California’s Non-Compete Long Arm: What Healthcare Organizations Need to Know After the FTC’s Nationwide Noncompete Ban Gambit Has Stalled

Originally published in California Health Law News

In one of the most highly anticipated court rulings of the summer, the U.S. District Court for the Northern District of Texas set aside the FTC’s Non-Compete Rule (“Rule”), which would have effectively banned most non-competition agreements (outside the sale-of-business context) throughout the United States. California healthcare practitioners may think this development is a relatively meaningless event, given that the FTC’s ban had no carveout for healthcare workers in the first place (despite vigorous lobbying to have such an exception included) and Section 16600 et seq. of the California Business and Professions Code (“Section 16600”) has long made non-competition, customer non-solicitation, and other restrictive covenants unlawful in California except in limited contexts. But these changes directly impact California providers and healthcare organizations. Even though the FTC’s nationwide ban failed, California’s recent changes to its law – including a required voiding notice, private right of action and extraterritorial jurisdiction provisions – coupled with existing unsettled areas of law, such as non-solicitation and broad confidentiality clauses, should raise red flags for legal professional and compliance officers.

1. The FTC Rule’s Road to Perdition

All summer long, employers outside of California worried about being subjected to employee mobility rules that have long existed in California. The FTC’s Rule effectively banned most non-competes outside of the sale-of-business context and prohibited employers in every industry from seeking to enforce those agreements, with a limited carveout for senior executive agreements entered prior to the Rule’s effective date. Shortly after the Rule was adopted in April 2024, challenges were filed in federal district courts in Texas, Florida, and Pennsylvania.¹ On August 20, 2024, the United States District Court for the Northern District of Texas held that the FTC had exceeded its statutory authority in implementing the Rule and that the Rule was arbitrary and capricious.² The Court set aside the FTC Rule, a decision which effectively put the FTC Rule on ice while appeals are pending.

Given the change in administration from Biden to Trump in January 2025, the composition of the FTC will likely change and there will be a Republican-led Commission. The Rule was passed by a Democratic majority 3-2 party line vote and any pending litigation regarding the Rule likely will be abandoned by a Republican majority 3-2 party line vote. If, for some reason, that does not occur, then the appeals process could stretch well into 2025. The FTC’s chances of overturning the lower court’s ruling are slim in the Fifth Circuit, which has not hesitated to limit federal administrative authority absent express Congressional delegation. And, given a circuit split on the scope of the FTC’s unfair competition rulemaking authority, the novelty of the legal questions raised, and the public policy implications of voiding millions of private contracts, if the rule is appealed, it is likely the Supreme Court would review and have the final say on the matter. In the meantime, employers will not have to comply with the FTC Rule that otherwise was slated to take effect September 4, 2024.

2. The California Landscape

California practitioners have long operated under the assumption that non-competes and other restrictive covenants, such as customer non-solicitation agreements, are unenforceable except in limited circumstances. But beginning January 1, 2024, California cracked down even further, with new laws going into effect that impose liability on employers who require employees to sign such agreements, even agreements entered outside of California, and that impose notice requirements on employers to communicate that non-competes and other restraints of trade are void under California law.

The first new California law, Senate Bill (“SB”) 699, codified as Business and Professions Code section 16600.5, allows employees to sue employers who attempt to enforce noncompete clauses or similar restrictions. In addition to the private right of action feature, this law has a novel extraterritorial provision that states: “[a]n employer or former employer shall not attempt to enforce a contract . . . regardless of whether the contract was signed and the employment was maintained outside of California.” Thus, healthcare organizations with operations in multiple states could face challenges under California law, even when those agreements involve employees based outside the state. The potential extraterritorial reach of SB 699 also raises complex compliance issues, particularly for healthcare organizations that operate in jurisdictions where non-competition and non-solicitation agreements remain enforceable, typically under common law reasonableness tests. The second new California law, Assembly Bill (“AB”) 1076, codified as Business and Professions Code section 16600.1, complements SB 699 by requiring employers to provide notice to employees that noncompete agreements they previously entered are void and unenforceable in California. Those notices were due back in February 2024, though many organizations may have been unaware of their notice obligations and failed to meet that deadline. Paired with SB 699, AB 1076 also gives employees and former employees an independent basis to sue employers. Notably, the FTC had attempted to impose similar notification requirements in the stalled Rule, modeled on California’s standard, leading to a last-minute scramble for many companies to inventory existing agreements and prep required notices before the Rule was set aside in late August of 2024.

3. Litigation Under SB 699 and AB 1076.

Though these California laws are new, and we have not seen matters relating to them litigated to judgment, several cases have been brought in California Superior Court premised on SB 699’s³ private right of action and several more under AB 1076’s⁴ notification requirement. Unsurprisingly, SB 699’s purported extraterritorial reach is also being hotly contested.

In the U.S. Court of Appeals for the First Circuit, a governing law battle is being waged in DraftKings Inc. v. Hermalyn, a case originally filed in Massachusetts to determine whether California law should apply to DraftKings’ lawsuit against its former Senior Vice President for breach of a non-compete agreement. Hermalyn worked for DraftKings in Massachusetts and signed the non-compete agreement in that state, where such agreements are enforceable. However, in early 2024, Hermalyn quit and moved to California to join a competitor. Hermalyn sued for declaratory judgment to void the non-compete in the Central District of California and DraftKings filed a countersuit in Massachusetts, where it successfully obtained a temporary injunction stopping the executive from working for the competitor. The Massachusetts court had found California law did not apply, notwithstanding SB 699’s extraterritorial language.

On appeal,⁵ the First Circuit sided with DraftKings and rejected the former executive’s attempt to apply California law based on his move to the state, holding that California’s public policy interests against non-competes do not necessarily outweigh Massachusetts’ interests in seeing them enforced in certain limited situations like this one. The fact that the agreement explicitly chose Massachusetts law to govern any disputes and specified Massachusetts as the jurisdiction for resolving such disputes proved a difference-maker. This first major test of SB 699’s extraterritorial reach will have far-reaching implications given that there is no nationwide rule governing noncompetes at present and the FTC’s ban is unlikely to survive pending challenges. It seems simply packing up and moving to California is not a panacea for executives who are otherwise subject to lawful and enforceable non-competes in other states.

4. Lurking California Disputes Over Overbroad Confidentiality Agreements and Employee Non-Solicitation Clauses

Though Section 16600 has long made noncompetes and customer non-solicitation clauses unenforceable in California, the law has left open to judicial interpretation whether certain other types of restrictive covenants that bind employees post-termination can be enforced, including broad confidentiality clauses and employee non-solicitation restrictions.

To date, no California Supreme Court decision has held that employee nonsolicitation clauses, which prohibit employees from recruiting or otherwise soliciting a colleague to leave the employment of the company (for instance, to work with them at their new company), are allowed under Section 16600. However, there have been a number of California appellate court and federal court decisions in this arena.

Beginning in 1985, in Loral Corp. v. Moyes,⁶ California’s Sixth Appellate District held that, while an agreement could not lawfully preclude a departing employee from hiring his former employer’s employees, a restriction on soliciting a former employee’s workers was permissible. In other words, employee nonsolicitation provisions were generally enforceable in California.

The status quo on this issue changed in 2018 when California’s Fourth Appellate District held in AMN Healthcare Inc. v. Aya Healthcare Services Inc.⁷ that even if Loral remained good law generally, non-solicitation provisions relating to nurse recruiters were unenforceable under Section 16600 as an unlawful restraint of trade. The AMN Healthcare decision was cabined to the nurse recruiter setting, but new chips in the California employee non-solicitation infrastructure began to emerge. In Barker v. Insight Global, LLC, a federal district court judge reconsidered her own prior ruling dismissing a plaintiff’s claim against a former employer and held that a nonsolicitation clause as applied to a staffing agency was invalid under the reasoning of AMN Healthcare and that all such clauses are unlawful in California.⁸ Separately, in WeRide Corp. v. Kun Huang, a federal district judge relying on both AMN Healthcare and Barker held that an employee non-solicitation clause as applied to a driverless car technology company did not pass muster under Section 16600.⁹ Though these rulings are not binding on other California state or federal trial court judges, given the lack of contrary authority (or California Supreme Court guidance), employee non-solicitation clauses face an uphill battle in California and particularly in the healthcare industry given the AMN Healthcare ruling. Even having these clauses in place in California could result in liability under SB 699.

More recently, even confidentiality clauses have become tripped up in Section 16600’s web. In 2020, the California Court of Appeal held in Brown v. TGS Management Co., LLC, that an employer’s confidentiality agreement, even one devoid of postemployment limitations other than simply prohibiting disclosure of confidential data, is unlawful if it operates as a de facto noncompete agreement.¹⁰ In Brown, the plaintiff argued that his employment agreement defined “confidential information” too broadly, including all information related to the securities industry and therefore effectively functioned as a non-compete. The court agreed, even though the agreement allowed for disclosure of information “generally known in the securities industry through legal means” and permitted the employee to disclose data known before he joined the employer “as evidenced by Employee’s written records.” Notably, the employer did not defend the broadness of the definition of confidential information. The Brown decision has not been adopted by California appellate courts in other contexts, but it flashes big red warning signs for employers that overbroad confidentiality agreements could be set aside under Section 16601.

5. Implications for Healthcare Organizations

With the FTC’s Rule on life support and the new expansive, but untested, laws in California, we are entering a phase of change across the US with respect to restrictive covenants agreements. The likely result is that more and more states will adopt their own laws narrowing the enforceability of postemployment restrictive covenants to certain kinds of employees.¹¹ The FTC Rule’s failure in federal court increases the likelihood that parties who signed agreements outside of California will try to leverage California law to their advantage to challenge such agreements if there is any California nexus, as we are seeing with DraftKings and other cases discussed above.

The impact of SB 699 and AB 1076 is especially pronounced for healthcare organizations, which often rely on noncompete and non-solicitation agreements to protect patient and vendor relationships, confidential information, and investments in specialized training. Given the potential for these California statutes to be interpreted broadly and applied extraterritorially, healthcare organizations should take immediate steps to ensure compliance, including:

• Be Wary: Organizations should be very wary of the extraterritorial application of SB 699. Even if the DraftKings decision breaks in employers’ favor, the same may not be true in the reverse situation where the employer is California based with employees based elsewhere. Given the dearth of litigation, no organization should want to be the test case for new claims.
• Even if you are based outside of California and your agreements entered with personnel outside of California, you should be aware of the potential for application of California law.
• Review and Revise Existing Agreements: Healthcare institutions should consider auditing confidentiality agreements and revising confidential information clauses to mitigate the Brown case risks. This means clearly outlining what constitutes confidential information (e.g. “research data,” “internal strategic documents,” or “vendor agreements”) as opposed to vague and overbroad terms (e.g. “all information related to the company”). Moreover, if the institution has developed any unique training programs or clinical procedures, the confidentiality agreement should specifically cover these protocols without broadly restricting all training and procedural knowledge, as doing the latter could be construed as overbroad and result in the entire agreement being stricken. Organizations should reassess using non-competition covenants if there is a potential for California nexus and consider using non-solicitation covenants to the extent possible. Above all, consider revising governing law language for non-California employees that expressly disclaims any extraterritorial application of SB 699 to disputes, even if the employee subsequently leaves to work for a California-based employer in the future.
• Alternative Strategies: Consider using other mechanisms that protect legitimate business interests without running afoul of California’s stringent regulations, including garden leave arrangements, equity forfeiture, and other clauses that may be enforceable depending on the circumstances.
• Legal Consultation: Engage with legal experts to navigate the complexities of these statutes and prepare for potential litigation that may arise from their enforcement.

California’s SB 699 and AB 1076 represent a new frontier in the battle over noncompete agreements, especially as the FTC’s broader ban remains in legal limbo. For healthcare organizations, this means a heightened need for vigilance and proactive adaptation to this evolving regulatory environment in order to protect competition-sensitive business relationships and information.

¹Ryan LLC v. Federal Trade Comm., No. 3:24-CV-00986-E, 2024 WL 3297524 (N.D. Tex., July 3, 2024); Properties of the Villages, Inc. v. Federal Trade Comm., No. 5:24-cv-316-TJC-PRL, 2024 WL 3870380 (M.D. Fla., Aug. 15, 2024); ATS Tree Services, LLC v. Federal Trade Comm. et al., No. 24-1743, 2024 WL 3511630 (E.D. Penn., July 23, 2024).

²See Ryan LLC v. Federal Trade Comm., No. 3:24-CV-00986-E, 2024 WL 3297524 (N.D. Tex., July 3, 2024).

³ Padovani v. Howmedica Ostonics Corp. Stryker Corp, No. 3:24-cv-00487-LL-DDL, 2024 WL 2045514 (S.D. Cal., Apr. 9, 2024); Won v. Simple Mills, Inc., No. 24CV066949, 2024 WL 3329606 (Cal. Super. Ct., Mar. 8, 2024).

⁴Nonomura v. Paradise Dynasty LLC, et al., No. 30-2024-01394454-CU-WT-NJC, 2024 WL 3680244 (Cal. Super. Ct., Apr. 18, 2024); Jones, et. al. v. Barrett, et al., No. 3:23-cv-01102-AGS-MMP, 2024 WL 1953820 (S.D. Cal., Mar. 27, 2024); Appleton v. Decido, LLC, et al., No. 37-2024-00014088-CU-WT-CT, 2024 WL 3430650 (Cal. Super. Ct., Mar. 25, 2024); Won v. Simple Mills, Inc., No. 24CV066949, 2024 WL 3329606 (Cal. Super. Ct., Mar. 8, 2024.

⁵DraftKings Inc. v. Hermalyn, 118 F.4th 416 (1st Cir. 2024); see also, DraftKings Inc. v. Hermalyn, No. 1:24-cv-10299-JEK, 2024 WL 1886091 (D. Mass., Apr. 30, 2024) and Hermalyn v. DraftKings Inc., No. 2:24-cv-00997-MCS-E, 2024 WL 944260 (C.D. Cal., Feb. 8, 2024).

⁶Loral Corp. v. Moyes, 174 Cal.App.3d 268 (1985).

⁷AMN Healthcare Inc. v. Aya Healthcare Services Inc., 28 Cal.App.5th 923 (2018).

⁸Barker v. Insight Global, LLC, No. 16-cv-07186-BLF, 2018 WL 6334992 (N.D. Cal., Dec. 5, 2018)

⁹WeRide Corp., et al. v. Kun Huang, et al., 379 F. Supp.3d 834 (N. D. Cal. 2019).

¹⁰Brown v. TGS Management Co., LLC, 57 Cal. App. 5th 303 (2020).

¹¹ We are watching New York particularly closely, where Governor Hochul vetoed a bill last year that would have invalidated most non-competition agreements for workers earning less than $300,000 annually; that bill is expected to gain steam again later this year and could become law in 2025.