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California Non-Compete Update: No Re-Hire Provisions May Be in Jeopardy, Especially for Large Employers

The Ninth Circuit Court of Appeals recently sent a case back to a district court to revisit its enforcement of a settlement agreement that prohibited an employee from future employment with the employer and any company the employer later acquired or served.  The opinion in Golden v. California Emergency Physicians Medical Group addresses whether California Business & Professions Code section 16600 extends to non-compete agreements only and certainly provides ammunition for future attacks on no re-hire provisions in settlement agreements and other non-traditional restrictive covenants.

The plaintiff was an emergency room physician with Defendant CEP, a consortium of over 1000 physicians that manages and staffs many California hospitals, inpatient clinics, and outpatient urgent care facilities.  He sued CEP alleging, among other things, racial discrimination.  The parties settled the dispute, and the settlement agreement not only barred the plaintiff from current and future employment with CEP, but also provided that “if CEP contracts to provide services to, or acquires rights in, a facility that is an emergency room . . . at which [the plaintiff] is employed or rendering services, CEP has the right to and will terminate [the plaintiff] from any work in the emergency room without any liability whatsoever.”

The District Court enforced the settlement agreement because the no re-hire provision, while restricting the plaintiff in some ways, did not preclude him from competing with CEP and therefore did not violate section 16600.  The Ninth Circuit reversed and found that section 16600 doesn’t merely apply to traditional non-compete agreements; its prohibition also extends to every contract that restrains someone “from engaging in a lawful profession, trade or business of any kind.”  Thus, the Ninth Circuit said, the analysis is whether the provision restrains the plaintiff from practicing medicine.  To answer that question, it instructed the District Court to “determine in the first instance whether the no-employment provision constituted a restraint of substantial character to [the plaintiff’s] medical practice” (emphasis mine).

The Court lifted the phrase “restraint of substantial character” from the almost 100-year-old decision of Chamberlain v. Augustine (1916) 172 Cal. 285, where the California Supreme Court voided an employment contract requiring a departing employee to pay $5,000 in liquidated damages if he or she takes up employment in a certain geographical area.  Although such a provision does not prevent one from practicing his or her trade outright, “the necessity of paying $5,000 is clearly a restraint of substantial character.”

The resurrection of this phrase may be the widest – and most vague – interpretation of section 16600 yet, and employers should scrutinize contractual provisions that may similarly affect an employee’s future rights.  For example, although not central to their reversal, the Ninth Circuit in Golden clearly telegraphed the importance it placed on the fact that CEP is so large. The inability to work for a company that dominates a large part of the market share is obviously a more substantial restraint than the inability to work for a small company with a single location.

At minimum, this case sets the stage for a new rule voiding no re-hire provisions for companies the employer does not yet own.  At most, the phrase “restraint of substantial character” is the new standard for interpreting section 16600’s already broad scope by which employment and settlement agreements containing restrictive covenants may be judged in the future.

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Brent Douglas