As many California employers know, “non-compete” clauses in offer letters, employment contracts, severance agreements or other employment documents are (with limited exception) invalid as against public policy in our fair State. California’s Business and Professions Code Section 16600 bars contracts that seek to prevent employees from engaging in lawful competition. (“Every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void.”- B & P 16600). While in other states reasonable efforts to protect unfair competition have been approved in employment contracts, California courts remain steadfast in upholding an employee’s right to leave employment and open a competing business even if harmful to the departing company.
Savvy employers have acknowledged the limits on competition and have looked to other mechanisms to protect their customers from being “raided” by departing employees. Some have relied on Non-Solicitation Agreements which, at their core, are intended to limit the ability of a former employee from using information he/she learned during employment to make overt efforts to “steal” a company’s hard earned customers. Sounds reasonable, right? Especially in this shaky economy?
A typical non-solicitation of customers clause in an employment contract or other agreement often looks like this:
Employee agrees that during his/her employment with the company and for a period of one year following termination of such employment, he or she will not, on behalf of himself or on behalf of any other person, firm or corporation, call on or solicit in any manner any customer of the company with which the employee has had any dealings of any kind or upon whom employee called during the course of employee’s employment by the company for the purpose of doing business of the type done by the company with such customer.
For years employers argued that a non-solicitation clause was not a true “non-compete” and was a minimal “restraint” on a former employee’s ability to “engage in a lawful profession, trade or business…” which should be permitted because of the need to protect valuable customer information. Indeed, some federal court decisions even upheld something called the “narrow restraint” exception to Section 16600, approving narrowly tailored non-solicitation agreements. Campbell v. Trustees of Leland Stanford Jr. University. (9th Cir. 1987).
However, in Edwards v. Arthur Andersen (2008) the California Supreme Court disagreed that a “narrow restraint” can exist in California because of B & P 16600. Essentially the court stated once and for all that non-solicitation agreements are “non-competes” and whether narrowly tailored or not, restrain an employee’s ability to engage in his or her chosen work and are therefore unlawful unless they fall under a limited statutory exception.
But what’s the harm, you say, in including some benign non-solicitation language asking employees not to raid customers upon departure? After all, for some employees, just seeing a non-solicitation provision in an employment agreement (even if not enforceable) will prevent them from reaching out to former customers when they leave to go elsewhere or to start their own business. Plenty of harm indeed. The Edwards court stated that knowingly imposing an unlawful contract provision on an employee is an “independently wrongful act” that can support an independent tort or wrongful termination claim against an employer. Thus, even an employee terminated for a lawful reason may be able to rely on an illegal clause in an employment contract as the basis for a wrongful termination claim or even an independent claim of interference with prospective economic advantage.
In 2010, a California court of appeal extended this potential for liability to prospective and subsequent employers. In Saguaro v. Creteguard a sales representative employee for FST signed a confidentiality agreement that, among other things, prohibited her from engaging in certain “sales activities” following either departure or termination. After being terminated from her employment at FST, Silguero went to work for Creteguard, a competitor of FST. As is standard in the industry, FST then submitted a typical “cease and desist” letter to Creteguard requesting the “cooperation and participation of the company in enforcing the confidentiality agreement” including those provisions prohibiting Silguero from certain sales activities. Subsequently, Creteguard’s CEO informed Silguero that, although Creteguard believed the FST agreement was not “legally enforceable here in California,” Creteguard desired “to keep the same respect and understanding with colleagues in the same industry”. Silguero was then terminated effective immediately.
Silguero brought suit against both FST asserting causes of action for among other things, interference with contract and antitrust law violations. More importantly, she also sued Creteguard for wrongful termination, claiming her firing was in violation of public policy under the prohibitions of B & P 16600. Although Creteguard argued the “public policy” did not apply to it because Cretguard did not create the “unlawful agreement” signed by Silguero, the court of appeal disagreed. Observing that under 16600, the “interests of the employee in his own mobility and betterment are deemed paramount to the competitive business interests of employers…” the Court of Appeal found the understanding reached between FST and Creteguard to be a “no hire agreement” which was impermissible under California law. (VL Systems, Inc. v. Unisen, Inc. (2007)). To allow FST and Creteguard to agree that Creteguard would not employ Silguero, would allow employers “to accomplish by indirection that which” they could not accomplish directly.
The decision in Silguero should serve as a wake up call for employers who blindly hand out non-solicitation/non-competes (without regard to their illegality) and for those hiring employees with restrictive covenants already in effect. Before sending out a cease and desist letter it is now prudent to examine the agreement upon which restriction is sought. If the agreement is arguably not enforceable, serious thought should be given as to whether (and how) the cease and desist should be sent.
It is equally important during the interview and selection process of prospective employees for a company to inquire about and any confidentiality, non-solicitation or competition agreements which may apply to an applicant so an analysis of the risks associated with selecting a candidate can be made. Under no circumstances should an employer terminate an employee (refuse to hire a prospective employee) on the basis of a restrictive covenant without careful review of these potential legal consequences.
The question now remains as to whether non-solicitation of customer agreements are enforceable in any form in California. The answer lies in the trends set by the California courts. Even minor restrictions on employee mobility are likely to be heavily scrutinized and viewed as potentially void by the current courts of appeal and State Supreme court. As such, what can California employers do to protect their client/customer investments from unfair competition?
While employers cannot prevent their employees from utilizing knowledge and information learned on the job about their profession or industry, they can take aggressive measures to protect valuable “trade secrets” which can include preventing employees from leaving the company and utilizing trade secrets to compete. Under the California Uniform Trade Secret Act (Civil Code Section 3426 et seq) an employer who makes diligent and calculated efforts to protect proprietary trade secret information may be able to enforce agreements to prohibit disclosure of this information, even to solicit or compete.A properly drafted
Confidentiality or Non-Disclosure Agreement can accomplish this result. Information such as client customer and contact information, key personnel assigned to accounts, price points, business goals, plans techniques and strategies can and should all be subject to heightened secrecy processes to have the best chance of enforcing any prohibitions on their use either during or following employment.
Even enforceable confidentiality agreements will have their limits in California as courts have struck down those which ban an employee from merely announcing their departure from a particular employer. Customers are permitted to do business with whomever they choose. Thus, a valid “announcement” by a former employee that is not a solicitation will not be restrained. (Theodore Ins. Agency Inc. v. Morady).
The law surrounding non-solicitation of customers and protection of trade secrets is complex and ever changing. Prudent employers in California (and out of state companies with employees doing business in California) should routinely examine their agreements, processes and policies in order to be certain they are complying with legal requirements and availing themselves the best opportunity to protect their business interests.