As we previously discussed, in April 2024, the Federal Trade Commission (“FTC”) announced its final Non-Compete Rule (the “Rule”) banning non-compete clauses for the majority of workers and set to take effect September 4, 2024. Immediately, companies filed legal challenges as to whether the FTC has the authority to implement the Rule. This month, two different courts have made vastly different rulings, creating more confusion as to whether the Rule will become effective.
In early July 2024, a court in Texas entered a limited injunction explaining that the FTC does not have the authority to implement the Rule. But that injunction is currently narrow and only applies to the employers in that case; it does not apply to the vast majority of employers or workers. That court will make another decision in late August 2024, at which point the court could enter a broader injunction.
Three weeks after the Texas decision, in late July, a court in Pennsylvania denied an injunction, explaining that it believes the FTC does havethe authority to implement the Rule. These two courts provided lengthy decisions, but they ultimately disagree as to the statutory authority Congress has provided to the FTC.
What this all means is that, for now, the Rule will become effective on September 4, 2024. There will be legal fights until this matter is (likely) decided by the Supreme Court.
What Is the FTC’s Rule?
The FTC’s Rule has several implications for employers and workers. Here is a quick summary of the FTC’s Rule and what it might mean for businesses:
- Absent a court ruling, the FTC’s ban on non-compete agreements for the majority of workers (including independent contractors) will become effective on September 4, 2024.
- If the Rule is effective, then employers will have to provide notice to impacted workers.
- Two courts in Texas and Pennsylvania have made conflicting decisions, and more litigation is anticipated.
- Employers should begin compiling their list of impacted workers (including current and former employees and independent contractors) to prepare for compliance with the Rule’s notice requirements.
What Did the Texas Court Decide?
Ryan LLC, a tax services firm, filed a lawsuit in a federal court in the Northern District of Texas. The Chamber of Commerce also filed a lawsuit in a federal court in the Eastern District of Texas. Because Ryan LLC filed its lawsuit first in Texas, the second Texas court stayed the Chamber of Commerce lawsuit. The Chamber then joined the Ryan LLC lawsuit.
In the Ryan LLC matter, there is a two-step legal process: the court first determines whether to enter a temporary restraining order to prevent the implementation of the Rule, and then the court conducts additional proceedings before making a merits-based decision. The court entered a temporary restraining order on July 3, 2024, explaining that the court believes the FTC does not have the authority to enter the Rule because:
- the FTC Act does not grant the FTC the authority to issue “substantive rules” to define unfair methods of competition, and
- “there is a substantial likelihood the Rule is arbitrary and capricious because it is unreasonably overbroad without a reasonable explanation.”
Therefore, the Rule is not effective.
But there is a limiting factor in that court’s decision: the court entered an order preventing the implementation of the FTC’s Rule only as it concerns the parties to the case: Ryan LLC, the Chamber of Commerce, Business Roundtable, Texas Association of Business, and Longview Chamber of Commerce (as employers, and not to their members). Many expected that if the court entered a temporary restraining order, it would apply to all employers.
The court will conduct additional proceedings and issue a merits-based decision on or before August 30, 2024. Based on the court’s recent decision, it is likely that the court will enter another injunction preventing the Rule from becoming effective. Yet it is not certain as to whether the court’s second injunction order will apply solely to the parties to that case, or to all employers.
What Did the Pennsylvania Court Decide?
ATS Tree Services, LLC filed a lawsuit in a federal court in the Eastern District of Pennsylvania. The tree care company has twelve employees and filed a motion to stay the effective date of the Rule, requesting an injunction to do so. ATS argued that it provides specialized training to its workers and that non-competes are critical to the feasibility of its business model.
The court denied both the stay and the preliminary injunction on July 23, 2024. A request for a preliminary injunction occurs early in the lawsuit process and is an extraordinary remedy. For a court to enter an injunction, the party seeking the injunction has to demonstrate it will suffer irreparable harm and that it is likely to succeed on the merits (along with other factors). The court determined that ATS Tree Services cannot demonstrate irreparable harm or that it is likely to succeed on the merits.
ATS Tree Services argued that it will suffer irreparable harm if the Rule is initially implemented (but then later rescinded) because it will suffer costs associated with complying with the Rule and having to provide notice to workers that their non-competes are not enforceable. It would also lose the contractual benefits from its existing non-compete agreements, it argued.
The court rejected both arguments. The costs of providing notice to workers is minimal, as the FTC estimated it will cost about $27.78 for each employer to comply with the one-time notice requirement. The court also explained that ATS Tree Services could not demonstrate that employees will actually leave the company without a non-compete in place. Further, the court explained the loss of contractual benefits is insufficient to demonstrate irreparable harm, especially since ATS Tree Services can use other contract clauses to maintain certain benefits, e.g., NDAs.
Critically – and unlike the Texas court – the Pennsylvania court explained that the FTC has the authority to promulgate and implement the Rule, and ATS Tree Services is not likely to succeed on the merits. These are the major points of the court’s opinion:
- Through the FTC Act, Congress provided the FTC with the power to make rules to prevent unfair competition, the FTC Act does not limit the FTC’s ruling making power, and Congress empowered the FTC to make procedural and substantive rules to prevent unfair methods of competition.
- The “FTC acted within its authority to designate all non-compete clauses as ‘unfair methods of competition’” because the “FTC has determined through an expansive and thorough research and rule-making process, with over 26,000 public comments, that non-compete clauses are ‘not justified by legitimate business purposes.’ Non-competes are in fact ‘exploitative and coercive’ when not involving ‘senior executives’ because employers often unilaterally require non-compete clauses ‘without meaningful negotiation or compensation’ and because they ‘trap workers in worse jobs.’”
- State and federal governments have shared jurisdiction in the non-compete space, and state regulations do not prevent the federal government from acting.
- The Rule is consistent with other rules the FTC has promulgated to prevent unfair competition that have “had significant economic impact.”
Unlike the Texas court, the Pennsylvania court did not address the “arbitrary and capricious” standard because ATS Tree Service did not raise the issue. Based on the rest of its decision, it appears likely that the Pennsylvania court would have determined that the Rule is not arbitrary and capricious.
What Happens Next?
The Texas court will issue another decision in late August 2024. It is unlikely the Texas court will change its stance regarding whether it believes the FTC has the authority to implement the Rule. The outstanding question is whether the court will issue a nationwide injunction that applies to all employers and workers. But now the scope of the Texas’s court injunction is further unclear: will the Texas court – and can it – issue an injunction that applies to ATS Tree Service, the Pennsylvania company?
Last month, on June 21, 2024, the Properties of the Villages, Inc. filed another lawsuit challenging the Rule in the federal court for the Middle District of Florida. But it does not appear the court has indicated when it will issue a decision.
Regardless of the final outcomes in the Texas and Pennsylvania and Florida courts, these decisions will be appealed, and there is an expectation that the cases will end up before the U.S. Supreme Court for a final decision regarding the FTC’s authority.
What Should Employers Do?
There remains uncertainty for employers and workers. Employers should start preparing now as if the Rule will become effective on September 4, 2024. The Rule requires providing notice to impacted workers and has model language for such notice. Employers should create their lists of impacted workers so that if the Rule is effective, employers are able to provide the necessary notice by September 4.
The FTC Rule excludes “senior executives” who have previously signed non-compete clauses. Employers will also have to determine which employees fit in the “senior executive” exemption.
This is an opportunity for employers to conduct audits of their current agreements, and to ensure their workers have signed enforceable contracts with clauses that protect their business. For example, companies can still use confidentiality agreements and non-solicitation clauses, and companies can conduct trade secret audits to ensure that company materials are protected.
Even if the Rule does not become effective, the national trend to curtail non-compete clauses is continuing. States continue to pass laws to either ban or significantly narrow the enforceability of non-competes. As a result, employers should review their current agreements and their strategies for protecting their business.