The days of non-compete agreements are over after the Federal Trade Commission (FTC) issued its final rule earlier this month. The agency said it will promote competition and lead to new business formation growing by 2.7% per year, with more than 8,500 additional new businesses created annually.
According to the FTC, non-compete agreements are an exploitative practice that imposes contractual conditions that prevent workers from taking a new job or starting a new business. The agreements often force workers to either stay in a job they want to leave or bear other significant harms and costs. That included being forced to switch to a lower-paying field, being forced to relocate, being forced to leave the workforce altogether, or being forced to defend against expensive litigation.
An estimated 30 million workers – nearly one in five Americans – were subject to a non-compete.
“Noncompete clauses keep wages low, suppress new ideas, and rob the American economy of dynamism, including from the more than 8,500 new startups that would be created a year once noncompetes are banned,” said FTC Chair Lina M. Khan. “The FTC’s final rule to ban noncompetes will ensure Americans have the freedom to pursue a new job, start a new business, or bring a new idea to market.”
Under the FTC’s new rule, existing non-compete agreements for the vast majority of workers will no longer be enforceable after the rule’s effective date – 120 days after publication in the Federal Register.
Existing non-competes for senior executives – who represent less than 0.75% of workers – can remain in force under the FTC’s final rule, but employers are banned from entering into or attempting to enforce any new non-compete agreements even if they involve senior executives.
Long Time Coming?
The banning of non-compete agreements has been seen by many as being long overdue and could be a boon for startups and workers alike.
“In the tech sector, in particular, where high-velocity labor markets and employee mobility and knowledge transfers are essential, non-competes have been a drag on innovation and new startups. The counter-example that is often cited is California’s ban that dates to the 1840s and may have facilitated the easy employee mobility that defines Silicon Valley’s success,” said Norman D. Bishara, professor of Business Law & Ethics at the University of Michigan’s Ross School of Business.
Bishara told ClearanceJobs that the ban on non-compete agreements should level the playing field between entrenched, large companies that benefit from restricting mobility and the newer and leaner startups where attracting new employees that learned from those other firms is a key driver of innovation.
“In some industries where jumping between firms is more complicated by trade secrets and even national security concerns, like with defense contractors, the ban should loosen up constraints and give those workers more power to move to new and better-paying jobs with competitors,” Bishara added. “There is also evidence from states that have restricted non-competes in recent years that average employee earnings will rise with a noncompete ban.”
Exceptions to the Rule?
Even with the FTC’s final rule, there could be some exceptions.
“First, the rule defines non-compete agreements as any agreement that prevents a worker from looking for or accepting a job in the United States after leaving employment with the employer,” explained Jared Cook, senior counsel in Tully Rinckey PLLC’s Rochester office, where he focuses his practice on federal and state labor and employment and commercial litigation.
“This means that employers can still require their employees to agree not to work for competitors while they are still employed,” Cook told ClearanceJobs. “Second, the rule carves out an exception for non-competes that are part of the sale of a business. So if you sell your business or your share of a business, the buyer can require you to enter into a non-compete agreement that you will not compete with the business as part of the sale.”
Expect Lawsuits
As the rule won’t take effect until 120 days after the date it was adopted, there will be no shortage of legal challenges.
“There are already at least two lawsuits that have been filed challenging the rule, and there are likely to be more, arguing that the FTC exceeded its authority in adopting the rule,” said Cook.
Already some in the U.S. government seem to believe the FTC ban goes too far.
“The U.S. Chamber of Commerce, the Business Roundtable, and other groups have already filed a lawsuit to block the ban,” noted Bishara. “Inevitably, it will be many months – and probably years – before this is all settled one way or the other.”
The U.S. Chamber, which represents roughly 3 million companies, wrote in its lawsuit filed in the Eastern District of Texas that the ban “breaks with centuries of state and federal law,” and warned that the “sheer economic and political significance of a nationwide noncompete ban demonstrates that this is a question for Congress to decide, rather than an agency.”
The FTC rejected the allegation that it was overstepping its legal bounds.
“If these lawsuits are successful, it is possible that a court may invalidate the rule before it takes effect, or may enjoin the rule pending a final decision, and the rule may never go into effect,” added Cook.
Many Ifs and Buts
It will be up to the courts to determine whether the ban eventually goes into effect, or if some middle ground could be found.
“The takeaway for employees is that it is still uncertain whether the rule will take effect, but if it does, most employees – all but senior executives, will be relieved from existing non-compete agreements with former employers. The takeaway for employers is that if the rule takes effect, they will no longer be able to require their employees to enter non-competes as a condition of employment, and they will need to be prepared to send notice to all those employees whose non-competes are no longer enforceable letting them know that the non-compete agreements are not enforceable.”
For government contractors, a ban would certainly favor employees.
“As for government contractors specifically, if the reason it is hard to move from one company to another is because non-competes are common in the industry, then this rule, if it does take effect, will certainly make it easier for employees,” suggested Cook. “The key takeaway right now though is that it is still very much up in the air whether the rule will be overturned before it takes effect.”
And even if does take effect, it won’t open the floodgates of trade secrets flowing to a competitor.
“One note of caution is that the ban is about non-compete restrictions on moving to a competitor, but it specifically leaves along things like confidentiality agreements and trade secrets concerns that are essential to these defense roles and may still slow down job-hopping,” added Bishara. “The FTC rule to outright ban non-competes across the U.S. is revolutionary and blows past the compromises we have seen with most of the state-level approaches to curtailing the obvious negative aspects of these agreements. Whatever happens, once the dust settles on a range of lawsuits and other challenges, the issue is firmly on the minds of workers and the public now more than ever.”
