California Supreme Court Disapproves "Narrow Restraint" Exception For Covenants Not To Compete; Holds General Waivers Should Not Be Interpreted To Waive Non-Waivable Rights
In Edwards v. Arthur Andersen LLP, the California Supreme Court reaffirmed California's strong public policy against covenants not to compete. The primary issue in the case was whether the Ninth Circuit's "narrow restraint" exception was a proper interpretation of California law. Under the narrow restraint exception, employers could enforce non-competition agreements that did not "entirely preclude" an employee from practicing his or her trade. The Supreme Court summarily rejected this exception. The lesson for employers is that unless a covenant not to compete falls squarely within one of the statutory exceptions, it is not likely to be upheld by a California court.
Edwards was a CPA was working for Arthur Andersen when Andersen announced that it would cease its accounting practices in the United States and began selling off its practices. As part of his employment contract with Andersen, Edwards signed a non-compete agreement prohibiting him, for a period of eighteen months, from working with any client he worked with at Andersen eighteen months before his departure. It also prohibited him, for a period of one year, from soliciting any client of Andersen's Los Angeles office. Andersen sold the group Edwards was employed with to HSBC. As a condition of his offer at HSBC, and in return for a release from the non-competition agreements, Edwards was required to sign a general release of all claims related to his employment. Edwards refused to sign the release because he thought it released his claims for indemnity under Labor Code Section 2802 and he was concerned about possible criminal and civil suits related to Andersen's misdeeds.
The Supreme Court rejected the "narrow restraint" exception created by the federal courts. It expressed a stark disapproval for judicially created exceptions to California Business and Professions Code 16600 and stated that any time an agreement restricts an employee's "ability to practice his  profession" in any way, it is void. However, the court expressly did not address the "trade secrets exception" long recognized by California courts. Nor did it address covenants not to solicit employees.
The other issue examined by the Supreme Court was whether the general release requested by Andersen, which released "any and all" claims including "claims that in any way arise from or out of, are based upon or relate to Employee's employment by… [Andersen]," released Edwards's indemnification rights under Labor Code Section 2802. Edwards argued that the broad release was illegal (under Labor Code Section 2804) because it purported to release Andersen from its indemnification obligations. The Supreme Court disagreed. The Court held that under basic principles of contract interpretation, the contract should be interpreted to have legal effect. Because a waiver of indemnity would render the contract illegal, the Court held that the broad language should not be interpreted to waive indemnity. However, the Court indicated that under certain factual circumstances a plaintiff might be able to show, by an employer's subsequent conduct, that the employer intended a release to cover non-waivable rights. The Court indicated that employers need not specifically except "non-waivable rights" from their general releases.