-ee’s court found that Drennen did not apply. First, the type of compensation at issue was different. In Drennen, it was forfeiture of future unvested stock options, while in Buc-ee’s it was money already paid to the employee, on which she had already paid income taxes.

Second, the Buc-ee’s contract was different because, unlike the stock option provision in Drennen, it did not necessarily reward the employee for her loyalty. The contract required the employee to pay back a substantial part of her compensation even if Buc-ee’s fired her, and the longer she worked at Buc-ee’s, the larger the penalty if she decided to quit.

These sound like reasonable distinctions, but would the Texas Supreme Court agree? I wouldn’t be surprised to see Buc-ee’s petition the Texas Supreme Court to take the case, arguing that it conflicts with Drennen.

Then we may really see if the Texas prohibition of restraints of trade has any teeth.

The Bigger Picture

The Buc-ee’s decision shows that some Texas courts still take the legislature seriously when it says that restraints of trade are unlawful. It’s an important decision, because it restores some balance to the basic social contract that Texas law provides to businesses and employees.

The at-will employment doctrine and the ban on restraints of trade are two sides of this coin. What’s in it for business is they can hire and fire at will, with only some narrow exceptions (like unlawful discrimination).

The at-will employment doctrine is widely known but not fully appreciated. Everybody knows that employers can fire employees at will, yet with most people that knowledge really hasn’t sunk in. In the back of their minds, employees still seem to feel that employers can’t fire them for a bad reason.

But they can, and that’s a big deal. I would even say the at-will employment doctrine is the most serious source of injustice in the workplace in America.[3]

Think about it. At-will employment means you can slave away for the same company for twenty years and get fired because the owner wanted to make room for his son who just got out of college and needs a job. It’s just not fair!

Yet I fully support the at-will employment doctrine. While at-will employment is a source of great injustice on the “micro” level, we accept it as a necessity for its “macro” benefits, which fall into two categories.

First, there is the judicial capability problem. While judges sometimes speak of at-will employment as if it were some immutable law of nature, it isn’t. Courts could adopt a common-law rule that employers must have good cause to fire an employee. But imagine all the lawsuits that would follow. And imagine all the inconsistent and subjective rulings by judges and juries on “good cause.”

Second, we accept at-will employment for its economic benefits. The ability to hire and fire freely boosts overall economic growth and employment, benefitting everyone. If employers could only fire for good cause, think of how reluctant they would be to hire in the first place. At-will employment also encourages employee mobility, which increases competition.

But this gets to the other side of the deal: at-will employment has to be a two-way street. Just as employers can fire for any reason, or for no reason, employees have to be free to say “take this job and shove it.” Not only that, employees must be able to leave and work for a competitor (unless there is a reasonably limited non-compete). That’s the balance that makes at-will employment work.

The basic problem in Buc-ee’s was that the employer tried to upset this balance. Buc-ee’s wanted to have its beef jerky and eat it too: we can fire you any time for any reason, but we’re also going to make it cost-prohibitive for you to decide to leave.

This was just too much for the Houston Court of Appeals. You can’t always get what you want.

___________________________________________________________________

head-shot-photo-of-zach-wolfeZach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC. As a litigator he drives around Texas a lot and loves stopping at Buc-ee’s.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Rieves v. Buc-ee’s Ltd., No. 14-15-01061-CV, 2017 WL 4557796 (Tex. App.—Houston [14th Dist.] Oct. 12, 2017).

[2] Exxon Mobil Corp. v. Drennen, 452 S.W.3d 319 (Tex. 2014).

[3] This is not to downplay harassment and discrimination, which are certainly real problems.

The Plain Language Non-Compete

The Plain Language Non-Compete

Even if you’re not a lawyer, you’ve probably had some occasion to read court documents and come across stock phrases like this:

TO THE HONORABLE JUDGE OF SAID COURT

COMES NOW PLAINTIFF . . .

WHEREFORE, PREMISES CONSIDERED, PLAINTIFF PRAYS . . .

And yes, they are usually in ALL CAPS.

You may have wondered if there is some legal purpose to these formalisms. The answer is no. Leaving these traditional incantations out of a court document would have zero legal effect. They are no more necessary than drafting a court document in Papyrus font.

So why do lawyers use them?

The most basic explanation is inertia. Lawyer like to use forms, forms often contain phrases like this, and lawyers don’t bother to change them.

But many attorneys include these phrases—and continue to include them—intentionally. (Associates, here’s an experiment: take these relics out of your next draft and see if the supervising partner puts them back in.)

I think insecurity is the main reason lawyers use these archaic phrases. The lawyer feels a need to “sound like a lawyer,” to show people “hey, I went to law school for three years and passed the bar.” The lawyer does not feel secure enough that the substance of his writing will accomplish this.

The irony is that when I see a lot of these empty formalisms in a court document, it has the opposite effect. It doesn’t make me think, “wow, this must be a really experienced lawyer.” Instead, I think to myself either “this guy relies too much on old forms” or even “this guy is kind of a lightweight.”

At a minimum, a document encrusted with these legal barnacles shows that the lawyer is not serious about good contemporary legal writing.

But let’s not get carried away

A couple caveats are appropriate. First, everyone has certain formal phrases they like to use in legal documents. I admit a fondness for putting “respectfully submitted” before the signature block, even though it has no legal effect and isn’t required. I see this as the equivalent of good manners, like saying “please” and “thank you” in polite conversation.

Second, there are certain ceremonial formalities that are worth observing for the sake of tradition and decorum, like saying “May it Please the Court” at the start of oral argument in an appellate court. We say things like this for the same reason that judges wear robes.

But many lawyers overdo the formalisms in legal documents, and for no good reason. If you leave out “TO THE HONORABLE JUDGE OF SAID COURT,” do you really think the judge is going to look at the document and say, “this lawyer doesn’t think I’m honorable, how dare he”?

And most authorities on contemporary legal writing agree that throat-clearing phrases like this are not only unnecessary, they are undesirable. I like what Wayne Schiess had to say about this here (and not just because he happened to be my first-year legal writing instructor at the University of Texas).

In short, if you care about good legal writing, eliminate the unnecessary ceremonial language, or keep it to a minimum.

Good legal writing and the “plain language” movement

But this gets to a more substantive question: what is it that makes good legal writing good? More pointedly, what makes bad legal writing bad?

Oh, let me count the ways. Schiess is helpful on this point as well. In this recent blog post he identifies some common flaws in weak legal writing. The main thing these flaws have in common is trying to sound more formal and “legal” than necessary.

This kind of legal writing has led to a reaction known as the “plain language” or “plain English” movement. Some judges, practitioners, and academics have advocated and practiced eliminating—or at least reducing—the “legalese” that plagues so much legal writing.

Overall, I’m on board with the plain language movement, which has several benefits and very little downside.

There are, of course, exceptions. When lawyers are writing to other lawyers, especially in their practice area, there are certain terms of art that would be awkward to translate into plain language. It would be silly to change “res judicata bars Plaintiff’s claims” to “the thing-already-decided doctrine bars Plaintiff’s claims.” Slavish devotion to “plain language” would make no more sense than blindly copying outmoded language from old forms.

And there is an even more important exception: when changing or deleting formal language would have a substantive legal effect. For example, a final judgment from a court typically ends with “All relief not expressly granted is denied.” That phrase has—or at least potentially has—a specific intended legal effect. It’s not merely an empty formalism, so you wouldn’t want to delete it just because it strikes you as unnecessary boilerplate.

The same is true of certain phrases that lawyers traditionally include in contracts. If you delete “Contractor has not relied on any representations not stated in this agreement,” thinking it’s unwarranted clutter, you just gave up something that could be significant in a later dispute.

This gets to the real test for plain language as applied to contracts: What difference does it make if a clause is written if legalese as long as it has the intended legal effect? Put another way, an “old-school” transactional lawyer might object that shifting to “plain language” is unnecessary, and even undesirable, because it places style over substance.

Point taken. But as a trial lawyer, I know that both substance and style matter. The style of a contract matters because that contract is going to be Exhibit 1 in a lawsuit, and you’re going to have to explain and defend the contract to a broader constituency: the witnesses, the judge, the jury, and even the opposing party.

Presenting the Plain-Language Non-Compete

I’ll use a non-compete agreement as an example, because it’s what I know best. I’ve seen a lot of non-competes, and most read like they were written with no regard for how they will be viewed in a subsequent lawsuit. Show me a lawyer who drafts a non-compete in impenetrable legalese, and I’ll show you a lawyer who never had to pin down an evasive witness about that non-compete in a deposition.

Somehow lawyers started to think that a non-compete is only enforceable if it’s contained in one long sentence in a block paragraph in small print that takes up at least half a page. And every key term—like “confidential information”—is a laundry list of “including-but-not-limited to’s,” rather than a single common-sense word.

But again, what does it matter, as long as the non-compete is legally effective?

It matters because in a lawsuit a lawyer will have to persuade a judge—and maybe even a jury—that the non-compete is reasonable and should be enforced. The plainer the meaning, the easier it will be to persuade.

A non-compete written in dense legalese, on the other hand, sends a not-entirely-subliminal message: this is one-sided boilerplate the employer’s lawyer wrote to screw the employee.

Ok, plain language is better in theory, you say. But is it possible? Can an effective non-compete be written in plain language?

There’s only one way to find out. As an experiment, I give you . . . the Plain-Language Non-Compete.

***MASSIVE LEGAL DISCLAIMER*** I offer the Plain-Language Non-Compete only for the purpose of discussion. I am not advising anyone to use it. And if you’re not a lawyer, don’t even think about using the Plain-Language Non-Compete without advice from a qualified lawyer.

Some of you will think the Plain-Language Non-Compete doesn’t sound “legal” enough. If so, please tell me which provisions you think are too “plain English” to be legally effective, and why.

Some of you may go the other way. You may think I haven’t gone “plain” enough. And I admit, even the Plain-Language Non-Compete has some technical clauses only a lawyer could love. So, if there is a section you think is unnecessary or would be worded more plainly, I’m all ears.

And if you want to understand the substance of what I have included and why, a good place to start is my very first blog post: What a Litigator Looks for in the Typical Texas Non-Compete.

WHEREFORE, PREMISES CONSIDERED, Five Minute Law respectfully submits to the Honorable Readers of Said Blog: the Plain Language Non-Compete.

Govern yourselves accordingly.

*UPDATE: I have updated the form a couple times since the original post. Inter alia (how’s that for a formalism?), I have followed Bryan Garner’s formatting advice by using hanging indents for numbered lists. I used 12-point Palatino font, but there is probably a way to change that if you want.

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head-shot-photo-of-zach-wolfeZach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

Learning by Rote: Non-Competes for Insurance Agencies

Learning by Rote: Non-Competes for Insurance Agencies

TexasBarToday_TopTen_Badge_VectorGraphicBig insurance companies spend millions on advertising to convince people they provide a better product than their competitors. But the typical home and auto policies consumers buy are written on standard industry-wide forms, so the coverage options are not that different. The same is true for the CGL (Commercial General Liability) policy, the typical liability insurance businesses buy.

There are, of course, differences between insurance companies in financial strength, claims handling, and price. But the coverage they provide is fairly standardized. So it is only a slight exaggeration to say that insurance agents, especially independent agents, are selling an essentially fungible commodity.

So how do insurance agents differentiate themselves? It comes down to two things: personal relationships and customer service. If you can get insurance anywhere, you’re going to prefer an agent you know personally, and you’re going to stick with an agent who provides good customer service.

This creates a legal problem for insurance agencies that want to protect their assets. The law protects an insurance agency’s information in several ways: trade secrets law, enforcement of confidentiality agreements, the “Fiduciary Duty Lite” owed by an employee.

But the most valuable assets insurance agencies “own” are the personal relationships with customers. Accountants call this goodwill. It is literally the “good will” that a customer has towards a business.

People in the insurance industry call this a “book of business,” as if the book can simply be moved from one agency’s shelf to another’s. But the problem for insurance agencies is that the goodwill is usually directed at an individual not at an agency. This means that most of the value in an insurance agency is found in the personal relationships of the individual agents.

The agency must not allow the agents to discover this fundamental truth. If the agents ever found out the agency owner is making profits off their relationships, surely the agents would take to the streets and throw off the yoke of oppression. Insurance agents of the world unite, you have nothing to lose but your chains!

There must be a way for insurance agencies to prevent this and save capitalism as we know it. That’s where non-competes come in.

Enforceability of insurance agency non-competes

The more interchangeable the product, the more important it is to maintain goodwill with your customers. But goodwill is a relationship, not information. So there is really only one legal device to prevent employees from taking goodwill: a non-compete. Naturally, insurance agencies, like many other businesses, will often require their insurance agents to sign non-competes.

The legal problem is that a non-compete is a restraint of trade, and restraints of trade are generally illegal. I say “generally” because most states recognize an exception for non-competes. These states only differ on the size and contours of the exception.

If we had to sum up the Law of Non-Competes in the states that allow them, we could say this: there must be consideration for a non-compete, and the non-compete must be reasonably limited to the purpose of protecting the company’s goodwill with its existing customers.[1]

Just about every state that allows non-competes follows some variation on this theme. When courts find that non-competes are unreasonable, it is usually because they are too broad in time period, geographic area, or the scope of activity they prohibit.

Case study in insurance agency non-competes: Allstate v. Rote

Let’s use a recent case to illustrate how these typical requirements for non-competes can apply to an insurance agency.

In Allstate v. Rote, the agent signed an Exclusive Agency Agreement that contained a one-year non-compete. For one year following her termination, the agent could not solicit any person in competition with Allstate:

(1) who bought insurance from the agency and was an Allstate customer at the time of termination;

(2) who was an Allstate customer at the time of termination and who the agent discovered as a result of her employment with the agency and access to Allstate confidential information; or

(3) from within a one-mile radius of the agency office.[2]

In short, the Allstate non-compete barred the insurance agent from soliciting any insurance customers from within a one-mile radius, or soliciting the agency’s customers anywhere.

The court considered whether this non-compete was enforceable under Oregon law. Like Texas and many other states, Oregon requires that a non-compete be supported by consideration, limited in time and geographic area, and reasonably limited to protecting the company’s interests.[3]

The judge found that the Allstate non-compete met these requirements: the appointment as exclusive agent was sufficient consideration, the non-compete protected Allstate’s legitimate interests in its customer relationships and confidential information, and the one-year time period and one-mile radius were reasonable.[4]

But the judge denied Allstate the injunction it wanted. While the judge granted an injunction to protect Allstate’s confidential information, he declined to enjoin the agent from competing.[5]

Why? Well, as with any injunction, to get an injunction to enforce a non-compete against an insurance agent, it’s not enough for the company to prove the non-compete is enforceable.[6] The company also has to prove that an injunction would be fair.

Non-compete injunctions

Different jurisdictions formulate injunction requirements differently, but in essence it comes down to three words: imminent, irreparable, and equitable. First, there must be an “imminent” threat of harm to the plaintiff, meaning the harm is about to happen. Second, the threatened injury must be “irreparable,” meaning money damages are inadequate to compensate the plaintiff. Third, the injunction must be “equitable” and serve the public interest.

“Equitable” is just a fancy legal word for “fair,” so let’s say the third requirement is that the injunction must be fair to the defendant and to the public.

As a litigator who reads a lot of injunction cases (you can read about some non-compete injunction cases here), I should warn you to take these theoretical requirements with a large grain of salt. For example, courts often water down the “irreparable injury” requirement so much that it becomes almost meaningless. For example, in the Rote case, the judge had to follow Ninth Circuit law, which apparently says that a breach of a non-compete causes irreparable harm “[b]ecause the harm is intangible and difficult to quantify.”

Time out for a quick rant. It always bugs me when courts say this kind of thing. It is just wrong to suggest that the harm resulting from breach of a non-compete is always “intangible” and “difficult to quantify.” In many cases, the harm will be quite tangible and relatively easy to quantify: the amount of profits the company lost as a result of its customers buying a product from the former employee rather than the company.

Now back to the requirements for injunctions. Judges also vary widely in how much weight they give the third factor: equity and the public interest. Courts often brush aside these considerations with a rote statement to the effect of “enforcing reasonable non-competes is in the public interest, therefore an injunction here will not disserve the public interest.”

But some judges, like the one in Allstate v. Rote, take this requirement more seriously. As to Allstate’s demand that Rote cease operating out of her former agency location, Judge Hernandez said “[t]he controlling consideration is the harm that Allstate would suffer from the erroneous denial of a preliminary injunction compared to the harm Rote would suffer from the erroneous grant of such relief.” Considering the fact that Rote had signed a five-year lease at her office location, the judge found that granting the injunction would cause Rote “severe financial loss and ability to sustain her profession.” This tipped the “balance of equities” in Rote’s favor.[7]

So, Allstate v. Rote shows us that even when an insurance agency non-compete is reasonably limited, the judge may decline to enjoin an agent from competing, especially where an injunction would cause the agent significant financial hardship.

Fact issues in insurance agent non-compete cases

Lawyers who enforce non-competes can sympathize with Allstate’s counsel. They are all too familiar with the employee’s lament of “judge, how can I possibly make a living and put food on my family’s table if you enforce this non-compete?” It’s an occupational hazard. But that’s not the only problem for an insurance company, or any company, that tries to enforce a non-compete.

There is also the “fact issue” problem. Insurance company non-competes tend to be especially susceptible to this. Often the insurance company will do what Allstate did and limit the non-compete to “solicitation” of customers. This makes it more likely the non-compete will be found reasonable and, therefore, enforceable.

The problem is that whether the insurance agent “solicited” the agency’s customers is often a fact in dispute.

Let me put it in terms lawyers will understand. Let’s say you’re a litigator who has seven active litigation matters. You leave your law firm to go to another firm. You call each of your seven active clients say, “I just wanted to let you know I’ve joined the firm of Burr & Hamilton; you are free to decide whether to stay with my old firm or not.” Has the lawyer just “solicited” the clients?

Different people will interpret “solicit” differently, plus there may be a dispute about exactly what was said on each phone call.

This was the issue in Allstate v. Sidakis. In that case, Allstate claimed that the defendants solicited Allstate customers in violation of a non-compete. Allstate even produced signed statements from customers claiming they were solicited. But the defendants denied this, and the court found that the conflicting testimony presented a fact issue for trial.[8]

This problem is compounded by the fact that customers, who don’t want to be treated like property and told where they can and can’t buy insurance, are usually not inclined to testify in support of the insurance company.

Put all this together and you get fact issues. That means the judge cannot grant summary judgment, and the case has to go to trial. And a trial means more time and money. A lot of money (I explain how much in this video).

Good for lawyers. Not necessarily good for insurance companies, agencies, and agents. They’re already spending a lot of money on all those commercials.

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head-shot-photo-of-zach-wolfeZach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation. His firm Fleckman & McGlynn, PLLC has offices in Houston, Austin, and The Woodlands.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Please don’t take this generalization as legal advice for your situation; consult with a lawyer about the law in your state.

[2] Allstate Ins. Co. v. Rote, No. 3:16-cv-01432-HZ, 2016 WL 4191015, at *1-2 (D. Or. Aug. 7, 2016) (unpublished).

[3] Id. at *4 (citing Nike, Inc. v. McCarthy, 379 F.3d 576, 584-85 (9th Cir. 2004)).

[4] Id.

[5] Id. at *7.

[6] In Texas, there are some cases suggesting that the traditional common law requirements for an injunction do not apply to an injunction to enforce a non-compete, which is governed by statute. This is currently an open issue under Texas law.

[7] The judge also cited the important factor that there was no evidence that Rote had taken any business from Allstate by operating from her former agency location. Id. at *6. Perhaps the equities would have tipped back towards Allstate if Rote had been actively poaching Allstate customers.

[8] Allstate Ins. Co. v. Sidakis, No. 13-CV-7211, 2016 WL 556869, at *5, 8 (E.D.N.Y. Feb. 10, 2016) (unpublished).

Head First Into the Abbiss: Temporary Injunction Rulings in Recent Texas Non-Compete Cases

Head First Into the Abbiss: Temporary Injunction Rulings in Recent Texas Non-Compete Cases

Offer evidence of “imminent harm” and “irreparable injury,” even if judges don’t always require it

In a non-compete lawsuit, the temporary injunction hearing is often the key event, for two reasons.  First, a reasonable time limit for the non-compete is usually around the same time that the case takes to go to trial. So, if the judge enters a temporary injunction enforcing the non-compete until trial, it can be practically the same as a permanent injunction.

Second, a temporary injunction puts the company in the driver’s seat in settlement negotiations. Most employees will have to make a deal with the company, because otherwise they won’t be able to make a living.

Conversely, if the judge denies a temporary injunction, then the company is probably never going to get any injunction. That means the company is limited to seeking damages. This is significant in a Texas non-compete case, because if the non-compete is overbroad as written, the company can’t get damages either.[1]

So the stakes are high at the temporary injunction hearing. That means the lawyers better be prepared to address the enforceability of the non-compete and the traditional requirements for a temporary injunction, because some judges still care about those things.

1. A temporary injunction should be denied if the employee has not competed in the geographic area he was responsible for at the first company

In Cameron International v. Abbiss, the judge denied a temporary injunction because the employee had not breached the non-compete as limited to a reasonable geographic area.[2]

Abbiss signed a one-year non-compete with his employer, Cameron. He later went to work for a competitor, FMC, as its General Manager for the Middle East. Cameron sued Abbiss in federal court and sought a preliminary injunction.

The court found the non-compete as written was overbroad. A reasonable geographic limit would be Oman and Yemen, the court said, because (1) those were the countries Abbiss was responsible for during his last two years of employment, and (2) the evidence did not support Cameron’s claim that Abbiss received confidential Cameron information regarding the entire Middle East. The court found that much of the information Abbiss received at the meeting at issue was either publicly available or was available to employees who did not have non-competes.

The question, then, was whether to enter a preliminary injunction barring Abiss from competing in Oman and Yemen, the reasonable geographic area. The court said no, because (1) there was no evidence Abbiss had competed or intended to compete in Oman or Yemen, and (2) the confidential information Abbiss obtained regarding bids in other Middle East countries was more than six months old and likely stale.

In short, the court in Abbiss denied a temporary injunction because there was no evidence the employee breached or intended to breach the non-compete within the geographic area the court found was reasonable.

2. Judges are not always strict about the “irreparable injury” requirement

In Fantastic Sams v. Mosley, Mosley opened a competing hair salon in violation of his two-year non-compete, which covered a five-mile radius from a Fantastic Sams franchise in Cypress (the Houston suburb, not the Mediterranean island).[3]  After finding the non-compete was reasonable, the judge found that Mosley’s violation of the non-compete was likely to cause irreparable injury:

Fantastic Sams . . . argued the existence of Mosley’s nearby salon, which offers nearly identical hair care services to Fantastic Sams, prevents Fantastic Sams from licensing a new franchise in the area. The court also notes that the Agreement actually contains a provision that requires Mosley to concede that violations of the Agreement constitute irreparable harm to Fantastic Sams. The court agrees with Fantastic Sams that Mosley’s continued operations of a nearby salon, in violation of the Agreement, hurts other franchisees, poses a risk of loss of goodwill, and inhibits the opening of new Fantastic Sams franchises in the area. All of these injuries cause irreparable harm to Fantastic Sams as a whole, and that harm cannot be fully remedied with damages.

“Identical hair care services.” I love that part. I can only assume there was testimony that both salons offered a unique proprietary combination of shampooing, cutting, and blow drying. But I digress.

pexels-photo-163569
Does this look like “irreparable injury”?

The passage above from Fantastic Sams is typical of cases granting a temporary injunction to enforce a non-compete. Judges often apply the “irreparable injury” requirement loosely, especially when there is a clear violation of the non-compete.

Yes, there was a contractual stipulation to irreparable harm, but surely that can’t be dispositive. Almost every non-compete has a clause like this, so allowing it to substitute for actual evidence of irreparable injury would effectively abolish the irreparable injury requirement in non-compete cases.

And I don’t read Fantastic Sams as saying that a contractual stipulation, by itself, is sufficient. My practical takeaway from the case, and others like it, is that it’s easier to clear the “irreparable injury” hurdle when the judge sees that the defendant is behaving badly by blatantly breaching a reasonably limited non-compete.

3. Companies should present evidence of imminent harm, not just an argument about “inevitable disclosure”

While courts don’t always apply the “irreparable injury” requirement strictly, DGM Services v. Figueroa shows that the company trying to obtain a temporary injunction still needs to offer evidence that harm has already happened or is about to happen.[4]

In that case, DGM’s president, Petillon, testified that Figueroa received confidential financial information on budgets, revenues, and costs while working for DGM. He expressed concern that Figueroa would use his knowledge to undercut DGM’s prices and gain an unfair advantage. But Petillon did not know if Figueroa had actually provided confidential information to his new employer, GCC, or whether DGM had lost any customers to GCC since Figueroa had left.

The trial court denied a temporary injunction, stating that DGM did not prove imminent harm. On appeal, DGM argued that proof of violation of a non-compete creates a presumption of probable, imminent, and irreparable harm.

The Houston Court of Appeals disagreed. Under recent Texas Supreme Court cases, the applicant for a temporary injunction has the burden to prove these elements to obtain a temporary injunction. Therefore, the Court of Appeals declined to hold that breach of a non-compete creates a presumption of harm that relieves the plaintiff of its burden to offer evidence. DGM only established a “fear of possible injury,” so the trial court was within its discretion to deny the injunction.

DGM also argued that the “inevitable disclosure doctrine” relieved it of the burden of offering evidence of imminent harm, citing state and federal cases applying various versions of it. The Court of Appeals disagreed, finding that Texas courts have not adopted the doctrine, and that it is not a blanket rule applicable to all nondisclosure agreements. DGM was still required to offer evidence of imminent harm.

You can find a lot of articles (like this one) on the inevitable disclosure doctrine, so I won’t go into great detail. Essentially, it is the idea that a court can enjoin a company’s former employee from working for a competitor, even if the employee hasn’t done anything wrong yet, on the theory that the employee will “inevitably” disclose his knowledge of the company’s confidential information to the competitor.

I don’t like the idea of an inevitable disclosure “doctrine.” These are fact-intensive cases that should be decided based on the evidence in each case. Talking about some general “doctrine” distracts from the real issues, which should be imminent harm and irreparable injury.

If the inevitable disclosure doctrine is merely the common-sense notion that a former employee who is working for a competitor is in a position to use the company’s confidential information, then it’s fine. But if the inevitable disclosure doctrine means that the company doesn’t have to offer any evidence of imminent harm, then it is wrong. The DGM case got this point right.

The recent BM Medical case was similar.[5] BM Medical argued that its former employee, Turner, had access to its confidential information such as client lists and prices, and that Turner would be able to use his knowledge to “undersell” BM Medical. But Turner testified that he did not access any confidential information after his termination, that he did not solicit any BM Medical clients, and that the only BM Medical client who became a client of his new company was a friend he knew before going to work for BM Medical.

Like the plaintiff in DGM Services, BM Medical argued that Turner had its confidential information, was working for a direct competitor, and intended to use the information. But like the court in DGM Services, the court in BM Medical disagreed. It held that the trial court was within its discretion to deny a temporary injunction based on the evidence that Turner had not used any confidential information and was not soliciting BM Medical clients.

Lessons from these recent Texas non-compete injunction cases

If you represent the company asking for a temporary injunction to enforce a non-compete, you can cite the contract’s stipulation that irreparable injury is presumed. You can cite the “inevitable disclosure” doctrine. You can cite cases that get confused and say that evidence of imminent harm shows that the injury is “irreparable.”

But ideally, you should come to the hearing prepared to offer actual evidence that the employee has already caused harm to the company or is about to do so, and that the harm cannot be adequately compensated by damages. That way, you don’t have to rely on debatable legal arguments the judge might not find persuasive.

The best way to show imminent harm in a non-compete case is to show that your client has already lost customers to the competitor the former employee is now working for. The best way to prove irreparable injury is to hope the judge doesn’t take the irreparable injury requirement too seriously.

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IMG_4571
Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation at his firm Fleckman & McGlynn, PLLC.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] See Tex. Bus. & Com. Code § 15.51(c) (stating that if the non-compete is not reasonably limited in time period, geographic area, and scope, then the court must reform the non-compete but may not award damages occurring prior to reformation).

[2] Cameron Int’l Corp. v. Abbiss, No. H-16-2117, 2016 WL 6216667 (S.D. Tex. Oct. 25, 2016).

[3] Fantastic Sams Franchise Corp. v. Mosley, No. H-16-2318, 2016 WL 7426403 (S.D. Tex. Dec. 23, 2016).

[4] DGM Servs., Inc. v. Figueroa, No. 01-16-00186-CV, 2016 WL 7473947 (Tex. App.—Houston [1st Dist.] Dec. 29, 2016, no pet.) (mem. op.).

[5] BM Med. Mgmt. Serv., LLC v. Turner, No. 05-16-00670-CV, 2017 WL 85423 (Tex. App.—Dallas Jan. 10, 2017, no pet. h.).

Horizon Case Addresses Causation Conundrum in Departing-Employee Litigation

Horizon Case Addresses Causation Conundrum in Departing-Employee Litigation

Oral argument in Horizon Health v. Acadia Healthcare illustrates difficulties with proving lost profits damages when employment is at-will

Last week I wrote about a new Texas Supreme Court opinion that had to draw the line between sexual harassment and sexual assault. Just days later, the Texas Supreme Court confronted an even more difficult issue in oral argument in Horizon Health v. Acadia Healthcare: how to draw the line between reasonable assumption and speculation when an expert witness testifies about lost profits damages in a departing-employee case.

This is a difficult issue, because the typical departing-employee case involves at-will employment. Let’s assume a group of employees does all kinds of bad things before leaving to go to work for a competitor. And let’s assume the employer lost sales after the group left. Those facts are relatively easy for a jury to understand.

But this leaves out a critical issue that is harder for the average person to grasp: causation.  It’s not enough to prove the defendants did bad things and the plaintiffs were damaged. You have to prove that the bad things caused the damage. And you have to quantify the damage.

Let’s say the bad conduct is soliciting a key employee to join a competitor, and the damage is the loss of sales the key employee would have made for the company if she had not been solicited. The problem for the plaintiff is obvious: if the key employee is an at-will employee, she could have left the company at any time regardless of whether she was solicited. How do you quantify the amount of lost profits caused by the wrongful solicitation?

That, in simplified form, is the problem confronting the Texas Supreme Court in Horizon Health v. Acadia Healthcare. I call this the Causation Conundrum for departing-employee cases.

Facts of Horizon v. Acadia: the distilled version

Horizon was a somewhat complex case with multiple defendants, numerous causes of action, and a 55-page jury charge (see Court of Appeals opinion here). But the basic facts, in simplified form, follow a familiar pattern:

  • Horizon managed mental-health programs for hospitals.
  • Four of Horizon’s executives, the Saul group, began negotiating to join a Horizon competitor, Acadia, while they were still working for Horizon.
  • While still employed by Horizon, the Saul group solicited John Piechocki, a successful Horizon salesman, to work for the competitor.
  • The Saul group and Piechocki left Horizon to work for Acadia.
  • Before leaving Horizon, the Saul group said things in their emails that must have made their trial lawyers cringe later. Our departures will leave Horizon “dead,” they said, and our business strategy at Acadia will be “hurting Horizon early and often.”
  • The Saul group also did things that would not look good to the jury. Saul, for example, copied a massive amount of Horizon files from his work computer to an external hard drive before leaving Horizon.[1]

Given these facts, Horizon’s lawyers had a lot to work with on liability. But how could they prove the Saul group caused damage to Horizon by bringing Piechocki to the new company? And how could they quantify that damage?

Startup Stock Photos
Emails about “hurting Horizon early and often” certainly didn’t help the defendants at trial

These challenges were compounded by a couple pesky facts. First, Horizon’s profits continued to go up after the employees departed, even exceeding Horizon’s own targets. Second, there was no evidence that any existing Horizon customer left and went to Acadia.

How could Horizon prove lost profits given all these difficulties? The answer is that Horizon tried to prove causation and damages the old-fashioned way: they hired an expert.

Horizon’s expert dares to pose hypotheticals and make assumptions

Horizon designated Jeff Balcombe, a qualified CPA, to testify on damages. Balcombe’s assignment was to quantify Horizon’s future lost profits resulting from the loss of Piechocki. In the words of the Court of Appeals:

Balcombe testified as to the “lost production” damages Horizon suffered as a result of the individual defendants’ wrongful actions. In doing so, he attempted to determine what would have happened but for the wrongful actions—as opposed to what actually happened—by considering (1) how long Piechocki would have remained an employee of Horizon but for the alleged wrongful conduct, (2) how many contracts Piechocki would have sold “but for being an employee of Horizon,” and (3) what the average profit for each of those contracts would have been had he remained with Horizon.[2]

The court’s interjection “as opposed to what actually happened” is dripping with skepticism. But in fairness to Horizon, let’s pause here to consider the nature of causation and damages in a lost profits case involving departing employees.

Proving lost profits damages necessarily requires entering a hypothetical world. To prove how the defendants caused your company to lose profits, you must ask the hypothetical question “what amount of profits would we have made but for the defendants’ wrongful conduct?” There is no other way to do it. So when Horizon’s expert tried to figure out what would have happened, he was doing his job.

The harder part for the damages expert is deciding what assumptions to make. Balcombe based his lost profits analysis on three assumptions:

  1. “Balcombe analyzed the average amount of time Horizon retained its higher-level employees and ‘conservatively elected to assume’ that Piechocki would have stayed at Horizon two or four more years but for the alleged wrongful conduct.”
  1. “Piechocki would have sold six contracts in each year he stayed, up to four years, but for the wrongful conduct because other Horizon salespeople sold four contracts per year.”
  1. “He concluded that $247,000 per year for each contract was ‘a conservative and reliable figure for a mature contract price.’”[3]

This is where the Court of Appeals thought the damages expert went wrong. “We conclude that Balcombe’s opinion was too speculative based on an analytical gap between the data and his opinion; thus, it was no evidence of lost profits suffered by Horizon.” For example, the assumption that Piechocki, an at-will employee, would have stayed employed by Horizon was “nothing more than speculation.” Experts are allowed to make assumptions, but the Court of Appeals found that Balcombe’s factual assumptions were “unsupported” and “not admitted into evidence.”[4]

Wait a minute. Does this mean lost profits damages are never recoverable in a case based on solicitation of an at-will employee? Is the Court of Appeals saying a damages expert is never allowed to make assumptions about how long an at-will employee would have stayed at a company? And does the plaintiff have to offer evidence during the trial to support every factual assumption made by the damages expert?

Surely the Court of Appeals did not mean to go that far. But where to draw the line? That is what the Texas Supreme Court will have to decide.

Fortunately I have the answers to these difficult questions

Does the fact that a wrongfully-solicited employee was also an at-will employee legally bar the company from obtaining lost profits damages? The answer has to be no. That the employee could have left at any time is certainly a relevant fact for the jury to consider, but it can’t mean that lost profits damages are never recoverable in such a case.

So, if lost profits damages are available in such cases, is it legally impermissible for a damages expert to make assumptions about how long a solicited employee would have stayed at the company?

Some might argue that making an assumption about how long an employee would have worked for the company is always speculative, and therefore impermissible. How can an expert know with absolute certainty how long an at-will employee would have stayed?

The answer, of course, is that he can’t. But absolute certainty is not required. The Texas Pattern Jury Charge asks the jury to decide the amount of lost profits “that, in reasonable probability, will be sustained in the future.” Reasonable probability is the standard.

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There is always some hypothetical element to the calculation of lost profits damages

So, even if the employment is at-will, a damages expert can make assumptions based on reasonable probability. That much is clear. But what assumptions?

Again, the question almost answers itself. The assumptions must be reasonable and must be supported by some evidence. No one would argue that an expert can base a damage calculation on unreasonable assumptions. And a damages expert should not be allowed to assume facts that have no evidence to support them.

A harder question is whether the facts assumed by the expert must be offered in evidence at trial. Texas Rule of Evidence 703, like the corresponding Federal Rule, allows an expert to reasonably rely on facts he has been made aware of, even if those facts are not admissible. But the Court of Appeals in Horizon was troubled by the fact Balcombe’s underlying information was not admitted into evidence.

The Texas Supreme Court also seemed troubled. In oral argument, one of the justices asked whether there was any evidence other than the expert testimony to support the amount of damages found by the jury. The Court of Appeals assumed the answer was no. But Horizon’s counsel argued to the Supreme Court that the answer was yes.

So perhaps the Texas Supreme Court will sidestep the entire expert testimony issue and find that there was other evidence sufficient to sustain the damages verdict.

It’s hard to predict what this Texas Supreme Court will do in a departing-employee lawsuit. This is a court that likes defendants and doesn’t like big speculative damage awards (see Southwestern Energy for example). But this is also a court that likes employers and non-competes.

If I had to predict, I would bet that the court’s aversion to speculative damage awards will outweigh its warm fuzzy feelings for employers, meaning a win for the defendants on the lost profits damages issue.

But it is a conundrum.

*UPDATE: The Texas Supreme Court issued its opinion on May 26, 2017, ruling that the evidence was legally insufficient to support any award of lost profits. See my analysis here.

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head-shot-photo-of-zach-wolfeZach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation. His firm Fleckman & McGlynn, PLLC has offices in Houston, Austin, and The Woodlands. He can’t remember the last time he wrote a post with as many rhetorical questions as this one.

These are his opinions, not the opinions of his firm or clients, so don’t cite part of this post against him in an actual case. Every case is different, so don’t rely on this post as legal advice for your case.

[1] Acadia Healthcare Co. v. Horizon Health Corp., 472 S.W.3d 74, 79-82 (Tex. App.—Fort Worth 2015, pet. filed).

[2] Id. at 88.

[3] Id. at 88-89.

[4] Id. at 89-90 (emphasis added).