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Texas Supreme Court Again Strengthens Enforceability of Non-Competition Covenants

Texas Supreme Court Again Strengthens Enforceability of Non-Competition Covenants

By Christopher L. Martin, David M. Washburn, Liat Avivi

The Texas Supreme Court has made Texas non-competition covenants in the employment context easier to enforce. In a 1994 decision, Light v. Centel Cellular Co. of Texas, the Court found that a non-competition covenant was enforceable only when the consideration given by the employer for such covenant gave rise to the employer's interest in restraining the employee from competing. Consequently, in order to be enforceable, consideration for employees' non-competition covenants was largely limited to providing the employee with access to confidential information, trade secrets, specialized training and the like. Furthermore, the Light test effectively excluded the employer's interest in protecting its "goodwill" from judicial analysis of the validity of non-competition covenants.

In its most recent decision on the issue, Marsh USA Inc. v. Cook (June 24, 2011), the Texas Supreme Court departed from its previous holding in Light by affirming the enforceability of a non-competition covenant for which the consideration was the exercise of an employee's stock options pursuant to an employee incentive and stock award plan. The plan stated that in order to exercise a stock option under the plan's terms, the employee must, among other things, sign a non-solicitation agreement. In its decision, the Court revisited the "gives rise" requirement from the Light case, pointing out that the Light requirement goes further than the Texas Covenant Not to Compete Act as well as the underlying common law, specifically with respect to such requirement's narrow construction of acceptable consideration for non-competition covenants and the exclusion of "goodwill" as a protectable business interest.

The Court in Marsh used a different test to determine the validity of consideration for non-competition covenants than the one used in Light. Rather than focusing on whether the consideration given gave rise to the employer's protectable interest, the Court focused on whether the consideration given was reasonably related to the creation of business goodwill between the employer and its clients, an interest worthy of protection under the Texas Covenant Not to Compete Act. The Court in Marsh found the incentive and stock award plan was reasonably related to the creation of business goodwill because the plan, with its financial incentives for certain employees, promoted the employer's interest in attracting and retaining talented employees, who fostered important relationships with the employer's valued customers.

This decision by the Texas Supreme Court in Marsh signifies a continuation of a recent trend toward upholding non-competition covenants in Texas and marks a victory for employers. Marsh sets the stage for broadening the range of acceptable consideration for Texas non-competition covenants (including the possibility of financial incentives, such as stock options, as consideration for enforceable non-competition covenants, or even the possibility of monetary payments as consideration for such covenants) and the increasing enforceability of such covenants in general.

In view of the Marsh decision, employers in Texas should review their policies and practices related to non-competition covenants. If you have any questions with respect to Marsh and its consequences for your business or non-competition law in general, please feel free to contact us.