It is seems simple. You own a business that provides a service to customers. You have employees that provide that service. You don’t want your employees to steal your customers. So, you have your employees sign a non-competition agreement when they come to work for you. Your employees agree not to do any work for your customers for a year after they leave your employ.
Or, you are in a fiercely competitive industry. You don’t want your employees to take your business methods, customer lists and knowledge of your business practices and go to work with a competitor. So, you have your employees sign a non-competition agreement in which they agree not to work for your competitors for a year after they leave your employment - and, just to be reasonable, you limit this restriction just to the county in which you are located.
These agreements seem reasonable to you the business owner. You found the form for the agreement you have your employees sign on the Internet or on CD of business forms you bought at an office supply store. You signed such agreements yourself in the past when you worked for others. You know they are commonplace in the business world.
Those agreements are illegal in California. Years ago, the State of California adopted a very strong policy against non-competition agreements for individuals. The California Business and Professions Code states that agreements that restrict the ability of an individual earn a living by lawful means are void. That means that the agreements in the examples I wrote above were void as soon as the employees signed them.
California courts and Federal courts in California have strongly upheld this policy. Whether the employer is a sole proprietor or a Fortune 100 corporation, the courts have consistently refused uphold or enforce non-competition agreements. Even when the employer and the employee were out of state when the agreement was signed, and the agreement was legal in the state in which it was signed, the agreement could not be enforced once the employee entered California.
A non-compete agreement, or a clause in an employment agreement, could also be construed as unfair labor practice or an unfair business practice.
What can you do then about employees either taking customers away from you or using your business practices against you? In California, you can not restrict the ability of someone to make a living but you can protect your trade secrets.
Trade secrets include business practices and methods, formulas, manufacturing processes, business plans and strategies, computer programs and customer lists. It is illegal to use a business’ trade secrets that were improperly acquired. An employer can prevent an employee from using trade secrets after an employee stops working for the employer. In that context, the law recognizes that customer lists are trade secrets and that an employee can take steps to protect its customers and its other trade secrets.
California has made a narrow exception to its anti-non-competition policy for trade secrets. In order to protect its customer lists, an employer can require an employee to agree to not solicit the employer’s customers for a reasonable time after leaving the employment of the employer. (Reasonable time should be read to mean short such as a year or less).
An employer can have an employee sign a non-disclosure agreement (NDA). NDAs are agreements in which a person, either an individual or a company, agrees to not disclose confidential information, including trade secrets, of a business. NDAs are used in a variety of occasions, such as when one business in negotiating the purchase of another business.
I often recommend to my clients that they have their employees sign NDAs that list those areas of their business practices that are sensitive and are considered trade secrets.
Another exception to the anti-non-competition policy is the sale of a business ownership interest. If an individual is a principal in a business (e.g. an owner, partner, or major shareholder) and that individual sells his or her interest in the business, then, as a part of that sale, the selling individual can agree to not compete in the same industry for a reasonable time within a reasonable geographic distance. (For example, one year in the same county).
Other than the trade secret and the ownership sale exceptions, non-competition agreements are illegal in California. However, employers can take steps to protect their customer lists and business methods if they are wise about how they approach them.