Terminating employment when a non-compete is involved
Andrea M. Johnson, Burleson Cooke LLP, Houston
Is saying ‘adieu’ the end of the employment relationship?
It is said that all good things must come to an end. When one of those things – employment – comes to an end, or terminates, one issue is: Do the parties have continuing rights? And if applicable, what is the effect (and validity) of a non-competition agreement at that point? This article considers some of the basic legal parameters of non-competes, or covenants not to compete, and provides a short reference for parties to evaluate these clauses.
An end – or an extension?
Friendships may endure forever, but employment termination seemingly is the end of a bond. Or is it? A non-compete may actually extend that relationship after the divorce of employment interests, effectively extending the “life” of a moribund relationship even if the labor-for-services connection is “dead.”
What can we predict about how a non-competition agreement may impact parties at termination? The answer depends on established state law regarding a number of issues, such as the employer and the nature of its work, the employee’s services, time, and geography.
Hotly contested disputes about non-competes can be traced back to England in 1414 and then later through the rise of craft guilds. The popularity of non-competes in the past few decades, particularly in the United States, may reflect the fact we are a growing service economy: About 80% of US private sector employment today is service-related, accounting for 93 million jobs (and 77% of the GDP).
Clearly, American businesses succeed (or don’t) because of the talent their employees offer. But that is a doubled-edged sword. On the one hand, for these individuals, their unique services are what make them marketable, allow them to find employment, and put bread on the table. On the other hand, for employers, it is critical to ensure that these people and their talents – along with the confidential data and trade secrets they may possess – stay loyal to the employers who trained and developed them. It is between these two connected but opposing interests that intense legal fracases boil up.
Examine applicable state laws
While many states enforce non-competes, some do not – or at least they start from the proposition that most non-competes are presumptively invalid (California is one example). So if an employer or employee is considering a covenant not to compete, the first thing that must be examined is the applicable state law.
Perhaps seeing only blue skies ahead (or being desperate for a secure salary), employees who are eager for work may brush aside as “not important” a non-compete or other terms in an employment contract. Instead, they sign the proffered agreement on the first day of employment without seeking legal advice about the interpretation, scope, and enforcement of such agreements (until termination looms or has happened).
However, not foreseeing the potentially serious implications of what may happen at the eventual end of the employment arrangement – whether it ends the next day or 20 years later – can be a major mistake. So a good tip in considering a non-compete is to do just that: consider it before you start work. In fact, one should ask about and gauge any such clause long before showing up to work the first day, at which point it is obviously too late to negotiate a change.
Once a non-compete is signed, the issues of concern will focus on two general areas: First, is the non-compete enforceable from a “consideration” point of view? And second, are the terms of the non-compete “reasonable” in scope for enforcement purposes?
Woven into the review of these contract questions is a general public policy issue: Is it “right” or is it against public policy to restrain a person from seeking employment in what looks like his or her “common calling?” Most courts, despite upholding many non-compete agreements, start from the viewpoint that such covenants are disfavored as restraints on trade.
Considering ‘consideration’
“Consideration” is the quid pro quo of contract enforcement: What does one party promise in exchange for the other party’s promise? In a number of states, it is good enough consideration for a non-compete for the employer to offer a job, even if that job is “at will.” Of course, “at will” employment is often described like a math equation (using rose-colored glasses). The employee may terminate the relationship at any time, with or without notice and “for good reason, bad reason, or no reason at all;” but, on the other side of the equation, so can the employer.
Texas, in contrast, deems at-will employment as insufficient “consideration” for a non-competition agreement. Likely harkening back to the long-held opinions abhorring covenants not to compete, Texas courts have concluded that “at will” employment is an illusory promise (not really a promise) because termination can happen in the next breath. Thus, these courts are saying, in effect, that an at-will employment promise is inadequate foundation, by itself, for a covenant not to compete.
“While many states enforce non-competes, some do not – or at least they start from the proposition that most non-competes are presumptively invalid. So if an employer or employee is considering a covenant not to compete, the first thing that must be examined is the applicable state law.” – Andrea Johnson
Instead, Texas demands that there be an agreement “ancillary” to the employment agreement in order to find a valid covenant. And that “ancillary” agreement almost universally comes from the employer’s basic need to protect its confidential data and trade secrets; so promises of a job, wages or bonuses paid, special money, or severance payments – or even prior notice of termination– are not sufficient consideration. But if the employer actually promises to provide confidential data and specialized training to the employee (and does so), and if the employee agrees to protect those confidences, then a non-compete will likely meet the basic contractual requirement of consideration.
Questions of focus
The second fundamental area of review focuses on the scope of the non-compete:
- How long does it last?
- What work does it cover?
- What kind of businesses does it pertain to?
- What customers are included?
- What was the nature and extent of the employee’s prior work?
- What is the scope of geography at issue?
Here, courts will look at issues such as the nature of the business seeking protection, the nature of the person’s work at that business, how integral to trade secret and confidential data was that work, and what kind of trade secret/confidential data was provided. They will inquire about the customers and clients that the employee truly worked with and where that work was done.
Given the public policy concerns, the courts generally are inclined to interpret the agreements narrowly and only as needed to protect the “legitimate business interests” at stake. Across the United States, it is in this area that most of the argument about a non-compete will focus.
Even in Texas – which had traditionally spent much time minutely tearing apart agreements on whether the employer “actually” promised to provide confidential data (and, in some cases, requiring that provision of data the moment the employee signed the agreement) – the focus today is said to be much simpler: on whether the agreement is actually “reasonable” or not. If not written in a reasonable fashion, if it is too broad in scope, a secondary issue will be whether the agreement can be reformed by the court so that it will be reasonably enforced.
Understand limits and impact
These are some guides, but each covenant and each employee’s situation is unique and will require some legal review and balancing of the specific factors in play. Understanding the limits of enforcement is critical to employment choices for both the employee and the employer. Without understanding the impact of a non-compete, an employment termination – even apart from difficult personal “adios” – may be a time of heartache, consternation, and significant cost.
About the author
Andrea M. Johnson [[email protected]] is a partner at Burleson Cooke LLP, a Houston-based law firm. She is head of the employment and labor law practice group. She earned her undergraduate degree at UCLA and her law degree at Loyola Marymount.