Courts Continue to Enforce Foreign Non-Competes in California While the Window for Such Agreements Slowly Closes

4 minute read | July.12.2017

Contrary to common perception, California employees who signed restrictive covenants prior to January 1, 2017 are not completely immune to enforcement of all restrictions on competition. For the second time in several years, a foreign corporation, Synthes, Inc., successfully enforced a non-competition agreement against former employees who were California residents. In the most recent case, the U.S. District Court for the Eastern District of California, enforced the company’s agreement against a Sacramento resident.
As those who frequent this blog are probably aware, non-compete agreements are generally unenforceable under California law. California Business and Professions Code section 16600 provides that, “every contract by which anyone is restrained from engaging in a lawful profession, trade or business of any kind is to that extent void.”

California courts have rigorously applied this provision in the employment context and have routinely invalidated agreements purporting to preclude employees from working for competitors upon completion of their employment.

Historically, California’s interest in enforcing section 16600 has been so strong that employers from other states were usually unable to circumvent the rule by inserting choice of law provisions.  In Arkley v. Aon Risk Services Companies, Inc., for example, an Illinois company required its employees to sign non-compete agreements with an Illinois choice of law provision (non-competes are enforceable under Illinois law).  Notwithstanding the choice-of-law provision, the Central District of California found that California—not Illinois—law should apply given California’s “materially greater interest” in enforcing its own laws to protect California residents.

In recent years, the protection afforded California residents has been eroded by foreign corporations seeking to enforce non-competes in their home states against California residents. One such corporation, Synthes, Inc., has now successfully enforced such agreements twice by including foreign choice-of-law and foreign choice-of-venue provisions in its agreements.

In the first case, Synthes (a medical device company) sought to enforce its agreements against former employee and California resident Peter Harrison. Harrison, a California resident, signed an agreement with a Pennsylvania choice-of-law provision and a Pennsylvania choice-choice-of venue provision.  Upon his termination (and subsequent start with a Synthes competitor), Harrison immediately filed a declaratory judgment action in the Eastern District of California.  Synthes subsequently filed a breach of contract claim in Pennsylvania state court.  The California Court dismissed the action in favor of the pending Pennsylvania action and, after and appeal and remand, The Pennsylvania Trial Court issued an injunction against Harrison.

Recently (April 2017), Synthes sought to enforce a similar agreement against another California employee – Gregory Knapp – who worked in California during his entire career and sought employment with a Synthes competitor in California. Knapp, like Harrison, filed a declaratory judgment action in the Eastern District of California immediately after resigning, but the Eastern District declined to exercise jurisdiction in favor of a subsequently filed case in the Eastern district of Pennsylvania.  Although the Eastern District of Pennsylvania transferred the case to the Eastern District of California, the Eastern District of California still applied Pennsylvania choice-of-law rules, which resulted in the Court applying Pennsylvania law instead of California law when interpreting the contract.  The Court then found the contract valid under Pennsylvania law and denied Knapp’s motion for summary judgment.  The Synthes v. Knapp case is now proceeding in the Eastern District of California, but the Court has determined that Pennsylvania law applies.

While these recent Synthes cases may appear to represent an unfair “loophole,” California has taken measures to close that loophole.  California Labor Code section 925, which went into effect on January 1, 2017 and applies to all contracts entered into after that date, forbids employers from requiring employees that primarily reside and work in California from agreeing to foreign choice-of-forum and choice-of-law provisions as a condition of employment.  It deems such provisions voidable by the employee and provides for attorneys’ fees for any employee seeking to enforce his or her rights under the statute.

Because section 925 only applies to contracts entered into or modified after January 1, 2017, the Synthes opinions did not consider the statute.  Moreover, no court has invalidated a forum-selection clause under section 925 yet. Trade Secrets Watch will, however, continue to monitor section 925 and the manner in which courts apply the provision to these types of agreements and situations.