Media McKasson & Klein


Unfair Competition Issues for Business Owners

A. Types of Unfair Competition

“Unfair competition” is a general term that refers to a variety of different ways in which one business competitor can harm another business. This includes:

  • Theft or wrongful use of confidential information & trade secrets
  • Interference with contracts
  • Infringement of trademarks, tradename or tradedress, copyrights & patents
  • Trade libel & slander
  • Cyber-squatting

B. Where Problems Arise

Unfair competition problems usually arise in two main arenas:

1. Employees:
Existing employees may decide to leave and go into competition with the company (either with an existing competitor or via their own new company).

An employee owes a duty of “undivided loyalty” until such time as he or she resigns. Fowler v. Varian Assoc., Inc., 196 Cal. App. 3d 34 (6th Dist. 1987). This means the employee is obligated to serve the employer during working hours and cannot form a competing business even outside of working hours. Powner Co. v. Smith, 91 Cal. App. 101 (4th Dist. 1928).

Further, an employee is required to always give preference to the company’s business over any similar business conducted for his or her own benefit. Cal. Labor Code §2863. An employee will violate the duty of loyalty if they take any action to compete with the company while employed. Puritas Laundry Co. v. Green, 15 Cal. App. 654 (1911); Fowler, 196 Cal. App. 34.

The company should therefore be on the lookout for:

Theft or improper use of its confidential information and/or trade secrets
Upon leaving, an employee trying to take existing key business accounts
Upon leaving, an employee trying to convince other employees to join the new employer or their own new business venture and go into competition with your company

2. Competitors:
Competitors may try to compete with the company in an unlawful manner, such as:

  • Interference with existing business relationships or contracts (by trying to make the customer break its contracts)
  • Theft and improper copying and trading off the company’s trade mark or trade name
  • Slander or libel, by making defamatory statements about the company and its products

C. Ways to Protect Against Unfair Competition

1. Analysis. Analyze the business to see whether it is at risk or exposure. Discussing the matter will at least make the company aware of potential problems and allow it to take steps to protect itself from illegal acts by employees or competitors.

The question is not whether an employee will leave the company, but whether the company will suffer financial loss if an employee or competitor is able to use its confidential information or trade secrets. In other words, could an employee use your confidential information to compete with the company upon leaving?

2. Written Agreements. The company could prepare:

  • Employee agreements & handbook with (a) non-solicitation clause re customers and co-employees, and (b) confidentiality clause re confidential information
  • Customer agreements with notice re lawsuit if competitor interferes with contract

(a). Solicitation of Employees

Generally speaking, a prior employee or competitor may solicit another company’s employees.

For example, in Metro Traffic v. Shadow Traffic Network, 22 Cal. App. 4th 853, the court held that where the noncompetition covenant was unenforceable, there was no viable action against the prior employee who had induced another employee to leave as well. Further, the employer’s claim for “unfair competition” (for soliciting its employees) will fail if there (a) was no fiduciary relationship, and (b) the person or company did not begin to contact or interview those employees until after leaving the company.

The Metro court stated that simply hiring personnel who possess the requirements specified by a customer does not convert the employee into a “trade secret.” A group of trained and talented at-will employees does not constitute an employer’s trade secret.

However, if the employee has been an “officer,” it complicates the issue.

In GAB Business Services v. Lindsey & Newsom Claim Services, 83 Cal. App. 4th 409 (2000), the court held that a corporate officer breached his fiduciary duty when, to facilitate recruiting by a competitor, he supplies the competitor with a list of top employees. That list constituted “confidential information,” and the officer could be enjoined as he had violated trust by revealing such information to a competitor.

The GAB court stated that an officer, who participated in management of the corporation and exercised some discretionary authority, was a fiduciary as a matter of law.

(b). Unenforceability of Non Competition Agreements

California Business and Professions Code states that any contract where a party is restrained from engaging in a lawful profession, trade, or business of any kind is “void” and unenforceable. Section 16600.

In the absence of an enforceable contract stating otherwise, an employee has the right to compete with a prior employer after leaving the company. This right is subject to the condition that they may not engage in unfair or unlawful activity that would constitute “unfair competition” and open the possibility that the new business would be enjoined. Hill Medical Corp. v. Wycoff, Cal. App. Lexis 58 (2001); Metro Traffic v. Shadow Traffic Network, 22 Cal. App. 4th 853.

For example, in Hill Medical Corporation v. Wycoff, Cal. App. Lexis 58 (2001), the court refused to enforce a non-competition clause against a doctor that tried to prevent him for three years from providing radiology and related medical services within a 7-½ mile radius of any hospital, clinic, office or facility maintained or operated by his prior employer. The court stated that since his professional practice consisted solely of providing radiology and associated medical imaging services, the provision effectively excluded him from practicing his profession!

There are only two narrow exceptions where non-competition agreements are valid: (a) where a person sells the goodwill of a business, and (b) where a partner agrees not to compete in anticipation of dissolution of a partnership. Sections 16601 and 16602; Kolani v. Gluska, 64 Cal, App. 4th 402 (1998).

(c.) Solicitation of Customers

A company will likely be able to enjoin an ex employee or his new company or employer with regard to direct or even indirect solicitation of its customers. However, first discuss the matter with counsel. This relates even to customers that that employee was directly responsible for bringing on board at the company.

Mere “Notice” to customers is a gray area under California law. It appears that an employee may only announce his or her new employment and address to the company’s customers after leaving the company, but the announcement should not solicit business in any way. Moss Adams & Co. v. Shilling, 179 Cal. App. 3d 124 (1st Dist. 1986).

3. Specific Steps on “Trade Secrets”
There is a difference under California law between confidential information and a trade secret. The latter is broadly defined to include “all records, letters and files” of the company concerning:

  • Customer or client lists
  • Payroll or personnel records (for past or present employees)
  • Financial records
  • Transactions with clients
  • Purchase records from vendors or suppliers
  • Operating procedures

A trade secret must meet certain conditions under California law (must cost the company money to develop etc.), but will be considered as confidential information of a company. Basically, the key is to take steps to protect the information through deliberate limitation of access. For example, the company should:

  • Only disclose information to employees who absolutely need it to perform their jobs
  • Have employees agree in writing the information is confidential & they will keep it so
  • To the extent possible, keep the trade secret under lock and key
  • Mark all relevant documents as “Confidential – Trade Secret”

A “customer list” that meets certain conditions is considered a valuable trade secret. Any unauthorized use of that trade secret will be is a compensable action. See Civil Code, Section 3426 – 3426.1. Further, a customer list is protected “information” because it had potential economic value. See American Credit v. Sacks, 213 Cal. App. 3d 622 (1989).

For example, in Gordon v. Landau, 49 Cal. 2d 690 (1958), the court held that damages were appropriate when an ex-employee – who had agreed not to use customer information for a year following his termination – methodically solicited clients by using this information.

4. Registration of Trade Mark/Name & Dress
Does the company sell its product or services under a trade name or trademark? If so, has the company registered them through state or federal registration? Registration has many benefits, including (a) setting definite time for use, and (b) recovery of attorneys’ fees in the event of litigation re infringement.

The company should register before it is too late, as it cannot stop anyone from using its trade name or trademark if that person or company has already used it in a particular area prior to registration. In other words, delay is the enemy.

5. Litigation
Use or disclosure of (a) trade secrets or (b) confidential information to compete with the company – whether or not prevented under an employee handbook – amounts to “unfair competition” and may be enjoined. See Civil Code, Section 3426 – 3426.1. Ojala v. Bohlin, 178 Cal. App. 2d 292, 301 (2nd dist. 1960); Klamath-Orleans Lumber. v. Miller et al., 87 Cal. App. 3d 458, 461-463; loud & Assoc., Inc. v. Mikesell, 69 Cal. App. 4th 1141, 1150 (1999).

If the company finds out that its trade name or trademark is being used by another company, it can send a “cease and desist” letter. If that fails to bring about the desired result, the only remaining option (other than doing nothing) is to file litigation and move for an injunction to prevent further infringement.

Article written by:
Neil Klein