Law Offices of David H. Schwartz Obtains Important Appellate Decision Expanding Rights of Employees to Compete with their Former Employers

The Law Offices of David H. Schwartz ("LODHS") successfully prosecuted an appeal from the grant of a preliminary injunction prohibiting its clients, who are independent investment advisers, from soliciting their customers to follow them when they changed their broker dealer. The appeal resulted in a published decision by the California Court of Appeal, Division 4: The Retirement Group v. Galante (2009) 176 Cal.App.4^th 1226.

Employers frequently seek to prohibit former employees (or independent contractors with whom they worked) from soliciting clients or customers once the employment relationship has ended. Although some jurisdictions will enforce employment or other contracts that prohibit an ex-employee from competing with the former employer, in California non-compete and non-solicitation clauses are unenforceable against former employees. In 2008 the California Supreme Court reaffirmed that such provisions were unenforceable and that the legislature, in enacting Business & Professions Code Section 16600, had precluded any judicially created exceptions on the right of ex-employees to compete and to solicit clients or customers of their former employers. Edwards v. Arthur Andersen LLP (2008) 44 Cal.4^th 937.

However, the Edwards decision did not address the interrelationship between an employer's right to enforce restrictions on the use of trade secrets when the ex-employee goes to work for a competitor, because Edwards expressly did not addres the "so-called trade-secret exception" to Section 16600: frequently, an employer will seek to get around the Section 16600 bar on non-competition agreements by arguing that the solicitation of the employer's clients or customers will necessarily result in the ex-employee revealing or utilizing the former employer's trade secrets.

LODHS represented several independent investment advisers who had worked with an investment advisory firm. The advisers had signed agreements with the firm agreeing that client information provided to them was a trade secret and that they would not use such information for a number of years after they terminated their relationship with the firm. The advisers disaffiliated from the firm, and proceeded to solicit their existing clients using information they obtained from a third-party broker dealer and other third parties. The advisory firm sued and obtained a preliminary injunction that both prohibited them from using trade secrets of the firm and prohibited them from continuing to solicit their existing clients. LODHS appealed from the preliminary injunction provision that prohibited the advisers from continuing to solicit their clients.

The Court of Appeal ruled in favor of the advisers. The advisory firm argued to the Court of Appeal that the prohibition on continued solicitation was necessary to prevent the advisers from using the trade secret information about the clients held by the firm and that it was proper under existing California law. The Court of Appeal found that on the record before it, the advisers were not using trade secret information belonging to the advisory firm, but only information they obtained from third parties. The advisory firm could not prohibit solicitation of clients, it could only seek prohibition of the use of its trade secrets. Therefore, a prohibition on solicitation that was not limited to instances where the advisers were using the former firm's trade secrets was void and unenforceable.

This decision expands important rights for employees and contractors seeking to compete for clients or customers of a former employer. So long as the employee does not use trade secret information to contact or solicit the client or customer, the solicitation is legal in Calilfornia and cannot be enjoined. In many instances the information needed to contact and solicit clients or customers is not protectible as a trade secret. Where an employee or contractor is contemplating moving to a new situation and soliciting clients or customers claimed by the employee's former firm, great care must be taken to ensure that the solicitations do not rely on information proprietary to the former employer, and that the absence of such reliance is successfully documented.