Court of Appeal Strikes Down Non-Compete Related to Sale of Business

Maas sold his company, Crave, to Handleman.  As part of the sale transaction, Maas signed a stock purchase agreement that prohibited Maas from competing with Handleman for three years from the sale.

Maas became a Handleman employee. He also signed an employment agreement with Handleman that contained another non-compete, barring him from competing for one year from the termination of his new employment with Handleman or from the expiration of the three-year non-compete, whichever came first.  That employment agreement also contained a non-solicitation clause.

Maas stayed with Handleman three years, thereby satisfying the non-compete in the purchase agreement.  But then he went to work for a new company, violating the non-compete in his employment contract. Handleman sued, claiming that the one-year non-compete was part of the sale transaction and was in consideration for the "good will" value of Crave.

Fillpoint bought the Crave assets from Handleman and sued Maas and others for violating the non-compete agreement.

Most people who read this blog know that most non-competition agreements are unenforceable under California law. But there are exceptions.  One exception applies to the sale of a business to protect the buyer.  See Business and Prof. Code Section 16601.

The court of appeal noted that the three-year covenant in the purchase agreement satisfied the exception contained in Section 16601, as it protected Handleman's purchase of Crave.  Fillpoint, however, argued that the employment agreement's further non-compete was part of the same transaction.   The court agreed that the purchase agreement and employment agreement must be read together.  But the court struck down the employment agreement's non-competition provision.

For one thing, Fillpoint argued that the employment agreement's non-compete served a different purpose from the purchase agreement's non-compete.  The latter applied to Maas as a shareholder and the former as a Handleman employee.  The court viewed that argument as a concession that brought the non-compete outside Section 16601.  Moreover, the court decided that the employment agreement non-compete was way too broad and precluded Maas from pursuing a profession regardless of Crave's goodwill.

So, according to the court's decision in Fillpoint v. Maas, non-competes associated with the sale of a business cannot have a "latent tail" that becomes effective years after the sale.   The opinion is here.