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California Public Policy Prohibits Termination Based on an Employee.s Refusal to Sign a Non-Compete Agreement

January 8, 2001

A California appellate court recently ruled that an employer may not terminate an employee who refuses to sign an illegal covenant not to compete, because such terminations violate public policy. D'Sa v. Playhut, Inc., 2000 Cal. App. LEXIS 982 (Second Dist., December 21, 2000). This decision builds on prior California case law prohibiting employers from requiring prospective employees to sign an invalid release of claims against the employer as a condition of hiring. See Baker Pacific Corp. v. Suttles, 220 Cal. App. 3d 1148 (1990) (involving an employer's attempt to require applicants for asbestos removal positions to sign invalid releases in violation of public policy).

In California, all employees (including at-will employees) have a tort cause of action for violation of public policy when they are terminated for either doing that which public policy encourages, or for refusing to do something which is against public policy. The public policy at issue in Playhut was the prohibition on covenants not to compete embodied in California Business and Professions Code § 16600. That statutory provision states that, with limited exceptions, "every contract by which anyone is restrained from engaging in a lawful profession, trade, or business of any kind is to that extent void."

The employer in Playhut gave all employees a confidentiality agreement which they were required to sign and return. The agreement contained provisions covering such matters as employee responsibilities, non-disclosure of trade secrets, choice of law, severability of illegal provisions, a retroactivity clause, and a covenant not to compete. When the plaintiff was presented with the agreement he refused to sign it and was summarily dismissed. The employer acknowledged that the plaintiff was fired for refusing to sign the agreement.

The employer argued that its termination of plaintiff was legitimate, notwithstanding California's statutory prohibition of covenants not to compete, because the court could simply sever the illegal covenant pursuant to the severability provision, leaving the remaining, unobjectionable provisions of the agreement intact. The Court disagreed. It found that the severability clause did not save the agreement because: (1) the severability clause was designed by the employer to protect only its interests; and (2) the employees were unlikely to know that the covenant not to compete was illegal and that they could sign the agreement without fear that they would be bound by it. As stated by the court, "[w]e reject the concept that a worker, compelled by economic necessity to secure employment, can be thus coerced into signing sweeping agreements . . . in the uninformed hope the agreement will not be enforced by the courts."

Playhut underscores the willingness of the California courts to permit public policy claims in the employment arena, especially where there is an appearance of employer overreaching. Indeed, in December of 1999, a San Francisco jury awarded over $1.2 million in compensatory and punitive damages to a plaintiff claiming a violation of public policy under somewhat similar facts. See Termination for Refusal to Sign Non-Compete Agreement Leads to Million Dollar Verdict.

For further information concerning the implications of the Playhut decision, please contact any of the attorneys in our San Francisco office.