For the past nineteen months, employers and employees alike have waited to see if the Federal Trade Commission (“FTC”)’s published rule prohibiting non-competition agreements (the “Rule”) would survive judicial scrutiny. On August 20, the U.S. District Court for the Northern District of Texas provided the answer, setting aside the Rule on a nationwide basis just two weeks before its September 4, 2024 effective date. The Court’s ruling means that the Rule will not go into effect anytime soon, if ever, and that the state-by-state status quo on “non-competes” will prevail in Kentucky, Indiana, and the other 48 states.
Background on the Rule. States have historically regulated non-competes and other restrictive covenants through case law and statute. In 2018, however, the FTC started to conduct public studies of non-competes, and on January 19, 2023, the FTC proposed the Rule – which would “prohibit employers from entering into non-compete clauses with workers starting on the rule’s compliance date” and “require employers to rescind existing non-compete clauses no later than the rule’s compliance date.” After a period of public comment, the FTC published the final version of the Rule on April 23, 2024. The Rule defined non-competes as “unfair methods of competition” under the Federal Trade Commission Act (the “FTC Act”) and would have prohibited employers from (1) entering into or attempting to enter into non-compete clauses with workers; (2) enforcing or attempting to enforce non-competes with most workers; and (3) representing that a worker was subject to a non-compete clause. (Slightly different rules were to apply to senior executives, business sellers, and instances where a claim for breach of a non-compete accrued before the September 4, 2024 effective date). Notably, the Rule would have required employers to give notice to current and former workers subject to non-competes informing them that those provisions were no longer enforceable.
The Lawsuit. The successful challenge was brought in April 2024 by Ryan LLC, a large tax services firm, and several national and local business chamber groups (the “Plaintiffs”) in a Dallas federal court. The Plaintiffs’ suit pressed a claim against the FTC challenging the Rule under the Administrative Procedure Act (“APA”), a federal law proscribing the process and substance of federal agency action. In July 2024, the Court granted a preliminary injunction prohibiting the FTC from enforcing the Rule against the Plaintiffs. The Plaintiffs and the FTC soon thereafter filed motions for summary judgment, jointly agreeing that the dispute was a purely legal one that the court could decide without a jury.
The Ruling. On August 20, 2024, the Court granted the Plaintiffs’ motion for summary judgment and denied the FTC’s cross-motion, holding that the Rule violated the APA in two different ways. First, the Court found that Congress did not authorize the FTC to create substantive regulations like the Rule prohibiting “unfair methods of competition” in the FTC Act. Instead, the FTC Act limited the FTC’s enforcement powers to specific instances of unfair activities on a more limited, case-by-case basis. Second, the Court found that the Rule was “arbitrary and capricious,” reasoning that the FTC had not provided a sufficient evidentiary basis to categorically prohibit all types of non-competes for virtually all types of workers, regardless of the circumstances. The Court further found that the FTC had not adequately considered the various considerations in favor of non-competes. Finally, having made these findings, the Court held that the only appropriate remedy under the APA was to set aside the Rule on a nationwide basis, and accordingly ordered that the Rule “not be enforced or otherwise take effect on September 4, 2024 or thereafter.”
What’s Next? The FTC could appeal the Court’s decision the U.S. Court of Appeals for the Fifth Circuit. This appellate court, however, has been hostile to ambitious administrative actions recently, and most commentators do not believe the FTC would fare well there. The case could eventually make its way to the U.S. Supreme Court – which has affirmed the Fifth Circuit in similar challenges to expansive agency actions. The FTC could also decide to withdraw the Rule and await the results of November’s federal elections to decide whether to pursue a narrower, more limited rule, or abandon its regulatory effort on this subject altogether. Notably, the National Labor Relations Board’s enforcement arm has recently taken the position that non-competes violate federal labor law, but has only asserted that novel position on a case-by-case basis, and not through a blanket, national rule. Neither the Board itself nor any court has adopted this interpretation.
What Does This Mean For My Business? The Court’s decision simply means that the status quo in each state prevails. In both Kentucky and Indiana, non-competes remain lawful, so long as they are reasonable in scope, supported by sufficient consideration, and are intended to protect a legitimate business interest of an employer (e.g., confidential business information and customer relationships). However, employers should also consider customer non-solicitation clauses, employee non-solicitation clauses, and non-disclosure/confidentiality clauses where appropriate, as these types of restrictions tend to be easier to enforce.
Employers should also work with employment counsel to develop a strategic approach to ensure their confidential information, trade secrets, and business relationships remain protected in any legal climate. Stoll Keenon Ogden’s Labor, Employment & Employee Benefits practice follows these matters closely and would be glad to work with you to find the best solution for your organization.
