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).

Nothing But Net: Fifth Circuit Reverses Gross Profits Award

Nothing But Net: Fifth Circuit Reverses Gross Profits Award

There’s a joke about a CEO who gets a quarterly profit and loss statement showing his company is losing money. “That’s impossible,” he says to the CFO, “all five divisions reported they were profitable this quarter.”

CPA humor. There’s nothing like it.

How could all five divisions make a profit while the company shows a loss? In a word: overhead. Each division is probably calculating its profits without deducting an appropriate share of the company’s overhead expenses.

This is not just a problem for accountants and CEOs. Litigators have to deal with this issue when there is a claim for lost profits damages. Any time a plaintiff tries to calculate lost profits—with or without help from an expert—there is the thorny issue of overhead.

A recent decision from the Fifth Circuit Court of Appeals shows how important this issue can be.  In Motion Medical Technologies v. Thermotek, the Fifth Circuit reversed a jury’s award of over $1.5 million in fraud damages because the award was based on evidence of gross profits, not net profits.[1]

Why? Gross profits don’t account for the company’s overhead, while net profits do. The plaintiff had only offered evidence of gross profits, and Texas law requires evidence of net profits.

Simple in theory, but not so simple in practice. Let’s take a closer look.

An accounting lesson from a litigator

To illustrate, let’s take my favorite hypothetical company, Paula Payne Windows. Paula Payne buys windows from manufacturers and sells them to its customers.

*WARNING* I have no background in accounting, other than litigating cases with accounting issues, so you could say I know just enough accounting to be dangerous. But here we go.

Paula Payne’s revenue is what the customer pays Paula Payne for the windows. Paula Payne’s cost of goods sold (COGS) is what it pays the manufacturer plus the cost of shipping. Revenue minus COGS is gross margin, or gross profit. Gross profit minus overhead is net profit.

So, Paula Payne’s oversimplified P&L for a big window sale looks like this:

Screen Shot 2017-11-18 at 9.34.00 PM

Yeah, I know, there’s also stuff like interest, taxes, depreciation, etc. That’s why I say oversimplified.

Plus, there’s usually some wiggle room in each line. For example, it’s clear that the money Paula Payne pays the trucking company to deliver the windows is part of COGS, but what about the lady in the office who talks to the trucking companies on the phone all day? Is her salary part of overhead or COGS?

Then there is the question of allocation. What share of Paula Payne’s total overhead should it allocate to one particular sale, or group of sales?

You may be thinking that’s what an accounting expert is for. We’ll just ask a CPA how to allocate overhead based on Generally Accepted Accounting Principles (GAAP), right?

The problem, I’ve learned, is that GAAP doesn’t really care how you allocate expenses for any particular transaction. GAAP deals with “financial accounting,” which is how you get to the P&L statement the company provides to the outside world. GAAP wants to make sure that all expenses are deducted before you get to the bottom line. It doesn’t really care how the company slices and dices those expenses internally.

That’s “management accounting,” which is not governed by GAAP. If a company wants to figure out internally how much net profit it makes on a particular transaction, it can use pretty much any reasonable method it wants.

*Update: Some accountants tell me the right way to allocate overhead expenses is to distinguish between variable and fixed. To determine net profit, you deduct the variable expenses, i.e. the ones that rise and fall with changes in sales volume, not the fixed ones. You can look historically at the company’s P&Ls to see which are variable vs. fixed.

But my accountant readers (I have at least two) are probably cringing at my explanation by now, so let’s get to something I know better: litigation.

How not to calculate lost profits in litigation

In Motion Medical, ThermoTek sold a medical device called the “VascuTherm” system. Orthoflex, a rival company, allegedly misappropriated information about Thermotek’s device and started selling its own knockoff device. ThermoTek sued Orthoflex for unfair competition and fraud.

The unfair competition claim was preempted by federal copyright and patent law.[2] That’s an important issue in its own right, but I’ll leave it to a smarter IP lawyer to blog about that. Let’s focus on the damages for the fraud claim.

ThermoTek’s expert witness testified that he used ThermoTek’s gross profit margin, meaning gross sales minus cost of goods sold, to calculate lost profits. He determined total lost profits for lost sales of the VascuTherm system by multiplying average monthly sales by unit sales price and relevant time period, and then deducting cost of goods sold.

“But that is the very definition of gross profits,” the Fifth Circuit scolded. “Indeed,” the court said, “the expert himself conceded on cross-examination that his numbers reflected ‘gross profits rather than net profits.'” The expert also acknowledged “his margins were high because they did not account for ThermoTek’s other business expenses.”[3]

The problem for the plaintiff was that Texas law requires the plaintiff to prove net profits, measured by the plaintiff’s total receipts minus all expenses incurred in carrying on the business. So, in the words of Willie Wonka, “You get nothing! You lose! Good day, sir!”

But surely it wasn’t that simple, right?

Well, it turns out there are some exceptions. First, for certain intellectual property claims, the plaintiff can seek an “accounting” of lost profits, where the plaintiff only has to offer evidence of its gross profits, and the burden is on the defendant to prove any costs that should be deducted to get to net profits. But ThermoTek’s common-law fraud claim was not such a claim.

Second, the court acknowledged that a plaintiff’s failure to include overhead expenses in the calculation of lost profits is “not fatal” if, for example, there is evidence the plaintiff was already profitable when the damages began and could have made the lost sales using only its existing resources.[4] But that argument, Judge Higginson wrote for the court, was not made by ThermoTek or supported by the trial record.

Perhaps this part of the opinion points to a solution for plaintiffs. Imagine ThermoTek’s expert had simply testified, “I didn’t deduct any overhead because ThermoTek was already profitable when the lost sales started, and my investigation satisfied me that ThermoTek could have made those additional sales without any increase in its overhead.” Would the gross profits award then be affirmed?

Lessons for litigators from Motion Medical

That last question points to some lessons litigators—and their hired experts—can learn about lost profits damages from Motion Medical.

If you represent the plaintiff, work with your damages expert early on to decide whether to calculate lost profits based on gross profits or net profits. The safer course, of course, is to go with net profits. In that case, the tricky part is figuring out what percentage of the plaintiff’s overhead to allocate to the lost sales. But as long as the expert uses some reasonable method of allocation, you should be ok.

On the other hand, safer isn’t always better. Net profits may undercompensate your client. If the plaintiff company was already profitable, and if you can make a credible argument that the company would have made the additional sales without any increase in its overhead, you may want to be more aggressive and go for gross profits, relying on the second exception cited in Motion Medical. But be careful. Make sure you offer evidence to support those assumptions, and prepare your expert to explain why overhead was not deducted.

If you represent the defendant, you have some strategic choices to make if the plaintiff presents a damage theory based on gross profits.

First, for the defense there is always the dilemma of whether to designate a damages expert at all. You worry that presenting an expert to calculate the plaintiff’s damages implies that your client did something wrong and that the plaintiff was, in fact, damaged. Often you would rather just attack flaws in the plaintiff’s calculation.

On the other hand, if the plaintiff’s expert offers an inflated lost profits calculation, and you offer nothing, you may get stuck with the plaintiff’s number.

The second decision is when to attack a calculation of gross profits that you think is defective. If you’re working hard to settle the case, you may want to press the issue earlier, e.g. hammering on it at mediation.

But generally I prefer to wait until trial, when it is too usually late for the plaintiff to fix a defective damage calculation. If I represent the defendant, it’s not my job to tell the plaintiff how to do a proper lost profits calculation.

Or is it?

Is it unprofessional to wait until trial to attack a gross profits calculation?

On at least two occasions I waited until trial to argue that the plaintiff’s damage calculation was defective because it didn’t deduct all the necessary expenses. It did not make me popular with opposing counsel.

In one case, I sent interrogatories to the plaintiff asking about its calculation of damages. The plaintiff responded with a calculation that was obviously based on lost revenues, not lost profits. I sat back and waited.

Then, less than 30 days before trial, plaintiff’s lawyers realized they had a problem and tried to cure it with a new calculation that included expenses. I objected. Strenuously. The judge said sorry plaintiff, you don’t get to offer any evidence of damages. Opposing counsel was livid.

In another case, the plaintiff offered evidence of the profits my client made from its alleged wrongdoing, without deducting any overhead. When the president of my client took the stand, I asked “what is your monthly overhead?” You’d think I had kicked an anthill. The defense lawyers practically jumped up and down complaining “he didn’t produce any documents showing overhead!”

My response: “you didn’t ask for them.” Objection overruled.

In both cases, the plaintiff’s lawyers kind of took it personally. They were pretty angry with me. Now, when someone gets really angry with you, there’s a part of you that instinctively feels a little guilty, like maybe you did something wrong (unless you are a sociopath).

So it made me wonder, was it unprofessional of me not to warn them that I was going to attack their defective damage theories? In the first case, should I have relented and said, “ok, it’s no big deal, you can offer your revised calculation”? In the second case, should I have provided information on my client’s overhead in advance?

Tell me what you think.

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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. Most of his accounting knowledge comes from watching “Shark Tank” with his son. 

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] Motion Med. Tech., LLC v. Thermotek, Inc., No. 16-11381, 2017 WL 5396406 (5th Cir. Nov. 14, 2017). The jury’s award of $6 million for unfair competition was reversed on other grounds.

[2] Id. at *8-10.

[3] Id. at *10-11.

[4] Id. at * 11 (citing ERI Consulting Eng’rs, Inc. v. Swinnea, 318 S.W.3d 867, 879 (Tex. 2010)).

First Western: A Court of Appeals Decision on the Defend Trade Secrets Act

First Western: A Court of Appeals Decision on the Defend Trade Secrets Act

TexasBarToday_TopTen_Badge_VectorGraphicAh, the fall season, it’s finally here. When the Astros win the World Series, the Cowboys win as many games as they can while Ezekiel Elliott can still play, and the sweet smell of pumpkin pie and indictments wafts through the nation’s capital. The only thing that could make fall better would be a real Court of Appeals decision applying the relatively new Defend Trade Secrets Act.

And then it appeared like the Great Pumpkin, the day before Halloween.

In one of the first Court of Appeals decisions applying the federal Defend Trade Secrets Act, the Tenth Circuit Court of Appeals recently held in First Western Capital Management Co. v. Malamed that a plaintiff must prove irreparable harm to get a preliminary injunction under the Act.

If you know anything about injunctions, that probably doesn’t surprise you. “Irreparable harm” is one of the traditional requirements for obtaining an injunction.

But it wasn’t that simple. The plaintiff made the plausible argument that, because the statute authorizes an injunction and does not expressly require proof of irreparable harm, then evidence of irreparable harm is not required. In other words, there is a presumption of irreparable harm when the plaintiff proves the statute was violated.

The Tenth Circuit rejected this argument. The Court of Appeals reconciled its prior decisions by drawing a distinction between a statute that mandates injunctive relief and a statute that merely authorizes injunctive relief. When a statute only authorizes an injunction—as the DTSA does—then the plaintiff still has to prove the “traditional” requirements for an injunction, including irreparable harm.

The district court had already found that the plaintiff did not prove irreparable harm, so the Court of Appeals reversed the preliminary injunction. (You can read more about the district court opinion here.)

So what does this case from Colorado mean for lawyers who handle trade secrets litigation in my home state of Texas?

Lessons from First Western: Plaintiffs should offer evidence of irreparable injury

As I said here, if you represent a plaintiff asking for a preliminary injunction in a Defend Trade Secrets Act case, you should offer evidence of irreparable harm. Then you can make two arguments. First, we’ve proven irreparable harm. Second, even if we haven’t proven irreparable harm, we don’t have to.

Unless and until the Fifth Circuit Court of Appeals holds that the Tenth Circuit got it wrong in First Western, you don’t want the second argument to be your only argument; you want it to be your fallback position. So come prepared with evidence of irreparable harm.

But what evidence is that?

There is no single way to show irreparable harm, but here are a few typical arguments that damages would be inadequate to compensate your client for the defendant’s use of your client’s trade secrets:

  • It will be difficult to quantify the amount of damages.
  • Loss of the trade secrets at issue will be irreversible.
  • It’s unlikely the defendant has sufficient assets to satisfy a judgment for damages.

These arguments don’t always hold up to scrutiny, but you want to have something to argue. The judge will feel more comfortable granting an injunction if you at least offer some evidence to try to show irreparable harm.

Of course, if you represent the plaintiff you can still argue that proving a violation of the statute is sufficient. There is some authority in the Fifth Circuit for the proposition that “where a statute expressly provides for injunctive relief, irreparable harm is presumed and need not be established.”[1]

You can also cite pre-DTSA case law holding that the threatened disclosure of trade secrets is presumed to cause irreparable injury.[2]

But you don’t want to put all your eggs in one basket.

Should the First Western principle apply to Texas statutes?

If you represent the defendant in a Texas trade secrets lawsuit, First Western can help you in two ways. First, and more obvious, you can cite First Western for the argument that the plaintiff still has to prove irreparable harm to get an injunction under the Defend Trade Secrets Act.

First Western isn’t binding in the Fifth Circuit, you can concede, but its reasoning is sound. When Congress passed the DTSA, it was well aware (in theory) of the long-established principle that courts require proof of irreparable injury to get an injunction. If Congress had wanted to excuse plaintiffs from that requirement, it could have expressly said so.

Second, and perhaps less obvious, defendants can argue that the principle applied in First Western should also apply to the Texas trade secrets statute and the Texas non-compete statute.

Like the Defend Trade Secrets Act, these statutes expressly authorize but do not require injunctions.

Just as the DTSA says a court “may grant” an injunction, the Texas non-compete statute says that a court “may award” injunctive relief.[3] Similarly, the Texas Uniform Trade Secrets Act says that actual or threatened misappropriation of trade secrets “may be enjoined.”[4]

The fact that these statutes do not mandate an injunction for violating the statute means that the plaintiff still has to prove the traditional equitable requirements for obtaining an injunction—including irreparable harm.

At least that’s the argument, applying the distinction from First Western.

Just keep in mind there have been some Texas cases going the other way, suggesting that proof of irreparable injury is not required because the non-compete statute preempts other law and expressly authorizes injunctions.[5]

Personally, I think that’s wrong, but until the Texas Supreme Court definitively decides the issue, if I represent the plaintiff I may at least make the argument that proof of irreparable injury isn’t required.

Now if only I could convince the Second Circuit to let Zeke play.

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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] See, e.g., U.S. v. McMillan, 946 F. Supp. 1254, 1266 (S.D. Miss. 1995) (citing  EEOC v. Cosmair, Inc., 821 F.2d 1085, 1090 (5th Cir. 1987), and U.S. v. Hayes Int’l Corp., 415 F.2d 1038, 1045 (5th Cir. 1969)).

[2] See Heil Trailer Int’l Co. v. Kula, 542 Fed. Appx. 329, 335 (5th Cir. 2013) (citing Texas cases). Courts are a little imprecise about this. You could read the cases to say that the disclosure of trade secrets is irreparable injury, or that disclosure of trade secrets excuses the plaintiff from proving irreparable injury, but the distinction may be academic.

[3] Tex. Bus. & Com. Code § 15.51(a).

[4] Tex. Civ. Prac. & Rem. Code § 134A.003(a).

[5] Compare Sanders v. Future Com, Ltd., No. 02-15-00077-CV, 2017 WL 2180706, at *10 (Tex. App.—Fort Worth May 18, 2017, no pet.) (mem. op.) (plaintiff that proves violation of non-compete statute is entitled to permanent injunction without showing of traditional injunction elements), with Argo Group US, Inc. v. Levinson, 468 S.W.3d 698, 701-2 (Tex. App.—San Antonio 2015, no pet.) (joining courts holding that a plaintiff seeking a temporary injunction for violation of the non-compete statute still must show irreparable injury).

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.

How Do We Solve the Baby Litigator Crisis?

How Do We Solve the Baby Litigator Crisis?

TexasBarToday_TopTen_Badge_VectorGraphicFirst let me say for the record: I think it’s great when senior litigators give young lawyers opportunities to do things like arguing motions and taking depositions. That happened to me when I was a “baby lawyer,” and I’m grateful.

Having said that, I have to confess it has finally happened. I’ve become a grumpy old man. At 45 years old, I feel like I’m not even at the half-way point of my career, and I still think of myself as young. So what has me feeling like throwing open my front door and shouting “you kids get off my lawn”?

Well, lately there has been some handwringing in the legal community about the fact that younger lawyers don’t get to stand up and talk in the courtroom very often. (And forget about the decline in jury trials–that ship has sailed; we’re just talking about hearings and oral arguments.)

As a result, programs designed to give younger lawyers more courtroom speaking opportunities are now a “thing.” Some judges have even adopted formal policies designed to encourage more experienced lawyers to allow less experienced lawyers to argue cases in court.[1]

A First-World Problem?

The shortage of courtroom speaking opportunities for young litigators strikes me as a great example of a First-World Problem. If you’re not familiar with the concept, a First-World Problem is something that causes great annoyance to the upper-middle class in America, until you stop and think about whether someone in a third-world country would consider it a problem.

My personal favorite First-World Problem is when I order a cappuccino at Starbucks and they make it more like a latte. As I get the urge to complain to the barista, “more foam, less milk!” I have to stop and think to myself, “dude [I like to call myself ‘dude’], there are millions of people in this world who don’t even have clean water to drink.” And in the wake of Hurricane Harvey, I’m even more reluctant to complain about my relatively trivial problems.

Don’t get me wrong. I’m not saying that the lack of courtroom opportunities is not a problem for younger lawyers. But I have two concerns about the reaction to the problem.

What’s best for the client?

First, the reaction seems too focused on the needs of the lawyers, rather than the needs of the clients.

Mind you, I’m not suggesting the reaction is based on heartfelt concern for the job satisfaction of the young associates. Please! The problem big law firms are concerned about is “how can we justify charging $750/hour for a junior partner who never got much courtroom experience?” (Note to self: update this post once a year to increase the rate by $100.)

Maybe this is naïve, but I like to think that law firms should assign tasks based on what is best for the case and the client. For a routine motion or a deposition of a minor witness, there’s no reason to send the senior partner when a junior associate can do the job—and at a lower rate.

But who should handle a more difficult assignment, like arguing a case-dispositive motion, taking the deposition of a key hostile witness, or telling the CEO “we need to image your smartphone”?

In those cases, the overriding question should be who is going to do the job most effectively.

That doesn’t necessarily mean the assignment goes to the more senior lawyer. Sometimes the junior lawyer who knows the facts, documents, and case law inside-out may do just as good a job (or better). In those cases, I say give the young lawyer a chance. My Young Associate Development Program would simply be this: a tie goes to the less experienced lawyer.

The point is to focus on what is best for the case, not what is best for the law firm. Most clients don’t want to foot the bill for training young lawyers.

A radical alternative solution

The second problem I have with the reaction to junior lawyers not getting enough courtroom time is that the whole thing seems a little BigLaw-centric.

If you’re an associate slaving away at a big law firm and not getting enough courtroom experience, you have a few options. You could complain to the partners and hope they throw you a few more breadcrumbs. But if taking the lead in the courtroom is truly important to you, then the better solution is to bring in your own clients.

The problem, of course, is that not many third-year associates are going to land the kind of blue-chip clients who will pay BigLaw rates. So you may have to swallow your pride and find a job at—brace for it—a small firm, where you may have a better chance of developing your own business.

Or if you really care about being in charge of your own matters, you could take the plunge and hang out a shingle. In a solo practice, there is a very good chance the managing partner will let you argue the cases in the courtroom all you want.

Now we’re getting to the nitty-gritty. Because these options may mean shifting your expectations. You may need to trade in that new Lexus for a used Subaru. You may need to take your next vacation in Paris, Texas, rather than Paris, France. You might have to—gasp!—cancel your membership at the country club. You may be embarrassed at the law school reunion when you see your friends from law review and they ask where you’re working now.

And your clientele may have to change. You may no longer find yourself reporting to the Deputy Assistant General Counsel for Employment Litigation, Southwest Region, of a Fortune 500 company. Instead, you may find yourself reporting to Jim Bob, a middle-aged guy who dropped out of college to start a plumbing supply company.

But you know what? You may find that Jim Bob is smarter than you thought, and representing his company can be a lot of fun. Plus, when you’re in charge, you’ll get to argue his case in court all you want.

And, who knows, after a few years you may be the one sending a baby litigator to the courthouse in your place.

___________________________________________________________________

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 is much nicer to young lawyers in person.

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] An interwoven issue is providing more opportunities for female lawyers. That’s an important topic in its own right, but for simplicity I’m saving it for a future post.

Texas Supreme Court Raises the Bar for Trade Secrets Damages–Again

Texas Supreme Court Raises the Bar for Trade Secrets Damages–Again

Horizon v. Acadia finds expert’s assumptions too speculative to support lost profits verdict

Mamas, don’t let your babies grow up to be damages experts in Texas.

That’s the refrain CPAs may feel like singing after the Texas Supreme Court recently raised the bar for proving lost profits damages in trade secrets lawsuits—again.

It started in 2016 with Southwest Energy v. Berry-Helfand, where the damages expert calculated lost profits for misappropriation of oilfield trade secrets by assuming a flat reasonable royalty rate of 3%, which was consistent with industry standards. As I reported here, the Texas Supreme Court said this opinion was faulty because the information available to the expert would have allowed for a more precise calculation.[1]

More recently, the Texas Supreme Court addressed trade secrets damages again in Horizon Healthcare v. Acadia Healthcare. The court rejected the expert’s calculation of lost profits damages because it was based on assumptions about causation and profitability of contracts that were not supported by the evidence.[2]

Horizon had somewhat complicated facts, but in essence it was a typical departing employee case where a management group left a company to work for a competitor:

  • Horizon provided contract management services to healthcare providers
  • Four Horizon executives, the “Saul group,” signed non-competes with Horizon.
  • The Saul group began negotiating to join Acadia, a Horizon competitor.
  • The Saul group solicited Piechocki, a successful Horizon salesman, to join them in moving to Acadia.
  • Shortly before leaving, Saul secretly copied a “massive amount” of Horizon documents to an external hard drive.
  • The copied documents included contracts, financial models, and lists of Horizon’s sales leads.
  • After leaving Horizon to join Acadia, the former Horizon employees began competing with Acadia and soliciting Acadia’s clients.

If you think these facts are bad, you should read some of the emails recounted in the Court of Appeals opinion. But bad facts don’t necessarily make a good damage model.

The facts concerning damages were a mixed bag. Here is what Horizon’s damages expert had to work with:

  • After leaving Horizon, Piechocki used Horizon’s financial models to win a contract from Westlake.
  • Westlake was on Horizon’s “lead list” but was not a Horizon client.
  • Horizon did not lose any existing clients to Acadia.
  • Piechocki was an at-will employee without a non-compete who could have left Horizon at any time.
  • Piechocki was Horizon’s best salesperson.

So, if you represent Horizon, how do you work with your expert to construct a defensible damages theory?

Keep in mind that Texas law does not require lost profits damages to be “susceptible of exact calculation.” Lost profits must be calculated with “reasonable certainty.”[3]

As I explained here when I reported on the oral argument in Horizon, calculating lost profits damages requires entering a hypothetical world. The question is how much profit the plaintiff would have earned if the defendant had not used the plaintiff’s trade secrets, breached the non-compete, etc. This necessarily requires making assumptions.

Assumptions made in Horizon v. Acadia – the Westlake contract

Take the Horizon case as an example. To calculate lost profits based on the Westlake contract, Horizon’s expert assumed that Westlake would have signed a similar contract with Horizon if it had not signed the contract with Acadia. Based on that assumption, the expert calculated lost profits of $898,000 on the Westlake contract, and the jury included that amount in its verdict.[4]

Was it a mistake for the expert to assume Horizon would have won the Westlake contract? Not necessarily. To prove causation, Horizon had to show it would have obtained the contract but for the defendants’ wrongful conduct. It was an essential assumption.

But was it a reasonable assumption? The challenge for the plaintiff’s lawyer is that there must be evidence to support the assumption. The strategic question is how to support the assumption: with expert opinion or with some other evidence?

Often it will be better to prove the assumption with other evidence. Financial experts are good at crunching numbers, so it’s pretty easy for them to calculate the amount of profits that would have been made on a contract. But whether the plaintiff would have gotten a contract is another story. On that issue, a CPA doesn’t necessarily have any special insight that an ordinary jury member doesn’t have.

The problem for Horizon was not so much that the expert made the assumption, but that there was insufficient evidence to support the assumption. The Texas Supreme Court said it was “pure speculation” to assume Horizon would have won the Westlake contract if the defendants had not. This was especially true given the fact that there was no evidence that Horizon would have included a specific $150,000 incentive that Acadia included in its bid. Thus, “Horizon failed to establish the fact of damages relating to the Westlake contract with reasonable certainty.”[5]

Assumptions made in Horizon v. Acadia – Piechocki’s future contracts

The Westlake contract was not the only one lost. Horizon’s loss of Piechocki, its top salesperson, also caused Horizon to lose the future contracts Piechocki would have obtained if he had stayed at Horizon.

To quantify the lost profits for these hypothetical contracts, Horizon’s expert had to make assumptions about three issues:

(1) how long Piechocki would have stayed at Horizon

(2) how many contracts Piechocki would have generated at Horizon

(3) the amount of profits Horizon would have made on those contracts

Based on ten years of Horizon’s retention data for employees in Piechocki’s position, the expert provided two alternatives: Piechocki would have stayed either two years or four years. This was only an assumption, because Piechocki was an at-will employee not bound by a non-compete or any employment agreement. The court found there was some evidence to support this assumption, including testimony by Piechocki himself that suggested he would have stayed at Horizon if not solicited to work for Acadia.

There was also some evidence to support the assumption that the loss of Piechocki caused Horizon to lose future sales. This included an email from one of the defendants saying “I cannot think of a bigger body blow relative to impacting future new sales for Horizon than to get Piechocki out of there.”

But the Texas Supreme Court said there was no evidence to support the third assumption: the profitability of contracts Piechocki sold or would have sold had he remained at Horizon. In the court’s view, the specific problem with the expert’s calculation of lost profits was that it was based on the historical profitability of Horizon contracts generally, rather than the historical profitability of Piechocki’s Horizon contracts. The court held that the absence of evidence showing the profit associated with Piechocki’s sales was “fatal” to Horizon’s lost profits claim.[6]

A trend of nit-picking expert calculations of lost profits damages

I see the logic in the Horizon court’s criticism of the expert’s third assumption, but isn’t this getting a little nit-picky? The evidence of Horizon’s contract profitability generally seems like at least a scintilla of evidence of the profit Horizon would have made on Piechocki’s contracts. Remember that all it takes to uphold a jury verdict on appeal is some evidence (in theory).

But at least the Texas Supreme Court has been consistently nit-picky about lost profits damage theories lately. As mentioned earlier, the court did the same thing in Southwest Energy v. Berry-Helfand, finding that the reasonable royalty rate assumed by the expert was not precise enough.

So what practice pointers can prudent practitioners pry from this pair of persnickety opinions? First, if you represent the plaintiff in a lost profits case and you hire a damages expert, you need to work closely with the expert to identify the key assumptions underlying the expert’s calculations, and to evaluate whether the evidence will support those assumptions. If you don’t have the evidence, find another theory.

Second, the at-will status of departing employees is not necessarily fatal to proving causation. Yes, the Texas Supreme Court ultimately found there was insufficient evidence to support Horizon’s damage theory, but its opinion makes clear that an expert can make a reasonable assumption about how long an at-will employee would have stayed at the company, provided there is evidence to support the assumption.

That brings us to the third tip: Whatever assumptions the damages expert is going to make, the plaintiff’s lawyer must be prepared to offer evidence to support those assumptions.

Easy, right?

__________________________________________________________________

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 correctly predicted that the Texas Supreme Court would not like the lost profits award in Horizon

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] Sw. Energy Prod. Co. v. Berry-Helfand, 491 S.W.3d 699, 720 (Tex. 2016).

[2] Horizon Healthcare Co. v. Acadia Healthcare Co., __ S.W.3d __, 2017 WL 2323106, at *5-8 (Tex. May 26, 2017).

[3] Id. at *4 (citing ERI Consulting Eng’rs, Inc. v. Swinnea, 318 S.W.3d 867, 876 (Tex. 2010)).

[4] Id. at *5.

[5] Id. at *6.

[6] Id. at *6-8.

A SLAPP in the Face to Texas Trade Secrets Lawsuits, or Much Ado About Nothing?

A SLAPP in the Face to Texas Trade Secrets Lawsuits, or Much Ado About Nothing?

Part 3 of 3 in my series

Fivers, you may be wondering why I have not yet reported on the Texas legislature’s recent amendments of the Texas Uniform Trade Secrets Act. I like trade secrets law. I like litigation. And I like making fun of whatever the Texas legislature does. So what gives?

Well, three things. First, you can already find other good reports on this topic, like Leiza Dolghih’s blog post here. Second, the recent changes to the Texas trade secrets statute, while important, are not that big of a deal. And third, I predict that recent court decisions applying the Texas Citizens Participation Act (TCPA) are going to be a bigger deal for Texas trade secrets litigation.

That’s because filing a motion to dismiss under the TCPA is likely to become a routine move by defendants in Texas trade secrets lawsuits.

Texas courts have held that the TCPA applies to claims based on disclosure of alleged trade secrets

So how did we get here? To recap Part 1 and Part 2:

  • The TCPA is the Texas “anti-SLAPP” statute intended to protect the “little guy” from nuisance litigation filed in retaliation for exercising free speech rights.
  • The TCPA allows the defendant to file a motion to dismiss that stays discovery and requires the plaintiff to offer evidence proving each element of its claims.
  • The purpose of the statute is to protect constitutional rights, but the Texas Supreme Court has instructed Texas courts to apply the “plain meaning” of the text, which is much broader.
  • In Elite Auto Body, the Austin Court of Appeals followed the Texas Supreme Court’s instructions and held that the TCPA applied to a company’s claim that its former employees communicated the company’s confidential information and trade secrets to a competitor.[1]

In Part 1, I explained how this issue provides a sort of case study for the “textualist” theory of statutory interpretation, which has received some airplay recently with Neal Gorsuch filling the Merrick Garland seat on the Supreme Court. In Part 2, I hypothesized that the holding in Elite Auto Body is inconsistent with the legislature’s intent and suggested that this illustrates a problem with strict textualism.

But if you’re a lawyer or a party in a trade secrets lawsuit, you don’t care about all that. You want to know what Elite Auto Body means for your lawsuit.

Will it become routine for defendants in Texas trade secrets lawsuits to file motions to dismiss under the TCPA?

It seems likely that defendants in trade secrets lawsuits will now routinely file motions to dismiss under the TCPA. First, because Elite Auto Body says they can. Second, because it will usually be good strategy.

The crux of the Elite Auto Body decision was the statute’s broad definition of the “exercise of the right of association” as “a communication between individuals who join together to collectively express, promote, pursue, or defend common interests.”[2]

The court found that the plaintiff alleged two kinds of communications falling under the statute’s broad definitions: (1) communications between the departing employees and the second employer disclosing confidential information or trade secrets; and (2) communications with employees of the first employer to induce them to work for the second employer.[3]

So, in any case where the plaintiff alleges either (1) communication of the plaintiff’s trade secrets or (2) solicitation of the plaintiff’s employees, the defendants have the option to file a motion to dismiss under Elite Auto Body. I will even provide this Form Motion to Dismiss you can use if you want.[4]

Filing a motion to dismiss will often have benefits for the defendant:

  • The motion will take the wind out of the plaintiff’s sails by immediately staying discovery until the court rules on the motion.[5]
  • It requires the plaintiff to respond with evidence of each element of its claims.[6] This will force the plaintiff to put its “cards on the table” early in the case.
  • In some cases, it will be difficult for the plaintiff to meet its burden before it has had any meaningful discovery.

Of course, there are potential disadvantages to filing a motion to dismiss. Despite the Texas Supreme Court’s instruction to apply the plain meaning of the statute, some trial court judges will still be reluctant to dismiss trade secrets claims that do not implicate constitutional free speech rights. Fighting over the motion to dismiss will often be expensive, and if the judge denies the motion, it will tend to embolden the plaintiff, which could make settlement more difficult. Worst case, if the judge finds that the defendant’s motion was frivolous or solely intended to delay, the court can award attorneys’ fees to the plaintiff.[7]

Despite these concerns, in most cases filing an early motion to dismiss under the TCPA will be good strategy for defendants, if the plaintiff alleges “communication” of the alleged trade secrets.

But that’s a big “if.”

Will it become routine for plaintiffs to plead around the TCPA?

If it becomes routine for defendants to file a motion to dismiss in Texas trade secrets lawsuits, plaintiffs will catch on.

And Elite Auto Body suggests a solution for them. As I pointed out in Part 2, the court in Elite Auto Body said that the TCPA does not apply to allegations of using the alleged trade secrets, as opposed to communication of the trade secrets. That’s why the Austin Court of Appeals only dismissed the plaintiff’s claims in part. It did not dismiss the claims based on conduct that does not constitute “communications” as defined by the TCPA.[8]

So, as Patrick Keating suggested on his trade secrets blog here, it may become routine for plaintiffs to avoid a motion to dismiss by pleading only use of the alleged trade secrets rather than disclosure of the alleged trade secrets. (Here is a Form Original Petition that does just that.) If that happens, then case law applying the TCPA to trade secrets claims may become, as Keating says, “much ado about nothing.”

But I’m not sure this maneuver will become totally routine. First, the plaintiff doesn’t always have a basis to claim use of the trade secrets. Second, the disclosure of the trade secrets is sometimes just too good a part of the story to leave out.

In many cases, the employer will discover that an employee has taken company information and joined a competitor, but the employer will not have any direct knowledge that the employee has used the information. And it is not unusual for employees to take company information when they leave but to refrain from using it after coming to their senses (or talking to a lawyer).

In cases like that, it may be dangerous for the employer to plead that the employee has used the alleged trade secrets. The plaintiff must have a good-faith factual basis for the allegation. Look for more plaintiffs to plead “on information and belief” that the defendant has used the alleged trade secrets.

In other cases, the plaintiff will really want to plead disclosure of the trade secrets, because that will be the juiciest part of the story. When an employee secretly emails confidential company information to his next employer, who can resist emphasizing that fact in the lawsuit? In those situations, the plaintiff’s lawyer will have to weigh the value of pleading bad acts by the defendants against the possibility of inviting a motion to dismiss.

Or just make a federal case of it

On the other hand, the plaintiff’s lawyer can simply avoid this dilemma by filing suit in federal court under the federal Defend Trade Secrets Act. All you need is a sufficient connection to interstate or foreign commerce, and any claim you would make under the Texas trade secrets statute can be made under the federal statute. And then the TCPA would not apply.

Or would it? I will let the appellate lawyers and former law review editors discuss among themselves.

____________________________________________________________

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. The provided forms are only for the convenience of other lawyers. Every case is different, so don’t rely on this post or the forms as legal advice for your case. 

[1] Elite Auto Body LLC v. Autocraft Bodywerks, Inc., No. 03-15-00064-CV, 2017 WL 1833495 (Tex. App.—Austin May 5, 2017, no pet. h.).

[2] Tex. Civ. Prac. & Rem. Code § 27.001(2).

[3] Elite Auto Body, 2017 WL 1833495 at *8.

[4] See my disclaimer about forms above.

[5] Tex. Civ. Prac. & Rem. Code § 27.003(c). Under Section 27.006(b), for good cause the court may allow “specified and limited discovery” relevant to the motion.

[6] See Tex. Civ. Prac. & Rem. Code § 27.005(c).

[7] Tex. Civ. Prac. & Rem. Code § 27.009.

[8] Elite Auto Body, 2017 WL 1833495 at *9.