Tension between Trade Secret and California’s Section 16600

Most states in the United States have adopted some form of the Uniform Trade Secrets Act which protects information considered to be valuable due to its secrecy.  However, in an employment situation, employees learn the trade secrets of its employer over a period of time.  When the employee switches employment, the information retained in the employee’s memory may be transferred to the new employer.  As such, any contracts that prohibit the employee from divulging the trade secret of another could prevent the employee from finding new employment.  These agreements are typically referred to as non-competition agreements.  In states such as California which has a strong public policy favoring employee mobility as embodied in Business & Professions Code § 16600, trade secret laws may in conflict with these laws.

Section 16600 states: “Except as provided in this chapter, every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void.” There are three (3) enumerated exceptions to the prohibition on non- competition agreements, namely, when the contract occurs in connection with the sale of the goodwill of a business, in the dissolution of a partnership, or when a member of a limited liability company agrees not to compete.

As a general rule, Section 16600 voids all contracts that restrain employment unless the contract falls within one of the three enumerated exceptions.  Contracts that restrain employment are non-competition agreements and possibly non-disclosure agreements.  Hence, the tension between trade secrets and Section 16600.

Basic facts of case

In TJT v Mori, the owner of Leg-It (i.e., Mori) sold his business to TJT but agreed to continue working as an employee under a written employment contract. In the employment contract, Mori agreed not to compete with TJT for two (2) years after termination of employment.

For about 10 years, Mori worked for the TJT. He left voluntarily in 2007 and within weeks was hired by West State Recycling, a competitor of TJT.

TJT sued Mori for breach of the non-competition agreement since he competed with TJT within two years of termination of employment.  Although the lawsuit was filed in Idaho where Mori was then working, California law was applied to the non-competition agreement because TJT was based in California at the time Mori sold the company.

Mori argued that the terms of the non-competition agreement were void under California’s Business & Professions Code Section 16600 since the non-competition agreement was tied to Mori’s employment contract.

Decision of the court

On appeal, the Court held that although the non-competition agreement referred to Mori’s employment with TJT to determine its duration and enforceability, California case law demonstrates that such incidental link does not necessitate the conclusion that it was an impermissible employment restriction. The court reasoned that the employment relationship between Mori and TJT only came about as a part of the larger transaction between PGP and Mori – the sale of Leg-It which is one of the three enumerated exceptions to Section 16600.

In reviewing the work restriction in the noncompetition agreement, the court held that the terms of the non-competition clause were geographically overbroad since they prohibited competition within 1000 miles of Leg-It which encompassed areas in which Leg-It did not operate. The Court remanded the case to determine whether California law allows the court to rewrite or “blue pencil” the noncompetition agreement to fit within the scope of the enumerated exceptions to Section 16600.

Implications

This case shows that not all employment related work restrictions are void under business and professions code especially when such work restrictions arise out of one of the three (3) enumerated exceptions to California Business and Professions Code 16600.  This case also shows a clever way for companies to extend the duration of the non-competition agreement by tying it to the employment termination date rather than to the date the business was sold.

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