“In Term” Covenants Not to Compete Void or Valid?

California Employers May Restrict Their Employee’s Ability to Compete During the Term of Employment

Caitlin I. Sanders

Overview of California Noncompete Law

California employers know well that they cannot restrict their former employees from competing after the employment relationship ends. With limited exceptions, California law invalidates every contract under which a person is prevented from engaging in his or her profession, trade, or business.

California Business and Professions Code section 16600 codifies California’s longstanding public policy favoring open and uninhibited competition in the employment context. California’s public policy declaration can be summed up as follows: “The interests of the employee in his own mobility and betterment are deemed paramount to the competitive business interests of the employers….” Diodes, Inc. v. Franzen, 260 Cal. App. 2d 244, 255 (1968).

Reemphasizing California’s strong public policy, in 2008, the California Supreme Court made clear that any limitation on an employee’s ability to practice his or her profession, even if narrowly tailored, is unenforceable. Edwards v. Arthur Andersen LLP (“Arthur Andersen“), 44 Cal. 4th 937 (2008). Arthur Andersen stressed that “section 16600 is unambiguous, and if the Legislature intended the statute to apply only to restraints that were unreasonable or overbroad, it could have included language to that effect.” Id. at 950.

The plain language of section 16600 voids every contract by which “anyone”—not only former employees—is restrained from engaging in his or her profession. Thus, in light of Arthur Andersen’s literal application of section 16600, employers are left asking whether California’s prohibition of noncompete agreements extends to their active employees.

Agreements Not to Compete during the Term of Employment

Notwithstanding California’s strong public policy in favor of open competition and employee mobility, fortunately, employers can rest assured that section 16600 does not apply to limitations on employee conduct during the term of employment.

Although the law in this area is well-developed, there is only one published California opinion to address whether such “in-term” covenants not to compete are lawful: Angelica Textile Services, Inc. v. Park (“Angelica Textiles“), 230 Cal. App. 4th 459 (2013). Fortunately for employers, Angelica Textiles held unequivocally that section 16600 “does not affect limitations on employee conduct or duties while employed.” In other words, agreements that prohibit employees from working for their current employer’s competitor are valid under California.

Such an agreement is consistent with the well-settled (and equally important) public policy that during the term of employment, an employer is entitled to its employees’ “undivided loyalty.” By corollary, during the term of employment, an employer is entitled to require the undivided loyalty if its employees (which may be underscored by a contract to that effect).

While Angelica Textiles establishes that employers may legally prohibit their employees from holding secondary competitive employment, does this right extend to secondary non-competitive employment that would not adversely impact its business interests?

Concluding Thoughts and Key Takeaways

Angelica Textiles established that California employers may legally prohibit their employees from holding secondary competitive employment. Although the Court was silent as to whether employer may also legally prohibit secondary non-competitive employment.

Putting aside any ambiguities, employers would be well-advised to consider whether they have a legitimate business reason to restrict their employees’ off-duty conduct. Indeed, it may be reasonable to prohibit secondary employment if doing so would, for example, create a conflict of interest, compromise the employer’s business or services, or pose a safety risk. On the other hand, if holding secondary employment would not interfere with the employer’s business or jeopardize the employee’s duties to the employer, a blanket prohibition may be unreasonable and employers should consider whether a less restrictive alternative exists.

In closing, although agreements not to compete during employment are enforceable and consistent with California law, employers should make certain that any limitations are reasonably related to a necessary and legitimate business interest.

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