Early Stage Startup Series
Last week, the FTC issued a final rule banning noncompetes nationwide, alleging it is an unfair method of competition, and therefore a violation of Section 5 of the FTC Act. The ban’s objective is to protect the freedom of workers to change jobs, boost innovation, and encourage new businesses. The FTC estimates that the new ban will increase new business formation by 2.7% yearly, and expects the ban to increase earnings for workers.
Noncompetes are widespread across all industries and usually impose time, geography, and/or industry restrictions on workers leaving their current jobs. They often prohibit an employee from working for a company in the same industry for 1-2 years, in specific states or regions. Many states already ban noncompetes, such as California, and many other state courts look unfavorably on them.
The FTC argues noncompetes stifle competition and innovation when workers are prohibited from switching jobs to work for a competitor or starting a new business competing with their employer’s company, leading workers to stay in the same job, move to a new geography, or work in a different industry altogether. Industries that enforce noncompetes vary from tech to professional services such as accounting and hair salons.
This final rule will become effective 120 days after its publication in the Federal Register, which is expected to occur soon. Generally, existing noncompetes will become unenforceable after the effective date; however, existing noncompetes for “senior executives” can remain in force, but employers can’t enter into or attempt enforce any new noncompetes, even for senior executive positions. “Senior executives” are workers earning more than $151,164 annually and who are in policy-making positions.
Employers will be required to notify workers who are bound to an existing noncompete that it will not be enforced against them. The FTC has provided model language that employers can use in this messaging.
The FTC reiterated that noncompetes aren’t necessary to protect companies’ investment in IP and confidentiality, citing NDAs that protect confidential information and trade secrets. Most companies already require employees to sign NDAs before starting employment.
This rule is already facing extensive litigation. A day after the FTC announced the rule, the US Chamber of Commerce and Business Roundtable filed a lawsuit against the FTC in the Eastern District of Texas, and a business tax services firm Ryan LLC filed suit in the Northern District of Texas. It remains to be seen what other associations will file suit in the coming days.
