The law is clear in California that in the absence of sale of all or substantially all of one’s ownership interest, one cannot prohibit an employee from engaging in competitive actions once the employment is terminated. One can protect trade secrets and confidential information and require the employee to agree to reasonable restrictions to achieve such protection. But a clause in an employment agreement that prohibits an employee from competing after employment is terminated is void in California.
In passing, it should be noted that some states do allow such restrictions on competition. California is perhaps the strictest state in the United States in allowing ex-employees to compete with former employers.
California has a strong public policy against agreements that prohibit employees from working for a competing company or starting up a competing business themselves. All blanket non-competes are automatically void under state law. Courts have also held agreements that prevent former employees from soliciting the company’s customers generally are not enforceable, unless they are limited to protecting the company's intellectual property rights.
That California disfavors non-competes is not a secret. Less clear, however, has been the law surrounding agreements that prohibit soliciting and/or hiring a company's employees. There are instances where courts have accepted limited agreements of this type. This article shall discuss that more limited restriction on ex-employees.
Allowed Prohibition on Solicitation:
Existing Case Law
In general, there are two types of employee non-solicitation agreements: no-hire provisions that prevent an employee from hiring other employees at their former company; and non-solicitation provisions, in which the employee agrees not to solicit other company employees. There are a few key court rulings that provide useful guidance on the enforceability of these provisions.
Webb v. West Side District Hospital (1983): the court of appeal upheld the enforcement of a no-hire provision.
West Side District Hospital entered a contract with Harry Webb to provide physicians to staff the hospital’s emergency room. As part of the agreement, the hospital agreed not to hire any physician who had, through Webb, worked for the hospital. If the hospital violated that provision, it would pay Webb $30,000 per physician, which “accurately reflects the reasonable value” of his time and costs.
The hospital later terminated the contract and hired another doctor to perform Webb’s recruitment services. That doctor, in turn, hired four of the physicians originally recruited by Webb, who later demanded West Side pay him $120,000, plus attorneys’ fees. During arbitration, the hospital argued the contract was void because it was an unenforceable restraint on trade. The arbitrator disagreed, finding it was reasonable and without restraining effect.
The Court of Appeals of California affirmed the arbitrator’s finding on appeal. In its ruling, the court noted the physicians weren’t precluded from working in West Side’s emergency room. Rather, their employment was conditioned on the hospital paying a “reasonable” fee for services it already received.
Loral Corp. v. Moyes (1985): the court of appeal held a non-solicitation agreement as valid.
The case involved Robert Moyes, who was an executive at Loral Corp. and a member of its board of directors before he resigned. As part of his termination, Moyes agreed to preserve Loral’s trade secrets and confidential information and not to “interfere[e] with or raid[] its employees, disrupt[] its relationships with customers, agents, representatives or vendors or otherwise.”
But almost immediately after leaving Loral, Moyes accepted a job as the president of the microwave division at a company called Aydin Corp., where he offered jobs to a number of key Loral employees. Loral spent over $400,000 recruiting new employees.
A lower court ruled in favor of Moyes, finding the restriction against hiring away Loral’s employees was an unlawful restraint of competition. Reversing that decision, the appellate court said this “does not appear to be any more of a significant restraint….than a restraint on solicitation of customers or on a disclosure of confidential information." In addition, the court said the restriction only ”slightly” affects Loral employees, who it said weren’t hampered from seeking employment at Aydin or even from contacting Moyes. All they lose, the court said, was the option of being contacted by him first.
VL Systems v. Unisen (2007): the court of appeals found a no-hire provision in a contract between businesses was unenforceable.
VL Systems, a computer software consulting company, entered a contract with Star Trac in 2004 in which Star Trac agreed to pay liquidated damages if it hired any VLS employee during the contract or within 12 months after the completion of the project. Later that year, Star Trac hired a David Rohnow, a senior engineer at VL Systems, as its director of information technology.
Rohnow had been hired at VLS less than six months earlier, after the Star Trac contract was completed, and never worked with Star Trac or had any other contact with the company during his time at VLS. Nonetheless, VLS sent Star Trac an invoice for $60,000 pursuant to the no-hire provision in the contract. After Star Trac refused to pay, VLS filed a lawsuit for breach of contract. Following a bench trial, a lower court found Star Trac violated the no-hire provision and was liable for damages.
Reversing that decision, the appellate court found the provision was unenforceable under California law. It noted the provision was broad, covering all VLS employees regardless of whether they worked with Star Trac or were even employed at the time. “Such a broad provision is not necessary to protect VLS's interests and is outweighed by the policy favoring freedom of mobility for employees,” the court wrote. It drew distinctions from Webb and Loral, noting the restrictions in those cases were found valid because their scope was less broad and impacted a smaller number of employees.
Conclusion:
The enforceability of employee non-solicitation agreements under California law varies depending on the context of the agreement and the scope of the provision. When considering whether to uphold an employee non-solicitation agreement, there are two main things courts will consider:
If the contract is drafted to be as narrow as reasonably possible; and
The potential impact if the agreement is upheld or invalidated.
As evident from the decisions above, overbroad provisions in both business-to-business contracts and employer/employee agreements are not likely to be upheld. Employers looking to utilize non-solicitation agreements should look to keep them narrow in term and scope. Put simply, the narrower the prohibition is drawn, the more likely it will be upheld.
That said, many companies feel that broad provisions act as a deterrent to both ex-employees and competitors in conducting raids on employees. Even if the provision is eventually struck down, both the ex-employee and the competitor must factor into their planning likely litigation or arbitration, the legal costs and the possible loss of the case. Such cost benefit analysis can lead a company to forgo the effort.
As one client put it to the writer, “If they see this cloud over their head, they are unlikely to try a Pearl Harbor on my employees.” What he had to keep in mind is that a provision so broad as to be obviously unenforceable is unlikely to achieve a deterrent effect. A careful balance is required.