Conflicting decisions on the FTC non-compete rule: Key actions for employers to consider

5 August 2024 7 min read

By Carsten Reichel, Daniel Turinsky, Amanda Wait and Keith Ranta

At a glance

The Federal Trade Commission (FTC) issued a final rule banning non-compete agreements on May 7, 2024.
Federal courts in Texas and Pennsylvania have issued conflicting rulings on the FTC rule. Texas limited its injunction, while Pennsylvania rejected arguments against non-compete enforcement.
Employers are advised to take actions by understanding which employees may be impacted, evaluate non-compete goals, delay sending notices until September 4, be aware of state specific provisions, focus on safeguarding trade secrets and more.

In July 2024, two federal district courts issued conflicting decisions in litigation seeking to block the FTC rule banning non-compete agreements.

The fate of the FTC’s rule is still up in the air, and employers face a challenging compliance landscape as its September 4, 2024 effective date approaches. Below, we discuss recent developments and actions for employers to consider now.

The state of play

On July 3, 2024, a federal court in Texas issued a limited injunction of the FTC rule in Ryan LLC v. FTC after it found that (i) the FTC lacked the authority to promulgate the substantive rule, (ii) the FTC’s process in creating the rule was arbitrary and capricious, and (iii) the plaintiffs were likely to suffer irreparable harm if the FTC rule were to go into effect. Despite these findings, however, the court limited its injunction to the plaintiff and the plaintiff-intervenors in the case (and subsequently denied an emergency motion to expand its injunction) while pledging to issue a final decision on the merits of the case by August 30, 2024. Accordingly, the FTC rule still could take effect on September 4, 2024, for most employers.

On July 23, 2024, in a separate case challenging the FTC rule, ATS Tree Services v. FTC, a federal court in Pennsylvania added to the existing confusion when it denied the plaintiff’s motion for a preliminary injunction in a ruling based on findings that diverged significantly from those in the Texas case. The Pennsylvania court rejected plaintiff’s argument that it would establish irreparable harm by incurring non-recoverable compliance costs and losing contractual benefits from its existing non-compete agreements. According to the court, under Third Circuit precedent, the plaintiff’s costs associated with complying with the rule (including notifying employees, modifying business strategy, and altering its training program) were insufficient bases for injunctive relief.

The Pennsylvania court further suggested that the plaintiff failed to establish that it was likely to succeed with its argument that the FTC lacked the authority for its substantive rulemaking, providing a stark contrast with the Texas ruling. The ATS Tree Services court said that the 'plain text of the FTC Act provides no express limitations' and that the FTC had the statutory authority to promulgate the substantive rule. which empowers the FTC to prevent 'unfair methods of competition.'

Another case is pending in district court in Florida, in which the plaintiff has moved for a stay of the effective date of the FTC rule and a preliminary injunction of the rule.

What does this mean for employers?

The split between the Texas and Pennsylvania courts signals likely protracted appellate litigation. As that plays out, however, businesses face immediate uncertainty about what they should do in light of these conflicting court rulings, the short time period between the Texas court’s promised August 30 final ruling and the FTC rule’s September 4 effective date, and the ultimate decision of the Texas court (including the scope of any permanent injunction).

Below are key actions for employers to consider based on the rapidly shifting landscape:

Inventory your existing use of any non-compete restrictions: Regardless of whether the FTC rule takes effect, companies are encouraged to understand which employees and former employees are subject to non-compete restrictions that are impacted by the FTC rule, as well as those who fall under the rule’s narrowly tailored 'senior executive' exemption. Inventorying agreements can also aid efforts to ensure compliance with developing state laws and may help employers get ahead of future FTC rules. Specifically, last year, the FTC and the Department of Justice’s Antitrust Division proposed sweeping changes to the premerger notification process. If the changes are finalized and become effective, parties would be required to disclose non-compete and non-solicitation agreements to enable the agencies to assess how the transaction could impact competition affecting their workforces.
Analyze the business justifications and goals of any non-compete restrictions and consider whether there are alternative means of achieving these goals: Even while the FTC rule faces legal challenges, both the FTC and Department of Justice’s Antitrust Division – joined by numerous other federal agencies – maintain a hostile posture toward restrictions on workforce mobility and competition for employees.
Discuss with counsel the costs, risks, and benefits of preparing notices as required by the FTC’s rule while a final decision on the rule is pending: All employers are encouraged to consider delaying the sending of any notices to employees until September 4, by which point there may be more certainty on the scope of relief – if any – ordered by the Texas court. Whether to prepare notices – and whether to use the FTC’s model notice or write your own – in advance of this date is fact-dependent and may be discussed with counsel. If there is still uncertainty as to the enforceability of the rule on a nationwide basis as of September 4, employers may want to assess, on a case-by-case basis, whether they wish to send notices at that time and begin complying with the rule despite the possibility that the rule ultimately may be invalidated as legal challenges continue to play out in the appellate courts. The rule does contain a good-faith exception: 'It is not an unfair method of competition to enforce or attempt to enforce a non-compete clause or to make representations about a non-compete clause where a person has a good-faith basis to believe that the rule is inapplicable.' While the FTC has not provided examples of when this exception may apply, it has clarified that the absence of a judicial ruling on the validity of the final rule does not create a good-faith basis for non-compliance. According to the FTC, 'if the rule is in effect, employers must comply.'
Ensure compliance with developing state laws: More states are restricting the use of non-competes, and four states (California, Oklahoma, Minnesota, and North Dakota) ban them entirely, with limited exceptions. The state enforcement environment is fluid, and, in recent months, Colorado, Washington, Maryland, and Minnesota have enacted new limitations on non-compete agreements or amended their non-compete statutes.
Consider the use of other contractual provisions: The FTC rule does not prohibit employers from using other provisions, such as carefully drafted non-solicitation, confidentiality, non-disclosure, and garden leave clauses, provided they do not function as de facto non-competes and are otherwise permissible under state law. In reviewing options, employers are encouraged to take account of other federal and state laws and enforcement initiatives that may impact the use of such provisions, such as new state laws restricting the use of non-disclosure agreements; antitrust enforcement targeting employee non-solicitation and no-poach agreements; National Labor Relations Board activity targeting non-solicitation and confidentiality clauses; and other agency actions (eg, circular issued by the Consumer Financial Protection Bureau explaining that confidentiality or non-disclosure agreements may violate the agency’s whistleblower protection statute).
Focus on protection of trade secrets: With tailored confidentiality agreements or proprietary information and inventions agreements, clear policies around the use of confidential information, and post-employment checklists and exit procedures designed to safeguard company information.
Review retention alternatives and the impact on equity awards and other compensatory payments: Employers may want to consider other alternatives to retain workers, such as retention bonuses with or without clawbacks, deferred compensation incentives, or changes to or new equity awards, as the retention aspect of non-compete restrictions that would have applied if the employees leave the company will no longer be present if the rule takes effect. Employers that have historically included restrictive covenants in their equity and incentive award agreements are encouraged to review their forms of agreements to consider whether any compete restrictions need to be removed. In addition, employers that grant restricted stock awards that are eligible to vest subject to continued compliance with non-compete restrictions are urged to review their awards to determine if the shares will become immediately vested and subject to tax if the non-compete restrictions are eliminated.
Assess the impact on litigation: While the FTC rule prevents the enforcement of existing non-compete agreements against most employees, the ban does not apply 'where a cause of action related to a non-compete clause accrued prior to the effective date.' Accordingly, employers facing suspected breaches of non-compete agreements may want to consider whether to take any action in advance of September 4.
Prepare to respond to worker questions: Employers may receive questions from employees, applicants, and recruits about their position on non-competes and existing non-compete agreements. Employers are encouraged to consider preparing talking points to address questions and concerns.

If you have any questions regarding the FTC’s new rule or other non-compete restrictions, please contact the authors or your DLA Piper relationship attorney.