By Jeremy Merkelson and Jordan Walsh
Jordan Walsh
On January 5, 2023, the FTC issued a Notice of Proposed Rulemaking (“proposed Rule”) that would ban most non-competition agreements in the United States and put to the wastebin the 50-state patchwork of laws that currently govern the enforceability of such covenants across the country.
The proposed Rule bars post-employment non-competes with “workers” (defined to include not only employees but also independent contractors and others). This fact sheet published on the FTC’s website provides policy-related information about the FTC’s reasoning for the ban.
The proposed Rule sweeps within its ambit not only non-competition covenants that bar workers from new employment but also “de facto” agreements that the FTC considers to be unfair, including non-disclosure, non-solicitation and other covenants that have “the effect of prohibiting the worker from seeking or accepting employment with a person or operating a business after the conclusion of the worker’s employment with the employer.”
As drafted, the proposed Rule contains no exclusions for management, protection of trade secrets or other exemptions that state laws currently provide. The sale of business exception that typically allows sellers of a business to be subject to non-competition covenants in favor of the acquiror is preserved to some extent by the proposed Rule, but only if the seller holds a “substantial” interest in the company being sold, which is pegged at 25% or greater of the company’s equity—a high threshold that could effectively do away with many sale-of-business non-competes currently in place. If the proposed Rule is adopted, companies would be required to provide notice to both current and former employees to notify them that their non-competes are no longer in effect and may not be enforced against them.
After the Rule is published in the Federal Register, it will be subject to comment for a period of 60 days.
FTC’s Authority May Be Challenged
The FTC premises its authority to promulgate the proposed Rule under Section 5 of the FTC Act which gives the agency authority to regulate unfair methods of competition affecting interstate commerce. Aside from the obvious problem that some non-competes only operate within the boundaries of certain states (or, in some cases, cities, counties or other portions of states), and therefore the proposed Rule purports to apply to purely intrastate commerce in contravention of the FTC’s statutory authority, it is an open question whether the FTC Act authorizes such sweeping agency action. In late June of last year, the Supreme Court ruled in West Virginia v. EPA that the Environmental Protection Agency lacked authority to put state-level caps on carbon emissions under the 1970 Clean Air Act, ruling that where agency regulation is of “economic and political significance” the federal agency must be able to point to clear congressional authorization for the power it asserts. Here, the connection between the FTC’s general power to regulate unfair competition and the proposed Rule are so far attenuated that a likely challenge to its authority is sure to be litigated in the courts if this Rule goes into effect.
Best Practices in an Evolving Environment
The FTC’s proposed nationwide ban requires that employers take several active measures to ensure future compliance, get ahead of the new non-competition landscape, and to take active steps to protect competition-sensitive data that will not be able to be preserved through non-competition covenants that were otherwise enforceable under state law. We suggest at least the following steps:
- Begin to evaluate your severance agreements, offer letters, employment agreements and bonus/equity plans for any of the prohibited provisions. Create a list of those agreements, plans and other materials that could be impacted by this proposed Rule.
- Consider providing comments to the FTC on the proposed Rule. We have provided comments to regulators before and would be happy to help with this. We also have several employment attorneys who have been heavily involved in state level legislation around this topic.
- Depending on the outcome of the Rule develop a game plan for updating agreements, providing required notice and communicating with current and former employees impacted by this Rule change.
- Revisit the language of confidentiality and other non-disclosure provisions in employment agreements, bonus/equity/benefits plans, and other documents.
- Remind employees of their ongoing duty to preserve, and not to disclose, company proprietary information and/or trade secrets on an intermittent basis. This may take the form of periodic employee training modules or requiring employees to acknowledge a log-in notification message when accessing information systems containing sensitive company information. Using these mechanisms will become ever more important as our laws move away from using contractual restrictions on the flow of top-sensitive-information-bearing talent from one competitor to another.
- Take technical measures to protect competition-sensitive data now. This means limiting information-system access to authorized company users. Create and enforce access-control protocols (i.e., network, file, and individual document access levels) that safeguard company proprietary information and/or trade secrets. Implement data-security policies and procedures that further describe employees’ roles and responsibilities, coordination among organizational entities, and allow for regular compliance monitoring. Eliminate all information-system access when no longer required. Consider data encryption and other technical measures to protect data when transmitted electronically.
- Implement a robust out-boarding process with departing employees that emphasizes an ongoing duty to protect, and to not disclose, company proprietary information and/or trade secrets. Establish procedures for employees to return all company-owned property prior to departure.
While the above list is not intended to be exhaustive, these precautions can help businesses protect critical property in the absence of robust non-compete enforcement. Stay tuned to our blog to learn more about these developments.
