Post-Employment Non-Competes Unenforceable in California

Synopsis: Edwards v. Arthur Andersen LLP Finally Decided. The California Supreme Court finally lays down the law: don't even think about imposing a post-employment noncompete in California.

Two years after the California Supreme Court granted review of the Court of Appeal’s decision in Edwards v. Arthur Andersen LLP, it affirmed the Court of Appeal’s holding that section 16600 of California’s Business & Professions Code invalidates post-employment non-compete agreements between employer and employee and is not subject to the so-called “narrow restraint exception” read into the law by the Ninth Circuit in several opinions. The Edwards restriction required the employee to agree that if he or she left the firm, “[1] for eighteen months . . . you agree not to perform professional services . . . for any client on which you worked during the eighteen months [prior to leaving];” and “[2] [f]or twelve months . . . you agree not to solicit any client of the office(s) to which you were assigned during the . . . eighteen months [prior to leaving] . . . .”

The August 8, 2008 opinion (PDF, 66KB), makes it clear that, notwithstanding the long lead-time, the Supreme Court does not consider this issue to be a tough call. The majority noted that for so long as section 16600 and its predecessor section have been on the books, “our courts have consistently affirmed that section 16600 evinces a settled legislative policy in favor of open competition and employee mobility.” It cited earlier case law for the proposition that California “ensures that every citizen shall retain the right to pursue any lawful employment and enterprise of their choice,” and that Californians have “the important legal right . . . to engage in businesses and occupations of their choosing.” The Court explicitly rejected the argument that a “mere limitation” on a former employee’s ability to complete (such as a preclusion of working for the former employer’s clients) is not the sort of “restriction” that section 16600 invalidates. The Court pointed out that the statute does not speak of “prohibitions” on competition; it speaks of “restraints.”

“Restraint,” as used in the statute, means any restraint – not just preclusions, and not just “broad” (as opposed to narrow) restraints. Thus, both the 18 month prohibition on working for Andersen clients Edwards had worked on during the 18 months prior to separation, and the 12 month prohibition on “soliciting” any clients of the offices in which he worked for the 18 months prior to separation constituted such illegal restraints.

While the result in Edwards was anticipated, there are a couple of points to particularly note. It is not an unknown practice in California for employers to condition severance payments on non-competition commitments; e.g., we’ll pay your salary for six months post-employment, but if you go to work for the competition, we’ll cut the payments off.” The theory seems to be that this is a self-help remedy, so the employer should be able to get away with it. There is no reason to conclude that this sort of arrangement would work. If the employer promises to pay six months severance pay unless the former employee competes, our view is that the former employee has a valid claim for the entire six months, whether he or she competes or not. Indeed, in the situation in which the employer provides that severance amounts will be “off set” by amounts earned by the former employee in his or her next job, if the employee can prove that the true purpose of the provision is to restrict him or her from competing (a factual question to be determined by evidence), he or she should also prevail.

Employers and employees (and Superior Court judges who sometimes get confused on this point) should also note that characterizing the restriction as a prohibition on the “solicitation” of the former employer’s customers is simply a different way of saying “non-compete” and will no longer work.

Employers, in particular, should also note both the majority’s citation of D’sa v. Playhut, Inc. (2000) 85 Cal.App.4th 927 and Justice Kennard’s separate concurring and dissenting opinion. Taken together, they strongly suggest that where an intention to mislead the employee as to the enforceability of invalid restrictions can be proven, that employee may well have a claim for an “independent wrong” (i.e., a tort, which may give rise to emotional distress and punitive damages, neither of which is available in a contract action).

The Supreme Court’s opinion does not address the restraint on “soliciting” continuing employees of the former employer to join a competitor. The issue was not raised. Neither does it address the “trade secret” exception to 16600 (i.e., where competition is allegedly impossible without compromising the former employer’s “trade secrets”), though this exception has hardly ever (if ever) been successfully invoked to save a post-employment non-compete agreement.

The second issue in Edwards was whether an employee may waive his or her statutory rights to indemnification under Labor Code sections 2802 and 2804 (which specifically provides that “any agreement . . . to waive the benefits of this article or any part of it is null and void”). Again, not surprisingly, the answer was “no.” An employee’s statutory indemnity rights cannot be waived or released.

© 2008 Levine & Baker LLP, all rights reserved.