CHARLES C. SHULMAN, ESQ.
cshulman@ebeclaw.com
cshulman@yahoo.com
www.ebeclaw.com (blog)
212-380-3834 / 201-357-0577
Court Stay on Enforcement of FTC Noncompete
Ban
and Other Noncompete Developments
The Federal Trade Commission on May 7, 2024 published a ban on all noncompete clauses as an unfair method of competition, effective September 4, 2024 (with the exception of grandfathered agreements in effect on Sept. 4, 2024, which can continue to be enforced for senior executives, i.e., earning over $151,164 and in a policy-making position). The Federal Northern District Court in Texas,, in Ryan LLC v. Federal Trade Commission, imposed a stay and preliminary injunction against enforcement of the FTC ban, pending a final decision. State laws in 14 states have recently banned some or all types of noncompete provisions, and the state laws are not subject to the Federal District Court stay. Also, noncompete provisions, even prior to FTC and state legislation, were subject to restrictions by case-law.
I. FTC
Noncompete Clause Ban and Court Stay on Enforcement
A. Final
FTC Rules Banning Practically All Noncompete Provisions – Effective Sept. 4,
2024 – On May 7, 2024, the Federal Trade Commission (FTC) published
a new rule in final form, banning all noncompete clauses as an unfair method of
competition, and therefore violating Section 5 of the FTC Act.[1]
Prior to the stay on enforcement of the
FTC ban from the district court in Texas, the effective date of the new
noncompete ban was to be 120 days after publication, i.e., September 4, 2024.
This
rule: (i) will prohibit employers from entering into noncompete agreements and
other clauses with all employees or service providers ("workers");
and (ii) will prohibit enforcement of existing noncompete clauses against all workers
(with the exception of grandfathered agreements in effect on Sept. 4, 2024,
which can continue to be enforced for senior executives).
These
FTC rules were designed to protect the fundamental freedom of workers to change
jobs, increase innovation, and foster new business formation.
B. Key
Points in Final FTC Rule – The following are the key provisions in the FTC
ban:
1.
Ban on Noncompete Clauses – Under the FTC rule, it is an unfair method
of competition for a person (including an employee or independent contractor):
(i) to enter into or attempt to enter into a noncompete clause; (ii) to enforce
or attempt to enforce a noncompete clause; or (iii) to represent that the
worker is subject to a noncompete clause. [2]
2.
Senior Executives Exception for Grandfathered Contracts – For senior executives, there is an
exception if the noncompete was entered into prior to the effective date of the
FTC regulations (Sept. 4, 2024). "Senior executives" mean workers who
(i) are in a policy-making position, and (ii) received annual compensation of
at least $151,164 in the preceding year (or annualized if was employed for only
part of the year; and "policy-making position" means the president,
chief executive officer or equivalent, any other officer of a business entity
who has policy-making authority, or any other natural person who has
policy-making authority for the business entity similar to an officer with
policy-making authority. [3] Thus, with respect to senior executives, any
noncompete clauses entered into prior to Sept. 4, 2024 can continue to be
enforced. [4] After the effective date, no new noncompete
provisions can be entered into.
3.
Notice Requirement – The new FTC
rule provides that employers must provide notice to workers (other than senior
executives) who are bound by an existing noncompete that they will not be
enforcing any noncompete provisions against them. [5]
The notice may be on paper delivered by
hand to the worker, or by mail at the worker's last known personal street
address, or by email at an email address belonging to the worker, including the
worker's current work email address or last known personal email address, or cell
phone text message. [6]
4.
Model language –
The FTC rules provides a model notice that employers can use for workers, which
states how prior noncompetes may not be binding. [7]
5.
Sale Exception – The Final Rule does not prohibit enforcement of noncompete
clauses that are entered into with respect to the bona fide sale of a business,
including a bona fide sale of (i) a business entity, (ii) an individual’s
interest in a business entity or (iii) all or substantially all of a business
entity’s operating assets.[8]
6.
Only for Post-Employment Bans – The FTC ban specifically applies to
post-employment noncompetes, so it does not affect restrictions on moonlighting
in the same field.
7.
Non-Solicitation Clauses – Non-solicitation clauses that do not prohibit or function to
prevent a worker from switching jobs or starting a new business are generally not restricted by the FTC
rule, as noted in the preamble to the 2024 final rule.
8.
Objective –
The FTC's final rule aims to enhance worker mobility, encourage
entrepreneurship, and spur innovation by banning noncompete provisions and
promoting a more dynamic economy.
C. Stay and
Preliminary Injunction on Enforcement of FTC Ban
1. Stay and
Preliminary Injunction by Federal Northern District in Texas – Within a day
or two of when the FTC announced the final rule banning noncompete clauses, two
lawsuits were filed in Texas to challenge the rule, (i) Ryan, LLC v. FTC [9] on Apr. 23,
2024 in the Northern District in Texas, and (ii) U.S. Chamber of Commerce v.
FTC [10] the following
day in the Eastern District in Texas. The Eastern District Court of Texas dismissed
the Chamber of Commerce case because, under the first to file rule, the Ryan
LLC case was filed first.[11]
The Texas Northern District judge (Asa Brown), in Ryan LLC v. Federal Trade
Commission, 2024 WL 3297524, --- F.Supp.3d --- (N.D. Tex. July 3, 2024), halted
the FTC’s ban on non-compete agreements set to take effect in September 4, and issued
a stay and a preliminary injunction against implementation of the FTC ban,
originally set to take effect on September 4. The judge stated that she intends
to issue a final decision on the merits by August 30, 2024. The judge noted
that the FTC exceeded its statutory authority in promulgating the noncompete
ban, and that the role of an administrative agency is to do as told by
Congress, not to do what the agency thinks it should do.
2. Disagreement
by Federal District Court in Pennsylvania – In ATS Tree Services, LLC v.
FTC, a similar suit was filed on Apr. 25, 2024 in the Eastern District in
Pennsylvania. [12]
ATS Tree Services filed a motion for
preliminary Injunction on May 14 seeking a stay of the effective date. In
contrast to the Ryan LLC v. FTC case, discussed above, the Eastern District in
Pennsylvania, in ATS Tree Services, LLC v. Federal Trade Commission, 2024 WL
3511630 (E.D. Pa., July 23, 2024), denied ATS Tree Services motion to stay and
preliminary enjoin enforcement of the FTC ban because it did not find any irreparable
harm.
The Fifth
Circuit in Texas (where the Ryan case was filed) is more employer friendly than
the Third Circuit in Pennsylvania (were the ATS Tree Services case was filed), and
a conflict of circuits may lead to an appeal to the Supreme Court to resolve
the differences.
3. Arguments
for Challenges – Arguments made by the lawsuits include that: (i) the rules
implicates the major questions doctrine, which would necessitate additional
legal authority from Congress; (ii) the FTC rule is arbitrary and capricious
under the Administrative Procedure Act because the evidence the FTC relies on
cannot justify a nationwide ban of noncompetes in all situations; (iii) the FTC
rule incorrectly expands what is a prohibited an unfair method of competition;
and (iv) the rule unlawfully infringes on state contract laws.
4. Stay in
Effect – As noted above, since one of the Federal courts (N.D. Pa.) imposed
a stay and preliminary injunction on the FTC ban, the status of the rule is
currently in flux.
II. States
that Have Banned Noncompete Provisions (all Since 2021)
A. Four
States Ban All Noncompete Agreements – In the past three years, California,
Minnesota, North Dakota and Oklahoma have passed broad legislation banning post-employment
noncompete agreements, regardless of salary. (California has had long-standing
legislation banning most noncompete agreements, but this was expanded by 2023
legislation even to out-of-state contracts.)
B. Ten
States and D.C. Ban Noncompete Agreements for Non-Highly Paid Employees – Colorado,
Illinois, Maine, Maryland, New Hampshire, Oregon, Rhode Island, Virginia,
Washington and the District of Columbia have all passed laws in the past three
years prohibiting post-employment noncompete agreements unless the employee
earned above a certain threshold. There are also non-compete rules from a few
states prior to 2020, like Massachusetts in 2018 (and California, as noted
above). (Also, in July 2024,
Pennsylvania banned noncompete covenants for health care providers if it is for
more than one year or the health care provider was dismissed by the employer.)
C. New York
– In New York a bill that would ban almost all noncompete agreements was passed
but was vetoed by Governor Hochul because it was too broad.
III. Existing State Law
Regarding Noncompete Agreements.
A. Existing States' Case-law Would be
Applicable if Statutory Ban is Stayed – If the FTC
ban on noncompete clauses is stayed or struck down in court, or reversed or
limited in future legislation or FTC guidance, preexisting state law and state
cases would become operative. In states that have not enacted recent bans on
noncompete provisions (or where such state bans have been struck down), the
existing case law in those states will again be operative.
B. Enforceability of noncompete agreements
– State laws vary regarding enforceability of noncompete provisions. Generally,
noncompete provisions will be enforced in most states if the restrictions are
reasonable in geographical scope and
reasonable in time period, and they are necessary to protect legitimate
business interests.
For example, in New York, which is fairly liberal in allowing
noncompete restrictions, the noncompete restrictions will be enforceable if:
(i) the time period of restriction is reasonable, (ii) the geographical scope
is reasonable, (iii) the burden on the employee is not unreasonable, (iv)
public policy is not harmed, and (v) the restrictions are necessary for the
employer's protection.[13] In New
Jersey noncompete restrictions will be enforced only if reasonable under the
circumstances.[14]
Texas and Florida statutes restrict noncompete requirements unless they are
reasonable restrictions necessary to protect legitimate business interests.[15]
California by statute, even prior to the 2023 ban, would generally
void noncompete provisions, providing that "except as provided in this
Chapter, every contract by which anyone is restrained from engaging in a lawful
profession, trade or business of any kind is to that extent void." [16]
The Ninth Circuit allowed "narrow restraint" enforcement of
noncompete provisions that are very limited, but the California Supreme Court
rejected this exception.[17]
The 2023 California legislative ban would, presumably, supersede these
prior rules.
D. Blue-penciling Noncompete Agreements
– Where noncompete provisions are overbroad and therefore unenforceable on
their terms, many states will "blue pencil" the restrictive covenants
to a limited scope for which they would be enforceable. For example, in
New York restrictive covenants will be blue penciled.[18]
Often, employment agreements will add language to specifically provide for
blue penciling.
IV. Points
to Consider re FTC Final Rule
A. Review
Noncompetes – Employers should review noncompete provisions that would
violate a statutory ban and see if nonsolicitation and nondisclosure covenants
can provide the needed protection.
B. Sept. 4, 2024 Grandfather for Senior Executives and Modifications – As noted
above, for executives earning over $151,164 annually and in a policy-making
position, there is a grandfather exception from the FTC ban if the agreement
was entered into prior to Sept. 4, 2024. It may be beneficial for that reason
to separate the noncompete from other terms of the employment agreement so that
the noncompete can remain unaltered in its grandfathered form. It is not clear to what extent modifications to, or
extensions of the terms of a pre-negotiated non-compete in connection with a
separation) would result in loss of grandfathered status for senior executives.
C. Notice –
Notices tCo those with non-grandfathered noncompete agreements, do not have to
be as discussed above.
D. Garden-Leave
– These are generally not covered by the FTC rule, because the employee is
still employed for that period.
E. Cease
and Desist – The FTC cannot assess civil penalties for using unfair methods of
competition, but if an entity is ordered to cease and desist from FTC
violations, monetary penalties can sometimes be obtained in court.
F. Modifications – It is unclear whether
the negotiated non-compete in connection with a separation (even narrowing an
existing scenario) would result in loss of grandfathered status for senior
executives.
G. Court Stay
– As noted above, the Northern District in
Pennsylvania imposed a stay and preliminary injunction on enforcement of the FTC
noncompete ban.
[1] Federal Trade Commission (FTC) New Final Noncompete Clause Rule in
26 CFR § 910, announced by the FTC on April 23, 2024, and published in 89 Fed.
Reg. 38342 (May 7, 2024). The effective date is Sept. 4, 2024.
[2] 16 CFR § 910.2(a)(1).
[3] 16 CFR §
910.1
[4] 16 CFR § 910.2(a)(2).
[5] 16 CFR § 910.2(b)(1).
[6] 16 CFR § 910.2(b)(2)(b).
[7] 16 CFR § 910.2(b)(4) (figure 1).
[8] See 16 CFR § 910.3.
[9] Ryan LLC v. FTC, No. 3:24-cv-00986, (N.D. Tex. Apr. 23, 2024).
[10] Chamber
of Commerce of the U.S. v. FTC, No. 6:24-cv-00148
(E.D. Tex., Apr. 24, 2024).
[11] ATS
Tree Services, LLC v. FTC, No. 2:2024cv01743 (E.D. Pa. Apr. 25, 2024).
[12] Chamber
of Commerce of the U.S. v. Federal Trade Commission, --
F.Supp.3d --, 2024 WL 1954139 (E.D. Tex., May 3, 2024).
[13] See,
e.g., Service Systems Corp. v. Harris, 341 N.Y.S.2d 702 (4th Dep't 1973);
Mallory Factor Inc. v. Schwartz, 146 A.D.2d 465, 536 N.Y.S.2d 752 (1st Dep't
1989); International Paper Co. v. Suwyn, 951 F. Supp. 445 (S.D. N.Y. 1997).
[14] E.g.,
Community Hosp. Group, Inc. v. More, 183 N.J. 36, 869 A.2d 884 (2005).
[15] Texas
Business & Commerce Code §15.50; Florida Statutes Annotated §542.335.
[16] California
Business & Professional Code §16600.
[17] The
Ninth Circuit provided a narrow restraint exception in Campbell v. Trustees of
Leland Stanford Jr. University, 817 F.2d 499 (9th Cir. 1987) and General
Commercial Packaging v. TPS Package Engineering, Inc., 126 F. 3d 1131 (9th Cir.
1997). The California Supreme court rejected this narrow restraint exception in
Edwards v. Arthur Andersen LLP, 44 Cal.4th 937, 81 282 (Cal. S. Ct. 2008).
[18]
See,
e.g., Deborah Hope Doelker, Inc. v. Kestly, 87 A.D.2d 763, 449 N.Y.S.2d 52 (1st
Dep't 1982); Muller v. N.Y. Heart Ctr. Cardiovascular Specialists P.C., 238
A.D.2d 776, 656 N.Y.S.2d 464, 465 (3d Dep't 1997); BDO Seidman v. Hirshberg, 93
N.Y.2d 382, 690 N.Y.S.2d 854, 712 N.E.2d 1220 (1999).
