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Federal Trade Commission Proposes Elimination of Non-Compete Agreements

January 15, 2023

By Michael Burns, courtesy SBAM Approved Partner ASE

Last week the Federal Trade Commission (FTC) blew the proverbial lifeguard whistle on employer non-compete agreements and said they were going to order “everybody out of the pool.”

For years employers have increasingly used non-compete agreements with employees to effectively “prohibit their workers from seeking or accepting employment with a person [other competitor or even opening their own] business after the conclusion of employment with the employer.”

This newly proposed rule may ultimately also impact other employer covenants such as non-disclosure and non-solicitation agreements that are intended to protect an employer from unfair competition and the potential loss of trade secrets and other important business information that an employee obtains working at an employer.

The FTC’s objection to these non-compete agreements is that they are “bad for competition. … bad for business dynamism…  bad for innovation.” The rule change is based upon a 109-year old law that prohibits the use of unfair methods of competition.

Typically, non-compete agreements are signed when an employee initially takes a job with an employer. The non-compete agreement terms limit the employee from taking the same or similar work with another employer within a limited period of time and within a limited geographic area. Both those criteria are supposed to be dependent on “reasonableness.” The issue of reasonableness is often litigated post employment when the employee may lose the next job opportunity after leaving the employment of the employer with the non-compete. The worker under the non-compete agreement may even have been fired by the employer and is still prevented from taking employment under the non-compete. The previous employer will typically send a letter to the subsequent employer threatening legal action for employing the worker under the non-compete.

Historically non-compete agreements were used for key or top positions (think sales manager, developmental researchers, CFO’s) in a business because those jobs had exposure to a lot of competitive business information about processes and activities that made the business they worked for successful. Preventing those key employees from taking jobs with competitors (or going off to start their own business) was reasonable because the employer invested a lot of important information about themselves with the key employee.

In the above circumstances the employer was legitimately protecting themselves from unfair competition and misappropriation of trade secrets by these key employees. Those employees could quit in short order and join a competitor or even start a competing business with this inside information or highly skilled work knowledge.

Within the last twenty or so years however employers have used non-compete agreements for many other jobs that one would not consider as “key” or “critical” positions, and this may be why the FTC is now saying, “No more. Everybody out of the pool!” For example, and this is a local situation that took place a few years ago, a sub shop chain put its sandwich makers under non-competes so they can’t take jobs making sub sandwiches for some other sandwich shop? Really!!!

The proposed FTC rule would cover not only prospective non-compete agreements but would also nullify existing non-compete agreements for all employees as well as independent contractors. If this rule goes into effect, employers with existing non-compete agreements will have to rescind them for current and former employees as well as provide those existing and former employees notice within 180 days of the final rule being implemented and also provide individualized notice withing forty-five (45) days of the rescission.

The only exception to the prohibition against non-compete agreements under this rule would be in the case of a person selling their business interest in the company being sold. The sellers could still be put under a non-compete by the buyer in that circumstance.

This rule will also apply to what are called de facto non-compete agreements. De facto non-compete agreements are agreements that though not explicitly stating it, have the effect of preventing an employee from seeking or accepting new employment. These are agreements that prohibit an employee from seeking employment in the same field or even requiring them to repay training costs if the worker terminates employment within a specific time period. This condition would be precipitated on whether the training costs were reasonably related to the costs actually incurred training the worker for the job.

This is just proposed rulemaking, so it has a way to go before non-competes are totally banned. We may see some modification to allow them to continue to be used for certain key positions. There will be a sixty (60)-day comment period on the proposed rules starting 1/5/2023.

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