When I started practicing law in Texas in the 90s, the key non-compete case was Light v. Centel Cellular Company of Texas, 883 S.W.2d 642 (Tex. 1994). Light held that a non-compete in an at-will employment agreement was unenforceable because it was not “ancillary” to an otherwise enforceable agreement, as required by the Texas non-compete statute. We spent the next decade arguing about what that means.

Today, Light is not such a big deal, as subsequent decisions have largely abandoned it. You might say it’s the Pennoyer v. Neff of Texas non-compete law, in that it presents a dilemma for anyone teaching the subject. Does Light only deserve a brief mention, considering it is now largely obsolete, or is it worth getting down in the weeds and understanding all of its nuances and the subsequent decisions that tried to apply it?

I’m opting for a middle approach. You can find other articles that get down in the weeds. And sure, it would be fun to chronicle the 90s turf battle between the Texas Supreme Court and the Texas legislature over non-competes (see the snark in Light‘s footnote 7, for example).

But I’m just going to focus on three key hurdles Light created for enforcement of non-competes: (1) the “illusory contract” problem; (2) the “give rise to” requirement; and (3) the “designed to enforce” requirement.

The Texas Supreme Court would later knock down two of these hurdles, but one remains (maybe).

The “illusory contract” problem

Let’s start with the illusory contract problem. Light reasoned that an agreement to provide at-will employment cannot not be the “enforceable agreement” in “ancillary to an otherwise enforceable agreement” because the agreement is not really enforceable by the employee. “Describing something as an at-will obligation is nonsensical,” Light said. Id. at 645 n.7.

You can see the logic. If the employer can fire the employee at any time for any reason or for no reason, then what rights does the employee actually have to enforce? Thus, Light said that an agreement to provide at-will employment cannot be the “otherwise enforceable agreement” to satisfy the “ancillary to an otherwise enforceable agreement” requirement. See id. at 644-46.

Did this mean an at-will employee cannot have an enforceable non-compete?

No. Light made it clear that an otherwise enforceable agreement “can emanate from at-will employment so long as the consideration for any promise is not illusory.” Id. at 645.

This theorizing about illusory promises was all well and good, but employers just wanted to know, how do we meet this “ancillary” requirement if an agreement to provide at-will employment is illusory? The Light opinion gave them an answer in its famous footnote 14: an employer’s agreement to provide an employee confidential information or trade secrets can be the “otherwise enforceable agreement.”

Predictably, that is exactly how employers tried to make non-competes stick after Light. The standard form of non-compete would have a non-compete tied to a confidentiality agreement.

But there was a problem, one based on the reasoning of Light itself. If the employment is at will, isn’t the employer’s agreement to provide the employee confidential information also “illusory”?

That objection was correct in theory, but unworkable in practice. What are we supposed to do, exasperated employers asked, draft the contract to require handing the employee a stack of confidential documents at the moment she signs the contract? And believe me, there was much confusion and uncertainty.

The Texas Supreme Court later cleared this up. The Alex Sheshunoff case solved the “illusory contract” problem by holding that an agreement to provide confidential information to an at-will employee becomes an “otherwise enforceable agreement” when the employer performs its obligation to provide the confidential information. Alex Sheshunoff Mgmt. Servs., L.P. v. Johnson, 209 S.W.3d 644, 655 (Tex. 2006). Thus, the “illusory contract” problem addressed in Light was largely solved.

And this was probably a good thing. Like I said, the “illusory contract” point made some sense in theory, but it caused a lot of confusion, which Sheshunoff cleared up.

The “give rise to” requirement

Light also grappled with the meaning of “ancillary.” What does it mean for a non-compete to be “ancillary” to an otherwise enforceable agreement?

We could look up “ancillary” in a dictionary, but I say it’s more important to understand the purpose of the requirement. So let’s step back and ask a more fundamental question: what is the point of the “ancillary” requirement in the first place?

Put simply, the purpose of the “ancillary” requirement is to balance two interests: the interest in enforcing the contracts of private parties and the interest in encouraging free competition.

Let’s illustrate. Imagine you’re an ice delivery business in the 1920s making huge profits. (See Jurassic Non-Competes.) The last thing you want is for a salesman to quit and start selling ice to your customers. So any time an employee quits, you offer to pay him $500 in exchange for agreeing not to compete for a year.

That would be a “naked” non-compete, i.e. a non-compete that is not “ancillary” to an otherwise enforceable agreement, and we don’t want that. In that scenario, we give more weight to the interest in free competition than the interest in enforcing contracts.

So, the “ancillary” requirement has to mean something more than requiring the non-compete in exchange for some benefit provided to the employee. But what?

Citing to the US Supreme Court, the Restatement (Second) of Contracts, and its own decision in DeSantis v. Wackenhut, the Texas Supreme Court reasoned in Light that “ancillary” means two things:

(1) the consideration given by the employer in the otherwise enforceable agreement must give rise to the employer’s interest in restraining the employee from competing; and

(2) the covenant must be designed to enforce the employee’s consideration or return promise in the otherwise enforceable agreement.

Id. at 647.

To illustrate the first prong, the “give rise to” requirement, Light cited the example already discussed, a confidentiality agreement. In that case, the confidential information is the consideration given by the employer. Providing confidential information to the employee “gives rise to” the employer’s interest in restraining competition, at least where the employee could use the confidential information to compete. See id. at 647 n.14.

Personally, I think Light got this point exactly right. “Ancillary,” in this context, has to mean something more than just related. The non-compete will always be related to some benefit provided to the employee; otherwise, it would be void for lack of consideration under basic contract law principles.

But Texas employers didn’t like this “give rise to” requirement. Yes, this requirement was fairly easy to apply in the typical case where the non-compete was tied to a confidentiality agreement, but in other contexts it presented more of a problem. For example, suppose an employer requires a non-compete as part of an agreement to provide stock options to a trusted executive. It’s hard to see how the stock options “give rise to” an interest in restraining the executive from competing.

Put it this way: Does competition from an executive who has stock options do more damage than competition from a former executive who doesn’t have stock options? I don’t think so.

Still, businesses don’t want employees with stock options to compete, and the Texas Supreme Court likes businesses, so the court jettisoned Light’s “give rise to” requirement in Marsh USA Inc. v. Cook, 354 S.W.3d 764, 773-76 (Tex. 2011). Instead of requiring the consideration to “give rise to” the employer’s interest in restraining competition, Marsh held that it is sufficient for the consideration to be “reasonably related” to an interest worthy of protection, such as confidential information or goodwill. Id. at 775. Applying this new “reasonably related” test, Marsh held that stock options were reasonably related to the protection of goodwill. Id. at 777.

“Reasonably related” is pretty weak sauce. Personally, I think getting rid of the “give rise to” requirement was a mistake, for reasons already covered. Plus, the majority opinion in Marsh is heavy on economic theory and light on practical experience. (For a look at how non-competes actually work in practice, see The Problem With Non-Competes.)

But I’ll bet most lawyers applauded Marsh, because applying the “give rise to” requirement outside the typical confidentiality agreement scenario was such a headache. And I will give Marsh its due: it at least had the benefit of making the “ancillary” requirement simpler to apply.

Still, Marsh did not completely extinguish Light.

The “designed to enforce” requirement

Remember, Light also said “the covenant must be designed to enforce the employee’s consideration or return promise in the otherwise enforceable agreement.” In the typical case where the non-compete is tied to a confidentiality agreement, the non-compete meets this requirement because it is designed to enforce the employee’s promise not to use or disclose the employer’s confidential information. At least, that’s the theory.

So, in the typical case involving a confidentiality agreement, Light’s “designed to enforce” requirement will usually be satisfied.

But what about other types of “otherwise enforceable agreements”? Do they still have to meet Light’s “designed to enforce” requirement? Or did Marsh abolish that requirement too?

That was the issue in Titan Oil & Gas Consultants, LLC v. Willis, No. 06-20-00026-CV, 2020 WL 6878418 (Tex. App.—Texarkana Nov. 24, 2020, no pet. h.). In Titan, the employer argued that Marsh overruled Light’s “designed to enforce” requirement, but the Court of Appeals disagreed. Marsh specifically stated that it was only addressing the “give rise to” prong of Light, the Titan court said, not the “designed to enforce” prong. Id. at *5.

The Court of Appeals was therefore bound to follow the “designed to enforce” requirement. “Neither Marsh nor any other Texas Supreme Court that has considered Light has overruled Light’s designed-to-enforce element of an enforceable covenant not to compete,” the court said. And it is not the function of a court of appeals to abrogate or modify Texas Supreme Court precedent. Id. at *6.

So, Light’s “designed to enforce” requirement survives. For now.

Does the requirement make any practical difference? It did in Titan, but the circumstances there were unusual. The employee signed a contract with one company, Titan, but received the confidential information from a different company, Apache, and the non-compete only restricted the employee from working for Apache. The court reasoned that a restriction on working for Apache was not designed to enforce the employee’s promise not to disclose Apache’s confidential information. Id. at *6.            

Outside of oddball situations like Titan, the “designed to enforce” requirement probably doesn’t do much for the employee. But lawyers in Texas non-compete cases should at least be aware of the requirement and consider whether the contract meets it.

______________________________

Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation. Thomson Reuters named him a 2020 Texas “Super Lawyer”® for Business Litigation. This post is dedicated to Bob Schneider.

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.

Baseball legend Yogi Berra reportedly said “I usually take a two-hour nap from one to four.” He also said “the future ain’t what it used to be.” Obviously the guy had a unique sense of time.

Time is on my mind because of this week’s blog topic: What is a reasonable time period for a Texas non-compete?

For almost a century, Texas case law has required that a non-compete be limited to a reasonable time period, and in 1989 the legislature codified this requirement in the Texas Covenants Not to Compete Act. The time period must be no longer than necessary to protect the employer’s goodwill or other business interest (usually confidential information). See Tex. Bus. & Com. Code § 15.50(a). And in the typical context of an employment contract, the burden is on the employer to prove the time period is reasonable. See Tex. Bus. & Com. Code § 15.51(b).

The time period of a Texas non-compete must be reasonable. That much is clear. But what does “reasonable” mean in practice? Is there any rule we can discern from the decades of case law?

Unfortunately, the Texas case law applying the reasonable time period is remarkably unsatisfying. You’re just not going to find much analysis defining what makes a time period reasonable or not. The best I can do to synthesize a “rule” from the cases is the “Five-Year Rule.”

The Five-Year Rule says that when addressing the reasonable time period requirement, the court will declare that Texas cases have upheld non-competes of two to five years, and if the time period at issue is five years or less, the court will then find the time period reasonable, without discussing any specific evidence.

I don’t find the Five-Year Rule very helpful or persuasive. As the statute indicates, the question is whether a shorter time period would be sufficient to protect the interest at issue, which is usually the employer’s confidential information and/or goodwill.

I propose an alternate rule, the Wolfe Rule. The Wolfe Rule says that when there is conflicting evidence about whether the time period of a non-compete is reasonable, it presents a fact issue for the jury.

Now, you’re not going to find the Wolfe Rule stated explicitly in any Texas cases, but it is the correct rule. I would even go as far as saying it is obviously the correct rule, and the fact that Texas courts have not expressly stated it presents something of a mystery. And one more thing: the Wolfe Rule does not necessarily conflict with the Five-Year Rule.

How can all of this be true?

To understand, first we need some historical perspective.

We’ll start in the Ice Age. I call it that because you could write the early history of Texas non-compete law based on cases involving the ice delivery business. I wrote about one of these cases, City Ice Delivery Co. v. Evans, 275 S.W. 88 (Tex. App.—Dallas 1925, no writ), in Jurassic Non-Competes.

There were at least four more Texas non-compete cases about ice delivery in the 1920s alone. Oak Cliff Ice Delivery Co. v. Peterson, 300 S.W. 107 (Tex. Civ. App.—Dallas 1927, no writ); Carpenter v. Southern Properties, Inc., 299 S.W. 440 (Tex. Civ. App.—Dallas 1927, writ ref’d); Texas Ice & Cold Storage Co. v. McGoldrick, 284 S.W.615 (Tex. Civ. App.—San Antonio 1926, writ ref’d); Bettinger v. North Fort Worth Ice Co., 278 S.W. 466 (Tex. Civ. App.—Fort Worth 1925, no writ).  

You can find in these cases many of the principles that still apply in Texas non-compete law today, including the requirement that the non-compete must have a reasonable time period. For example, in Carpenter v. Southern Properties the court said a non-compete can only prohibit competition “for a reasonable space of time” after employment, and the employer has the burden to prove that the non-compete is reasonable “in its duration of time.” 299 S.W. at 443.

The non-compete in Carpenter had a two-year time period. Id. at 442. Was this reasonable? “[T]he trial court has found that the negative covenant sought to be enforced was both reasonable and necessary,” the court said, “and we are not prepared to say that there is not substantial evidence sustaining such finding.” Id. at 444.

That was it. Nothing about what the evidence regarding the time period was. Nothing about why the evidence established that two years was reasonable. And the depth of analysis of the reasonable time period requirement in the next century of Texas case law would not significantly improve.

By 1960, it was well established that a non-compete should be limited “for such a time as is reasonably necessary to protect the employer’s business and good will,” and that the “burden of proof is on the former employer” to establish “by satisfactory evidence” the reasonableness of the non-compete. Weber v. Hesse Envelope Co., 342 S.W.2d 652, 654-55 (Tex. Civ. App.—Dallas 1960, no writ).

And by that time Texas courts had moved from ice delivery to a more fascinating business: envelope sales. Yes, Weber was about a two-year non-compete signed by an envelope salesman. No word on whether Weber also owned a beet farm.

This battle in the great Metroplex envelope wars was tried to the bench, the salesman was the only witness, and the trial court declared the non-compete enforceable. Id. at 653. As to the two-year time period, the Court of Appeals said only that there was “ample support in the evidence” for the trial court’s implied finding that the two-year period of the non-compete was reasonable. Id. at 655.

That was it. The court didn’t cite any of the “ample” evidence or explain how the evidence established that two years was reasonable.

Are you detecting a pattern?

About 20 years later, the superficial treatment of the reasonable time period requirement got worse in AMF Tuboscope v. McBryde, 618 S.W.2d 105 (Tex. App.—Corpus Christi 1981, writ ref’d n.r.e.). That case addressed another two-year non-compete, this one involving the oilfield pipe inspection business. On an application for temporary injunction, the trial court found the time period unreasonable. Id. at 108.

The Corpus Christi Court of Appeals disagreed. The court did not cite any evidence from the record on the reasonableness of the time period, but it stated that the employees had cited no case authority for the proposition that two years is unreasonable. Id. The court then declared: “Two to five years has repeatedly been held a reasonable time in a noncompetition agreement.” Id.

This appears to be the earliest statement of the Five-Year Rule.

AMF Tuboscope cited three cases in support of the Five-Year Rule, but curiously, none of those cases supported the rule:

• In Arevalo v. Velvet Door, Inc., 508 S.W.2d 184, 185 (Tex. Civ. App.—El Paso 1974, writ ref’d n.r.e.), there was a three-year non-compete but “no contention that the time or space limitation is unreasonable.”
• In Electronic Data Systems Corp. v. Powell, 508 S.W.2d 137, 138-40 (Tex. Civ. App.—Dallas 1974, writ ref’d n.r.e.), the court upheld the limited scope of the trial court’s temporary injunction. The non-compete at issue had a three-year period, but the reasonableness of that time period was not one of the issues raised in the case.
• As we have seen, in Weber v. Hesse Envelope, the court said there was ample evidence to support finding the two-year period reasonable, but the opinion said nothing about five years.

You read that right. None of these cases involved a five-year non-compete. And only one of them even addressed whether the time period at issue was reasonable.

So, while I hate to be harsh, the fact is, the statement of the Five-Year Rule in AMF Tuboscope was at best inaccurate, and at worst dishonest.

Almost 30 years later, the Houston Court of Appeals repeated this error verbatim in Gallagher Healthcare Insurance Services v. Vogelsang, 312 S.W.3d 640 (Tex. App.—Houston [1st Dist.] 2009, pet. denied), a case involving a two-year non-compete in the insurance brokerage business. The trial court granted summary judgment that the non-compete was unenforceable, but the Court of Appeals reversed. Id. at 642-43.

Gallagher reasoned that the two-year period was “not unreasonable” because the evidence showed that insurance contracts lasted for a year. Id. at 655. That at least reflected some analysis based on the evidence.

But then the court declared, “Two to five years has repeatedly been held as a reasonable time in a noncompetition agreement,” citing the same three cases cited in AMF Tuboscope. Id.

Thus, not only did Gallagher repeat the same error made in AMF Tuboscope, it did so while addressing a two-year non-compete.

But once the Five-Year Rule was expressly stated in at least two opinions, Texas courts started to invoke it almost routinely, and not just for two-year non-competes.

For example, in Salas v. Chris Christensen Systems, Inc., No. 10-11-00107-CV, 2011 WL 4089999 (Tex. App.—Waco Sept. 14, 2011, no pet.), the court considered the reasonableness of a five-year non-compete in the dog grooming products industry.

Salas did not cite any evidence about the reasonableness of the time period. Instead, it simply said “Texas courts have held that two to five years is a reasonable time restriction in a non-competition agreement,” citing Gallagher and the same three cases cited by Gallagher and AMF Tuboscope. Id. at *19. “Given this,” the court said, “we cannot say that the Agreement’s five-year restraint is per se unreasonable.” Id.

This, of course, misstated the issue. The question should have been whether the employer met its burden to prove that the five-year period was reasonable, not whether a five-year period was “per se” unreasonable.

But the damage has been done. Since Salas, both state and federal courts in Texas have continued to cite the Five-Year Rule, even when the non-compete at issue has a time period of just one or two years:

• Weber Aircraft, L.L.C. v. Krishnamurthy, No. 4:12-CV-666, 2014 WL 12521297, at *6 (E.D. Tex. Jan. 27, 2014) (one year)
• Brink’s Inc. v. Patrick, No. 3:14-CV-775-B, 2014 WL 2931824, at *5 (N.D. Tex. June 27, 2014) (effectively four years)
• In re Gomez, 520 B.R. 233, 239 (S.D. Tex. Bankr. 2014) (five years)
• Merritt Hawkins & Associates, LLC v. Gresham, 79 F. Supp. 3d 625, 640 (N.D. Tex. 2015) (three years)
• Toddy, LLC v. Simpson, No. 1-15-CV-940 RP, 2016 WL 10520965, at *7 (W.D. Tex. May 12, 2016) (five years)
• OrchestrateHR, Inc. v. Trombetta, No. 3:13-CV-2110-KS-BH, 2016 WL 4563348, at *3-4 (N.D. Tex. Sept. 1, 2016) (three years)
• McKissock, LLC v. Martin, 267 F. Supp. 3d 841, 857 (W.D. Tex. 2016) (two years)
• Smith v. Nerium Int’l, LLC, No. 05-18-00617-CV, 2019 WL 3543583, at *10 (Tex. App.—Dallas Aug. 5, 2019, no pet.) (two years)
• Expo Group, Inc. v. Castillo, No. 3:19-CV-1356-G, 2019 WL 4671511, at *6 (N.D. Tex. Sept. 25, 2019) (two years)
• Le-Vel Brands, LLC v. Bland, No. 3:19-CV-00154-L, 2019 WL 4753041, at *7 (N.D. Tex. Sept. 30, 2019) (12 months)

All of these cases cite the Five-Year Rule uncritically, perhaps without realizing that AMF Tuboscope pretty much just made up the rule, almost 40 years ago.

But in a sense, the Five-Year Rule has become a self-fulfilling prophecy. Now that so many Texas courts have cited and applied it, it has effectively become true.

So that solves the mystery of how Texas courts came to adopt the Five-Year Rule, at least in part.

But is it the right rule?

I’ll cover that in Part 2. It ain’t over til it’s over.

__________________________

Zach Wolfe (zwolfe@fleckman.com) is a Texas trial lawyer who handles non-compete and trade secret litigation. Thomson Reuters named him a 2020 Texas Super Lawyer® for Business Litigation.

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.

This series has focused on drafting an enforceable Texas non-compete, because that’s where I practice, but if you’re drafting a non-compete for a company in the oil and gas industry, you may need to consider other states, especially Louisiana. Check out Drafting Enforceable Non-Competes in the Energy Industry for some good tips.

But back to Texas.

In Part 1 we saw how to draft a Texas non-compete to meet the once-elusive “ancillary to an otherwise enforceable agreement” requirement.

In Part 2 we saw how to meet the “reasonableness” requirement.

You could stop there and have a pretty decent Texas non-compete, but do you need a separate non-solicitation agreement? And what about all that additional boilerplate you often see in non-competes? Do you need that?

I’ll answer those questions in this third and final installment.

10. Does the agreement need to restrict both competition and solicitation?

This is kind of a trick question, because a restriction on soliciting customers is a restriction on competition. See Is a Non-Solicitation Agreement a Non-Compete? In other words, a “non-solicit” is subject to the same statutory requirements as a “non-compete,” at least in Texas.

Still, many non-competes have one section for restrictions on competition and another section restricting solicitation. This format is often unnecessarily duplicative. I think it is simpler to combine the two in one section.

But the substantive question remains, should the agreement restrict competition generally and solicitation specifically?

There is a case to be made for restricting competition and not getting into the messier issue of solicitation. The problem with a restriction on solicitation is that it almost always leads to factual disputes.

Suppose Dawn Davis leaves her sales position at Paula Payne Windows and goes to work for Real Cheap Windows. The next week, her friend and customer Bob Builder calls her up:

“Hey Dawn, how’s it going?”

“Pretty good, Bob, it’s been a busy week.”

“Oh really?”

 “Yeah, you may not have heard yet, but I left Paula Payne and went to Real Cheap.”

“Wow, I didn’t know that.”

“Well, Bob, I really like the value they provide for their customers.”

“That’s great. You know, I was going to order some more storm windows for that new subdivision project, can Real Cheap give me a good price on those?”

Did Dawn just “solicit” business from Bob? Would it make a difference if Dawn had made the call to Bob, just to chat? Would it make a difference if Dawn had not volunteered that she changed companies?

You can see how “solicitation” creates questions and uncertainty.

In contrast, it’s pretty easy to determine if an employee violates a restriction on “doing business” with a certain customer. If Dawn goes to Real Cheap and Bob then starts buying windows from Real Cheap, that’s “doing business.” We don’t have to get into the whole “solicitation” issue.

Given the kind of factual disputes that often come up, I don’t use the word “solicit” in my form. But I do include a restriction on “urging or causing” a customer to become a customer of the new company.

That, of course, does not entirely solve the problem, because you could have the same kind of factual disputes about “urging” or “causing.” But I think those terms are easier to apply than “soliciting.”

And I think there is some advantage to including a restriction on “urging or causing” in addition to the more general restriction on “doing business.”

11. Should the non-compete state that it is an “independent covenant”?

Yes. The employee will sometimes argue that she is excused from complying with the non-compete because the employer breached the employment agreement first.

To avoid or at least reduce the risk of this argument being successful, I include this clause in my form:

Even without such a clause, the employer could argue that the non-compete is an independent covenant because the employer’s breach of another clause—such as the obligation to pay a bonus or commission—could be separately compensated by damages. But expressly stating the parties’ intent to treat the non-compete as an independent covenant should remove any doubt. See Chambers v. Hunt Petroleum Corp., 320 S.W.3d 578, 584 (Tex. App.—Tyler 2010, no pet.) (clause should be treated as an independent covenant if “a breach may be compensated for in damages . . . unless this is contrary to the expressed intent of the parties”) (citing Centex Corp. v. Dalton, 840 S.W.2d 952, 956 (Tex.1992)). 

12. Should you have the employee stipulate that the non-compete is reasonable and can be reformed?

This is probably ineffective and unnecessary, but it doesn’t hurt, and it may carry some weight with a judge who is not sophisticated about non-competes.

Most non-competes contain some kind of stipulation that the restrictions are reasonable. In my personal opinion, courts should give these stipulations no weight, especially considering limitations on non-competes are a matter of public policy. But some judges might give some weight to the stipulation, and you might be able to use the stipulation to get the employee to admit the scope of the non-compete is reasonable.

It also doesn’t hurt to include a reformation and severability clause. This is probably unnecessary, because the Texas statute already says the court shall reform an overbroad non-compete. But again, it doesn’t hurt to include it.

So, my form includes the following:

13. Should the non-compete include an “ipso facto” clause granting an injunction?

This is a close call for me. Most non-competes contain stipulations designed to support the employer’s request for an injunction. I call this an “ipso facto” clause. Texas courts vary on whether an ipso facto clause has any effect. See Can a Non-Compete Grant an Injunction by Stipulation?

Personally, I don’t give any weight to a non-compete ipso facto clause. But not everybody agrees with me, and it probably doesn’t hurt to include one. Mine looks like this:

Again, my own view is that this kind of stipulation should have no legal effect, but if the non-compete has an ipso facto clause, I might cite it as at least one of my grounds for an injunction.

14. Should the non-compete include “non-circumvention” language?

Employees often try to “get around” non-competes. “Technically I’m not competing with my former employer,” you can imagine an employee arguing, “I’m just providing consulting services to an LLC that my cousin owns.”

That’s just one example, but you get the idea.

This kind of gambit to circumvent a non-compete is usually not persuasive. If the judge applies the plain, common-sense meaning of the non-compete, this type of argument by the employee should usually fail.

But of course judges don’t always do that, and in fairness to the employee, if the employer drafts the non-compete poorly and its plain language does not prohibit the thing the employee is doing, then that’s the employer’s problem. See, e.g., East Texas Copy Sys., Inc. v. Player, 528 S.W.3d 562, 567-68 (Tex. App.—Texarkana 2016, no pet.) (enforcing plain meaning that allowed employee to avoid non-compete by terminating his own employment without cause).

I try to head off any cleverly contrived arguments by the employee by including the following in my form:

The idea is to avoid any hyper-technical interpretation intended to get around the non-compete. I haven’t had occasion to test it in court yet, but I would rather have it than not.

15. Should the non-compete prohibit making plans to compete?

Hey, why not? My form includes the following:

This is something I came up with that, somewhat surprisingly, I have not seen in other non-competes.

It is common for an employee to make plans to compete while still employed by the employer. And Texas courts have said that making such plans—and even concealing them from the employer—is not a breach of the employee’s quasi-fiduciary duty to the employer. See Fiduciary Duty Lite: What Employees Can and Can’t Do Before Leaving.

The rationale of the employee fiduciary duty cases is employee mobility. But those cases don’t necessarily stop the employer from creating a contractual duty not to make plans or preparations to compete. So I include that commitment in my form.

It’s such a clever idea, I almost feel guilty.

Like I said at the start, I don’t even like non-competes. I think most employers would be better off focusing on keeping their best employees happy, rather than trying to keep their employees from running off with customers. See The Most Effective Form of Non-Compete in Texas (or Anywhere).            

But if you’re going to make an employee sign a non-compete, you might as well draft it as effectively as possible.

______________________________________

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.

I decided to share my updated Plain-Language Non-Compete with the world, and not only that, I’m walking you through it step by step to explain why I drafted it the way I did.

In Part 1 we learned:

1. You should draft a non-compete in a style and format that is easy to read and present in the courtroom.
2. The non-compete should expressly state that the company will give the employee confidential information.
3. The non-compete should provide for giving the employee specialized training, if applicable.
4. The non-compete doesn’t need a complicated definition of competing.

Next we get into the real heart of making a non-compete as enforceable as possible: reasonableness.

You probably already know that Texas law requires a non-compete to be reasonable in time period, geographic area, and scope of activity. But do you know how to draft the non-compete to meet this requirement?

Don’t worry, we’ve got you covered.

5. Should the non-compete have a reasonable time limitation?

Yes. This is a no-brainer. The statute requires it, Tex. Bus. & Com. Code § 15.50(a), and a non-compete with no time limitation is therefore unenforceable on its face. 

But what should the time limitation be? This is harder, and there’s no one-size-fits-all answer.

If the non-compete is part of the sale of a business, Texas courts are likely to allow a longer time period. See Oliver v. Rogers, 976 S.W.2d 792, 801 (Tex. App.—Houston [1st Dist.] 1998, pet. denied) (lack of time limitation did not render non-compete unreasonable when it was part of the sale of a business).

So for the sale of a business, I would recommend something in the range of three to five years.

But for the typical employee non-compete, shorter is better. Your maxim should be “shorten it until it hurts.” When the length of time is short enough that it causes the client some discomfort, you’re probably getting it right.

As a rule of thumb, I say the typical employee non-compete should be limited to one year. Two years max.

Yes, there are Texas cases that find periods of as long as five years reasonable. See Stone v. Griffin Comms. & Security Sys., Inc., 53 S.W.3d 687, 696 (Tex. App.—Tyler 2001, no writ) (“two to five years has repeatedly been held a reasonable time restriction in a non-competition agreement”) (citing cases).

But the analysis in those cases is superficial. I say go shorter, for several reasons.

First, keep in mind that if a court finds the time period as written is unreasonably long, then this effectively cuts off the employer’s right to get damages for breach of the non-compete. See Tex. Bus. & Com. Code § 15.51(c). The employer can still seek an injunction, but the right to get damages is a significant bargaining chip.

Second, the employer usually has the burden to prove the time period is reasonable. If I’m representing the employee, I guarantee you I am going to try to take advantage of this. If I see a time period of two years or more, that gives me something to attack. I can almost always offer testimony from my client that at least creates a fact issue about whether the time period is reasonable.

One year, on the other hand, is pretty hard to attack. I’m not saying you could never prove that one year is longer than needed, but in most cases that’s going to be a tough sell.

Finally, one year is usually enough to accomplish your client’s key business goal: stop a departing employee from immediately moving her key customers to her new company. The first few months are usually critical. In most cases, one year should be enough time for the company to try to persuade the key customers to stay.

6. Should the time period have a “tolling” clause?

I don’t recommend it.

A tolling provision extends the time period of the non-compete by the time that the employee was violating the non-compete. So, for example, if an employee competes for six months before a court enters an injunction to stop the competition, the time period of the non-compete would be extended by six months.

The upside to the employer is obvious. The downside is that it gives the employee an argument that the time period is indefinite and unenforceable. See Central States Logistics, Inc. v. BOC Trucking, LLC, 573 S.W.3d 269, 277 (Tex. App.—Houston [1st Dist.] 2018, pet. denied) (citing Cardinal Personnel, Inc. v. Schneider, 544 S.W.2d 845 (Tex. App.—Houston [14th Dist.] 1976, no writ)).

I wouldn’t say the issue is totally settled under Texas law, so you can include a tolling clause if you really want to, but why complicate the time period unnecessarily?

Simpler = easier to enforce.

7. Should the non-compete have a reasonable geographic limitation?

Duh. Of course it should. The requirement is right there in the statute. Tex. Bus. & Com. Code § 15.50(a).

But believe it or not, I still sometimes see non-competes with no geographic limitation. How can this happen?

To be fair, there are Texas cases that say a limitation on scope of activity can be used in lieu of a geographic limitation, especially where the employee is a high-level executive who is responsible for the company’s operations everywhere, or where customer goodwill is not tied to any specific geographic area. I cover this is in Geographic Area of a Texas Non-Compete – Part 2.

Still, why chance it? Even if you need to make the geographic area extremely broad, it’s still better to have some geographic limitation than none.

But what should it be?

8. What should the geographic limitation be?

In general, the geographic limitation should coincide with the expected area the employee will be responsible for.

For sales employees, that usually means the employee’s sales territory. I call this the Sales Territory Principle. See Geographic Area of a Texas Non-Compete – Part 1.

It gets more complicated with upper-level management. But even for higher-level executives, I think you should try to define the geographic area they will be responsible for, even if that means a geographic limitation like “the United States,” “North America” or “the US Gulf Coast.”

My form geographic limitation looks like this:

It doesn’t have any more specific formula, but for geographic area there’s just no way to get around the need to adapt the clause to fit the circumstances.

9. Should the non-compete have a reasonable limitation on scope of activity?

Yes. Again, the Texas non-compete statute requires this.

But this is probably the most neglected requirement of the statute. I often see non-competes that define the restricted scope of activity too broadly.

Can you keep a secret? If I represent the employee, this gives me the argument that the non-compete is a prohibited “industry-wide exclusion.” See Burning Down the Haas: The Industry-Wide Exclusion Rule in Texas Non-Compete Law.

This is the most common defensive argument I make for employees. For a typical sales employee, if the non-compete is not limited to the customers the employee dealt with at the company, I will argue it is unreasonably broad.

On the other hand, Texas cases tend to allow restricting a broader scope of activity where the employee is a high-level executive who is responsible for the whole company, not one subset of customers.

So my non-compete form provides two options, depending on the type of employee:

Option 1 may strike some employers as too narrow. But again, the advantage is that it will be difficult for the employee to argue that the scope of activity is too broad. That’s a significant tactical advantage for the employer in a non-compete lawsuit. And from a business perspective, it focuses on the key customers that the company if probably most concerned about the employee taking.

Option 2 is broader, because it is not limited to particular customers, but note that it is still limited to customers or prospects. This is usually better than prohibiting competition with the company generally, which could be seen as a prohibited industry-wide exclusion.

I was on the fence about including “prospects” in Option 2. If you really want to make your enforceability argument strong, you could take that out.

Also note that I use the phrase “doing business” rather than some longer formulation. I think “doing business” has a common-sense plain meaning that is usually easy to understand. If the employee’s lawyer wants to try to argue that providing goods or services for money is somehow not “doing business,” good luck with that.

Beyond Reasonableness

Now you know how to draft the non-compete to be reasonable. That is the most important part of enforceability.

But what else can you include in the non-compete to make sure it is effective and enforceable? Does it need a separate restriction on solicitation of customers? Should it include a lot of self-serving boilerplate in the event of a lawsuit?

I’ll tackle those questions in Part 3.

_______________________________________________

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.

So you want a bullet-proof Texas non-compete.

Well, don’t we all. But of course, there is no such thing. The basic principle of non-compete law is reasonableness, and that’s a pretty fuzzy concept. So no matter how well the non-compete is drafted, there will almost always be some argument that it is unreasonable.

Still, there are ways to draft a non-compete to maximize the chance that a court will enforce it later.

I’m a little reluctant to share these tips. For one thing, I don’t really like non-competes. But sometimes my clients want me to draft one or enforce one, and like they say in the Fabulous Baker Boys, if the money’s green . . .

So I do have a form non-compete I use. You can download it here if you want. *Disclaimer: every situation is different, and you should not use this form without being or consulting with a lawyer.

And here are the key questions that come up when you’re drafting a typical Texas non-compete.

1. Should you draft the non-compete in a style and format that is easy to read and to present in the courtroom?

The question pretty much answers itself, doesn’t it?

And yet . . . most non-competes are written in a format that is difficult to read.

When it comes to style, lawyers who draft non-competes tend to go wrong in several ways:

• Long, dense paragraphs
• Each clause written as a single lengthy sentence
• Small type
• Unappealing fonts
• No paragraph breaks between items in a list
• Really long lists
• Too much ALL CAPS
• No Oxford commas (an almost unforgivable sin)
• Too many acronyms or abbreviations
• Too much legalese

I’ve seen a lot of non-competes that commit one or more of these offenses.

But one might object, what difference does the style make if the substance is good?

I addressed this in The Plain-Language Non-Compete. In short, if you want to maximize the enforceability of a non-compete in the courtroom, you will make it as readable and presentable as you can.

So, I now use 12-point Century Schoolbook. Not too stuffy, but not too modern. It’s not going to win any typeface awards or anything, but it’s less generic than Times New Roman. You can probably find a better font that suits your style.

I use bold headings, but not in all caps, and I now indent my paragraphs. When I use a list, I have a paragraph break after each item in the list. I use fairly standard margins.

You might decide to make different decisions regarding style and format, and that’s fine. You can probably come up with something better than I have. The point is to pay attention to these style issues.

Now let’s get into substance.

2. Should the non-compete expressly state that the company will give the employee confidential information?

The answer is yes.

The first thing any Texas non-compete with an employee should do is expressly state that the company agrees to provide the employee with confidential information. This is the simplest way to meet the requirement that a Texas non-compete must be “ancillary to an otherwise enforceable agreement.” Tex. Bus. & Com. Code § 15.50(a); Alex Sheshunoff Mgmt. Servs., L.P. v. Johnson, 209 S.W.3d 644, 655 (Tex. 2006).

I will sometimes see a confidentiality clause stating that the employee will not disclose the company’s confidential information, but never expressly promising to give the employee confidential information.

That’s better than nothing, and it may be sufficient to create an implied promise to provide the employee confidential information. See Mann Frankfort Stein & Lipp Advisors, Inc. v. Fielding, 289 S.W.3d 844, 850 (Tex. 2009).

But why chance it? There’s no good reason not to include an express promise. So, the first part of my form non-compete looks like this:

As you can see, my form has two options, depending on whether the employee is a new hire or is being promoted.

Having an employee sign a non-compete midstream is tricky. If the company doesn’t provide some new consideration for the non-compete, then the employee can argue later that the non-compete is void for lack of consideration.

The obvious candidate for consideration is continued employment. But the promise of continued at-will employment may be considered illusory and therefore not real consideration. See J.M. Davidson, Inc. v. Webster, 128 S.W.3d 223, 228 (Tex. 2003) (at-will employment does not preclude providing contract formation “so long as neither party relies on continued employment as consideration”); Eurecat US, Inc. v. Marklund, 527 S.W.3d 367, 389 (Tex. App.—Houston [14th Dist.] 2017, no pet.) (“a promise of continued [at-will] employment is illusory and does not constitute consideration”). But see Arevalo v. Velvet Door, Inc., 508 S.W.2d 184, 186 (Tex. Civ. App.–El Paso 1974, writ ref’d n.r.e.) (“continuation of employment with payment of salary is consideration for a restrictive covenant not to compete”) (citing cases).

So, the employer needs to provide some kind of consideration other than just continued employment.

Continued access to the company’s confidential information may be sufficient, provided the company actually provides it. But if the company merely continues to provide the same kind of information as before, the employee can argue there was no new consideration.

The better thing to do, when feasible, is to tie the non-compete to a promotion that gives the employee access to a wider scope of confidential information than before. That’s why my form for a post-promotion non-compete says “we will also give you new types of confidential information that you did not have access to in your previous position.”

There could still be a factual dispute about whether this actually happened. But if the company includes this language, it will at least have a reasonable argument that it agreed to provide new consideration for the non-compete, and that the non-compete was ancillary to that agreement.

3. Does the non-compete need to provide for specialized training?

Specialized training is the Dickey Betts of Texas non-competes. Less well known than confidential information, but just as effective.

Including a promise to provide specialized training is another way to meet the requirement that a Texas non-compete must be “ancillary to an otherwise enforceable agreement.” E.g., Neurodiagnostic Tex, LLC v. Pierce, 506 S.W.3d 153, 164-65 (Tex. App.—Tyler 2016, no pet.). See also Texas Non-Compete Case Teaches Importance of Providing Specialized Training.  

That means a Texas non-compete doesn’t necessarily need to provide for specialized training, but it’s a good idea, if the company is actually going to provide the employee specialized training. My specialized training clause looks like this:

The important thing is to include a description that is specific enough to persuade a judge that this is not mere boilerplate. A generic promise of providing specialized training may not cut it, especially if the company later struggles to identify what the training was and why it was “specialized.”

4. Does the non-compete need a complicated definition of competing?

You can probably already guess where I come out on this one. Most non-competes have a pretty wordy definition of competing. Here’s a typical example:

This way of describing the prohibited competition isn’t really wrong, but it strikes me as unnecessarily complicated. You want to be able to put the clause in front of a judge or jury and make it as simple as possible.

I suspect the more complicated clauses came about as a result of clever employees coming up with ways to circumvent the non-compete.

You can imagine. “I know,” the employee says, “for the first year I’ll be an unpaid consultant to an LLC that my brother-in-law forms, so I won’t really be competing.”

I’m sure there have been endless variations on this sort of thing. And it almost never works. I think most judges and juries are smart enough to figure out that this kind of thing still violates an agreement not to “compete” with the employer.

On the other hand, you don’t want your non-compete to be vulnerable to shenanigans like this. Courts will decline to enforce the claimed purpose of the non-compete when the unambiguous language establishes that the non-compete does not apply. See, e.g., Total Safety U.S., Inc. v. Code Red Safety & Rental, LLC, No. 4:19-CV-03836, 2020 WL 57775826, at *4 (S.D. Tex. Sept. 4, 2020) (rejecting employer’s argument that employment did not terminate when employee was promoted and went to work for an affiliate).

So, even though I favor simplicity and plain language, I do include the common non-compete modifier “directly or indirectly” in my form:

You agree not to compete with us or to help anyone compete with us, directly or indirectly, . . .

I also include the “or to help anyone complete with us.” I think this is a good plain-language way to cover most scenarios where the employee tries to get around the non-compete by working through a middleman.

So now you’ve got a non-compete that meets the “ancillary to an otherwise enforceable agreement” requirement, because it expressly promises to give the employee confidential information and/or specialized training. And you’ve got a common-sense definition of competing.

All you need now are reasonable limitations on time period, geographic area, and scope of activity. How should you draft those limitations?

Stay tuned for Part 2.

______________________________________

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.