California extends ban on non-competes and reaches across state lines

A new law is set to come into force in the state of California which is potentially far-reaching. The Governor of California, Gavin Newsom, has signed Senate Bill 699, which will stop an employer from entering into, or attempting to enforce, a non-compete agreement regardless of whether the contract was signed outside of California. It takes effect very soon - on 1 January 2024. We’ll speak to a US lawyer about what it means for employers across the states.

To put this into context, previously California law banned non-compete agreements, subject to limited exceptions. A relevant section of the California Business and Profession Code states 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.”  Senate Bill 699 expands the restrictions on non-compete agreements to contracts entered outside of California.

So clearly this is an important development on a local level, affecting the state of California, but what is its wider impact? Earlier employment lawyer Ben Stockman from US law firm Venable LLP joined me by video-link from New York to discuss it. So is this a significant development beyond the state of California? 

Ben Stockman: “Good question, Joe. It is on the one hand a significant development and then on the other hand consistent with what we've been seeing in California for quite some time. It's significant insofar as it raises some very interesting questions about how far California can go in the enforcement of its ban on non-competition agreements. Just to summarise the law in sum and substance, it has expanded California's non-competition ban to agreements that are entered into anywhere, at any time, outside of the state of California. So, in effect, if a Californian employer has existing non-competition agreements with employees who live and work in another state, California's law would work to void those agreements. The questions that it raises are: to what extent are other states’ judiciaries, or arbitrators, depending on who's deciding the matter, willing to enforce California's law in those states? That's the most interesting question from my perspective as to the reach of this California law.”

Joe Glavina: “As I understand it, there is an Assembly Bill that requires employers to affirmatively notify all current and former employees who signed a void non-compete that the clause or agreement is void, and they have to do that by no later than 14 February 2024. That seems like a big deal. How are your clients approaching that?”

Ben Stockman: “Well, for multi-state employers, for large sophisticated multi-state employers, I think they've been wrestling for a long time with how to develop their trade secret and confidential information protections in such a way that they can both efficiently administer them across the country in a variety of states that have different laws, and at the same time maximise protection of their trade secrets and confidential information. So for sophisticated employers, and even less sophisticated employers who do business in California, they have already been tackling this issue of whether, and to what extent, they can enforce trade secret protections in California. So I think, in some senses for employers who have been operating in California for some time, AB1076 will not present too much of an issue because they, likely, already have been adjusting to having to enforce trade secret protections and confidential information protections mindful of California's non-compete ban. Now, that being said, if Californian employers have employees who are living and working in California with non-competition agreements, they certainly will have to comply with AB1076 and send out these letters. I think the question you're asking more directly is, what is the approach for California employers who have employees outside of California? Will they be sending letters to these individuals informing them that those restrictive covenants are unenforceable? I do not think that there's an answer to that question that is readily applicable to all types of situations. So, I think the real question – and this is the case with restrictive covenants in America in general because of the differences from state to state – I think it's sort of a case-by-case basis. I think employers are really, probably, in a wait and see mode at this point as to who's going to challenge this law and in what state, and how are those challenges likely to play out? That is a crystal ball that we just don't have enough visibility into yet because the law has not even come into effect yet.”

Joe Glavina: “Clearly this law change relates specifically to non-compete clauses and imposes further restrictions on employers, but there are alternative ways to protect the business aren’t there?”

Ben Stockman: “Yes, Joe. So you know, because of the way that California has approached non-competes, and the trend in general in this country toward the banning of non-competition agreements, I think employers are increasingly thinking of creative ways to protect their trade secrets, protect their legitimate confidential business information, that don't involve non-competition agreements. Certain employers are willing to go through the expense and effort of effectively tying themselves up in knots trying to get around California’s bans on non-competition and have de facto non-competition agreements for folks that either have touch points in California, there are a few exceptions to California's ban that certain employers are willing to try to structure relationships with, for example, limited liability company members versus employees, there are ways that employers are using those exceptions to protect sensitive trade secrets for key persons in the company. But I think in general, and particularly in light of the Federal Trade Commission's proposed rule to ban non-competition agreements nationwide, employers are increasingly trending towards more robust non-solicit of client, non-solicit of employee, and confidential information protections to ensure that even if non-competition agreements are banned nationwide, and they already are in California, that there'll be sufficient protections for confidential company information already in place.”

Joe Glavina: “Final question Ben. Next year you’re going to be having an Election and a possible switch to a Republican administration. How might that change things?”

Ben Stockman: “I think it would be a priority of a Republican administration to pump the brakes on a number of pro-labour or non-competition prohibition priorities of the Biden administration. So, I would expect those rules that are currently moving through the system to be affected by a change of administration, a change of political party in the White House. Whether those would be key day-one priorities or not I'm not sure but, as we've seen in the past, it's very common when there's a change of political party in the White House to see the rolling back of, or the reverting to prior rules for agencies such as the Federal Trade Commission or the National Labour Relations Board and so we end up here in America, as lawyers, having to wrestle with a sort of flip-flopping of types of rules every time there is a change in administration in the White House and it becomes very difficult for employers to manage over the long term.”

The US angle on non-competes is something we have been tracking closely in recent months and Ben has talked to this programme about that a number of times. A reminder. Back in January the Federal Trade Commission published a proposed rule that would not only categorically ban non-compete agreements between employers and a broad class of workers, but also would require employers to rescind existing noncompete agreements and, as with California, notify current and former employees that those non-compete clauses are no longer in effect. That sweeping proposed rule has generated a lot of debate, as you might expect, and is expected to be voted on in April 2024.

There is also proposed federal legislation. So, shortly after the publication of the FTC’s proposed rule,  on 1 February the Workforce Mobility Act of 2023 was introduced in the House. Like the FTC rule, this would ban all non-compete agreements subject to limited exceptions. To date, no further action has been taken on the bill but, as and when that picture changes we will let you know.