United States: California's New Nationwide Focus On Noncompetition Agreements

Highlights

• Under California Senate Bill (SB) 699, a dramatic expansion of California's general ban on noncompetition and non-solicitation agreements for most employees is set to come into effect on Jan. 1, 2024.
• California courts have been clear that California's public policy against restraint of trade law trumps other state laws when an employee seeks employment in California, even if the employee had signed the contractual restraint while living outside the state and working for a non-California employer.
• Employers will now face suit for injunctive relief, actual damages, and attorneys' fees and costs for even attempting to enforce a noncompetition agreement signed outside of California governing employment maintained outside of California.

For decades, California has taken arguably the most pro-employee-mobility position on noncompetition and non-solicitation agreements in the country – generally, post-employment noncompetition and non-solicitation agreements are outright prohibited. The California Supreme Court refused to mince words on the issue in 2008, proclaiming that "[i]n 1872 California settled public policy in favor of open competition ... Today in California, covenants not to compete are void, subject to several exceptions ..."¹ Now, this spirit of open competition and employee mobility is stronger than ever, reflected in ambitious new legislation promising to ban noncompetition agreements that impact any business or person even remotely connected to California.

Multifaceted Legislation

Effective Jan. 1, 2024, new Business and Professions Code Section 16600.5 addresses various new frontiers in regulating competition while reaffirming California's fundamental and unwavering commitment to open competition.² The California Legislature's findings in support of the new legislation – and undoubtedly providing courts guidance to enforce the new law – are notable. Among them:³

• Employers pursuing frivolous noncompete litigation have a chilling effect on employee mobility.
• California's public policy provides that every contract that restrains anyone from engaging in a lawful profession, trade or business of any kind is, to that extent, void, except under limited statutory exceptions. California has benefited significantly from this law, fueling competition, entrepreneurship, innovation, job and wage growth, equality and economic development.
• Noncompete clauses are associated with suppressed wages and exacerbated racial and gender pay gaps, as well as reduced entrepreneurship, job growth, firm entry and innovation.
• As the market for talent has become national and remote work has grown, California employers increasingly face the challenge of employers outside of California attempting to prevent the hiring of former employees.
• California courts have been clear that California's public policy against restraint of trade law trumps other state laws when an employee seeks employment in California, even if the employee had signed the contractual restraint while living outside the state and working for a non-California employer.
• California has a strong interest in protecting the freedom of movement of persons whom California-based employers wish to employ to provide services in California, regardless of the person's state of residence. This freedom of employment is paramount to competitive business interests.⁴

Section 16600.5 boldly provides that "Any contract that is void under this chapter is unenforceable regardless of where and when the contract was signed."⁵ This blanket ban applies "regardless of whether the contract was signed and the employment was maintained outside of California."⁶ Additionally, employers are affirmatively prohibited from entering into noncompetition agreements (existing law established that noncompetition agreements were void against public policy, but there was no affirmative prohibition) or from attempting to enforce a noncompetition agreement.⁷ Employees have a private right of action to enforce the law and can obtain injunctive relief, actual damages and an award of attorneys' fees if they prevail. What results is a framework wherein almost any employer, employee or prospective employee is subject to Section 16600.5.

The practical implications of this wide-ranging addition to the statutory protections banning noncompete agreements in California are staggering. Under existing Section 16600, an employer that has its principal place of business (or is incorporated) outside of California could not bind its California employees to post-employment noncompetition agreements, but it could bind its non-California employees to such an agreement where permitted under other states' laws. Under Section 16600.5, California-based employees are still protected against noncompetition agreements, but now non-California employees are presumably protected under California law against void provisions of their noncompete agreements – even with non-California companies – should they later seek or gain employment in California. Notably, though, nothing in the statute appears to overrule the well-established duty of loyalty employees owe to employers during employment, nor does the statute appear to impact employee obligations with respect to trade secrets.

Conclusion

The reach of Section 16600.5, especially the potential extraterritorial reach of the statute, will undoubtedly be tested and defined as disputes involving the statute percolate through California courts. For now, though, employers with any California presence looking to hire employees anywhere in the country, employers with no California presence looking to hire employees in California for any sort of position and employers with no California presence looking to hire California residents for fully remote positions should evaluate their continued use of noncompetition and non-solicitation agreements.

Section 16600.5 could prove particularly troublesome if Gov. Gavin Newsom signs Assembly Bill (AB) 1076, a companion bill that will obligate employers to notify current and former employees in writing by Feb. 14, 2024, that any noncompetition clause or agreement already entered into is void.

The full impact of Section 16600.5 is yet to be determined, but employers can count on California to spearhead the charge against noncompetition agreements no matter whatever federal regulators ultimately establish. (See Holland & Knight's previous alert, "FTC Moves to Ban Non-Competes: What Employers Need to Know Now," Jan. 6, 2023.)

Employers should consult counsel to carefully consider any continuing use of restrictive covenants such as noncompetition and non-solicitation agreements.

Footnotes

1. Edwards v. Arthur Andersen LLP, 44 Cal. 4th 937 (2008).

2. Non-solicitation agreements are generally analyzed under the same statutory framework.

3. Stats. 2023 ch. 157 (SB 699), eff. Jan. 1, 2024 (Section 16600.5).

4. Id. Section 16600.5, at Sec. 1 (a) – (f).

5. Id. Section 2, at (a).

6. Id. at (b).

7. Id. at (c)-(d).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.