On April 23, the Federal Trade Commission (FTC) issued the noncompete clause rule (final rule) that seeks to ban noncompete agreements with nearly all “workers.” The final rule becomes effective 120 days after publication in the Federal Register (effective date).
The final rule benefits a “worker,” defined as a natural person “who works or who previously worked, whether paid or unpaid, without regard to the worker’s title or the worker’s status under any other state or federal laws.” The final rule is broader than the employer-employee relationship. A “worker” includes independent contractors, volunteers, externs, interns and even sole proprietors who provide services to a business.
The final rule has vast implications for employers, both in terms of their existing agreements with “workers” and hiring practices.
The FTC was quick to note a common misconception that merely claiming tax-exempt status created an exemption from the final rule, stating “not all entities claiming tax-exempt status as nonprofits fall outside the commission’s jurisdiction.” Tax-exempt companies wishing to enforce a noncompete agreement should seek counsel on whether the entity satisfies the two-prong test cited by the FTC. If so, the FTC could take the position that the tax-exempt entity is subject to the final rule despite its claimed tax-exempt status.
Also, the final rule does not apply to noncompete agreements entered pursuant to the sale of a business. However, a company acquiring another business wishing to retain the prior owner as an employee should take a closer look at the acquisition documents. The practice of relying on a noncompete clause in an employment agreement with the previous owner should be reconsidered.
For existing noncompete agreements with “senior executives,” the final rule will not disturb such agreements, but it seeks to ban the execution of such agreements with “senior executives” after the Effective Date.
Employers with existing noncompete agreements with employees should first determine whether any of these employees are “senior executives.” Such employees must receive annual compensation of at least $151,164 and hold a certain position within the company. Although C-suite employees will likely meet the definition of a “senior executive,” employers will need to analyze whether their management employees truly have “policy-making authority.” The final rule states “advising or exerting influence” over policy decisions is insufficient. Without sufficient policy-making authority, the employee will not meet the definition of a “senior executive.”
A “senior executive” with an existing noncompete agreement will not benefit from the final rule. All other “workers,” however, will benefit from the ban.
The final rule requires employers to give notice to current and former “workers” (excluding “senior executives”) that their existing noncompete agreements “will not be, and cannot legally be, enforced against the worker.” The notice must be sent by the effective date. The final rule encourages the use of its model correspondence to employees. Employers have until the effective date to provide the required notice.
When hiring new employees, employers should first consider whether the new hire was a “senior executive” subject to an enforceable noncompete. If so, then the new employer may be subject to a lawsuit during the duration of the restriction period, which is often two years.
Since “senior executives” hired after the effective date will benefit from the final rule, employers should consider changing their onboarding material.
Moreover, employers should consider hiring all other “workers” after the effective date or otherwise verify that the individual is not subject to a noncompete agreement. Although such workers will immediately benefit from the final rule, if the worker is in violation of an existing noncompete before the effective date, the final rule permits a lawsuit seeking its enforcement so long as the violation occurred before the effective date.
An employer considering the promotion of an employee to a “senior executive” role should consider effectuating the promotion and executing any noncompete clauses prior to the effective date. The final rule seeks to ban such agreements with “senior executives” after the effective date.
Ultimately, employers should reconsider rash decisions. For instance, employers should wait to provide the mandatory notice to employees until closer to the effective date. The final rule is already the subject of two lawsuits filed in Texas federal courts challenging the authority of the FTC to issue rules that define unlawful methods of competition. Undoubtedly, many other lawsuits will be filed in other district courts, appealed to different circuit courts, and this issue will ultimately be before the U.S. Supreme Court. There are already two cases before the Supreme Court that concern the scope of federal agency power and whether courts can defer to the agency’s interpretation of the laws they administer. It is highly likely that an injunction will be issued at some point before the effective date, and implementation of the final rule will not have an immediate effect on employers or employees. The entire legal process will likely carry on well beyond the effective date. In addition, the outcome of the 2024 presidential election could result in a change in control, and ultimately a change in direction by the FTC.
Notwithstanding the final rule, Floridians have an inalienable right to work. Restraints that are designed to prevent competition per se are not enforceable in Florida. An employer seeking to enforce a noncompete that remains unaffected by the final rule will still need to convince a judge or arbitrator that the employer is truly protecting a business asset that, if misappropriated, would give its new owner an unfair competitive advantage over its former owner.
The final rule will not ban the protection of confidential and trade secret information, nor will it ban non-solicitation agreements. The FTC itself cited that employers can still protect valuable business assets through a means less restrictive than a noncompete agreement. However, the FTC intentionally made the final rule broad enough to proscribe any agreement that “functions to prevent a worker” from accepting work after employment. Employers should have carefully drafted employment agreements and company policies that are not designed to simply prohibit post-termination work for a competitor, but rather to protect the misappropriation of valuable business assets.
Moreover, whether the final rule survives legal challenges or not, employers should still identify their confidential and trade secret information and ensure the company reasonably protects this information. Employers should also take steps to ensure departing employees have not retained such information for the benefit of the new employer. Such efforts will still provide value to the employer, regardless of the existence of the final rule.
Jones Foster shareholder Michael J. Gore concentrates his practice in the areas of employment, construction, and securities law and represents clients in complex litigation matters. jonesfoster.com
Reprinted with permission from the Daily Business Review. © 2024 ALM Media Properties, LLC.
