federal trade commission moves against non competes

By Dr. Jim Castagnera, Esq.

Partner and Treasurer, Portum Group International

In announcing proposed regulations outlawing most employee noncompetition agreements, the Federal Trade Commission is making good on a promise made by President Joe Biden nearly two years ago in his July 9, 2021 Executive Order on “Promoting Competition in the American Economy,” The fact sheet explaining Biden’s order observed, “Competition in labor markets can empower workers to demand higher wages and greater dignity and respect in the workplace. One way companies stifle competition is with non-compete clauses. Roughly half of private-sector businesses require at least some employees to enter non-compete agreements, affecting some 36 to 60 million workers.”

The 2021 Biden fact sheet argued that business consolidation aggravates the impact of proliferating non-competes. “For decades, corporate consolidation has been accelerating. In over 75% of U.S. industries, a smaller number of large companies now control more of the business than they did twenty years ago. This is true across healthcare, financial services, agriculture and more.”

A growing number of states agree with the Biden Administration.  California, Colorado, Illinois, Maine, Maryland, New Hampshire, North Dakota, Oklahoma, Oregon, Rhode Island, Virginia and Washington have either banned outright or sharply restricted employee non-competes.  

Encouraged by Biden’s Executive Order, the FTC had been signaling for some time that the proposed regs were on the agency’s drawing board.  On January 5th, the regs were finally revealed.  The accompanying press release opens, “The Federal Trade Commission proposed a new rule that would ban employers from imposing non-competes on their workers, a widespread and often exploitative practice that suppresses wages, hampers innovation, and blocks entrepreneurs from starting new businesses. By stopping this practice, the agency estimates that the new proposed rule could increase wages by nearly $300 billion per year and expand career opportunities for about 30 million Americans.” 

 “The freedom to change jobs is core to economic liberty and to a competitive, thriving economy,” said Chair Lina M. Khan. “Non-competes block workers from freely switching jobs, depriving them of higher wages and better working conditions, and depriving businesses of a talent pool that they need to build and expand. By ending this practice, the FTC’s proposed rule would promote greater dynamism, innovation, and healthy competition.”

Devil’s in the details.  The proposed regulations [https://www.ftc.gov/legal-library/browse/federal-register-notices/non-compete-clause-rulemaking] define a non-compete clause as, “a contractual term between an employer and a worker that prevents the worker from seeking or accepting employment with a person, or operating a business, after the conclusion of the worker’s employment with the employer.”

A “functional test” will be applied to determining if a contract or handbook clause is in effect a non-compete.  “The term non-compete clause includes a contractual term that is a de facto non-compete clause because it has the effect of prohibiting the worker from seeking or accepting employment with a person or operating a business after the conclusion of the worker’s employment with the employer.” 

The agency offers the following examples:

“i. A non-disclosure agreement between an employer and a worker that is written so broadly that it effectively precludes the worker from working in the same field after the conclusion of the worker’s employment with the employer.

“ii. A contractual term between an employer and a worker that requires the worker to pay the employer or a third-party entity for training costs if the worker’s employment terminates within a specified time period, where the required payment is not reasonably related to the costs the employer incurred for training the worker.”

The definition of “worker” is wide but not unlimited.  It includes “a natural person who works, whether paid or unpaid, for an employer. The term includes, without limitation, an employee, individual classified as an independent contractor, extern, intern, volunteer, apprentice, or sole proprietor who provides a service to a client or customer. The term worker does not include a franchisee in the context of a franchisee-franchisor relationship; however, the term worker includes a natural person who works for the franchisee or franchisor. Non-compete clauses between franchisors and franchisees would remain subject to Federal antitrust law as well as all other applicable law.”

The regs would be retroactive, requiring the recission of existing non-competes.  Additionally, “[a]n employer that rescinds a non-compete clause pursuant to paragraph (b)(1) of this section must provide notice to the worker that the worker’s non-compete clause is no longer in effect and may not be enforced against the worker. The employer must provide the notice to the worker in an individualized communication. The employer must provide the notice on paper or in a digital format such as, for example, an email or text message. The employer must provide the notice to the worker within 45 days of rescinding the non-compete clause.”

In fact, the agency offers proposed language for the requisite notice:

“A new rule enforced by the Federal Trade Commission makes it unlawful for us to maintain a non-compete clause in your employment contract. As of [DATE 180 DAYS AFTER DATE OF PUBLICATION OF THE FINAL RULE], the non-compete clause in your contract is no longer in effect. This means that once you stop working for [EMPLOYER NAME]:

• You may seek or accept a job with any company or any person—even if they compete with [EMPLOYER NAME].

• You may run your own business—even if it competes with [EMPLOYER NAME].

• You may compete with [EMPLOYER NAME] at any time following your employment with [EMPLOYER NAME].

The FTC’s new rule does not affect any other terms of your employment contract. For more information about the rule, visit https://www.ftc.gov/legal-library/browse/federal-register-notices/non-compete-clause-rulemaking.”

Exceptions to the ban are similar to those found in most analogous state laws:

• The sale of a business

• Disposition of the signer’s ownership interest in a business

• Sale of the assets of a business

In all these instances the signer would have to be a “substantial” owner or a partner in the enterprise.

The regs will supersede extant state non-compete laws, if they are inconsistent with the agency’s rules.  State legislation and regulations that provide greater worker protection would be unaffected.

Compliance will be required within six months of the regulations becoming final.

The public comment period ran until March 5th.  

The panoply of employee restrictions.  Non-competes are just one category of restraints commonly imposed by employers on their workers.  Others include:

• No-poaching agreement: An agreement by two unrelated companies to not poach each other's employees.

The U.S. Department of Justice and several state AGs in the past have come down hard on no-poaching agreements, especially in the healthcare and --- believe it or not --- fast food industries.  In 2018, Penn’s Wharton School reported, “The practice of ‘no-poach’ agreements in the fast food industry is under scrutiny with a group of 11 Democratic state attorneys-general announcing last week that they are seeking information on them from eight fast food chains including Arby’s, Burger King, Dunkin’ Donuts, Wendy’s and Panera Bread. Franchisors have these agreements with their franchisees in order to prevent employees from leaving one franchise to join another within the same chain.” [http://knowledge.wharton.upenn.edu/article/how-fair-or-legal-are-non-poaching-agreements/ ]

Exceptions to the DOJ’s hard-over approach to no-poaching pacts are:

• An agreement related to a merger or acquisition

• An agreement with a consultant, auditor, outsourcing vendor, recruiter or temp agency

• The settlement of a legal dispute

• A legitimate collaboration agreement, e.g., technology integration project, joint venture, shared use of facilities

• No-solicitation Agreement: A no-solicitation agreement is a contract or clause in which an employee agrees not to solicit a company's clients and/or customers, for his/her own benefit or for the benefit of a competitor, after leaving the company.

 An example:

“The Executive covenants and agrees that during the term of his employment, and for a two (2) year period immediately following the end of the Term of or earlier termination of this Agreement, regardless of the reason therefor, the Executive shall not solicit, induce, aid or suggest to: (1) any employee to leave such employ, (2) any contractor, consultant or other service provider to terminate such relationship, or (3) any customer, agency, vendor, or supplier of the Company to cease doing business with the Company.” [https://www.lawinsider.com/clause/non-solicitation ]

Generally speaking, extant state laws allow for such provisos, so long as the employer can prove that the limitation is a reasonable one.  Furthermore, judges’ antennae are sensitive to surreptitious stratagems by ex-employees, such as using third parties --- what spy agencies call “cut outs”--- to carry the solicitation message to the target employee or customer.

• Confidentiality Provision: A confidentiality agreement, which is also known as a non-disclosure agreement or simply as an NDA, is a contract or clause between two or more parties where the subject of the agreement is a promise that information conveyed will be maintained in secrecy.

As with no-solicitation agreements, confidentiality provisos are sanctioned under federal and state statutory and common law.  Indeed, when the confidential information rises to the level of a “trade secret,” the owner may be aggressively supported by American law.  Most notable is the federal Defend Trade Secrets Act of 2016 [Public law: Pub. L. 114–153; 130 Stat. 376], which allows federal courts to entertain ex parte petitions for temporary restraining orders.  Likewise, many states by statute or common law consider theft of a trade secret to be a criminal offense. 

Employers often endeavor to protect proprietary information that doesn’t quite climb to the level of a legitimate trade secret.  And again, as with no-solicitation agreements, the rule of reason permits legitimately necessary restrictions.

When and what from the FTC?  The proposed regulations are unlikely to become the finalized law of the land anytime soon.  First of all, we anticipate a tsunami of commentary.  Under the Administrative Procedure Act, the agency is obligated to consider all “relevant matter presented.”  The agency isn’t required to adopt any suggestions.  But “publication of the final rule must include analyses of any relevant data or other materials submitted by the public and a justification of the form of the final rule in light of the comments the agency received.” [https://www.justia.com/administrative-law/rulemaking-writing-agency-regulations/notice-and-comment/]

This review process can be relatively rapid.  More often, when extensive public comments are garnered --- as undoubtedly will be the case here --- both the sheer burden of the review and the political sensitivity of the issues can cause the agency to take its time.  And, as for when the final regulations do emerge, many pundits predict a second tsunami, i.e., lawsuits challenging the new rules.

With a presidential election now a little less than two years away, no doubt the Biden White House will do what it can to have the non-compete regs “in the can” before November 2024.  Whether that happens or not, and whether the Democrats hang onto the Oval Office or not, the “Deep State” phenomenon is likely to result in final regulations taking effect later if not sooner.  By that we mean that dedicated career bureaucrats at the FTC have favored regulation of non-competes for some time.

Just as the Trump-era DOJ continued to prosecute participants in no-poaching agreements, in January 9, 2020, the Acting FTC Chair remarked that non-competes are often “restrictions unilaterally imposed upon workers by their employers" and suggested that the agency should engage in rulemaking.

Consequently, our prediction is that the FTC will attempt to outlaw most employee non-competes, regardless of whether the Democrats retain control of the federal bureaucracy or not in two years’ time.  We further suggest that the federal courts will more likely than not be friendly toward such regulations, albeit the pro-business majority in the Supreme Court will be harder to predict, should a challenge percolate to that level.

That said, we  recommend that employers revisit and rethink their non-competes now, while at the same time taking advantage of the still-open “public commentary” window to make their views known to the FTC.  Remember: even in the majority of jurisdictions that remain tolerant of non-competition agreements, judges will only enforce those restrictions that are deemed reasonable in terms of time, geography and actual employer need.  And bear in mind that no-solicitation and confidentiality agreements are much more like to enjoy judicial enforcement.

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