For the first time in decades, the Federal Trade Commission (“FTC”) has engaged in a rule-making project seeking to broadly prohibit business conduct on competitive grounds, which will carry significant implications for employers that rely on non-compete clauses to protect their legitimate business interests and confidential information.
Since their inception, the enforcement of non-compete agreements has been a controversial matter eliciting varying perspectives among different states. While some, including Rhode Island, New Hampshire, Massachusetts, Illinois and California have banned or limited their use, especially for low and mid-wage workers, they are still widely enforceable. The FTC is now seeking to eliminate this patchwork of laws by creating a new nationwide standard, restricting non-compete agreements. On January 5, 2023, citing the view that non-compete restrictions are a “widespread and often exploitative practice that suppresses wages, hampers innovation, and blocks entrepreneurs from starting new businesses”, the FTC issued a rule proposal barring most existing and future non-compete clauses in employment contracts.
The Proposed Rule
The proposed rule would provide that it is an unfair method of competition for an employer to (1) enter into or attempt to enter into a non-compete clause with a worker; (2) maintain with a worker a non-compete clause; or (3) represent to a worker, under certain circumstances, that the worker is subject to a non-compete clause. The proposed rule would supersede any state statute, regulation, order, or interpretation inconsistent with this new proposed rule.
In a press release accompanying the proposal, the FTC also announced that the proposed rule would apply to independent contractors and anyone who works for an employer, whether paid or unpaid. It would also be retroactive, requiring employers to rescind existing non-competes and actively inform workers that they are no longer in effect. The proposal contains an exception for certain non-compete clauses between the seller and buyer of a business.
Before the FTC’s proposal can become an enforceable nationwide federal regulation, it must first undergo an administrative rulemaking process. As part of that process, the FTC has invited public commentary on the new rule, which will be due within 60 days from the Federal Register’s publication of the proposed rule. Afterward, it can finalize or put aside the rule after considering the comments it receives. The FTC is actively seeking comment on multiple alternatives to the proposed rule, which may carve out some exceptions to its broad proposal, including whether non-compete clauses between employers and senior executives should be subject to a different standard than non-compete clauses with other workers.
Why it Matters
In its Notice of Proposed Rulemaking, the FTC stated multiple reasons for its proposal, including the suppression of labor mobility, decrease in workers’ wages, and prevention of new business and novel innovation.
Defenders of noncompetition agreements argue that workers are free to reject a work opportunity or negotiate a higher salary in light of the non-compete. Proponents also contend that the use of noncompetition clauses motivates employers to invest in the training of their employees and to share sensitive information with them. In addition, critics claim the FTC is overstepping its authority to regulate anti-competitive business practices, and that states or the Department of Labor should properly address employer-employee legalities. Accordingly, this new proposed rule is likely to trigger widespread legal challenges by affected businesses and employers.
Given that President Biden signed an executive order in July 2021 directing the FTC to ban or limit non-compete agreements and other clauses unfairly limiting worker mobility, it seems likely they will finalize some version of their proposed rule. If it becomes effective, employers would be legally required to rescind existing non-compete clauses and notify their employees of the changes. They would also need to resort to other tools to protect their interests in confidential and competitive information, such as nondisclosure agreements and claims under unfair competition or theft of trade secrets. These restrictions would need to be carefully drafted and pursued so as not to de facto act as a banned non-compete restriction, further complicating matters for employers.
In adapting to the changes prompted by this new rule, it is important that employers review their options with legal counsel. Hinckley Allen’s Labor and Employment team has the expertise to advise employers and help them comply with the proposed rule and pursue alternative options to protect their business interests.
