Business entities can take many different forms – sole proprietorships, partnerships, limited liability companies (LLC), and corporations are the most common ones. Although they are simple and have the most flexibility and least regulation, sole proprietorships and partnerships fail to protect the company’s assets and the owners’ assets, and they fail to take advantage of many of the tax advantages of other types of entities. Additionally, entities such as LLC’s and corporations tend to present a more professional image and allow for greater future growth.

Corporations

There are a few different types of corporations: non-profit corporations, C corporations, and S corporations. Non-profit corporations must qualify as such under the restrictions of Federal law as stated in the Internal Revenue Code, one of the most important of which is that they must be formed for a charitable purpose as defined there. When incorporating a for-profit company, the default form is a C corporation. Companies must elect to be treated as an S (small business) corporation by the IRS, should they wish to do so, and if they meet certain criteria, such as having no more than 100 shareholders, not having shareholders that are partnerships, corporations or non-resident aliens, and having only one class of stock. C corporations are taxed on their profits, and the shareholders are taxed on the dividends they earn (if declared and distributed), which can result in “double taxation.” S corporations have their income or loss pass through to the shareholders, who report that on their personal tax returns and pay tax at their individual income tax rates.

LLCs

LLCs are similar to corporations in that they provide a shield to personal liability, and they also enjoy the benefits of pass through taxation. Some have even argued that they provide an even better shield to personal liability than corporations. Additionally, when compared to S corporations, LLCs have fewer restrictions relating to the number and types of owners, and in Texas and many other states, there are less administrative requirements. Also, the form and structure of LLC management is more flexible when compared to corporations.

Comparisons and Considerations

Corporations and LLCs create a legal “person,” (separate entity with rights like a person) that insulate owners’ legal liability for the debts and actions of the company. In Texas, and in most other states, both corporations and LLCs can be owned and managed by just one person. Importantly, however, in order to ensure the limitation of personal liability, all must follow certain financial, accounting, recordkeeping and operational formalities.

It is always important to consider the costs and benefits, advantages and disadvantages from legal and tax/accounting perspectives. Thus you should talk with your attorney AND your accountant to discuss your unique situation, possible future scenarios, and other considerations before rushing into formation without proper advice.

New Year Special!!!  Discounted Pricing for Business Formation

From now until January 31, 2011, I will offer anyone who mentions this blog post a special price for my legal services related to forming a business entity. During that time, I will take 25% ($300) off the normal price of forming a corporation or LLC, making the price only $900, plus the filing fee owed to the Texas Secretary of State. Included for this price is the drafting and filing of the Certificate of Formation, as well as the drafting of bylaws (corporation), company agreement (LLC), organizational minutes, and templates for future years annual minutes. Additionally, we include a company records binder, company seal, and pre-printed stock (corp) or membership (LLC) certificates. If you prefer a different entity, I am also offering special pricing on partnerships (general, limited, and LLP). I look forward to hearing from you!

May you have very happy holidays and a healthy and prosperous new year!

Prior to 2006, Texas courts regularly failed to uphold or enforce noncompetition agreements that arose in the context of at-will employment because there was a gap in time between when the employee signed the noncompetition agreement and when he or she received the consideration (i.e., confidential information) from the employer. Texas courts reasoned that since the employer theoretically could have terminated the employee between the time he signed the agreement and the time when the employer conveyed the information, the employer’s promise to provide the information was “illusory” (meaningless) when it was made. Thus, even if the employer did in fact provide confidential information to the employee, the noncompetition agreement would be held to be unenforceable. It left employers in the situation of having to hand over confidential information at the exact moment the noncompetition agreement was being signed in order to avoid being invalid and unenforceable.

In 2006, the Texas Supreme Court handed down its opinion in the Sheshunoff case. Alex Sheshunoff Mgmt. Servs., L.P. v. Johnson, 209 S.W.3d 644 (Tex. 2006) (see copy of case online here: http://www.supreme.courts.state.tx.us/historical/2006/oct/031050.htm) In that case, the court held that a “unilateral contract formed when the employer performs a promise that was illusory when made can satisfy the requirements of the Act.” Thus, in a situation in which (a) an employee was employed “at will”; (b) the non-compete agreement contained a promise by the employer to provide confidential information to the employee; and (c) the employer provided confidential information to the employee, the agreement would become enforceable at the time the confidential information was conveyed. This decision created a dramatic shift in Texas employment law regarding noncompetition agreements.

Even with this shift, for noncompetition agreements to be enforceable in Texas, they must be supported by adequate consideration. In the employment context, the only kind of consideration that the courts have consistently held to be adequate is the employer’s provision of confidential information to the employee. This is not to say that financial consideration—such as the providing of company stock, a promotion, or monetary payment—can never be sufficient. However, generally speaking, for a non-compete agreement to be enforceable in the employment context, the employer must provide confidential information to the employee. This has been the case in Texas before the Sheshunoff case, and remains that way today.

Until 2009, it had also been true in Texas that a non-compete agreement, to be enforceable, had to be worded in a certain way. Specifically, the agreement had to contain an affirmative promise by the employer to provide confidential information to the employee. Thus, in some cases, Texas courts held that covenants not to compete were unenforceable because they did not contain a promise by the employer to provide confidential information to the employee (and this was so even if the employee did, in fact, subsequently receive confidential information from the employer).

In April 2009, the Mann Frankfort case changed this as well. Mann Frankfort Stein & Lipp Advisors, Inc. v. Fielding, 289 S.W.3d 844 (Tex. 2009) (see copy of that case online here: http://www.supreme.courts.state.tx.us/historical/2009/apr/070490.htm) In that case, the Texas Supreme Court held that a non-compete agreement could be enforceable even if it did not contain an explicit promise by the employer to provide confidential information. The court held that, in some situations, the employer’s promise to provide confidential information could be “implied.” The court noted: “When the nature of the work the employee is hired to perform requires confidential information to be provided for the work to be performed by the employee, the employer impliedly promises confidential information will be provided.”

After the Mann Frankfort case, in certain circumstances, a court will find in a noncompetition agreement an implied promise to provide confidential information, even though the agreement does not contain such an explicit promise. The primary inquiry is whether the employee’s job duties are such that the conveying of confidential information would be required. If that is the case, and if confidential information is in fact disclosed to the employee, then the agreement may be enforceable.

If a noncompetition agreement in Texas is properly worded and supported by adequate consideration, the next question is whether the restrictions contained in the agreement are reasonable. Texas courts have regularly ruled that the scope of the restrictions should bear some relationship to the activities that the employee performed for his former employer. For example, if an employee performs work for his employer only in the Austin metropolitan area, a non-compete agreement that keeps him from competing with his employer anywhere in the State of Texas or throughout the United States might be too broad. In light of the fact that our world getting smaller and potential sales territories getting larger on account of the internet, the facts of each case must be assessed on their own merits, and sometimes even a world-wide restriction could be deemed reasonable. Texas courts have typically focused upon where an employee performed his job duties for the employer.

Courts also have to consider the duration of the noncompetition agreement’s restriction on competing employment. There is no “across the board” bright-line test that provides that less than “this amount” is okay, and more than “that amount” is not. Courts generally look at the totality of the circumstances. In many cases, restrictive periods of 6 months to a year are upheld, while restrictive periods of more than 2 years are often found to be too long. But neither of those describes all cases, and there is a wide range of results along that spectrum as well.

Finally, what is confidential information? Texas courts have long held that an employer’s provision of confidential information can constitute valid consideration for a noncompetition agreement. But it can be difficult to apply this widely accepted premise, as was demonstrated in a recent case. In the case, an insurance broker signed an agreement in which he acknowledged that he would receive confidential information:

This information (hereinafter referred to as “Confidential Information”) includes, but is not limited to, data relating to AJG and the Corporation’s unique marketing and servicing programs, procedures and techniques; the criteria and formulae used by AJG and the Corporation in pricing its insurance and employee benefits products and claims management, loss control and information management services; the structure and pricing of special insurances packages that AJG and the Corporation have negotiated with various underwriters; lists of prospects compiled by AJG and the Corporation’s management and research staff; the identity, authority and responsibilities of key contacts at AJG and the Corporation accounts, including accounts of the Acquired Business; the composition and organization of accounts’ businesses; the peculiar risks inherent in their operations, highly sensitive details concerning the structure, conditions and extent of their existing insurance coverages; policy expiration dates; premium amounts; commission rates; risk management service arrangements; loss histories; and other data showing the particularized insurance requirements and preferences of the accounts. The Executive recognizes that this Confidential Information constitutes a valuable property of the Corporation, developed over a long period of time and at substantial expense.

As can be seen above, the broker was to receive various types of confidential information. The broker argued to the court that much of this information could not be considered “confidential” because it could be obtained from public sources.

The company countered, and argued that its confidential information (a) took years to acquire; (b) was only shared with the company’s employees and agents on a “need to know” basis; (c) was not “readily ascertainable by competitors”; and (d) gave the company a “valuable competitive advantage in the insurance brokerage industry.” The company also argued that it spent substantial resources developing and acquiring the information, and that it took reasonable precautions to prevent the disclosure of what it included in the definition of “confidential information.”

In the end, the court decision was in favor of the company. The court there found it compelling that the company had spent substantial time and resources developing and acquiring the information, it had taken reasonable precautions to prevent disclosure of the information to third parties, the information was not readily available to competitors, and the information gave the company a valuable competitive advantage in the industry. Based upon these factors, the court held that the confidential information was sufficient to make the non-solicitation agreement enforceable.

“To maintain a cause of action for defamation in Texas, the plaintiff must prove that the defendant: (1) published a statement; (2) that it was defamatory concerning the plaintiff; and (3) that it was published with either actual malice, if the plaintiff was a public official or public figure, or negligence, if the plaintiff was a private individual, regarding the truth of the statement. Further, the plaintiff must suffer damages as a result of the defamatory statement; i.e., the statement must impugn the plaintiff’s character or injure the plaintiff’s reputation.” (quoted from the article linked below, citing Texas appellate court and Supreme Court precedent, as well as US Supreme Court legal precedent) Statements of opinion, even if offensive, aren’t enough to satisfy the requirements to establish a case for defamation. (http://www.texasbar.com/Template.cfm?Section=Texas_Bar_Journal1&Template=%2FContentManagement%2FContentDisplay.cfm&ContentID=26431)

A Chicago landlord sued one of its tenants for tweeting about her moldy apartment, but lost because the court found that the statement, especially having been made in the social context and setting where it was published, was just that tweeter’s opinion.
(http://bit.ly/8g6Jig)

An Austin fashion designer sued Courtney Love for Love’s allegedly defamatory tweets that followed the development of a dispute over payment owed for some custom designed clothing pieces Love ordered from the designer. In response to Love’s attempt to
dismiss the lawsuit, the court found that the designer would likely prevail on her defamation case because many of Love’s comments could be construed as statements of fact, in addition to others that were merely opinion. (http://bit.ly/aDLNn0)

There have not been a lot of these cases yet, but there have been some others besides these two. But all the cases thusfar seem to turn on the same issues that have always governed defamation cases. So the land of Facebook and Twitter has not created new law, just a new forum in which that law can be enforced.

People have attempted to sue Twitter, Facebook and various internet service providers that host blogs and other sites that host  people’s posts about businesses, organizations and people. But the Communications Decency Act of 1996 comes to the rescue of these internet service providers and hosts. It protects the owners of these sites from defamation claims, based on the principle that the provider of internet-based services or other users of the same site should not be treated as the publisher; generally only the user who writes the material and posts it may be treated that way, but retweeters and those who share or forward such posts may also share in the potential for liability.

Our office recently received a call from someone claiming to have been libeled by someone’s post to a social networking site. To maintain the privacy of the caller and the attorney-client privilege of the context of the call, I have changed the names of those involved and some of the facts of the story:
Debbie was jogging with some friends on the trail around a small lake in a nearby town one afternoon. As she passed another jogger, that jogger slightly shoved Debbie and made a derogatory remark about Debbie’s weight. One of the friends Debbie had been
jogging with later posted about the incident on a social network site (comments of disbelief, such as “who would do such a thing?”). Word spread and the incident was picked up by a local media outlet. No one knew who the victim of the remark was, but
there were rumors spreading. One woman, “Jane”, in the little town contacted Debbie and asked that she make a public statement to make clear that Jane was not the jogger, which Debbie did (although I’m not sure exactly why). Various people in the town are
still talking about the incident. Debbie also says that Jane continues to say disparaging things about the incident and about Debbie even after she complied with Jane’s request. Debbie even mentioned to us that she is having to deal with an issue on a home loan with
her bank (although it was unclear how this tied into the allegedly defamatory remark). Debbie confirmed during her call to us that the incident has not caused her any issues with the bank or damages beyond “mental anguish” and certainly no identifiable financial
losses have occurred.

This call is muddied with lots of stray facts, but the bottom line here is that the comment made by the passing jogger was not defamation because it was opinion, albeit offensive. To prove defamation, the plaintiff must also show that the people who heard the remark believed it and that the plaintiff was damaged by the statement. It may be a closer call on the comments that Jane may have made about Debbie, but at the time of the call, Debbie could not show that there was anyone who actually believed statements that Jane was making or that she had any monetary damages; all she alleged was some mental anguish (and she had not even been to a therapist, counselor or psychologist to address the issue, which would have been helpful in establishing that kind of claim).

I hope my comments have been helpful and informative. Stay tuned for my next blog entry in the next week or so….