Among all those debates, The Federal Trade Commission ("FTC" or "the Commission") took a stricter position and has issued a final Non-Compete Rule1 ("the Final Rule") to ban non-compete agreements nationwide, aiming to promote competition, protect workers' freedom to change jobs, innovation, and foster new business formation, therefore protecting consumer welfare. This decision is outlined as the first decision that accepts non-compete clauses in employment agreements as "an unfair method of competition" and a violation of antitrust laws, thereby completely prohibiting such clauses. This landmark rule is globally significant, as non-compete clauses have not been extensively debated in the context of competition law until now. The rule is also anticipated to guide other competition authorities globally and have significant impacts on the labor market.
However, many employers and businesses are concerned about the consequences of this decision and have opposed it. The first legal challenges were raised in the Northern District of Texas ("the Texas Court") and the Eastern District of Pennsylvania ("the Pennsylvania Court"). The lawsuits challenges generally argue that the ruling exceeds the FTC's authority and is arbitrary and capricious.
Before the proposition of the Final Rule, a comprehensive analysis of non-compete clauses was conducted and revealed significant negative impacts including; (i) reduced wages, (ii) prevention of new businesses and ideas, (iii) exploitation of workers, and hindering economic liberty.2
The FTC estimates that banning non-compete agreements will lead to3:
- Reduced health care costs: $74-194 billion in savings on physician services over the next decade,
- New business formation: A 2.7% increase in new firm formation, creating an additional 8,500 new businesses each year,
- Boost in innovation: An average of 17,000-29,000 more patents annually, with an estimated increase of 3,000-5,000 new patents in the first year, rising to 30,000-53,000 in the tenth year, representing an 11-19% annual increase over the next 10 years,
- Higher earnings for workers: $400-$488 billion in increased wages over the next decade, with the average worker's earnings rising by an estimated $524 per year
Previously, the Commission published a proposed rule regarding non-compete agreements in January 2023 under sections 5 and 6(g) of the FTC Act4, followed by a 90-day public comment period. On the over 26,000 comments FTC has received, it was detected that the vast majority supported the banning of non-compete agreements. After these influencing comments, on the 23rd of April 2024, the FTC published its final order banning non-compete agreements for good. Above, this final order of the Commission will be explained in detail in different sections.
- The Definition of "Non-Compete" Clause
The Final Rule provides a comprehensive definition of a "non-compete clause" within the context of employment. According to the rule, a non-compete clause is any condition of employment that5:
- Prohibits a worker from seeking or accepting employment with another entity in the United States after their current employment ends, if such employment would commence after the conclusion of their current employment.
- Penalizes a worker for seeking or accepting employment with another entity in the United States after their current employment ends, if such employment would commence after the conclusion of their current employment.
- Functions to prevent a worker from operating a business in the United States after the conclusion of their current employment.
- Moreover, the final rule expands the definition of "term or condition of employment" beyond just written contractual terms to include workplace policies, whether they are formally documented or communicated orally.
Additionally, the rule clarifies that "employment" includes any form of work performed for an entity, irrespective of whether it is under a formal employment contract or arrangement.
As can be seen, the Final Rule explicitly prohibits clauses foreseeing any monetary penalties in case of competition, while other restrictive agreements such as nondisclosure agreements (NDAs) are not directly banned. Nevertheless, these agreements will also be banned if they lead to a monetary penalty and/or prohibit a worker from seeking or accepting other work or starting a business after their employment ends.6
- The Definition of "Worker"
The Final Rule defines a "worker" as any natural person who currently works or has previously worked, regardless of whether they were paid or unpaid, and without considering their official job title or classification under other state or federal laws7. This definition encompasses a broad variety of employment types (such as employees, independent contractors, externs, interns, volunteers, apprentices, and sole proprietors providing services to others)8. Additionally, it includes individuals working for either a franchisee or franchisor, except for franchisees within the context of the franchisee-franchisor relationship.9
- Guidelines for Different Types of Workers
The Final Rule includes distinct guidelines outlining unfair methods of competition practices for different types of workers. The Rule bans all non-compete agreements from being done, for all workers, including senior executives after the effective date. For existing agreements, on the other hand, the FTC adopts a different approach for senior executives than for other workers. Accordingly, the Commission has determined that existing non-competes can remain in force for senior executives (defined as workers who earn more than $151,164 annually and who are in a "policy-making position.")10 since they represent less than 0.75% of the market.
For workers other than senior executives, it is considered an unfair method of competition for someone to engage in or try to engage in a non-compete agreement, to enforce or attempt to enforce such an agreement, or to claim that the worker is bound by one. Accordingly, employers will also be required to provide notice to workers other than senior executives who are bound by an existing agreement that they will not be enforcing any agreements in the future.
- Determinations
In the Final Rule, the Commission deemed it unfair and a violation of Section 5 of the FTC Act for employers to establish or enforce certain non-compete agreements on their employees. The Commission found that these agreements;
- Disrupt competitive conditions in labor markets by hindering efficient worker-employer matches,
- Impede competition in product and service markets, stifling new business formation and innovation
- Contribute to increased market concentration and higher consumer prices.
The FTC also discovered that employers have effective alternatives to non-compete agreements for protecting their investments, such as non-disclosure agreements (NDAs) to protect sensitive information, and over 95% of workers are already covered by NDAs. Therefore, the FTC emphasized that employers have alternative methods to non-compete agreements for safeguarding their investments. These include utilizing trade secret laws and non-disclosure agreements (NDAs), which are widely used and cover over 95% of workers with non-competes. Additionally, rather than relying on non-competes to retain employees, employers can compete for workers based on merits, such as offering better wages and working conditions.11
- Exceptions
The Final Rule exempts three conditions in its decision: (i) bona fide agreements, (ii) existing clause of action, and (iii) agreements based on good faith. The Final Rule firstly exempts non-compete agreements made during a genuine sale (bona fide sale) of a business entity.12 The Commission defines the term "bona fide" and adds that any excepted non-compete must be made "under a bona fide sale" to ensure that such schemes are prohibited under the rule.13 In addition, in its decision, the FTC defines a bona fide sale as "one made in good faith as opposed to, for example, a transaction whose sole purpose is to evade the final rule".14
The Commission also excludes situations where a legal claim regarding a non-compete existed before the rule's effective date. Moreover, it states that enforcing or discussing non-compete agreements is not considered unfair competition if there is a genuine belief that the final rule does not apply. As can be seen, the Commission does not constitute a non-compete agreement as a breach in the presence of good faith. This exemption is also important in the matter of protecting the employee's rights, taking the employee's intention as decisive.
- Lawsuits
1.Ryan, LLC v. Federal Trade Commission: The Northern District of Texas ("the Texas Court") in Ryan, LLC v. Federal Trade Commission, issued a Preliminary Injunction Order15 ("the Order") that temporarily enjoins the coming into force of the Final Rule, for the five plaintiffs. Nevertheless, the Final Rule remains in effect nationwide at present.
In the Texas Court, Plaintiff's reasons for challenging the Final Rule are listed in the Order as follows:
- it exceeds its statutory authority;
- it is patently unconstitutional; and
- it is arbitrary and capricious.16
In addition, the Texas Court argued that the Final Rule prevents the enforcement of well-established agreements recognised by the judiciary as legal and in the public interest. 17
Furthermore, the Texas Court determined that adhering to the Final Rule would result in financial detriment, given the plaintiffs' strong likelihood of prevailing in their argument that the rule is invalid. In the order in question, this argument is supported by the following two references: "Indeed, complying with [an agency order] later held invalid almost always produces the irreparable harm of nonrecoverable compliance costs."18 The FTC does not contend that Plaintiffs have an avenue to recover costs spent from complying with the Rule.19
Finally, the judgment does not constitute a final judgement in the case. Indeed, the Texas Court has indicated that it will issue its final judgement on the merits by the end of August. However, the Court's method in handling the preliminary injunction and its determination that the plaintiffs have demonstrated a "significant probability of success on the merits" indicates that the Final Rule will likely be invalidated based on its merits.
- ATS Tree Services, LLC v.Federal Trade Commission: The FTC's Final Rule is being challenged in another lawsuit (ATS Tree Services, LLC v. Federal Trade Commission) filed in Pennsylvania Federal Court.20 The objections raised against The Final Rule in this case are similar to the objections raised in the Texas court.
The complaint contains the following counts:
- The FTC does not have statutory authority to promulgate substantive rules to prevent purported unfair methods of competition.
- The FTC's ban on all non-compete agreements exceeds FTC's statutory authority to prevent methods of competition that are unfair.
- Rendering existing non-compete agreements for non-senior executives unenforceable is arbitrary and capricious.
- The FTC Act unconstitutionally declares legislative power to the FTC. 21
- Conclusion
In conclusion, the FTC's proposed rule outlaws employers from:
- Initiating or attempting to initiate non-compete agreements with workers,
- Upholding non-compete agreements with workers.
- Under certain conditions, indicating to workers that they are bound by a non-compete.
This rule would cover both independent contractors and all workers, regardless of payment status. Employers would be mandated to revoke existing non-competes and actively inform workers of their nullification. While the rule generally excludes other employment restrictions like non-disclosure agreements, exceptionally broad restrictions could still fall under its jurisdiction if they effectively function as non-competes.22 Employers who have enforced non-compete agreements on the other hand, must clearly and prominently inform workers, by the rule's effective date, that these agreements are null and void and cannot be legally enforced.23
The Final Rule prohibits non-competition agreements in general with a very strict and tough stance. In this regard, this decision is recognized as the first to categorize non-compete clauses in employment agreements as violations in a strict sense and thereby fully prohibiting these clauses. This ruling is of global importance, as non-compete clauses have not previously been the focus of extensive debate within the realm of competition law. The prohibition of such clauses sets a new precedent and is expected to influence competition policies worldwide, prompting a reevaluation of how non-compete agreements are treated under competition law in various jurisdictions.
On the other hand, courts in both Texas and Pennsylvania courts have challenged the FTC's decision on the grounds that it was unauthorised, arbitrary and capricious, and not in the public interest. Moreover, the Texas Court issued a preliminary injunction to block the implementation of the Final Rule, and a similar injunction is expected to be issued by the Pennsylvania Court. Nevertheless, it is indeed expected that the FTC's rule will guide other competition authorities around the world and will have significant consequences for the labor market.
To summarize, while the challenges do not overturn the Final Rule, they indicate that debates and objections regarding the matter will continue until 4th September 2024, the effective date.
Footnotes
1. Federal Trade Commission, Non-Compete Clause Rule, 2024 16 CFR Part 910 RIN 3084-AB74 last access date: 2nd May 2024 https://www.ftc.gov/system/files/ftc_gov/pdf/noncompete-rule.pdf (hereinafter "NPRM")
2. Federal Trade Commission, 'Non-Compete Rule Summary', 2024 last access date: 14th May 2024 https://www.ftc.gov/legal-library/browse/rules/noncompete-rule
3. ibid
4. Federal Trade Commission, NPRM, 2023 88 FR 3482
5. ibid 3
6. Ian T. Clarke-Fisher, Trevor L. Bradley, Stephen W. Aronson, 'FTC Votes to Finalize Rule Banning Non-Compete Agreements Nationwide', Robinson & Cole LLP Publications last Access date: 3rd May 2024
7. See FTC, NPRM Section 910.1 (defining "worker")
8. Federal Trade Commission (n 1) 4, See FTC, NPRM Section 910.2
9. ibid
10. See FTC, NPRM Section 910.1 (defining "senior executive")
11. Federal Trade Commission Press Release, 'FTC Announces Rule Banning Noncompetes', 2024 last access date: 6th May 2024 https://www.ftc.gov/news-events/news/press-releases/2024/04/ftc-announces-rule-banning-noncompetes
12. Federal Trade Commission (n 1) 342, See FTC, NPRM Section 910.3
13. ibid
14. ibid, Bosley Med. Grp. v. Abramson, 161 Cal. App. 3d 284, 291 (Cal. Ct. App. 1984)
15. Ryan, LLC v. Federal Trade Commission, No. 3:24-CV-00986-E, date: 3 rd July 2024, https://storage.courtlistener.com/recap/gov.uscourts.txnd.389064/gov.uscourts.txnd.389064.153.0_4.pdf
16. ibid 11
17. İbid 28
18. Wages & White Lion, 16 F.4th at 1142 (quoting Texas v. EPA, 829 F.3d at 433)
19. ECF No. 82 at 48
20. ATS Tree Services, LLC v. Federal Trade Commission, No. 2:24-cv-01743 (E.D. Pa.) https://pacificlegal.org/wp-content/uploads/2024/04/2024-04-2ATS-v-FTC-Complaint.pdf
21. ibid
22. Federal Trade Commission Press Release, 'FTC Proposes Rule to Ban Noncompete Clauses, Which Hurt Workers and Harm Competition, 2024 last access date: 6th May 2024 https://www.ftc.gov/news-events/news/press-releases/2023/01/ftc-proposes-rule-ban-noncompete-clauses-which-hurt-workers-harm-competition
23. Clarke-Fisher, L. Bradley, W. Aronson (n 4)
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.