For a start-up company, noncompetition agreements typically arise in one of the following contexts:
1. A founder or new employee entered into a confidential information and inventions assignment agreement (or similar agreement) with his or her former employer that prohibits competing with the former employer.
2. The start-up company wants to prohibit a terminated employee from competing with the company.
3. In an acquisition, the buyer demands a founder and/or key employee sign a noncompetition agreement.
These “noncompetes” attempt to prohibit an employee from starting a competing business or working for a competitor for a certain period of time or within a large geographic area after employment ends.
While employed, California employees owe a duty of loyalty to give preference to the employer’s business and to not take action against the employer’s best interests. ((California Labor Code Sections 2860 and 2863.)) In general, a noncompetition agreement preventing an employee from competing during employment is enforceable. In contrast, a post-employment noncompetition agreement is viewed as a restraint on an individual’s ability to engage in a lawful profession, trade or business. ((California Business and Professions Code Section 16600.)) Given California’s strong public policy against post-employment “noncompetes,” such contracts are not simply voidable, but rather void to the extent that they restrain an individual from engaging in a lawful profession, trade or business.
Post-employment noncompetition provisions are permitted in the following limited contexts: (1) to protect the company’s trade secrets and/or confidential and proprietary information; (2) where the employee enters into a noncompetition agreement in connection with the sale of a business; and (3) where entered into by a departing partner from a partnership or a member from a limited liability company. But, even then, the post-employment noncompetition agreement must be reasonable with regard to duration, scope and geography.
Some employers use nonsolicitation provisions to prohibit a former employee from “directly or indirectly hiring” his or her former colleagues. Although a former employee can agree not to target his or her former colleagues, that former employee can still hire such persons who approach him or her on their own initiative or in response to a general solicitation (e.g., a job listing).
Sometimes an employer will attempt to avoid California law by designating the law of another state as governing the restrictive covenant. Generally, the strong public policy protecting individuals’ ability to engage in a lawful profession, trade or business will override such a contractual provision. However, California courts have applied the laws of other states in certain instances.
Companies operating in California should work closely with legal advisers to ensure that agreements are tailored to comply with California law. Failure to do so may result in claims for, among other things, violation of the Unfair Practices Act (Cal. Bus. Prof. Code § 17200), tortious interference with contract and tortious discharge for refusing to sign an unenforceable covenant.
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