Are Your Secrets Safe? The FTC’s Proposed Ban on Non-Compete Agreements

By: Paul M. O'Brien, Esq., Hon. Ruth Bogatyrow Kraft and Terran Cooper

Careful drafting of non-competition provisions will be of critical importance to employers in light of the FTC's new proposed rulemaking. Yesterday, the Federal Trade Commission (FTC) proposed rulemaking that would, if adopted, effectively eliminate non-compete agreements throughout the United States. Non-compete clauses have long been used by employers to prevent workers from moving to competitors or starting competing businesses following the end of their employment period. Many states, including New York and California, have already limited the effectiveness of non-compete clauses, either eliminating them altogether or requiring reasonable limitations as to the time frame, geographic location, and scope. The FTC now posits that potentially all non-compete agreements throughout the country undermine fair labor competition and that eliminating them would result in an increase in American workers’ earnings by over $250 billion per year. The FTC’s blanket proposal comes only one day after it ordered Prudential Security, O-I Glass Inc. and Ardagh Group SA to strike allegedly illegal noncompete agreements, concluding that they constituted an unfair method of competition in violation of Section 5 of the Federal Trade Commission Act (FTC Act). This marks the most recent use of antitrust enforcement to confront alleged labor market violations.

Beyond simply estopping employers from entering into new non-compete agreements, the proposed rulemaking would also require employers to rescind any non-compete clauses within 180 days of the rule’s effective date. While the FTC claims that the removal of non-compete clauses may increase competition and worker earnings, such a rule could have significant ramifications for both employers and workers. For example, employers will lose the ability to enforce key provisions of existing negotiated agreements or lose the ability to seek damages for actions that would have previously amounted to violations of non-compete clauses. Under the proposed rule, such clauses in these existing contracts would now be rendered unenforceable while other employment contract terms would be unaffected. Although settled litigation based upon non-compete clauses will likely not be affected, the impact on pending litigation is uncertain at this time. It will be up to the courts to determine if the rulemaking would apply retroactively, which could be dependent on state law. The Constitution limits the power to modify contract rights (See U.S. Const. art. 1, § 10, cl. 1), but that limitation is not absolute. The Supreme Court has also recently limited the ability of federal agencies to promulgate expansive rules in the absence of express congressional authority (West Virginia v. Environmental Protection Agency, 597 U.S. ___ (2022). The relevant court of record will have to determine whether such a modification of contract rights is sufficiently necessitated by the public interest, to which the answer is uncertain and likely to be case specific. Additionally, the potential for conflicting outcomes based on judicial philosophy and application of the varying state laws to specific fact scenarios exists, causing further uncertainty.

Further, under the proposed rule, broad non-disclosure agreements may automatically be deemed non-compete clauses. This would require that employers take great care in their disclosure limitations not being overly broad as to preclude workers from engaging in the same field of endeavor in the future – lest that result in the risk of entirely invalidating their limitations. However, ambiguity as to the viable breadth of non-disclosure agreements will likely result in litigation. As evidenced by the aforementioned FTC orders, the agency appears intent on invalidating clauses it deems as impermissible. In the case of currently valid non-compete clauses, this includes far-reaching geographic restrictions (such as the 100-mile radius in FTC v. Prudential Security, Inc, et al.), unfair penalties (such as the $100,000 clause violation penalty in FTC v. Prudential Security, Inc, et al.), prohibition on providing the same or similar services (Ardagh Group S.A.), or selling similar products (FTC v. O-I Glass, Inc.). This crackdown on what the FTC perceives to be unfair clauses is likely to continue, and companies should be wary of drafting such broad and potentially over-reaching provisions going forward.

One noteworthy exception is that non-compete clauses agreed to by someone selling their business (or their ownership interest in a business) will not be subject to the proposed ruling.

Although the proposed ban on non-compete clauses is subject to comment and has yet to be adopted, employers would be wise to analyze their own policies to avoid exposure. If the FTC succeeds in adopting this rule, employers will have to take even greater care in drafting non-disclosure clauses, as over-reaching provisions could result in loss of not only employees but of trade secrets as well. This calls for a review of existing agreements, as well as careful drafting of future non-compete and non-disclosure agreements to avoid regulatory scrutiny and potential litigation.

Additionally, although non-solicitation provisions seem outside the purview of the proposed rule, the removal of limitations on former employees operating businesses (and potentially soliciting former clients, customers, and coworkers) could lead to murky waters surrounding these agreements as well.

How Can We Help?

We recommend that employers get ahead of protecting their trade secrets considering the indications that non-compete and non-disclosure agreements will be subject to greater scrutiny, if not eliminated entirely. If you wish to discuss an employment-related matter or issue, please contact Falcon Rappaport & Berkman's Labor and Employment Practice Group by calling (516) 599-0888, or submitting the contact form below.