The Legal California Non-Compete Agreement

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It is no secret that California law strongly disfavors non-compete agreements between employers and employees. However, through careful legal study and competent drafting, a company can still protect itself with different types of agreements to accomplish the same goals. This article will introduce the various ways an employer can still use non-compete type agreements without violating California law.

Introduction

California law automatically voids all blanket non-compete agreements. See D’Sa v. Playhut, Inc., 85 Cal. App. 4th 927, 933 (2000). Moreover, the inclusion of such non-compete clauses may also open a company to tort suites alleging intentional interference with prospective economic advantage.  See Edwards v. Arthur Andersen LLP, 44 Cal.4th 937, 950 (2008). Finally, firing someone if they refuse to sign an unenforceable non-compete agreement opens the employer to tort liability for wrongful termination. See D’Sa at 930. California courts have even extended this wrongful termination liability to employers who fire their newly-hired employees in order to honor another company’s unenforceable non-compete agreement. See Silguero v. Creteguard, Inc., 187 Cal. App. 4th 60, 71 (2010).

Moreover, choice of law or severability provisions alone do not save an employer from the above mentioned tort liability. See D’Sa at 934. Indeed, as long as the employee works mostly in California, California courts will not honor choice of law provisions when dealing with non-compete agreements unenforceable under California law. See, e.g., Frame v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 20 Cal. App. 3d 668, 673 (1971). Furthermore, if a company is based in California, non-compete clauses are also void for any employees it hires outside of California. See Application Group, Inc. v. Hunter Group, Inc., 61 Cal.App.4th 881, 885 (1998). Finally, California courts have gone so far as to refuse to honor the orders of foreign courts if they think those orders purport to enforce a non-compete that is contrary to California law. See Robinson v. Jardine Ins. Brokers Int’l Ltd., 856 F. Supp. 554, 559 (N.D. Cal. 1994) (issuing a preliminary injunction against an English court order that prohibited the plaintiff from doing business with defendant’s clients because the restriction violated California’s non-compete laws).

It is therefore very important for California employers who want to preserve their trade secrets, customers, good will, and employee loyalty to correctly draft their employee agreements in order to both protect themselves to the fullest extent possible and simultaneously avoid going too far. These goals can be achieved by drafting and executing enforceable non-compete clauses within the limited exceptions allowed under California law, employee non-solicitation clauses, confidential information clauses, forum selection clauses, and arbitration clauses.

Enforceable Non-Compete Clauses

 Not all non-compete clauses are banned in California. Importantly, California enforces non-compete clauses during the employee’s term of employment, so long as they do not extend after termination. See Fillpoint, LLC v. Maas, 208 Cal.App.4th 1170, 1174 (2012); Edwards at; Cal. Bus. and Prof. Code § 16600. California also enforces post-termination non-compete agreements where the departing employee is also the owner, or partial owner, of the business, and is selling his or her ownership interest as part of the departure. See Fillpoint at 1174; Edwards at 955; Cal. Bus. and Prof. Code § 16601. Importantly, in such a situation, the price paid for the departing owner/employee’s ownership interest must include a premium for “good will” being acquired by the new owner. Id.

Non-Solicitation Clauses

 California courts have upheld narrowly-drafted non-solicitation clauses – i.e., provisions in an employment agreement prohibiting the employee from “soliciting” the employer’s customers and/or employees after the employee’s departure. See Loral Corp. v. Moyes, 174 Cal.App.3d 268, 280 (App. 6th Dist. 1985). But California courts have made it clear that broad provisions that contain, a customer and employee non-solicitation clause, as well as a post-termination non-compete clause, are invalid. See Fillpoint at 1183.

The enforceability of a non-solicitation clause turns on what the agreement deems “solicitation,” whether the identity of an employer’s customers and/or employees can be considered a “trade secret,” and the extent of the employee’s personal knowledge.

Confidential Information Clauses

 California courts have banned all blanket customer non-solicitation clauses. See The Retirement Group v. Galante, 176 Cal.App.4th 1226, 1240 (2009). However, a company can include a “confidential information clause” and an “obligations upon termination of employment clause” to provide the functional equivalent of a customer non-solicitation clause.

First, California law prohibits misappropriation of “trade secrets” – i.e., information that has economic value to the company and kept reasonably secret from the public. See Muggill v. Reuben H. Donnelley Corp., 42 Cal. 2d 239, 242 (1965) (court rules that there is a trade secret exception to the general rule against non-compete clauses); Cal. Civ. Code § 3426.1. California courts do not prohibit agreements in which the employee agrees not to disclose trade secrets. See Loral at 276; See Edwards at 289. Accordingly, California courts have also held that customer information and identity may qualify as trade secrets, and have held that the use or disclosure of a former employer’s customer information to solicit customers for a new employer was a misappropriation of trade secrets. See Morlife, Inc. v. Perry, 56 Cal.App.4th 1514, 1526 (1997).

Again, whether a “confidential information” clause will be upheld if it functionally prohibits a former employee from providing services to the employer’s customers at a new job depends on the facts, and careful drafting.

It is important to note that California courts do not recognize the “inevitable disclosure doctrine,” a theory positing that an employee will inevitably rely on the former employer’s trade secrets in a new job. See Whyte v. Schlage Lock Co., 101 Cal.App.4th 1443, 1447 (2002). This means an employer has to prove the former employee actually misappropriated confidential information in order to prevail when using this method. See Whyte at 1464.

Forum Selection Clauses

 A forum selection clause states that any lawsuit regarding the employee agreement must be litigated within a certain state, no matter where the parties file the initial suit. As mentioned above, California will not honor choice of law clauses if the effect leads to enforcing a normally unenforceable non-compete clause. However, California courts have shown a general tendency to honor forum selection clauses even if it means enforcing non-compete agreements that are against California public policy.

California federal courts have a better track record than California state courts enforcing such clauses, but generally the rulings under both jurisdictions have been favorable to forum selection clauses. See generally Hartstein v. Rembrandt IP Solutions, LLC, 2012 U.S. Dist. LEXIS 105984 (N.D. Cal. 2012); Verdugo v. Alliantgroup, L.P., 237 Cal. App. 4th 141 (2015); but see Bullard v. Anaqua, Inc., No. RG14725925 (Cal. Super. April 22, 2015).

The U.S. Supreme Court has ruled that courts must honor forum selection clauses “in all but the most exceptional cases.” See, e.g., Atlantic Marine Constr. Co. v. United States Dist. Ct. for the W. Dist. of Texas. 134 S. Ct. 568, 574 (2013). In California, the courts have interpreted “exceptional cases” to mean situations in which the forum selection clause itself, viewed in isolation, violates California public policy. See, e.g., Am. Online, Inc. v. Super. Ct., 90 Cal. App. 4th 1, 12 (2001). A company can therefore preempt any challenge to the forum selection clause by showing that the employee willingly agreed to the forum selection clause, the company has connections to the forum, and the forum selection clause does not deny anyone their day in court. See Am. Online at 10, 11, and 12 n.5. Finally an employer should not forget to include a choice of law provision, or else the new forum may end up enforcing California law.

Arbitration Clauses

The final card an employer has is the arbitration clause. Moreover, agreements which have both an arbitration clause can also include a forum selection clause that specifies the forum that will enforce the arbitral judgment. California courts have ruled that an arbitrator’s decision is final and have refused to hear appeals even when the arbitrator ended up enforcing a non-compete in California. See Jones v. Humanscale Corp., 29 Cal.Rptr.3d 881, 889 (2005).

This means that the arbitrator essentially gets to decide whether the non-compete agreement is enforceable, and California judges will very likely not review their decisions. Therefore, relying on arbitration agreements to enforce non-competes is a high risk, high reward strategy. Although arbitration clauses are not likely to result in the enforcement of a non-compete agreement otherwise void under California law, in a close case, if an arbitrator rules in favor of the employer, that ruling will most likely be upheld by the courts.

This article was written for informational purposes only and not for the purpose of providing legal advice. You should contact an attorney to obtain advice with respect to any particular issue or problem.

 

Not All Animals Are Pets: Exceptions to Residential Landlords’ No-Pets Policies

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Even if a residential landlord has a strict no-pet policy, they should cautiously enforce the policy because some renters may have a right to keep an animal if it assists an individual with a disability. However, landlords are not required to accept all animals for renters claiming to have a disability. In the housing context, animals can be classified in three categories; service animals, companion / emotional support animals, and pets. A landlord’s ability to enforce its no-pet policy depends on which category applies to the animal.

Service Animals

Service animals are not pets. Under the Americans with Disabilities Act, service animals are dogs that are “individually trained to do work or perform tasks for the benefit of an individual with a disability.” [1] No-pet policies do not apply to service animals. If a disability is not obvious, a landlord is allowed to investigate whether the dog is a service animal, but it is important to know that only two questions may be asked:

(1) Is the animal required due to a disability? and

(2) What tasks is the service animal trained to perform?

Additional questions can be costly. A landlord may be liable for a penalty of $55,000 for a first violation and $100,000 for subsequent violations.  Although the law affords protections for individuals with disabilities, it does not protect those who falsely claim a pet is a service animal. This is a misdemeanor in California punishable by a $1,000 fine and up to 6 months in jail. Because service animals are not required to wear identification, it is not always obvious that they are a service animal. Unruly behaviors like pulling their handler, barking, growling, jumping and disobeying commands are not acceptable and are signs the dog is not a service animal.

Companion and Emotional Support Animals

Companion and emotional support animals provide relief or comfort for their owners with disabilities, but they are not trained to perform specific tasks and they do not receive the same protections as service animals. Additionally, they are not limited to dogs and horses. Oftentimes, cats and other domestic animals provide emotional support for people with disabilities.

The California Fair Employment and Housing Act (FEHA) prohibits housing discrimination on the basis of disability which it broadly defines as “any mental or psychological disorder or condition … that limits a major life activity.”[2] However, a landlord is not automatically required to allow a companion or emotional support animal simply because a tenant claims it was prescribed by a doctor for a disability. A tenant may be required to show two things: 1) that they have a disability, and 2) that the animal is an appropriate and reasonable accommodation for their disability.

If a landlord is skeptical of a claim an animals is a companion or emotional support animal, the landlord should request additional information. Landlords cannot not ask for medical records or detailed documentation, but they can ask for a letter from a medical provider that states the animal provides assistance or benefit directly related to a disability.

In 2004, the California courts decided a case called Auburn Woods[3] which stated it was “incumbent upon the landlord to request documentation or open a dialogue” with the tenant.[4] The goal of this interactive process should be to determine whether allowing a companion or emotional support animal constitutes an appropriate and reasonable accommodation for the disability. This is a question of fact, which means there is no one-size-fits-all answer.

Landlords should keep in mind that a resident who is denied the ability to keep a pet would have to establish discrimination by showing that they (1) suffer from a disability as defined in FEHA, (2) the landlord knew of, or should have known of, the disability, (3) accommodation is necessary to afford an equal opportunity to use and enjoy the dwelling, and (4) the landlord refused to make the accommodation.[5]

Pets

Renters do not have a right to keep a pet where a landlord has a “no-pet” policy. However, to further complicate the issue for landlords, numerous websites “certify” almost any pet as an emotional support animal for a fee. Many of these websites will provide a note from a self-proclaimed therapist, but none of these websites are recognized by the government. Again, an open dialogue and attempts to offer reasonable accommodation may help a landlord avoid liability for enforcing a no-pet policy for a tenant with a questionable companion or emotional support animal.

Matthew Rosene practices business litigation and appeals with Enterprise Counsel Group in Irvine.

This article was written for informational purposes only and not for the purpose of providing legal advice. You should contact an attorney to obtain advice with respect to any particular issue or problem.

 

[1] Miniature horses can be service animals too. 28 C.F.R. § 36.302(c)(9)(i), 35.136(i).

[2] Government Code § 12926(i)(1)

[3]  Auburn Woods I Homeowners Assn. v. Fair Employment & Housing Com. (“Auburn Woods”) (2004) 121 Cal.App.4th 1578.

[4]  Id. at 1598.

[5]  Id. at 1595.

Before you say “I do” with a Closely Held Business Partner

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As a business law firm, ECG has helped many businesses prepare their organizational documents. In other instances, our firm’s attorneys have seen firsthand the dire consequences to business owners who failed to give adequate thought and care to adopting a suitable operating agreement, shareholder agreement or similar governance document. Such agreements among a small group of owners in a closely held business, in addition to their every-day practical uses, suddenly become extraordinarily valuable when business owners are confronted with a significant company “life event.” But often, in such a context, it is too late to adopt an agreement that could have solved or mitigated the problem amicably.

Corporate governance documents seem standardized; do they really require much attention?

Very clearly, they do. Would you feel comfortable about your family’s financial future without a will, trust and/or other estate planning documents in place? In establishing such a trust, would you rely on an online boilerplate form, or would you want to consider the individual needs and circumstances of yourself and your family members? The answers seem obvious. Similarly, adopting an appropriately suitable shareholder agreement or similar governance document to prepare for important future events in the life of a business should be of paramount importance to small business owners.

What if you don’t expect that any dispute or other issue would arise that you and your partners couldn’t resolve in short order?

In other words, what if you know and trust your potential business partners and don’t believe that you need the business equivalent of a pre-nuptial arrangement? While money often is a primary concern for people getting married, business is almost always about money. Here are some common issues and scenarios that highlight the need to have a carefully prepared shareholder agreement or similar governance document for a closely held business:

  1. Protect Minority Shareholders. Statutory and common law protections for minority business owners do exist, but they are minimal and require a court to enforce. Consider a brief example: a 49% holder is the primary manager of a business, but has agreed that an otherwise “50/50 partner” should hold 51% for strategic reasons, such as qualifying for a grant or program. An opportunistic buyer comes along and the 51% owner wants to sell. Can the 49% owner prevent the sale? No, in the absence of an agreement between the owners, the majority can approve the sale and the 49% owner’s day job disappear.
  2. Protect Against Unwanted Future Partners. Generally, anyone can sell their interest in a business to an unrelated third party without the other owners’ approval. If your business partner decides to sell his or her ownership interest, this could leave you with co-owners of your business who you don’t know and never agreed to do business with. Because of this risk, many owners of small businesses enter into a so-called “buy-sell” agreement limiting all shareholders’ ability to sell their shares to outsiders.
  3. Maximize the Value of your Ownership. In the event business owners part ways and one owner is bought out by the other owner, how will the interest be valued? While there is not one correct answer to this, owners often prefer to specify this in advance in a “buy-sell” agreement. If the “buy-sell” agreement does not specify a purchase price formula in advance, there is a high probability the departing holder’s interests will be valued below the “market” or “fair” value. This is especially true in the event of a dispute between the parties.
  4. Protect Passive Investors and “Silent Partners.” For passive investors who invest hard dollars but make a minimal time commitment to the business, similar to minority holders (and these categories are not mutually exclusive), the investor should want to know up front what types of important decisions affecting the business would require their consent, for example: selling all or most of the business, acquiring a new business or changing the nature of the business, making a capital call, making distributions or incurring debt beyond certain levels
  5. Avoid Paralyzing Deadlock. Structuring board, management and shareholder/member provisions with forethought can prevent unnecessary deadlock down the road. Deadlock, in turn, can result in business delays and lost opportunities, and ultimately be time-consuming and expensive to resolve.

What if you aren’t sure whether the business will “take off,” and want to get down the runway before making a modest, but nevertheless tangible, investment in a comprehensive governance document?

In most cases, if you are willing to invest sufficient time and capital to launch a business, you should be willing to ensure that solid governance documents are in place. For certain start-ups that for whatever reason want to test-drive a business model before spending any money, it is possible to upgrade foundational documents later on. But caution is warranted for a couple reasons. First, businesses often have the intention to do this, but don’t, until it’s too late. This is especially true if the business really takes off, in which case owners are likely to be frantically busy and happily distracted by the excitement of it all. Moreover, the sudden success might create tension and disagreements among the founders over who was primarily responsible and who should reap the rewards. Second, an important part of business planning is minimizing downside risk. Even if the plan never takes flight, or worse, winds up in significant debt, you need the protections that are included in good corporate documents.

Lance McKinlay is an attorney with Enterprise Counsel Group.  His practice focuses on transactions and other corporate and securities law matters.

This article was written for informational purposes only and not for the purpose of providing legal advice. You should contact an attorney to obtain advice with respect to any particular issue or problem.

 

Judge Rules OC Assessor Acted Arbitrarily, Exceeded Discretion, and Violated Law

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ECG PRESS ANNOUNCEMENT

January 21, 2016

Irvine, California

Today, Judge Peter J. Wilson of the Orange County Superior Court issued a multi-million dollar victory for a Westminster mobile home park owner/operator, finding the County Assessor violated the law by grossly overstating the mobile home park’s value following a 2009 change of ownership.

In his 21-page opinion, Judge Wilson scolds the Assessor for “his decisions to include, or ignore, available data” in performing Proposition 13 property reassessments. As a result, the judge found the Assessor failed to properly estimate the park’s future income, its expenses and impermissibly ignored visible defects and foreseeable repair costs – all in violation of law.

“It was amazing how the County completely ignored the law and the facts,” said David A. Robinson of the Irvine-based Enterprise Counsel Group, the park owner’s attorney. “We repeatedly pointed out how their people relied on ‘pie-in-the-sky’ assumptions no sensible buyer or investor would make, and how all this violated the California constitution. It would not surprise me if the County does this all the time, just thinking property owners will roll over and not fight back.”

Judge Wilson faulted the Assessor for failing to consider market data in calculating the park’s foreseeable operating expenses, for making assumptions about improved occupancy and higher rents contrary to reason, and for ignoring past flood damage and estimated repair costs.