Labor & Employment Law Daily Lower court should have considered reforming overbroad non-compete agreement before denying preliminary injunction
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Wednesday, August 12, 2020

Lower court should have considered reforming overbroad non-compete agreement before denying preliminary injunction

By Marjorie Johnson, J.D.

The district court failed to allow an employer to present evidence that may have demonstrated that tentative reformation of the agreement would have entitled it to a preliminary injunction barring a former sales from soliciting his prior customers while working for a competitor.

In denying an industrial equipment supplier’s motion for a preliminary injunction against a former sales representative who purportedly breached a non-compete agreement when he left to work for a competitor, a district court correctly found that the agreement was likely overbroad and unenforceable under state law. However, the lower court erred in declining to preliminarily consider the reformation of the agreement pursuant to the Texas Covenants Not to Compete Act. Accordingly, on interlocutory appeal, the Fifth Circuit reversed and remanded so that the district court could properly adjudicate the reformation of the agreement and then re-evaluate the motion for preliminary relief (Calhoun v. Jack Doheny Companies, Inc., August 7, 2020, Jolly, E.).

Non-compete agreement. The employer sells, rents, and repairs “industrial utility vehicles,” including garbage trucks and street sweepers. The sales rep, who worked for the company from 2010 to 2019, signed an employment contract which contained a non-compete agreement. In relevant part, the agreement stated that for two years after leaving employment, he “shall not perform, in North America, service for, become engaged by, or aid, assist, own, operate or have any financial interest in a company that is in the [industrial utility vehicle business].”

Misdirected customer email. Soon after the sales rep left the company, the employer learned that he had begun working for a competitor after a potential customer inadvertently sent him an email at his old company email address instead of at his new address at the competitor. The company then sent him a cease-and-desist letter requesting that he refrain from competing pursuant to his non-compete agreement.

Dueling claims. The sales rep responded by filing this action in state court seeking a declaratory judgment that the non-compete agreement was unenforceable for overbreadth. The employer removed the case to federal court and filed a counterclaim for breach of contract which sought to enjoin the sales rep from working for the competitor for two years and from “soliciting, servicing, or contacting” its customers and leads. It then moved for a preliminary injunction.

Preliminary injunction denied. At the hearing on the motion, the district court didn’t allow the parties to call witnesses and instead advised them to relay what their witnesses “would testify to.” As a result, the employer was unable to elicit testimony from the sales rep that it hoped would establish that he had solicited the customer who sent the misdirected email. The court then denied the preliminary injunction, ruling that while the agreement was likely to be found unenforceable for overbreadth at final judgment, it was not reformable at this stage.

Overbroad non-compete. As an initial matter, the Fifth Circuit agreed that the employer was unlikely to prove that the non-compete agreement was enforceable as written and therefore not entitled to a preliminary injunction enforcing its terms. The Texas Covenants Not to Compete Act (TCNCA) provides that such an agreement is only enforceable “to the extent that it contains 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 promise.” Interpreting the statute, the Fifth Circuit has found that such covenants “that extend to clients with whom the employee had no dealings during her employment or amount to industry-wide exclusions are overbroad and unreasonable.”

Tentative reformation. The TCNCA also states that if a non-compete covenant is found to be unreasonably overbroad, “the court shall reform the covenant to the extent necessary to cause” the covenant to be reasonable. Therefore, having found the agreement likely overbroad, the district court should have tentatively reformed the agreement and considered that reformation in its preliminary injunction analysis.

Instead, in denying preliminary relief, the court held that solely because the record was inadequate, the agreement could not “be reformed at present into a simple ban on solicitation of [the employer’s] customers.” In particular, the court found that reformation would not be possible until it at least knew what the sales rep did with respect to customer contact and which clients he dealt with while he working for his former employer.

Consider evidence of customer contact. This was error in the light of Texas authority, the Fifth Circuit ruled. While the court “obviously would have needed to know what [the sales rep] did to violate a reformed non-solicitation agreement in order to enter any injunction, it could have taken evidence that the parties were apparently ready to offer.” Furthermore, a complete list of his former customers was not necessary since a court may simply reform an agreement into one “generally restraining solicitation of customers and not specifically listing the individual customers.” It could be assumed that the sales rep was sufficiently familiar with his former employer’s business and its customers to avoid violating a generally worded covenant.

Accordingly, in its preliminary injunction analysis, the district court should have decided whether and what reformation terms were most likely to make the agreement enforceable under Texas law. Therefore, on remand, it should consider evidence and argument specifically addressing reformation that would “cause the limitations contained in the covenant as to time, geographical area, and scope of activity to be restrained to be reasonable and to impose a restraint that is not greater than necessary to protect the goodwill or other business interest of the promise.” Then, using the preliminarily reformed agreement, the court must again address whether the employer established its entitlement to a preliminary injunction.

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