Covenants not to compete in California are generally unenforceable as a matter of public policy. California is unique in its strong stance against non-compete agreements, which is largely rooted in the California Business and Professions Code Section 16600.
This expressly provides that “every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void.” The public policy rationale behind this is to promote open competition and employee mobility.
Non-compete agreements are quite common in many states and serve to restrict an employee from working for a competitor or starting a competing business for a certain period and within a specific geographical area after the employment relationship ends. However, California’s view is that such agreements limit individual freedom to engage in one’s chosen line of work.
What Is California’s Ban on Non-Compete Covenants?
California’s ban on non-compete covenants is one of the most strict in the United States. The law declares such contracts void unless they fall under very limited exceptions. Unlike states that permit “reasonable” non-compete agreements that are limited in scope and duration, California starts with a presumption of unenforceability.
Employers who attempt to enforce non-compete agreements in California not only risk having the agreement struck down but could also face legal repercussions, including penalties and being liable for the employee’s attorney fees.
Therefore, many employers with California-based employees often choose not to include non-compete clauses in their employment contracts. If they do, the clauses are often crafted with great care to align with the narrow exceptions allowed under California law.
What Are Some of the Exceptions to California’s Ban?
While non-compete covenants are generally unenforceable in California, there are a few limited exceptions:
Sale of Business Exception to California’s Non-Compete Ban
The “Sale of Business” exception is a significant carve-out from California’s generally strict stance against non-compete agreements. When an owner sells the entire business or a substantial portion of its assets or shares, the law permits a non-compete covenant to be part of the sale contract. The rationale is to protect the buyer’s investment by preventing the seller from immediately entering the same market and leveraging former business relationships to compete directly.
The geographical and temporal scope of such non-compete agreements still needs to be reasonable and, ideally, precisely defined to avoid any future legal challenges. Generally, the court will consider whether the scope and duration of the non-compete clause are proportionate to the value and nature of the business sold.
Dissolution of a Partnership Exception
Another exception to the general rule against non-compete covenants in California occurs during the dissolution of a partnership. The law permits the existing partners to agree not to engage in a competing business within a specified geographical area where the partnership operated. This allows the remaining partners to continue the business without facing immediate competition from former partners who are familiar with the business operations, clientele, and trade secrets.
However, any agreement under this exception should be carefully drafted to ensure it doesn’t overreach in terms of scope and duration, as excessive restrictions could still be found unenforceable.
Termination of LLC Membership Exception
The rules governing the termination of Limited Liability Company (LLC) memberships mirror those for dissolving partnerships to a large extent. When a member exits an LLC, the law allows for agreements that limit that member from engaging in a similar business within a defined geographical area where the LLC operated.
This allows the LLC to protect its business interests and continue operations without the fear of direct competition from former members. However, such agreements must be tailored to be as narrow as possible in scope and duration to ensure enforceability.
Trade Secrets Exception
While not a direct exception to the unenforceability of non-compete covenants, California law does provide protection for trade secrets. Employers are allowed to enforce confidentiality and non-disclosure agreements aimed at protecting legitimate business interests like trade secrets, proprietary information, and customer relationships.
Even though an employer cannot prevent an employee from working for a competitor generally, they can take legal steps to prevent the employee from using or disclosing trade secrets to the advantage of a new employer. In practice, this can act as a form of restricted competition, as employees found to be in violation could face legal consequences. These include, but are not limited to injunctions, monetary damages, and even criminal penalties under the California Uniform Trade Secrets Act.
One important factor that could further complicate the enforceability of non-compete and non-disclosure agreements is wrongful termination. In California, employment is generally “at-will,” meaning either the employer or the employee can terminate the employment relationship at any time, for any reason or no reason, as long as the reason is not illegal.
However, if an employee is terminated for reasons that violate California employment laws or public policy—such as discrimination, retaliation, or harassment—the termination could be considered wrongful. In cases of wrongful termination, the enforceability of a non-compete or non-disclosure agreement could be called into question.
An employee who is wrongfully terminated may have grounds to argue that the employer should not be allowed to enforce the non-compete or NDA, given that the termination itself was unlawful. This adds another layer of complexity to the already intricate landscape of employment contracts in California. If you have questions about wrongful termination or any of the exceptions mentioned above, a local California attorney can help you.
How Are Non-Disclosure Agreements Different?
Non-disclosure agreements and non-compete covenants are often used in the same employment context. However, they serve distinct purposes and are subject to different rules, especially in California. At the heart of the difference is what each type of agreement aims to restrict or protect.
Non-disclosure agreements focus on protecting sensitive company information. This information could range from client lists and business strategies to proprietary technology and product development roadmaps. NDAs are typically drafted to specify what constitutes confidential information, what the employee’s obligations are concerning that information, and what consequences might arise from unauthorized disclosure.
The key is that an NDA restricts the sharing of information, not the future employment of the individual. Essentially, it says, “You can go work wherever you want, but no matter where you go, you can’t talk about what you learned here.”
Contrast this with non-compete covenants, which aim to restrict an individual’s employment opportunities after they leave a company, often by barring them from working for competitors or in the same industry for a set period. As discussed earlier, these are generally unenforceable in California due to state laws promoting free labor markets and business competition.
One of the reasons NDAs are generally enforceable in California is that they are seen as a more reasonable and targeted means to protect a company’s specific interests without overly restricting an individual’s employment opportunities.
The state recognizes the importance of businesses being able to protect their confidential information, trade secrets, and intellectual property. NDAs allow companies to do this without crossing the line into dictating where an individual can work post-employment, thus striking a balance between individual freedoms and business protections.
However, the enforceability of an NDA also depends on its reasonableness. It must be limited in scope (i.e., it can’t designate all information the employee ever encounters as “confidential”), and it generally must have some sort of time limit. However, what’s considered “reasonable” can vary depending on the industry and the specific kinds of information being protected.
For example, an NDA that attempts to restrict an employee from ever sharing that the company uses commonly known software systems like Microsoft Office would likely not hold up in court. Conversely, an NDA that restricts sharing proprietary code or secret recipes for a reasonable time after employment ends is far more likely to be enforced.
Also worth mentioning is that while an NDA can restrict what you say, it generally can’t restrict what you know. This is the concept of “inevitable disclosure,” where a court might prevent someone from taking a new job because it’s assumed they will inevitably disclose what they know. California courts have generally rejected this theory when not tied to the misuse of explicit trade secrets.
How Can a Lawyer Help With a Covenant Not to Compete Issue?
There are many complexities and nuances surrounding covenants not to compete in California. Because of this, consulting with a local California attorney experienced in employment and contract law is highly advisable.
You may be an employer seeking to protect your business interests or an employee concerned about a restrictive covenant in your employment contract. If this is the case, an attorney can provide tailored advice and strategies for your specific situation. They can help review, negotiate, or even litigate contracts to ensure that your rights and interests are protected.
Find a qualified California contract lawyer through LegalMatch to assist you in resolving your concerns effectively and efficiently.