Non-Compete Agreements – Where Are We?
Richard Bar, Rachel Amster
Non-compete agreements, especially for high earners, remain in use and enforceable in most states despite a recent federal public policy debate which seems to disfavor them. The FTC’s Notice of Proposed Rulemaking earlier this year called into question the durability of certain restrictive covenants, including non-compete agreements. However, expectations about the trajectory of this public policy debate have fostered the belief that existing non-compete agreements may now stand on weak ground, even before a new legal or regulatory restriction goes into effect. Companies and individuals have begun to wonder about the potential invalidation of existing non-compete agreements by a court, or perhaps nonenforcement by an employer, in this environment. However, those considering the viability of a legal challenge still need to look closely at the relevant state’s non-compete legal framework. Absent federal action instituting a uniform ban, non-compete agreements remain lawful and enforceable under many circumstances.
At the federal level we have received the strongest signals that the use of non-compete agreements may be significantly limited at some point. President Biden issued an Executive Order on July 9, 2021, inviting agencies to take action to further a policy disfavoring, amongst other things, non-compete agreements. The Chair of the FTC was specifically encouraged to consider exercising rulemaking authority to “curtail the unfair use of non-compete clauses and other clauses or agreements that may unfairly limit worker mobility.” On January 19, 2023, the FTC published its anticipated Notice of Proposed Rulemaking on this subject. However, the FTC is continuing to review the large number of comments it received. Although a vote on the rule was expected earlier this year, it now is not expected until April 2024.
Until a uniform federal policy is enacted, the states’ varied legal treatment of these agreements remains in force. On June 20, 2023, the New York State assembly passed a bill which would largely ban non-compete agreements for workers, irrespective of salary or job function. To date, the bill has not been signed but, if signed by Governor Hochul, New York would join only four other states with similarly restrictive legislation — California, Minnesota, North Dakota and Oklahoma. Gov. Hochul had previously announced support for a restriction on the use of non-compete agreements for low wage workers earlier in the year. Such support is consistent with the approach a number of states have taken, limiting non-compete agreements, but only for low wage workers. This trend was also recognized by the FTC in its Notice of Proposed Rulemaking, which stated that “employers’ use of non-competes to bind low-wage workers may be coercive and unfair in ways that the use of non-competes to bind a senior executive is not.”
While there seems to be broader consensus around prohibiting the use of non-compete agreements for low wage workers, the contours of when such agreements are permissible vary state by state. For example, in Wisconsin, a restrictive law addressing non-compete agreements was first passed in 1995. There, courts address restrictive covenants, such as non-competes, as presumptively suspect, subject to strict scrutiny, narrowly construed, and assessed to favor of the employee. Further, non-compete agreements in Wisconsin must be necessary, include a reasonable time limit, apply to a reasonably territorial area, not be harsh or oppressive to the employee, and not contradict public policy. Still, within that highly restrictive framework, Wisconsin courts still have found terms of non-compete agreements valid and enforceable.
A recent opinion by the Delaware Court of Chancery dismissing an employer’s attempts to enforce a non-compete clause demonstrate the importance of reviewing each relevant state’s standards. In Centurion Service Group, LLC v. Eric Wilensky, Centurion, a worldwide medical equipment auction house, sought to enforce a non-compete clause in its employment contract with a senior executive who left the company and, through his own company, acquired a company Centurion considered a competitor. In Delaware, non-compete agreements are “closely scrutinized as restrictive of trade.” Non-compete agreements must have a reasonable geographic scope and temporal duration, advance a legitimate economic interest of the party seeking enforcement, and survive a balancing of equities. “All else equal, a longer restrictive covenant will be more reasonable if geographically tempered, and a restrictive covenant covering a broader area will be more reasonable if temporally tailored.” The clause at issue in Centurion included a geographic scope covering anywhere in the world the company was “actively soliciting and engaging in (or actively planning to solicit and engage in)” business. Although the company tethered the geographic scope to its business activities, the Chancery Court found it unreasonable because it was effectively a nationwide ban.
While the FTC considers its final rule making and states revisit their statutory provisions and public policy positions, the legal framework for non-compete clauses remains fluid and evolving. Companies will need to continue to watch state by state and federal actions. For those drafting or seeking to enforce non-compete agreements, be mindful of the challenges in the current legal environment. It is advisable to consult your counsel to structure a non-compete agreement in a manner that is more likely to be enforceable.
