Employers who rely on non-competes have faced growing uncertainty in recent years. A trend to limit such agreements has been picking up steam across the country.
This year, the Federal Trade Commission got in on the act, finalizing a rule in April that effectively bans most post-employment non-compete agreements nationwide. The rule was the subject of intense interest and debate—tens of thousands of public comments were submitted—and the FTC generated hundreds of pages of factual findings to support its decision.
For now, the FTC rule is scheduled to go into effect on September 4, but its future remains unclear. As discussed below, the rule faces several legal challenges, with federal courts split on whether the FTC had the authority to enact it.
The judicial climate (especially at the Supreme Court) is increasingly hostile to aggressive regulatory actions, and courts may well still pause the effective date nationwide. But it’s far too soon for employers to relax. Even if the FTC rule is stopped in the courts (which is not certain), the trend against non-competes at the state level will continue. And states interested in passing their own regulations may use the FTC’s extensive fact-finding as a roadmap to support their own laws.
So, what should employers do to protect their interests?
Other Ways Employers Can Protect Their Interests
In the first place, while for many it may be too soon to take definitive and concrete steps in anticipation of the FTC rule going into effect, it is prudent for companies to start putting plans into place, including giving thought to the form notice required and identifying employees who would receive it. Below, we go into more detail about the current status of the FTC rule and steps which employers can take to start preparing.
Regardless of whether the FTC non-compete ban goes into effect in September, there are other steps that companies can take to protect their confidential information and customer relationships.
The types of competitive threats that companies may face can vary by industry and role, so there is no one-size-fits-all approach. When considering alternatives, employers should think carefully about the goals they are trying to achieve with a non-compete clause and the interests they are trying to protect. Here are a few options:
- Focus on Non-Solicitation Clauses: In many (though not all) states, customer or client non-solicitation agreements are regulated less heavily than non-competes.
In certain client-facing industries and roles, a narrowly tailored non-solicitation clause may be a very effective alternative to a non-compete.
However, it’s important to pay close attention to possible limits on the enforceability of such clauses. Some states, such as California, regulate non-solicitation agreements alongside non-competes, and there can be repercussions for implementing an overbroad agreement. Also, if the FTC general ban on non-competes goes into effect, it could limit certain overly broad non-solicitation agreements.
Companies should partner with counsel to ensure their non-solicitation clauses are drafted carefully, with an eye toward balancing risks and business goals. - Safeguard Sensitive Information. Some employers rely on non-compete agreements to prevent former employees from misusing confidential information. But an agreement alone is insufficient; employers should develop proactive strategies to prevent the misappropriation of sensitive information. In addition to implementing nondisclosure agreements and policies and protocols governing access to trade secrets, employers should ensure that in practice, their data is maintained securely.
- Craft Incentive Compensation with Retention in Mind. In industries where bonuses are a significant part of compensation, non-competes have historically been used as a retention tool. Designing incentive compensation plans in a way that enhances retention—by, for example, deferring a portion of annual bonuses or creating certain incentives in equity grants—can help address these concerns without a non-compete agreement.
- Implement a Succession Plan. Advanced planning to minimize the damage that could be caused by the unexpected departure of highly valued employees could mitigate risks even for employees who have non-competes.
For example, companies can look for ways to avoid siloing information and make sure important clients have relationships with people across the Company, instead of just with one person. Other ideas include monitoring employee engagement, in an effort to predict employee defections before they happen, and when they do, being able to implement a succession plan at a moment’s notice. Companies that have detailed plans to deal with key departures are much less threatened by employee mobility.
FTC Rule: What to Expect
Impacted companies should consult with counsel so they are prepared in the event the FTC rule goes into effect as scheduled on September 4. There are open questions about whether the rule will go into effect and if so, when, but these questions may not be answered until the last minute.
As of late July 2024, federal courts are split on the legality of the FTC rule. On one side, a federal court in Texas issued a limited, temporary ruling on July 3 that casts serious doubt on whether the FTC ban will survive that challenge. At least for now, that ruling is limited to the parties in the case (although that may change in late August 2024, when the court is expected to make a final ruling that could stop the rule going into effect nationwide). On the other hand, on July 23, a federal court in Pennsylvania upheld the rule, deciding the FTC probably had the authority to enact it.
Both the Texas and Pennsylvania challenges (as well as other challenges, including a recently filed case in federal court in Florida) will continue to play out in appellate courts and possibly even the Supreme Court. But a decisive ruling on the FTC ban may not come until late summer at the earliest, and it is not clear what that decision will be. Many commentators expect courts to pause the effective date of the rule given recent decisions by the Supreme Court, especially decisions from the most recent term limiting the deference owed to administrative agencies like the FTC. However, the Pennsylvania ruling is an important reminder that there is still considerable uncertainty about the future.
Given the looming deadline and lack of clarity, employers should start making contingency plans in the unlikely event the rule does go into effect. While it continues to make sense to wait before taking any concrete action, plans could include identifying senior executives whose existing agreements would be exempt from the ban and preparing a notice that could be quickly sent to other employees.
The best approach will depend on each employer’s goals and tolerance for risk, so employers should consult with counsel to make an informed decision about next steps.
For more information about these or other employment law topics, please contact the authors, Jessica Shpall Rosen and George Vallas, or your personal Greenwald Doherty attorney contact.
