On Tuesday, the Federal Trade Commission approved a final rule that prohibits the use of noncompete agreements in most instances and which would invalidate existing noncompete agreements for most workers other than senior executives (defined as those earning more than $151,164 annually who have policymaking responsibilities at an organization). The rule also prohibits companies from entering into new noncompete agreements with senior executives going forward. Employers are required to provide notice to workers (other than senior executives who are bound by existing noncompete agreements) that the employer will not be enforcing any noncompete agreement against the workers. The FTC has provided a model notice that can be used for this notification purpose.
Noncompete agreements executed in the context of the sale of a business are not affected by the new FTC rule and can continue to be used if otherwise permitted under applicable state and federal law. The rule also does not impact causes of action based upon noncompete agreements which accrued prior to the effective date of the rule. The rule likewise does not apply to businesses in industries over which the FTC lacks jurisdiction, such as banks, insurance companies, common carriers, and in some instances nonprofits, and in the context of franchisor-franchisee relationships.
The new FTC rule, which becomes effective 120 days after its publication in the Federal Register (approximately August 21, 2024), has already been challenged in court and faces a fierce legal battle concerning its validity and whether the FTC has legal authority to issue the rule. An injunction preventing the rule from taking effect is likely to occur. In the event that an injunction is issued, companies can continue to enforce noncompete agreements until such time as the injunction is lifted and the rule goes into effect. If the courts find the FTC rule invalid, the rule may never go into effect at all, and this “fire drill” of sorts may be for nought.
It is also important to note that while the new FTC rule prohibits the use of noncompete agreements (i.e., those that prohibit an individual from working altogether in a particular industry, generally in a specified geographical location), the rule does not prohibit companies from using customer-specific non-solicitation provisions, which are narrower than noncompete agreements, provided that these provisions do not “function to prevent” an individual from seeking or accepting other work in an industry or starting a new business. Customer non-solicitation provisions prohibit an individual from soliciting or doing business with those customers of the business for whom the individual provided services or with whom the individual had a business relationship while the individual was employed by the business. These types of provisions help protect the business against the risk of the customer walking out the door of the business with the individual who is leaving. A narrowly tailored customer non-solicitation provision that prohibits an individual from soliciting or performing services for a customer of the business with whom the individual had material contact during the individual’s employment with the business will likely continue to be enforceable, even under the new FTC rule.
Likewise, confidentiality and non-disclosure agreements are also not prohibited under the new FTC rule, again, provided that they are not written in such a broad manner as to “function to prevent” an individual from working in the industry altogether. Thus, businesses can continue to protect their trade secrets and confidential business information by way of an appropriately tailored confidentiality/non-disclosure agreement.
What does this mean for businesses? Companies that use noncompete agreements should not throw those agreements out the door just yet. The legal challenges to the new FTC rule are likely to hit the “pause” button and to prevent the rule from taking effect in late August 2024. Unless and until the rule takes effect, companies are free to continue using and enforcing noncompete agreements as they have in the past.
Employers should also consider postponing sending to employees the required notice that the noncompete agreements will not be enforced by the employer, to allow for the pending court challenges take shape. If the new FTC rule is not enjoined in the courts prior to the effective date, employers should send the required notice to employees by no later than the day before the rule is to take effect to avoid inadvertent violation of the notice requirement.
Companies should have their current noncompete agreements reviewed by legal counsel to assess the implications of the new FTC rule on those agreements. Companies may also want to consider using alternative customer non-solicitation agreements and/or confidentiality/non-disclosure agreements in lieu of noncompete agreements to guard against the risk of invalidation of existing noncompete agreements.
For more information or for assistance with respect to the new FTC rule, please contact Theresa Phelps or John Gazzoli, members of our Firm’s labor and employment group.