E-Update: California Supreme Court Again Strikes Down A Non-Compete Agreement And Reinforces The Sanctity Of Labor Code Protections

California Supreme Court Again Strikes Down A Non-Compete Agreement And Reinforces The Sanctity Of Labor Code Protections

August 7, 2008

Summary

This morning, the California Supreme Court issued an important decision (Raymond Edwards v. Arthur Andersen LLP) regarding employee non-compete agreements in California and also addressing the non-waivability of certain employee protections under the Labor Code.

Briefly stated, the Supreme Court ruled that any agreement that restrains an employee’s ability to practice his or her profession is invalid under California law, unless it fits within narrow, specific, statutory exceptions. The Court also held that an employee may not waive the indemnity protections provided by the California Labor Code.

Details

The plaintiff in the case was Raymond Edwards, an accountant formerly employed by Arthur Andersen. When initially hired, Edwards signed a contract where he agreed that for a 12-month period after his employment ended:

he would not provide professional services for any client for whom he had worked during the prior 18 months; and
he would not solicit any client of the office in which he had worked during the prior 18 months.

Following the Enron scandal, Arthur Andersen ceased its accounting practices in the United States, and Edwards' group was sold to a new firm, HSBC. HSBC offered Edwards a job, but conditioned its offer upon Edwards release "of any and all" claims that he might have against Arthur Andersen. Edwards refused, apparently concerned that he might be personally found liable in Arthur Andersen's growing litigation, and he didn't wish to waive any protections he may have had. Because Edwards wouldn't sign the new agreement, Arthur Andersen fired him when it sold his office and HSBC withdrew its employment offer. Edwards sued both.

After a detailed analysis of California's unique legislative policy in favor of open competition and employee mobility, the Supreme Court examined whether, and what types, of employer-employee non-competition agreements might be permitted. Arthur Andersen argued that limited, reasonable restrictions on employee mobility were permitted, so long as the restriction did not prohibit the employee from practicing in his or her profession. Edwards, in contrast, argued that any limitation on an employee's ability to practice his or her vocation was impermissible.

The Court agreed with Edwards. The Court specifically concluded that both the non-performance clause and the customer non-solicitation clause restrained Edwards' ability to practice his profession, and his agreement with Arthur Andersen was therefore invalid as a matter of law.

In the next, and somewhat unrelated portion of the opinion, the Court engaged in a detailed analysis about whether it would be permissible for HSBC to require Edwards to waive "any and all" claims he may have had against Andersen. The Court particularly relied on Labor Code section 2804, which voids any agreement to waive the protections of Labor Code section 2802 (which requires an employer to indemnify an employee for losses or expenses incurred during his or her employment). In the end, the Court ruled that "indemnity rights are non-waivable, and any contract that does purport to waive an employee's indemnity right would be contrary to the law and therefore unlawful to that extent." The Court went on to explain that a release agreement between an employee and an employer that releases "any and all" claims "generally does not encompass non-waivable statutory protections."

What This Means

Enforcing employee non-competition agreements in California has always been a challenge, and today's decision reinforces that. It's important to note the obvious here: Edwards' agreement did not prohibit him from working for a competitor. It only prohibited him from working for recent, former clients, or soliciting former clients during a limited window of time. But even those restrictions, according to the Court, were enough to invalidate the agreement on its face.

Thoughtful employers should now be even more careful with any attempts to shoehorn non-compete provisions into employment agreements or offer letters, for fear that overreaching will invalidate the entire agreement. In addition, employers should remember that even if an employee signs a complete release of all claims, certain rights - such as a right to indemnity - will survive.

This E-Update was authored by Joe Connaughton. For more information, please contact Mr. Connaughton or any Paul Plevin attorney at (619) 237-5200.

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