California is such a wonderful place to start a business—right up until you’re in business. Then, the legal and regulatory environment takes over and slowly attempts to strangle the lifeblood out of you and your business. Wage rates, business taxes, workers’ compensation, and even the employment law environment all seem to be centered on an apparent philosophical belief that those in business must all be making gobs of money, and businesses are all inherently bad.1 Forget the fact that businesses create jobs and thereby provide people incomes and benefits.2 Ignore momentarily that businesses are the engine of the economy and are absolutely necessary to the American way of life. Just remember, businesses are bad.
Which is almost comical when you realize that one set of our laws so promotes competition that it allows your employees to engage in almost unfettered competition with you—even to go so far as to set up a competing business right next door, using the know-how, contacts and information they gained from working with you. Businesses throughout California (and abroad) have tried to thwart these attempts, using what are known as “restrictive covenants” or “covenants not to compete” in employment agreements and employee handbooks in an attempt to keep employees from making that fatal mistake of starting a business in this environment.3
The problem employers find is that California law renders void almost every attempt to restrain someone from engaging in their chosen profession, trade, business or craft. In short, non-competition agreements are almost always unenforceable. That’s right: Despite the fact the employment agreement you downloaded from the Internet contains a specific clause prohibiting competition, the provision will almost always be unenforceable in California.4 For the actual lay of the legal landscape, read on.
The basics. Business and Professions Code section 16600 is comprised of a solitary sentence: “Every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void.” In plain English: “No non-competition agreements allowed.” Don’t even try it—trespassers will be shot on sight, and the courts have repeatedly (and recently) made clear that such clauses are in their gun sights.
But what is a non-competition agreement? The most ubiquitous form says something like: “For a period of 40,000 years after you leave the company, you can’t work for any other company that does anything that even resembles what we do.” Another common form is sometimes labeled a non-solicitation agreement, and reads something like: “You agree you’ll never ever talk to, look at, socialize with, think about or otherwise come into contact with (whether by your action or not) any customer or client of the company.” These agreements both operate to do the same thing: they “restrain” an individual from engaging in their business, profession or trade. As such, they’re void.
The exceptions. The broad scope of the prohibition against non-competition agreements doesn’t apply in some very limited circumstances—almost all of which will not likely apply to your employees. These are: the seller of a business, including its goodwill, can be subject to a non-competition agreement; a partner, in anticipation of a dissolution of a partnership, can be subject to a non-competition agreement; and a member of an LLC, in anticipation of its dissolution, can be bound by such an agreement. But even under these exceptions, the covenant must be limited in time and geographic scope.
Can’t force an employee to sign. Because non-competition agreements are void, California courts will not let you require an employee to sign one. Nor can you terminate or refuse to hire someone simply because he or she refuses to sign the provision. It’s also unclear whether you can even ask an employee to sign one, lest you get sued for unfair competition under the state’s very broad unfair competition law. In other words, think very carefully before attempting to use such an agreement.5
Foreigners beware. Life doesn’t get any easier because your company is based in another state. California courts are so protective of employee mobility and free competition that, when a non-competition agreement relates to a California employee—even when the agreement is with a company based in another state and provides for interpretation under that state’s laws—the courts will apply California’s broad prohibition. The net result will be the same: the agreement will be invalidated.
No court revision. Because the prohibition against covenants not to compete is so absolute, courts will not rewrite or revise the agreement to make them less restrictive or “reasonable.” Until recently, federal courts were willing to do so, while state courts were not. However, the California Supreme Court recently made clear that the prohibition is absolute.
So while you build your business and impart knowledge, skill and contacts upon your employees, the question inevitably arises: How do I keep them from leaving to compete against me? There’s no foolproof answer to that. However, developing loyalty, treating employees with respect and compensating them in a manner reflective of not just their skill, but your risk if they leave, are probably a good start.
1 Which is why no one should be elected as a member of any legislative body until he or she has profitably run a business for three of five years.
2 God forbid, people have to actually work!
3 You’d think they’d learn from others’ mistakes.
4 Did you really think downloading a legal document from a website and not talking to a lawyer was a wise idea? Maybe your employees should be in charge.
5 And this time, don’t get your advice from the Internet.
