The “Choice of Law” in Non-Compete Disputes
Other states might be more inclined to enforce a non-compete agreement according to its terms. Therefore the question of which law applies can be determinative.
Employers often try to avoid the employee friend laws of states like California by inserting a “choice of law” provision in the agreement.
NuVasive, Inc. v. Miles
This happened to Patrick Miles who served as Vice Chairman of the Board of NuVasive, Inc., a medical device company based in San Diego and incorporated in Delaware.
Even though NuVasive was based in California, Mr. Miles’s non-compete agreement provided that Delaware law would apply. Mr. Miles left NuVasive in October 2017 and joined a competitor.
NuVasive sued Mr. Miles in Delaware and the question in the case, as eventually posed by the court, was whether the choice of law provision was included for the purpose of “importing [Delaware’s] well-developed body of commercial law” into the agreement or “as an attempt to contract around a fundamental public policy” of California against restraints on trade in the form of non-compete and non-solicitation clauses in the employment contract. NuVasive, Inc. v. Miles (Del. Ch. Ct. August 26, 2019).
The court noted that Delaware generally respects parties’ choice of law provisions in contracts disputes.
However, because Delaware follows the Restatement (Second) of Conflicts of Law, the existence of a Delaware choice of law clause does not portend the end of the story.
Rather, Delaware will adopt and apply another jurisdiction’s law when the following test is satisfied:
- The other jurisdiction’s law would apply absent the contractual choice of Delaware law,
- Failure to apply the other jurisdiction’s law would frustrate a fundamental policy of the other jurisdiction, and
- The other jurisdiction’s interest materially outweighs Delaware’s interest in the matter.
The court concluded that California law would apply since it was the state with the “strongest contacts to the contract.”
Ascension Insurance Holdings, LLC v. Underwood
The court further found, consistent with its prior decision in Ascension Insurance Holdings, LLC v. Underwood (Del. Ch. Jan. 28, 2015) and citing California Business and Professions Code section 16600, those non-compete provisions are fundamentally against California policy.
The only exception – for a non-compete covenant in connection with the sale of a business – that California makes to its section 16600 prohibition against contracts in restraint of trade is also set forth in the statute.
The court noted that since its Ascension decision, California had added, in 2016, a new section to its labor code that only served to strengthen its already strong statement of public policy against non-competes. This law provided that:
An employer shall not require an employee who primarily resides and works in California, as a condition of employment, to agree to a provision that would do either of the following:
(1) Require the employee to adjudicate outside of California a claim arising in California.
(2) Deprive the employee of the substantive protection of California law with respect to a controversy arising in California.
Under this section of the California Labor Code, any provision of a contract that violates the above provision is voidable by the employee unless the employee has legal representation during negotiation of the forum or choice of law clause.
In Ascension, the Delaware court had held that “California’s specific interest [in its public policy against restraints of trade] is materially greater than Delaware’s general interest in the sanctity of a contract that has no relationship” to Delaware.
Similarly, the NuVasive court held in favor of Miles, concluding, for the non-solicitation clauses as well as the non-compete covenants, that California’s public policy was “sufficiently strong that it must not be ‘diluted by judicial fiat,’” and, therefore, substantially outweighed Delaware’s general interest in freedom of contract.
The lesson here is that the choice of law provision in a non-compete agreement should be ignored in these situations.
The law of the state with the greater interest typically should apply and that is the state where the executive works. If the executive works in New York, for example, then New York law should apply.