Federal Trade Commission Bans Most Non-Competition Agreements

The Federal Trade Commission (FTC) voted 3-2 to approve a rule on April 23 that bans for-profit businesses from entering into almost any new non-compete agreement and enforcing almost any existing non-compete agreement with all workers. The rule will take effect within approximately four months unless implementation of the final rule is delayed by a temporary restraining order or preliminary injunction.

The definition of “worker” is broad and includes not only employees but also independent contractors, externs, interns, volunteers, apprentices, and sole proprietors (it does not, however, include franchisees in franchisee-franchisor relationships).  The rule defines a non-compete agreement as an agreement that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from (a) seeking or accepting work with another person after the end of employment or (b) operating a business after the conclusion of employment.  Non-solicitation covenants, too, could be implicated under the rule because the definition of a non-compete could extend to customer and employee non-solicitation provisions to the extent that they are broad enough to be construed as preventing “a worker from seeking or accepting” employment.

The rule does, however, allow the use of non-compete agreements related to the sale of a business (regardless of the size of the seller’s interest in the target business).  Further, since the rule prevents restrictions upon seeking or accepting new employment “after the conclusion” of the current employment, a garden leave provision under which the employee remains employed (including full salary and benefits) but is not allowed to access the business should be permissible.

The rule deems the use of non-compete agreements as an “unfair method of competition” under Section 5 of the Federal Trade Commission Act and can thus result in fines, penalties, and injunctive relief.

The rule will prohibit enforcement of existing non-compete agreements (other than with senior executives) and will require companies to notify affected workers that the agreements are no longer enforceable.  “Senior executives” generally refers to employees who earn more than $151,164 annually and who are in “policy-making positions” and include presidents, chief executive officers or equivalents, and other officers with authority to make policy decisions that control significant aspects of the business entity.  Companies cannot, however, enter into non-compete agreements with senior executives after the effective date of the final rule.

The rule additionally preempts agreements, which are distinguished from non-competes in some jurisdictions including North Carolina, in which a worker is able to compete but forfeits a deferred benefit (whether money or equity) or is required to make a payment to the employer. The FTC is expected to interpret these arrangements as “de facto” non-competes on the grounds that these costs could cause an employee not to “seek or accept” work from a competing employer.  The rule is also likely to adversely affect trade secret protection because enforcement of non-competes serve to prevent employees from using trade secrets to compete unfairly.

There is an approximately 120-day window, before the final rule goes into effect, during which employers should identify all employees who have signed non-compete agreements and which ones qualify as “senior executives.”  Employers should not, however, issue notices to affected workers until we are able to assess the likelihood of court action to enjoin enforcement by the FTC (the U.S. Chamber of Commerce filed a lawsuit in the U.S. District Court for the Eastern District of Texas, and, certainly, additional lawsuits are expected).  It is possible that legal challenges will stay the effective date of the rule so that it may be years before the rule takes effect (if at all).

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