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Global Employment Law Update California Edition August 11, 2008 Did you know…? The California Supreme Court has reaffirmed the state's strong public policy against non-competition agreements and also held that employers may enforce agreements seeking to release "any and all claims" against them. Employers often look to non-competition agreements to protect themselves from employees who leave to work for a competitor or start a competing business. California is almost unique, however, in refusing to enforce the majority of post-employment non-competition agreements. The state’s public policy favoring open competition and employee mobility provides few exceptions to the general rule against such agreements, with the protection of trade secrets and the sale of a business interest comprising the sole exceptions likely to arise in the employment setting. In Edwards v. Arthur Andersen LLP, an opinion issued August 7, 2008, the California Supreme Court considered and rejected another exception that had found support in a handful of federal court decisions. In those cases, the courts had held that non-competition agreements that resulted in only a "partial" or "narrow" restraint on an employee’s ability to work in his or her chosen profession were reasonable and enforceable. In a widely anticipated decision, Edwards flatly rejected this exception, finding that the state’s strong public policy – as clearly expressed in California Business and Professions Code Section 16600 – did not permit such a restraint, even if it was narrow or limited. In another significant development, Edwards also reversed the appellate court’s holding regarding the validity of agreements that seek to release "any and all claims" against an employer. The appellate court had ruled that such releases could be found invalid, as they purported to waive rights expressly made nonwaivable by statute. The Supreme Court disagreed, holding that generally worded releases – used by most employers in California – should not be read as purporting to release claims that cannot, as a matter of law, be released. Background When Raymond Edwards was hired as a tax manager by Arthur Andersen in 1997, he executed a non-competition agreement that barred him from (1) performing similar services for clients he had assisted within 18 months of his departure, (2) soliciting, within 12 months of his departure, clients that had been serviced by an Andersen office Edwards had worked at during the 18 months prior to his departure, and (3) soliciting away any of Andersen’s professional employees for 18 months following his departure. In May 2002, following its indictment in connection with the Enron debacle, Andersen announced it was selling a portion of its tax practice (including Edwards’ group) to HSBC. In connection with the sale, Andersen required Edwards to sign a Termination of Non-Compete agreement containing a general release of "any and all claims" against Andersen, as well as other terms benefiting Andersen, and in turn released Edwards from the 1997 non-competition agreement. Concerned that he would be waiving indemnification rights for potential liability and legal fees related to Andersen’s Enron troubles, Edwards refused to sign the agreement. As a result, Andersen terminated Edwards and withdrew his severance benefits. HSBC subsequently withdrew his employment offer. Edwards sued Andersen for (among other things) interference with prospective economic advantage, alleging that (1) the 1997 non-competition agreement violated California Business and Professions Code Section 16600, and (2) that the general "any and all claims" release in the Termination of Non-Compete agreement ran afoul of California Labor Code sections 2802 and 2804, which render an employee’s indemnification rights nonwaivable. Edwards argued that requiring him to release indemnification rights to obtain a release from an unlawful non-competition agreement amounted to "wrongful conduct" sufficient to satisfy the elements of his interference claim. The trial court decided all issues of law in favor of Andersen, holding that the 1997 non-competition agreement was narrowly tailored and did not deprive Edwards of the right to pursue his profession, and that the general release of "any and all claims" in the Termination of Non-Compete agreement did not purport to waive Edwards’ right to indemnification. The California Court of Appeal reversed on both issues, concluding that California law did not recognize the "narrow restraint" doctrine and that the release agreement was void under California Labor Code Section 2804 because it purported to waive Edwards’ indemnification rights. The Supreme Court's Holding The California Supreme Court affirmed in part and reversed in part the appellate court’s finding. On the non-competition issue, it held that California does not recognize a "narrow restraint" exception to Section 16600’s policy against noncompetition agreements, describing the statute as unambiguous and reasoning that if the legislature had sought to limit the statute’s reach to agreements that were overbroad or unreasonable, it could have added language to that effect. The court held that to the extent federal decisions were in conflict, they were disapproved. But the court rejected the appellate court’s finding that general releases that contain a release of "any and all claims" are invalid. It found it unreasonable to read such a general release as purporting to release indemnification rights which are expressly made nonwaivable by statute. To do otherwise would be to interpret the contract as unlawful, violating basic principles of contract interpretation. Accordingly, the court found that the "any and all claims" release was enforceable. Implications For Employers Edwards clarifies and reaffirms California’s longstanding public policy in favor of open competition and employee mobility, and it rejects non-competition agreements drafted to comply with the "narrow restraint" exception. The decision leaves intact the other limited exceptions to the general prohibition on post-employment non-competition agreements (such as non-compete agreements executed in connection with a sale of a business), and does not affect an employer's ability to protect its trade secrets through non-disclosure and non-solicitation agreements. To the extent that existing non-competition agreements were drafted to comply with the "narrow restraint" exception, employers should reexamine these agreements, refrain from attempting to enforce them, and consider replacing them altogether with appropriate and enforceable agreements. With respect to general releases of "any and all claims," employers may now rest easy. There is no longer a concern that all such releases will be found void under California law. However, employers should be aware that such releases cannot, as a matter of law, waive rights that are expressly made nonwaivable by statute. How We Can Help Orrick’s Global Employment Law Group and its Intellectual Property Group work together and regularly handle or assist with claims involving allegedly unlawful non-competition agreements, trade secrets claims and indemnification issues. Our team can provide practical advice on drafting agreements and releases to best comply with California law. We can help by: Reviewing current agreements for compliance with California Business and Professions Code Section 16600. Drafting non-solicitation and confidentiality agreements that will protect an employer's interests. Providing representation in connection with litigation involving claims related to non-competition agreements. Providing advice and counseling with respect to the protection of trade secrets. Representing employers seeking to protect their trade secrets. For more information about this update, please contact a member of our Global Employment Law Group or our Intellectual Property Group.