The Federal Trade Commission continues to focus on labor-market competition issues with a set of settlements based on its newly asserted FTC Act Section 5 “stand alone” authority, and a highly controversial proposed rulemaking. As our employment colleagues have already written, the proposed rule would ban almost all non-compete provisions in employment relationships, but is still subject to a comment period, finalization, and judicial review. The proposed rule faces numerous and significant legal challenges before it is far from certain that it will ever become effective.

On January 5, 2023, the FTC proposed a complete ban on non-compete clauses in employment contracts (the “Proposed Rule”), including the elimination of all existing non-competes. The Proposed Rule is premised on a preliminary finding by the FTC that non-competes constitute an unfair method of competition, violating Section 5 of the FTC Act. The day before unveiling the Proposed Rule, the FTC’s announced that it sued three companies and two executives for imposing allegedly overly restrictive non-competes on their employees. The Commission found that the use of the non-competes by the companies constituted an unfair method of competition and violated Section 5.

The FTC’s actions follow through on President Biden’s 2021 Executive Order on Promoting Competition in the American Economy, which encouraged the Commission to take action against the unfair use of non-compete clauses and other clauses that may unfairly limit workers’ wages and mobility. They also follow the Department of Justice’s recent criminal enforcement actions against no-poach agreements.

Complaints and Consent Orders

The FTC sued Prudential Security, Inc., its affiliate, Prudential Command, and two of its executives, for the company’s use of non-competes with its security guard employees. The Prudential non-compete clause prohibited the security guards from working with a competing business within a 100-mile radius of their job site with Prudential for two years after leaving Prudential. The FTC’s complaint highlights the fact that the security guards typically earned hourly wages at or near minimum wage; however, the company imposed a $100,000 penalty for violating the clause. According to the FTC, “Prudential tried to enforce its non-compete restrictions by suing individual employees and competing security guard companies, in some cases blocking workers from accepting jobs at significantly higher wages.”

The FTC also filed suit against the two largest manufacturers of glass food and beverage containers in the United States, O-I Glass, Inc. and Ardagh Group S.A. In its complaints, the FTC found that the use of one-year and two-year post-employment non-compete clauses that extended throughout the United States and North America violated Section 5. The complaints emphasize the fact that the clauses applied to highly skilled workers in the highly concentrated glass manufacturing sector. 

Under the consent orders, all three companies and their owners are banned “from enforcing, threatening to enforce, or imposing non-competes against any relevant employees.” The orders also require the companies to provide copies of the order to current and former employees who were covered by the non-compete agreements. Additionally, new employees for the next decade will have to be notified that they may freely seek or accept a job with any company or person.

The cases are significant because the FTC is asserting its “stand alone” Section 5 authority for the first time since releasing its policy statement. Until now, the FTC would need to allege and prove an unreasonable restraint of trade under traditional antitrust standards in order to strike down the non-competes. These complaints allege only that the agreements are “unfair” and have a “tendency or likely effect of harming competition, consumers, and workers…,” and further, that any legitimate justification for the non-compete could be achieved through significantly less restrictive means such as confidentiality agreements.

The Proposed Rule

The Commission voted 3-1 to publish the Notice of Proposed Rulemaking banning non-competes. Chair Lina Khan, Commissioners Rebecca Kelly Slaughter and Alvaro Bedoya voted yes and issued a statement in support, while, as noted, Commission Wilson voted no and issued a statement in opposition.

The Proposed Rule has three key components:

1. it categorizes all non-compete agreements with workers to be “unfair methods of competitions,” making it illegal under federal law to enter into or maintain non-competes with any workers, including employees, independent contractors, interns, or volunteers, or represent that such workers are subject to covered non-compete clauses;

2. it requires employers to rescind existing non-competes; and

3. it requires employers to notify current and former employees of the rescission and provides a template for such notices.

The Proposed Rule defines a non-compete clause as “a contractual term between an employer and a worker that prevents the worker from seeking or accepting employment with a person, or operating a business, after the conclusion of the worker’s employment with the employer,” and it applies a “functional test” to determine if a particular clause qualifies as a non-compete clause under the rule. Therefore, while the Proposed Rule does not ban non-disclosure or customer non-solicitation agreements, those terms could fall under the definition of non-compete if the provisions were broad enough to prohibit a worker from working in the same field.

However, it is important to note that the Proposed Rule would not apply to franchisee-franchisor agreements or agreements between buyers and sellers of a business.

Wilson Dissent

Commissioner Wilson dissented, asserting that the Proposed Rule is a “radical departure from hundreds of years of legal precedent,” undertaken with little enforcement experience on non-competes. Unlike the current state of common law, the Proposed Rule has no reasonableness limitation or any type of balancing, which is frequently done in assessing restrictions.

Aside from the substance of the Proposed Rule, Commissioner Wilson highlights the fact that the rulemaking will almost certainly be subject to legal challenge, including:

1. That the Commission lacks authority to promulgate substantive rules under its “unfair methods of competition” authority. Though its rulemaking authority is unclear, the Commission can continue to challenge non-competes through its Section 5 “stand alone” enforcement powers.

2.  That the major questions doctrine applied recently by the Supreme Court in West Virginia v. EPA, 142 S. Ct. 2587 (2022), could apply, and if so, the Commission lacks clear Congressional authorization to undertake this initiative. The West Virginia v. EPA case is the first time in a majority opinion that the Court relied upon the major questions doctrine. The doctrine holds that in “extraordinary cases” of “political and economic significance,” the Commission must be able to point to a “clear statement” from Congress authorizing its action.

3. Assuming that the agency does possess the authority to engage in this rulemaking, it is an impermissible delegation of legislative authority under the non-delegation doctrine, particularly because the Commission has replaced the consumer welfare standard.

In addition to the potential vulnerabilities Commissioner Wilson identified, we expect comments to the proposed rule to ask:

1. Is there a sufficient record regarding non-compete agreements to justify a blanket ban under Administrative Procedure Act standards?;

2. Is there a sufficient justification to make the Proposed Rule retroactive?;

3. Is there a sufficient rationale to ban non-compete in all employment agreements, particularly high level executives, while exempting such bans when in connection with franchise agreements or sales of businesses?

So, What Should Employers Do?

While the ultimate outlook is cloudy, and the Proposed Rule may eventually be struck down, employers should consider reviewing their policies regarding non-competes.

 First, the Proposed Rule is open for public comment for 60 days, and the FTC will likely receive a cascade of comments opposing the Proposed Rule and the Commission’s ability to impose it.  After digesting the comments, it remains likely the 3-vote majority will finalize the Proposed Rule, perhaps with some tweaks.  Once finalized, and the rule will become effective 180 days after the final version is published.

Second, the final rule will be reviewed by the federal courts under the Administrative Procedures Act. (It is also conceivable that someone might attempt to litigate the Commission’s jurisdiction in a preemptive lawsuit, arguing that the uncertainty cause by the extra-jurisdictional Proposed Rule causes injury.)

In the meantime, the FTC will almost certainly continue to investigate and challenge non-competes through its Section 5 “stand alone” enforcement powers, which will be unaffected by any statutory or constitutional challenge of the Proposed Rule. Any such challenge may provide an opportunity for a respondent to challenge the application of the FTC’s “stand alone” Section 5 authority.  

In this period of uncertainty, employers with non-compete clauses or other employee mobility restrictive clauses should consider auditing their policies and practices, and, decide what risk profile is appropriate.  Again, as our employment colleagues have noted, a number of states, most notably California, have barred non-compete provisions under state law. Additionally, employers should consider exploring alternatives to non-competes that help companies protect their competitive information and relationships, such as non-disclosure or customer non-solicitation agreements, which the Proposed Rule does not reach.