Court Strikes Down Federal Trade Commission (FTC) Noncompete Rule

On August 20, in Ryan LLC v. FTC a federal district judge in Texas blocked the FTC’s rule generally banning noncompetition agreements.  With this decision, the FTC’s rule, which had a September 4 effective date, is now barred from taking effect nationwide.  The decision comes after the same Texas judge issued a preliminary injunction in July barring the FTC from enforcing its rule to the parties in the case.

In its decision, the court concluded that: (1) the FTC lacks the statutory authority to issue such a rule, and (2) the rule is arbitrary and capricious.

The court noted that the FTC does not have the authority to create substantive rules, asserting that the Administrative Procedure Act is a “housekeeping statute” that allows the FTC some authority to promulgate rules to preclude unfair methods of competition, but does not provide it a vehicle to create new substantive rules.

The court also concluded that the rule is arbitrary and capricious because it is “unreasonably overbroad without a reasonable explanation.”  The court further noted that the rule “imposes a one-size-fits-all approach” that is broader than any state’s current noncompete law.  The court went on to note that the FTC did not consider more targeted and specific alternatives, such as a ban on noncompete arrangements for employees who make less than $100,000 per year.

An FTC spokesperson has confirmed that an appeal will be forthcoming.  However, absent a stay pending appeal from the Fifth Circuit, which is seen as unlikely, the FTC’s rule will not go into effect on September 4. 

This decision comes after two conflicting rulings from other federal district courts.  A Pennsylvania court denied a preliminary injunction against the FTC’s rule, while a Florida court made the same initial ruling as the Texas court and issued a preliminary injunction limited to the parties in the case.  With the latest ruling in the Ryan case, the FTC’s rule is now blocked nationwide.  The appeals process is expected to be lengthy and could eventually end up at the Supreme Court, meaning that it will be some time before there is finality on whether this rule ever goes into effect.

For now, companies should consider confirming with counsel if there are any actions to be taken (for example, confirming that, even if the FTC ultimately prevails, the September 4 effective date for grandfathering contracts with senior executives no longer applies). The decision in Ryan, of course, does not have any effect on state laws that currently regulate noncompetition arrangements.

This marks the fifth time we have written about the FTC’s new rule generally banning the use of noncompetition clauses in the employment context (New FTC Rule Would Generally Ban All Non-Compete Agreements Except for Agreements with “Senior Executives” Entered Into Before the Effective Date; Texas Court Imposes Injunction Against FTC in Case Challenging FTC’s Non-Compete Ban; Courts Are Now Split on Legality of FTC’s Non-Compete Ban—Pennsylvania District Court Determines that FTC Ban is Legal; and The New FTC Noncompete Rule and Future Equity Awards to Senior Executives—Will These Awards Be Grandfathered?), reflecting the far-reaching nature of the rule and related uncertainties about whether it will ultimately be upheld.

Michael Abromowitz
Consultant

Michael Abromowitz consults on all aspects of executive and board compensation including executive compensation benchmarking, annual and long-term incentive program design, peer group development, and executive severance and change-in-control plans.

Bindu M. Culas
Managing Director

Bindu Culas has over 20 years of executive compensation experience. She works across industries with domestic and foreign public companies, pre-IPO companies and privately-held companies. She has deep expertise in designing annual and long-term incentive programs, structuring equity plans and award vehicles, navigating talent attraction, motivation and retention challenges through business cycles, and advising on governance and investor considerations. Previously, Bindu was a partner at Linklaters LLP and she is well versed in the complex regulatory, compliance and tax aspects of executive compensation.