The Texas courts have long had a love/hate relationship with noncompete agreements. For some time, such restrictions were considered unenforceable until the legislature stepped in four decades ago. While referring to such agreements as "restraints of trade," the legislature nonetheless provided guidelines for drafting such agreements in an ostensibly enforceable manner. However, practitioners in this area of law know that the space between a well-drafted agreement and the enforcement of that agreement is not a straight line. And now the Federal Trade Commission (FTC) has stepped into the fray attempting to outlaw all "noncompete" agreements entirely. This article discusses the strategies employers may use, with or without noncompetes, to protect their most guarded information and work product and how the Texas courts have dealt with these issues.
On April 23, 2024, the FTC announced a new rule intended to ban noncompete agreements for all employees, including senior executives. 89 FR 38342 (2024). While the rule permits the continued enforcement of noncompete agreements for certain senior executives entered into before Sept. 4, 2024, the effective date of the rule, and noncompete agreements connected to an individual's sale of a business, these exceptions provide little solace for employers who rely on noncompetes to protect against unfair competition. The FTC's Non-Compete Clause Rule reflects a growing sentiment among legislators and judges nationally that noncompetes are unfair to the individuals restricted by those agreements. Multiple lawsuits have now been filed in the federal courts in Texas seeking to invalidate the rule nationwide on the basis that it violates the U.S. Constitution, and the FTC exceeded its authority under the Federal Trade Commission Act. As of the date of this writing, no court has taken action, but it is widely expected that the rule will be delayed and, in fact, may not ever become effective.
Regardless of the outcome of the litigation however, given national trends hostile to noncompete agreements, this is a good time for employers to review how, and if, they are taking the steps necessary to protect their businesses from unfair raiding of the talent pool, and loss of confidential information and trade secrets which remain protectable even without the use of noncompete agreements.
The Federal Trade Commission Act grants the FTC the authority to regulate unfair methods of competition. The FTC's Non-Compete Clause Rule concludes that noncompete agreements are in fact an unfair method of competition—and therefore a violation of the act. Indeed, Texas law, permitting narrowly drawn noncompetes, nonetheless defined noncompete agreements as "restraints of trade." See Chapter 15, Texas Business & Commercial Code. The FTC rule defines a "noncompete clause" as "a term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from ... [s]eeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment that includes the term or condition[] or [o]perating a business ... after the conclusion of the employment ..." 16 C.F.R. 910.1. The rule prohibits noncompete agreements with independent contractors as well.
The rule allows a narrow exception for senior executives who have "policy making authority" and earn more than $151,164 annually but only where the agreement was entered into before the effective date of the rule. The rule also permits noncompetes ancillary to a genuine sale of a business entity, of the person's ownership interest in a business entity, or of all or substantially all of a business entity's operating assets.
Should the FTC rule become effective it would significantly undermine the enforceability of noncompetes in Texas. In 1983, The Texas Legislature passed the Texas Free Enterprise and Antitrust Act found at Chapter 15 of the Business & Commercial Code, which contains the provisions often referred to as the Non-Compete Act, found in sections 15.50-52. The act permits the enforcement of noncompete agreements provided they "contain limitations as to time, geographic 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 company seeking to enforce the agreement.
Why should a company care about the rules surrounding noncompetes if the purpose of this discussion is to move away from drafting and enforcing noncompetes regardless of the eventual fate of the federal rule? Because it is relevant to how a company attempts to move forward without noncompete agreements.
The principal methods of protecting an employer's "goodwill and other business interests" are nonsolicitation agreements (the banning of which is not contemplated by the FTC rule), along with comprehensive confidentiality agreements, and active enforcement of the employer's rights under the Texas Uniform Trade Secrets Act (TUTSA). Civil Practices & Remedies Code Section 134A.001-008.
For many years, commentators argued over whether the limitations of the Non-Compete Act applied to nonsolicitation agreements. In 2011, the Texas Supreme Court provided some guidance, coming down clearly in favor of the application of the act to nonsolicitations as well. "Covenants that place limits on former employees' professional mobility or restrict their solicitation of the former employer's customers and employees are restraints on trade and are governed by the [Non-Compete] Act." Marsh USA v. Cook, 354 S.W. 3d 764, 768(Texas 2011) (citing Rimkus Consulting Grp. v. Cammarata, 255 F.R.D. 417, 438-39 (S.D. Tex. 2008) holding that a "nonsolicitation covenant is also a restraint on trade and competition and must meet the criteria of section 15.50 ... to be enforceable.").
Somewhat conversely, the Marsh court found that "[a]greements not to disclose trade secrets and confidential information are not expressly governed by the [Non-Compete] Act." Id. at 768. Confidentiality agreements, however, are often critical components of enforceable nonsolicitation agreements because of a separate requirement of Section 15.50. In addition to the limitations discussed above, another critical element in enforceability of noncompetes (and nonsolicitations, according to the Marsh court), is that the covenant be "ancillary to or part of an otherwise enforceable agreement at the time the agreement is made ..." Confidentiality agreements are the most common "otherwise enforceable agreements" to which nonsolicitation agreements may be ancillary, and give rise to one of the very few categories of employer consideration the Texas courts have found adequate to support noncompete (or nonsolicit) obligations. These include confidential information, critical training, and a genuine transfer of an interest in the business.
Nonsolicitation agreements differ from noncompete agreements in that they prohibit or limit the narrower act of solicitation rather than the potentially broad group of activities involved in competition. Indeed, nonsolicitation clauses tend to fall into two basic categories: solicitation of employees and solicitation of customers. Solicitation of employees is the simpler of the two categories. Generally, such clauses are intended to prevent an individual from moving to a competitor and taking the best workers with her. The goal of applying proper time, geographic, and scope of business limitations here helps to limit the restrictions to employees with whom the restricted individual likely had actual contact.
Solicitation of customers also tends to fall into one of two categories: solicitation of customers with whom the individual had direct contact, be they customers or prospects, and solicitation of company customers for whom the individual had specific access to client contacts, customer-specific pricing, and/or critical information about the client or the relationship, knowledge of which can give the possessor a competitive advantage. The direct contact with customers category is the simpler of these two prohibitions. Indeed prohibiting contact with customers for an individual who was in the business of soliciting those customers with the restricting employer almost defines the geographic and scope of activity by itself. The latter, broader, category is a little trickier and geographic limitation and scope of activity are quite critical and work best hand in hand with a comprehensive confidentiality agreement pertaining to the confidential client information being protected.
The third method mentioned above for protecting the interests for which employers use noncompete agreements is vigorous enforcement of the Texas Uniform Trade Secrets Act (TUTSA). TUTSA provides for protection against misappropriation of "trade secrets" defined essentially as all manner of information where "the owner of the trade secret has taken reasonable measures ... to keep the information secret; and ... the information derives independent economic value...from not being generally known to ... another person who can obtain economic value from the disclosure or use of the information." Tex. Bus. & Com. Code Section 134A.002(6). This is an independent legal obligation anyone with access to the employer's genuinely protected trade secrets has, regardless of any particular agreement between employee and employer. The statute even specifically provides for injunctive relief to protect against the use of trade secrets. TUTSA can be a critical tool in defending against the sorts of concerns that often lead employers to implement noncompete agreements, but it can be most effective in coordination with enforceable nonsolicitation and confidentiality agreements.
The FTC's rule, and what will be left in its wake, regardless of whether the rule eventually becomes effective, raises the concern that employers using noncompete agreements should take steps now to ensure they will be able to protect their legitimate interests in the way former employees compete going forward.
Originally published by Texas Lawyer.
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