THE END OF THE NON-COMPETE?
On April 23, 2024, the Federal Trade Commission (the “FTC“) published a final rule (the “Final Rule“) banning non-compete clauses. Under the Final Rule, most employers will be barred from entering into new agreements containing non-compete clauses and from enforcing certain existing non-compete clauses against their workers. The Final Rule will become effective 120 days from the date of its publishing in the Federal Register (the “Effective Date“), which is estimated to become effective in September 2024.
Overview of the Non-Compete Clause Rule
The Final Rule bars employers from entering into, attempting to enter into, enforcing or attempting to enforce a non-compete clause with their workers. Under the Final Rule, a “Non-Compete Clause” is defined as “a term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from:
(i) Seeking or accepting work in the United States with a different person where such work would begin after the conclusion of the employment,
(ii) Operating a business in the United States after the conclusion of the employment.
The FTC also makes it clear that the Final Rule supersedes state laws if they are inconsistent with the Final Rule.
FTC Jurisdiction
All entities who fall under the jurisdiction of the Federal Trade Commission Act of 1914 (the “FTC Act”) will be subject to the Final Rule, but the FTC declined to clarify the scope of its jurisdiction in the Final Rule. Businesses that do not fall under the FTC’s jurisdiction include registered banks and certain nonprofits.
The Final Rule will also likely apply to registered broker-dealers and investment advisers. The FTC addresses the financial services industry specifically, stating they received many comments asking for an exception from the Final Rule. In one comment letter, the Investment Adviser Association asked for an exception for investment advisers to use Non-Compete Clauses in certain instances, such as with respect to senior staff involved in proprietary strategies, partnership agreements and in sale-of-business transactions. The Final Rule, however, does not provide any exceptions specific to broker-dealers and investment advisers as the FTC concluded that there was not a sufficient business justification. Therefore, assuming the Final Rule goes into effect in its current form, it is likely that these entities would be subject to the Final Rule.
Exceptions
While the Final Rule applies to all future Non-Compete Clauses, certain existing Non-Compete Clauses will fall under an exception. Specifically, an exception to the Final Rule is established for existing Non-Compete Clauses between employers and “senior executives”. The Final Rule defines “Senior Executives” as those whom
(i) Earn more than $151,164; AND
(ii) Work in a policy-making position.
Under the Final Rule, policy-making positions are those with policy-making authority, similar to an officer of a business entity, or who control significant aspects of a business entity. The Final Rule does not further clarify what constitutes a “policy-making position” so it is difficult to say at this time who will fall within the scope of the exception.
Another exception applies to Non-Compete Clauses agreed to as part of the sale of a business, which the Final Rule describes as the bona fide sale of (i) a person’s ownership interest in a business entity or (ii) all or substantially all of a business entity’s operating assets. The FTC specifically states that a bona fide sale is a good faith transaction, not a transaction structured to avoid the Final Rule.
What about Garden Leave or NDAs?
Garden leave is specifically addressed in the Final Rule as an example of an agreement that would not be considered to be a Non-Compete Clause. While the FTC admits that there are multiple interpretations of garden leave, the Final Rule describes “Garden Leave” as an “agreement whereby the worker is still employed and receiving the same total annual compensation and benefits on a pro rata basis”. Because the worker is still employed and has not been penalized in their pursuit of new employment, Garden Leave is not considered a post-employment restriction. Therefore, Garden Leave would not be a Non-Compete Clause under the Final Rule, and therefore are not prohibited.
The Final Rule also addresses non-disclosure agreements (“NDAs”), stating that they will not be considered Non-Compete Clauses on their face but may reach the level of a Non-Compete Clause if they ”function to prevent” a worker from leaving their employment due to the scope of information covered. As examples, the Final Rule states that an NDA covering information that is “usable in” or “relates to” a worker’s industry and effectively prevents the worker from working for another employer would likely be considered an unenforceable Non-Compete Clause. While NDAs are one example of an agreement that can function as a Non-Compete Clause, the Final Rule applies to any provision that falls under its scope.
Pending Litigation
The U.S. Chamber of Commerce, the Business Roundtable, the Texas Association of Business and the Longview Chamber of Commerce filed a lawsuit against the FTC in the U.S. District Court for the Eastern District of Texas on April 24, 2024. The suit alleges that the FTC does not have the authority to enact regulations such as the Final Rule. Additionally, they allege that the FTC overstepped their authority under the FTC Act and had insufficient authority to make the Final Rule apply retroactively. At this time, it is unclear when a final ruling will be rendered.
Next Steps
The Final Rule is still at least 120 days from going into effect and may be delayed further depending on current and potential litigation efforts. Employers should be aware of actions they need to take if the Final Rule goes into effect. For example, the Final Rule includes a notice provision requiring employers to notify any worker currently under a Non-Compete Clause that it is no longer enforceable. The notice must be provided by the Effective Date and must be clear and conspicuous. Model language that can be used by employers to meet the notice requirement is provided by the FTC within the Final Rule, though the notice does not have to match the model language word for word. Additionally, the FTC states that an email using the model language or similar language and sent to all workers, including those who do not have Non-Compete Clauses, would meet the notice requirement of the Final Rule.
Employers should begin thinking about a potential process for notifying workers, in anticipation of the Effective Date. While a blanket email to all workers would meet the requirements of the Final Rule, an in-depth review of all employment agreements is essential in making sure the proper workers would be notified and the applicable agreements properly amended.
If the Final Rule goes into effect, employers should also review their existing form agreements to make sure all Non-Compete Clauses are removed and to confirm that no provision gives the appearance of, or functions, as a Non-Compete Clause.