The FTC Non-compete Rule Approaches: What To Do Now

August 19, 2024

As previously reported (Dentons Alert), the US Federal Trade Commission ("FTC") issued a regulation earlier this year that effectively bans most non-competes for employees and independent contractors (the "FTC Rule"). The effective date of the FTC Rule is September 4, 2024. As expected, there has been litigation challenging the FTC Rule as exceeding the agency's authority. However, with only a couple of weeks remaining before the effective date, the FTC Rule has not (yet) been struck down, and the outcome of the court challenges remains unclear. So what should employers do now?

What does the FTC Rule require?

As a brief refresher, the FTC Rule includes the following requirements:

• After the effective date, employers are prohibited from entering into new non-competes with all categories of workers.
• Non-competes that are already in existence as of the effective date are immediately unenforceable (except with respect to "senior executives", which is a term narrowly defined in the regulation to include only the uppermost policy-making executives).
• Employers do not have an obligation to formally rescind non-compete agreements, but must provide notices to workers (not later than September 4, 2024) informing them that the covenants are unenforceable.
• Non-competes in the context of a sale of business are not impacted by the rule. Other types of covenants (such as non-solicitation agreements and confidentiality restrictions) are also not changed by the FTC Rule.
• Certain types of employers, including banks, credit unions, railroads, airlines and most nonprofits, are outside of the FTC's jurisdiction and are not impacted by the FTC Rule.
• Pending non-compete litigation and causes of action that have already accrued before the effective date of the regulation are not impacted by the FTC Rule.

What is the status of the court challenges?

The FTC Rule has been challenged in at least three federal court cases. In one of those challenges, a federal court in Pennsylvania issued a ruling denying an injunction, finding that the FTC Rule was likely valid. In two other cases, one in Texas and one in Florida, the courts preliminarily ruled that the FTC Rule exceeded the FTC's authority, but issued injunctions that apply only to the named plaintiffs in the cases; the injunctions do not impact the FTC Rule with respect to other employers.

In the Texas case, the judge has indicated that she will issue a final order on the merits of the case by August 30. Although the Texas judge's preliminary order suggests that she will likely conclude that the FTC is invalid and exceeds the agency's authority, it is unclear if her forthcoming final ruling will include a broad injunction that actually stops the FTC Rule from going into effect nationwide, or if will be a narrow ruling that only prevents enforcement of the Rule against the specific parties to the Texas lawsuit.

The net result is that, for now, the FTC Rule remains on track to go into effect on September 4.

What should employers do now?

As noted above, after the September 4 effective date, the FTC Rule prohibits employers from entering into new non-competes or attempting to enforce those types of non-competes that are rendered unenforceable by the Rule.

Additionally, for all existing non-competes (except for senior executives), employers "must provide clear and conspicuous notice to the worker by the effective date that the worker's non-compete clause will not be, and cannot legally be, enforced against the worker." Thus, as things stand today, employers should prepare to issue notices by September 4 to every employee and independent contractor with an existing non-compete (and former workers who have a non-compete that is still in effect).

What should the notices say?

The FTC Rule provides a model notice that can be used to satisfy the requirement. While the FTC does not require that employers use the exact form of the model notice, the FTC Rule states that using the model notice will provide a safe harbor for compliance under the rule. The model notice contains broad and simple language that employers may find problematic and unpalatable (because, for example, it does not acknowledge the unresolved ongoing legal challenges to the FTC Rule, and does not clearly distinguish between competing during employment and competing after employment). In light of the uncertain status of the litigation challenging the FTC Rule, and the likelihood that there may be no clear resolution by the time that notices are required, employers should consult with legal counsel to determine when to distribute notices and what they should contain.

How must notices be distributed?

According to the FTC Rule, the required notice must "be on paper delivered by hand to the worker, or by mail at the worker's last known personal street address, or by email at an email address belonging to the worker, including the worker's current work email address or last known personal email address, or by text message at a mobile telephone number belonging to the worker." If the employer "has no record of a street address, email address, or mobile telephone number," no notice is required.

What are the penalties if an employer does not distribute notices by September 4?

If the FTC Rule is not delayed or enjoined and goes into effect, the rule says that notices "must" be distributed and indicates that it is an unfair and deceptive method of competition to not send the notices required by the Rule. The FTC Rule does not contain express penalties for failing to send notices or for sending inadequate notices. The remedy would likely take the form of an enforcement action filed by the FTC, which could seek injunctive relief, civil penalties (up to $51,744 per violation, adjusted annually) and other remedies. It is also possible that a failure to provide notices could be used in future litigation with former employees as reflecting the employer's disregard for the mandates of the FTC Rule.

So what should employers be doing right now?

The first action that employers should be taking now is to perform an inventory of all agreements that are potentially covered by the FTC Rule. Keep in mind that non-competes can be embedded in a variety of different kinds of agreements, such as confidentiality agreements, IP agreements, and equity grant agreements - not simply in agreements that are called "Noncompete Agreement." Also keep in mind that former employees and former independent contractors may also be entitled to receive notices if they have non-competes that are still in effect. As part of this inventory, employers should be assembling contact information so that the notices can be distributed at the time the company decides to do so.

Once the inventory is complete, employers should consult with legal counsel to decide whether and when to send notices to employees, and what those notices should contain, in light of the latest litigation developments relating to the FTC Rule.