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The Future of Noncompetes

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The Future of Noncompetes

Noncompetes are clauses in employment contracts that restrict employees from taking new jobs with competitors. As a type of restrictive covenant, they have been around for centuries. In this course, Russell Beck will go over different sorts of noncompetes and how have they've been regulated historically. He will also cover the economic impacts of noncompete agreements and recent legislative and regulatory proposals at the state and federal levels to help you advise your clients about noncompetes.

Transcript

Hello and welcome to the Future of Noncompetes. My name is Russell Beck. I'm a trade secret, noncompete, and employee mobility lawyer at the law firm Beck Reed Riden. Today's topic is the future of noncompetes. What's happening based on the regulatory and legislative landscape? We're going to cover that in eight topics. First, we're going to cover understanding noncompetes. What are they? Second, we're going to cover the history of noncompete regulation. Third, we'll talk about the legal framework of noncompetes and how that applies nationally. Fourth, we'll talk about the economic impacts of noncompetes, or at least the research concerning those. Next, we'll talk about recent state legislative activity. Then congressional activity, then federal regulatory activity. And finally, we'll take a look at how to navigate the changing landscapes, what steps you should take now. So with that, let's get started. What is a noncompete? So a noncompete is something called a restrictive covenant. It is an agreement entered into typically by a company and an employee that requires the employee to refrain from engaging in certain competitive work within a certain geographic territory for a certain amount of time after they stop working for a company. That's your typical noncompete. They do apply in other contexts as well. Oftentimes you'll see them in the context of the sale of a business where a seller will agree that they will not compete with the company that they sold. So the legislative landscape around that will come to that in just a few minutes, but that covers all 50 states. So what's the history? It goes back to 1414, believe it or not. So for those of you who are familiar with history, you'll remember the Battle of Agincourt during the Hundred Years War. The Battle of Agincourt was actually 1415, but we'll give it a little pass. The reality is non-competes go way back, all the way back to that. So that's 609 years and we've got about an hour to cover it. So with that, we'll get started. 1414 Battle of Agincourt time. And what happened was there was this is the first known non-compete case. There was a master dyer and an apprentice, Dyer and The Apprentice. Dyer decided that he wanted to go work on his own, didn't need the master anymore. And he tried to do that, and the master sued him. They wound up in court. The master didn't show, but The Apprentice did. And the court said that the non-compete was completely unenforceable because it was a restraint on trade. And at that time England needed all of the the workers it could get. And so it was a consequence. The judge refused to stop The Apprentice from working and said, If the master were here, I would jail him until he paid a fine to the king. We move forward about 200 years and we get to the first time that a non-compete is somewhat allowed. And that was, again in England in 1621. But it takes another hundred years till we get to Mitchell versus Reynolds in 1711. That is the first case that adopts the current framework that we use to this day. It applies a reasonableness test, which we'll talk about in just a few minutes. As we move forward in time, we come to the United States and over the course of the 1800s, as the country is expanding, we find that a number of states have adopted statutes, which is unusual because most non-compete law back in that time was governed by common law. But in the 1800s and 1865, we get our first non-compete law in North Dakota. In 1872, we get one in California, and in 1890 we get one in Oklahoma. And as time progresses, the laws basically continue to evolve following the Mitchell versus Reynolds case, with the exception of California, Oklahoma and North Dakota, because California, Oklahoma and North Dakota all adopted the field code, which was a code that was created by a New York legislator, I believe, who set out codes for legal requirements in the United States and some places adopted it and others didn't. But in any event, California, Oklahoma, North Dakota and others adopted the field code and they banned non-competes as part of it. Moving forward. Then we get about 200 years forward and we start to see a bunch of changes to the laws. Oregon was the first kind of big one to really make a fundamental shift in what it required in order to enforce a non-compete. We'll see the themes throughout our discussion about the regulatory efforts, the themes that Oregon put in place, things like giving advance notice to an employee, not using non-competes for people who earn below a certain amount of money. We'll get to all of that in due time. But right now, what's important to know is that these kinds of things started surfacing first in Oregon in 2007. We then see them in Massachusetts in 2009. And in the meantime, Georgia winds up passing legislation that actually makes it easier to enforce non-competes in contrast to Oregon and Massachusetts. And that legislation was passed in part based on a constitutional amendment, state constitution that just by quirk of the laws in Georgia, was a necessary predicate to making any change. And the way the law was framed out, it asked the citizens of Georgia whether they wanted to make Georgia more competitive. And of course, they voted yes. And Georgia then made non-competes easier to enforce moving forward to 2014 to 2020. We start to see a lot of states looking at their legislation. And the reason that the states are looking at their legislation is that a number of things are happening around this time. So we have the Massachusetts bill, which was out of the three Oregon, Massachusetts and Georgia from the early part of 2000, nine, ten, 11. Only Massachusetts hadn't been resolved fairly quickly. Massachusetts actually took a decade to resolve. It didn't become law until 2018, but during the course of that arduous legislative history, the legislature looked at modifying Massachusetts law to make it similar to Oregon's to leaving Massachusetts non-compete law alone and the product of common law to moving it all the way to the other extreme and banning non-competes altogether. When Massachusetts proposed a ban of non-competes, it was going to be the first state to have done that in over 100 years in in any way that would have lasted in any event. And so that made the news. Also making the news was a company called Jimmy John's, which was a sandwich shop, still is a sandwich shop. And they were using non-competes for their sandwich workers. So if you imagine that you show up at a Jimmy John's, you are next in line. You get up to the counter and you ask for an Italian sub and the person behind the counter says, Oh, great, what kind of bread would you like that on? And you say, I would like that on an Italian bread. And the person then says, All right, would you like lettuce and tomato on that? And you say, Well, I prefer lettuce, but I don't really want tomato. And you continue with that dialogue until your sandwich is made. That person had a non-compete. And so that caught the attention of the press. It caught the attention of Congress. It caught the attention of the Illinois and New York attorneys general. And it was a firestorm at the time. You have that going on in addition to the Massachusetts ban. The other thing that was going on at the time was that there was research being done by a number of academics, primarily economists, who were looking at the impact of non-competes on wages for employees, on innovation, on job mobility. And the early research started to come out at around that time. There were some papers earlier, but they really hadn't been the focus of any real attention because they were from many years earlier. And we didn't have the Jimmy John's case. We didn't have the Massachusetts proposed ban. So those so those things weren't in the news and therefore the research wasn't really in the news. 2015, Congress proposes three bills. We'll talk about all of that stuff later. In 2016, President Obama issues a call to action to the states, asking them to take some action. We'll talk about that later as well. The states continue to make changes to their laws and we'll talk a little bit about that later as well. And then finally, the FTC gets involved and they get involved somewhere around 2017 or 2018. But they really got involved kind of in earnest in 2020. And we'll talk about that a little bit later. We move forward in time from there to the last few years. And in 2021, President Biden takes some action. Even before he was president, the FTC starts taking action and Congress is taking action. We'll look at all of those. But that's the legislative history. And one thing to note from all of that is that all of it is state based. There hasn't been a single federal regulation of non-competes up until what's happening right now. And we'll see if that winds up changing. We'll talk about what the likelihood of that is and how it might play out and what you should be doing as a consequence of that. So now let's turn to the legal framework for non-competes. As I mentioned, we have a hodgepodge of laws. There are 50 states around the country. Each one of them has their own non-compete law. Dc has its own non-compete law and as a general matter they are all fairly similar, although some states tend to be more willing to enforce non-compete. States like Florida and some states require a much more vigorous analysis in order to enforce a non-compete, and that states like Wisconsin but only three states, as I mentioned before, ban non-competes. Those are California, Oklahoma and North Dakota. All of the other states permit the use of non-competes, at least to some extent. Nebraska is a bit of a wild card. Nobody quite knows what Nebraska does because Nebraska says they allow non-competes. But really their cases all involve non-solicitation agreements, something that we'll be talking about later. But for present purposes, it's really the three states. So what does the law look like? Well, the law comes out of or summarized by the restatement of contracts Section one and 88, and it describes the rule as a rule of reason. And I'll read you what the restatement second of contracts says. A promise to refrain from competition that imposes a restraint that is ancillary to an otherwise valid transactional or relationship. So note it needs to be part of a bigger transaction. You can't just have a non-compete with anybody. It needs to be part of something else. And if you look down below, you'll see those other ancillary transactions or relationships might be the sale of a business which I mentioned before. It might be an employee relationship or it might be a partnership agreement. Those all will suffice to qualify as the ancillary contract or the ancillary relationship or the ancillary transaction. So back to the rule a promise to refrain from competition that imposes a restraint that is ancillary to an otherwise valid transaction or relationship is unreasonably in restraint of trade. If the restraint is greater than is needed to protect the promisee's legitimate interest. We'll talk about what those legitimate interests are in a moment. But notice that it has to be reasonable in in the restraint. And it has to be reasonable. And the restraint, to the extent that it is necessary to protect the legitimate interests. Or the promisee's need is outweighed by the hardship to the promisor and the likely injury to the public. So if the agreement that the employee in this case might agree to is outweighed by the hardship to the employee or the injury to the public, then the agreement will be deemed to be unreasonable in restraint of trade and will be unenforceable. That's the basic rule. So the way to think about it is they need to be reasonable in time. How long they last space, geographically, what territory do they cover and scope. So the scope of activities that are restricted. So if you think about it, you can stop, for example, the CEO of a company that operates nationally from being the CEO of a direct competitor nationally. For some amount of time, typically one year, sometimes 18 months, sometimes two years. That would typically be considered to be reasonable. It's reasonable in time. That's how long it lasts. It's reasonable in geographic scope because it's tied to where the two companies operate and it's geographic and it's reasonable in the scope of the restricted activities because it says you can't do the same or similar job to what you were doing for us. You can't do that for a competitor. So that's how the that's how the law works. But remember, it all has to be necessary to protect a legitimate interest or sometimes called a legitimate business interest. So what are those? Well, the one that's universally recognized is the protection of trade secrets. Now, stop and think for a moment. What do you think of when you think of trade secrets? You probably thought about coke. Maybe you thought about Google algorithm or possibly you even thought about WD 40. So WD 40 is an interesting one, right? Because WD 40 gets its name from water displacement 40. The reason that it's called water displacement 40 is that the 40th this was the 40th attempt to make a workable, good quality water displacement product. And that means that there were 39 attempts before this. So 39 formulations. The value of knowing those 39 or in particular the 39th can be vast and especially because the market for WD 40 is quite extensive. As they say, all of life's problems can be solved with two things duct tape and WD 40. If it moves and it shouldn't, you need duct tape. If it doesn't move and and it should, you need WD 40. And so knowing the 39th formulation or even the 38th formulation is going to be very valuable to a company that wants to make a competitive product that is protectable under current law in every state except maybe New York, probably protectable even in New York, though. Now what is a trade secret? And we think about trade secrets. We think about Coca Cola. We think about Google's algorithm. We think about WD 40. We also think about things like Kentucky Fried Chicken, right? The secret, the secret recipe, the 11 herbs and spices, which only recently has been made public. But prior to that, that also had been a trade secret. So recipes can be a trade secret. But really any information that has value and that is confidential and that the owner of the trade secret makes reasonable efforts to maintain the confidentiality of is protectable as a trade secret. We really shouldn't think too much about what a trade secret is as opposed to confidential information. People often get hung up on this concept of, well, it's not a trade secret. It might be confidential information. But as a practical matter, in most states, it makes no difference. And the reality is that trade secrets cover an enormous swath of information. Most information will qualify as a trade secret again, as long as it provides some amount of value and it is confidential and maintained as confidential, and that's what provides it its value. Things that aren't trade secrets, general skill and knowledge. And this one creates lots of problems for people because employees, it comes up in the context of employees. An employee will come working for a company and when they start working, they bring with them a host of of knowledge and information that they've developed over the course of their careers, perhaps through academic studies, perhaps through on the job training. But whatever that is, that knowledge that they have amassed, assuming it doesn't include a trade secret of some prior employer or someone else, that information is their general skill and knowledge and they can carry that over from one company to the next. That is not a protectable business interest and a non-compete cannot be used to prevent somebody from using their general skill and knowledge. Other information that's not a trade secret is information that's been publicly disclosed. For example, in a patent filing or industry know how. All the companies in the in the industry know how to do this. So there's no real value to that information. Now, sometimes it might wind up having value because it keeps potential competitors out. It may be quite a bar for entry to other non competitors and preventing them from becoming competitors. So because of that industry, knowhow generally is not going to be protectable. But sometimes it can be. Lots of things in this area of the law are very fact specific and little nuances can change whether something is protectable or it's not protectable. Little nuances can change whether a non-compete is enforceable or it's not enforceable. It may be enforceable for one person, but not for another. For example, you can enforce the non-compete against that CEO, but you probably can't enforce the non-compete against the janitor at the company. That brings us to the next legitimate business interest. Business. Goodwill. Or company goodwill or customer goodwill. And that is the relationships that a company has with its with its customers or its clients. And then the reputation of the company in the eyes of those customers and clients and potential customers and clients. In the majority of states, you can protect goodwill with a non-compete. Not true in every state, though. Unlike with respect to trade secrets. Where that is true. And then lastly, we look at the public interest and the public interest drives the reasonableness analysis. We think about non-competes need to serve a recognizable, legitimate business interest. That's part of the public interest piece. We want to enforce contracts that people enter into freely. That's part of the public interest piece. The impact on the employee, will it create a hardship for them? Well, it might. And we recognize there is some amount of hardship that we're going to tolerate that that is part of agreeing to restrict your post employment conduct. But at some point it becomes too much. And that is a very fact based analysis for for the courts. But the reality is that absent something like the Great Depression or the Great Recession or something else, where it is very hard for somebody to find a job or a state, secrets are involved or something else like that. Noncompetes are generally going to pass through the public interest part of the test without too much difficulty. The real test comes down to why is it unfair for this person to compete in this way? Why is it unfair for this CEO to work for this company in this area doing the same work that they were doing for us? That's what we want to understand and that's what a lot of the cases will come down to. And oftentimes that's very influenced by who's wearing the black hat and who's wearing the white hat, who's the good guy, Who's the bad guy? We'll be discussing that in a later presentation. Let's turn then to the economic impact of non-competes and some of the research that's out there. And I won't delve into this too much, but I do think it's important to know just because of everything that's happening right now. There is a slew of research more and more each year that is being published by academics from universities, from the Federal Reserve, from the FTC and from other places that are looking at the economic impact of non-competes. They look at employee mobility, which of course non-competes do affect employee mobility. I don't think there's much dispute about that. They impact wages. And so some studies show that when somebody is bound by a non-compete, they tend to have lower wages than somebody who is not bound by a non-compete. But those studies tend to be looking at either low wage workers or hourly workers or other big swaths of workers where you can't really differentiate what's happening at different levels of the of the job market. They also tend to be very limited in. A very specific types of jobs. So they look sometimes at physicians, they look sometimes at CEOs, they look sometimes at executives. And one of the things we see is that with CEOs and physicians, it actually looks like they earn more money than their peers that are not bound by non-competes. So those that are bound by non-competes tend to earn more. It's hard to know whether there's a causal relationship or not, but that's true with the studies in both directions, up and down. And then job opportunities. There is no question that there will be some restrictions on job opportunities, but I think we need to juxtapose that against if you're going to go to a job that could be the subject of a non-compete. What legitimate business interests of your former employer are you putting at risk? And that brings us to the other side of the equation, where we look at what's the impact of these on innovation, on trade secrets and on economic growth. And we see that when non-competes are not used. There tends to be more trade secret litigation. Again, it's unclear whether this is a causal relationship or just a correlation. But just take a look at California and the amount of trade secret litigation in California as compared to anywhere else. California, which doesn't use non-competes, which has banned them since 1872, has more trade secret litigation than any other state. Now, you might say they also have more innovation. But I think the innovation there is really on the high tech side, the computer related side, and there are reasons for that. In contrast, take Massachusetts, where I live and where my office is based. And in Massachusetts, we are the number one area for life sciences. So there's a lot of innovation going on there as well. And then economic growth. There are mixed studies on whether whether non-competes help or hurt economic growth. For example, there's a study that says that non-competes result in the enforcement of non-competes. The more a state is willing to enforce non-competes, the fewer startups are likely to be in that state. And in contrast, the more willing states are to enforce non-competes, the more likely that you're going to see more start ups in that state. There's a study going the other way as well. But what's also interesting is that there's a different study that says that when non-competes are enforced, yes, it's true, we have fewer start ups, but they tend to be better quality. Start ups. They tend to last longer and wind up being the kind of start ups that you actually want to have as opposed to lots of wasted start ups that never go anywhere. So, again, there's a lot of information out there in the research. A lot of it, if not most of it, is correlation as opposed to causation. And there's a lot more that needs to be done. In the meantime, with all of that in the background, we've had lots of legislative developments around the country. And just within the past decade or so, more than half of the states have passed over 48 different noncompete related laws. And so when they're doing that, they are really trying to balance those interests that are at the heart of what the studies are looking for. And so they're looking at how do we protect the legitimate business interests. So trade secrets, confidential information, customer goodwill and others that may be recognized in different states on the one hand, and making sure that we don't harm innovation and we spur on innovation. And then the employees interests on the other hand, so everyone has a right to have whatever job they want to have. If they're qualified, they have a right to move jobs. So job mobility is important and they have a right to use their general skill and knowledge. They should be able to take that from job to job with them. And so the legislature, legislatures around the country are looking at how to balance those interests. As of right now, what's happened is we've seen lots of legislative activity that really comes down on about three different areas that are kind of critical to what they're doing. So the first is eligibility requirements. Who can be bound by a non-compete, And that breaks down into two sub categories, which is wage thresholds and then other criteria. That's that's one of the areas that we see a lot of of legislation on the next is notice requirements. So I mentioned if somebody shows up to work, they get handed a non-compete that day and they're told, hey, here's a non-compete part of your job. So. Some states are imposing notice requirements. Let people know that they're going to have a non-compete before they show up. We'll take a look at that in a moment because there are lots of different types of notice requirements that we're starting to see. And then lastly, we're also starting to see a lot of fines and penalties. So states are now looking at, okay, well, it's all well and good to have non-compete laws, but if people aren't complying with them, then we have a problem and we need to take steps to make sure that companies comply. California, according to one study, uses even though non-competes are banned there, they use non-competes at the same rate as the national average. 18% of people are bound by non-competes. Well. Fines and penalties should have the effect of preventing that. So back to then, let's take a quick look at the few different ways that these things are happening. So and where so in the on the wage side, the wage criteria or other criteria, What we're seeing is that in states around the country, a number of states have said, okay, we don't want non-competes being used for low wage workers, but they define them very differently. So at one end of the spectrum, you've got a state like New Hampshire, which is two times the federal minimum wage, which right now happens to be $14.50 an hour. And then at the other end of the spectrum, you've got Washington, DC, which says, hey, if you're going to use a non-compete with somebody, they need to earn at least $150,000 unless they're a medical specialist and they can then earn up to $250,000 before you can use a non-compete with them. So. You see that there's a lot of variation. The states really haven't kind of figured out exactly how to do it, and that's exactly the way it should be. States are looking at their local issues and trying to decide these issues as a local matter. As Justice Brandeis said, states are the laboratories of democracy. They can experiment before we see before we try to roll out something at a federal level and find out that it was a mistake. So that's what's happening on the state side. On the wage criteria. But they're also using other criteria. They're also using criteria like, well, if you're in the health care industry, you can't have a non-compete. And that's broadly used. Those that restriction is being broadly rolled out around the country or at least being looked at around the country. It exists in a handful of states now, and I expect that we'll see a lot more of that moving forward. So then let's turn to the notice requirements. So there are really four different types of notice requirements that legislatures are experimenting with. One is the advanced notice, and that's the one I've already mentioned. That's the don't let somebody show up to work on the first day and hand them a non-compete and tell them, okay, now you're bound by this non-compete. The states vary by what they require. It can be as short as three days advance notice to 14 days advance notice. And New Jersey, I believe, has a bill right now that would require 30 days advance notice. Now imagine you're an employee and you want to start a job. And the company says, Well, I'm sorry, but you can't start the job for 30 days. Well, that can present some problems. So the states have to wrestle with those. And we need to figure out what the right approach is from a policy standpoint and balancing, again, the interests of the employee and the interests of the employer. States are also requiring some states are now requiring the posting of notice. So in the place where you put all of the kinds of notices that you provide to employees, post a notice of what the law requires and what it prohibits. Some states are requiring that notice be distributed so passed out to different employees at the time that perhaps they are receiving the proposed non-compete or at some other points along the way. And Colorado is an example of this actually requires not just a notice, but there has to be a summary of where to look in the agreement to find the various restrictive covenants, non-competes non solicits and others. And then there's only one state as of right now that requires a post departure notice, and that's Oregon. And Oregon says when somebody leaves. Now, Oregon also has the advance notice requirement. But Oregon now says when somebody leaves within 30 days of their departure, you need to provide them a copy of their non-compete. Now, one might think, why would you need to give a copy within 30 days after they leave? Isn't the horse out of the barn at that point? Shouldn't you have provided that notice to them before they made a decision about leaving? And that's a really good point. It is somewhat unclear to me why the legislature did it quite this way, but I think they were trying to probably address the issue where people often find out after they've left that they have a non-compete that they signed many years earlier. And so I think this is to probably address that issue. So that's on the notice requirements and I expect we'll see all kinds of different notice requirements and more and more of them as we move forward in time. And then we get to the statutory fines and penalties. And right now they exist in Illinois, Maine, Nevada, Washington and Washington, D.C. But most interestingly, in Colorado and Hawaii, there are potentially criminal consequences for using a noncompete unlawfully. Now, in Colorado, it has to be that you obtain the non-compete or you're enforcing non-competes through threats and intimidation and that kind of thing. So it's not really a high risk of criminal prosecution. And even if even if the standard were lower, they've had a Colorado has had a criminal statute on the books concerning non-competes since 2017. And as far as I know, there there has never been any enforcement proceedings under that. It is quite an extreme thing, especially under Colorado law, which until recently had been very vague about who could be restricted by a non-compete and who couldn't. So that's all on the state side. And then that brings us over to the congressional side. And now we start to see for the first time the federal government getting involved. And that started back in 2015. But as we move forward in time, even through today, there are now five different bills pending. There's the Workforce Mobility Act of 2023, which is a repeat of prior acts, prior bills that were proposed since 2015. And that bill, well, it's an incarnation of the bills. But this bill would ban all employee non-competes. It counts as two because it's in the House and Senate, but it's it is essentially identical. Then there's the Freedom to Compete Act, which would ban non-competes for workers who are not exempt under the Fair Labor Standards Act. And that is very similar in concept to what we do here in Massachusetts as of 2018 and what Rhode Island does as well following in Massachusetts footsteps. There's also the ensure vaccine mandates eliminate Non-competes Agreement Act or the even act. And that act, if passed, that bill, if passed, would void non-competes for employees who were fired for not complying with their employer's COVID 19 vaccine mandate. And then finally, the most recent bill is the Conrad State 30 and Physician Access Reauthorization Act. And that really deals more with immigration issues for physicians to provide services in underserved communities. But for those physicians, there would be a ban on non-competes. So that's what's happening currently in Congress. It's been since 2015 that there have been bills in Congress. None of them has gone anywhere. We don't know. Maybe maybe one of these bills will go somewhere, this legislative session, this congressional session. We certainly know that what's happening at the regulatory level is bringing a lot of attention to all of this. And there's a we'll talk about it in just a moment. But there's a strong belief that what's happening at the regulatory level actually can't happen because the agency is not authorized. So it would have to be done congressional level. So let's turn to the federal regulatory activity. And as I mentioned during the history, this goes all the way back to 2016 and we see the Obama administration looking at non-competes. They looked at non-competes again because of what was happening with Jimmy John's and because of what was in the news and because of these reports that had been issued, these academic studies that had been issued. They issued two reports. The White House issued two reports, one through the Treasury Department and one through the White House. Both of those identified non-competes as being overly used around the country. And so the White House convened a small working group. I was involved in that working group. I think I was the only lawyer involved, the only outside lawyer involved. They had in-house lawyers. They had union representatives. They had state legislators and many others. And during that. We discussed what should the White House do about the problem identified in the Treasury report and the White House report. And we concluded at the end of the day that there were a few steps that states should take, not the federal government, but states should take to rein in the abuses of non-competes. So the abusive uses of non-competes rein those in a bit. And the White House issued this call to action, and that's available online to to this day. And a lot of states have actually taken it to heart and they have moved forward with proposed legislation and many of them have passed legislation dealing with the kinds of things that we just covered, which were the recommendations that came out of the White House call to action. Moving forward, we hit 2018, and that's really when the FTC starts to really look at non-competes, still not in earnest, but a little more. So this is kind of the beginning of when they start looking. It was 2017 to 2018 and they opened the door in 2018 to changes that really pushed by Congress at this point. Because remember now it's been about three years from 2015 to 2018 and nothing's happening in Congress. So they push the FTC, some members of Congress push the FTC to start looking at non-competes. In 2020, the FTC holds its first workshop. That was a two day workshop in person at the FTC. I'm sorry, one day, full day workshop at the FTC in person. And they discussed issues ranging from the authorization of the FTC to act in this area to the research that existed at the time in this area, to what steps the FTC should take, assuming it can take any, and what those steps would look like. Should it be a rule, should it be guidance? Should it be something else? Fast forward. That was in January of 2020. And then fast forward to later November in 2020, after President Biden was elected, but before his inauguration and he put his platform online. And that included restrictions on non-competes in 2021. President Biden issued I'm sorry. And in 2020, in that platform, President Biden said that he intended to work with Congress to regulate non-competes in 2021. In July, President Biden issued an executive order, very long executive order that included a provision that says that he encouraged the chair of the FTC to work with the other commissioners and ban non-competes that are essentially not necessary that harm the economy. And the FTC took that to heart. They have taken a number of steps from 2021 all the way through 2023 to look at to continue to look at non-competes. They had their second workshop with the Department of Justice in 2021, in December. That was a two half day program. Available online. And then in 2022, they issued some civil investigative demands to companies asking about their practices and practices of others and using non-competes. They reached a memorandum of understanding with the National Labor Relations Board, where they would share information with each other. And then in 2023, right at the very beginning. The FTC issued three enforcement decisions or actions that found that certain companies were making improper use of non-competes. They ranged from companies using them for security guards and imposing a $100,000 fine. I think it was on security guards who violated those agreements. Two industries where there aren't a lot of players using non-competes, which the FTC felt was was anti-competitive. And so those those enforcement actions went forward and the and were publicly released. They required public comment. But the next day the FTC announced that it was proposing to ban non competes nationally. Full stop. The only exception would be in the context of the sale of business if the owner. That is going to be bound by a non-compete. The owner or owners own at least 25% of the interest in the company. Only those people could be bound by non-competes. And so they proposed to ban de facto non-compete. So they have what they call this functional test. And basically it says if you've got one of these other agreements that can have the effect of operating like a non-compete, then we're going to ban that as well. So, for example, if you have a non-solicitation agreement and an individual is a salesperson and the only way they can move from one job to the next is to be able to solicit the the customers that they worked with previously. Well, that may be enough for the FTC to say that that agreement is a de facto non-compete and therefore not enforceable. They give another example or they give an example of a nondisclosure agreement in connection with the nondisclosure agreement. They say that if the nondisclosure agreement sweeps so broadly and what it covers as to prohibit the employee from really being able to work in their industry, then that is a de facto non-compete and invalid. That is contrary to virtually every decision ever issued by a court. There have only been a few relatively recent decisions by a few courts. Ninth Circuit. The First Circuit and one out in Wisconsin. And there probably some others around the country. But they are the outliers that found that certain very, very broad agreements were just too broad. Lastly, the FTC proposed rule. The other key piece to it is that it will require companies not just to stop using non-competes, but to rescind all of the earlier ones. So companies that had issued non-competes as part of a promotion or a stock award or a bonus, any of those types of things, the employee at least would it appears to be the case that the employee will be able to to keep the benefits but not be subject to the restrictions. We'll see how that all plays out. But the time frame is the enforcement actions were the beginning of January. January 4th, that notice of proposed rulemaking, which is the way that the FTC announced that it was going to propose this rule going to make this rule was on January 5th. They held a public forum on the 16th of February, which just discussed some of the issues around non-competes. April 19th was the deadline that had been extended from March 20th. And now we sit and wait until the FTC reads the 25 plus thousand comments that they've received and decide whether they're going to retain or change the proposed rule as they've currently proposed it. There is no deadline for them to finalize it, but once they do, it will become effective 180 days later. You can also expect that we'll see legal challenges to it. It is extremely unlikely that companies that are affected by this that by trade organizations that have companies that are affected by this will allow this to stand. I fully expect that somebody will bring a suit in some jurisdiction that is likely to find that the that the rule is a an abuse of authority by the FTC. It's outside the scope of their authority and that it will be enjoined the FTC will be enjoined from enforcing the rule. We'll see. That may or may not happen, but that's kind of the expectation. So let's just take a quick look at some common myths about non-competes, because we have all this regulatory effort going on. But people there's a lot of confusion around how non-competes work and and what the requirements are for non-competes. Oftentimes, you'll hear people say non-competes are illegal. They're not Non-competes are enforceable in 50 of the 47 of the 50 states. They're also enforceable in DC. And so they're not illegal. You then hear, well, non-competes may not be illegal, but they're not enforceable. Well, they actually are enforceable in those 47 states. But it really is a fact by fact analysis. And you really do need to make sure that the non-compete itself is complied with the law as it's set forth in each of the relevant states that might apply. You hear sometimes that non-competes have recently been banned in some states like Massachusetts. Not true. Massachusetts allows the use of non-competes. Notwithstanding this recent legislation, there was an effort to ban non-competes in Massachusetts, and that failed. There was an effort to ban non-competes in many states, and they have all failed. No state has passed any legislation to to ban non-competes since the 1800s, or at least any bands that have remained in place. Michigan had a ban from the early 1900s to 1985. Montana people thought had a ban. It was interpreted by the Montana courts to not actually be a full ban on non-competes. So it appears that non-compete that non-competes are permitted in Montana. So notwithstanding all of that, every state except for California, Oklahoma and North Dakota allow the use of non-competes to some extent. They have not banned them. You will sometimes hear non-competes have been banned by President Biden. No. Well, you've heard now what President Biden did. He had a platform that wanted work to be done between him and Congress to restrict the use of non-competes if they weren't necessary. He asked similar thing of the FTC. But that's all he's done. The FTC, you'll hear, has banned non-competes. Well, they've proposed to ban non-competes. We'll see what they wind up doing. And then even once they do issue a rule, if they do issue a rule, we'll see what that rule is and we'll see whether it's enforceable. And then lastly, you hear non-competes are not enforceable if the employee was fired. Well, fired is a funny word. So fired suggests that the employee was the the employment was terminated for cause, meaning the employee did something wrong. And in that case, most states actually allow the non-compete to be enforced. But if the employee was laid off through no fault of their own, maybe they were part of a reduction in force where a lot of people were let go, whatever it may be. That wasn't the employees fault. Then there are many states, not the majority, but there are many states that will at least look at the issue and say that non-competes, we should take that into account. And looking at the hardship and looking at the what we need to protect here for the company when they've let an employee go. And then there are other states that say, no, we're not going to enforce that at all. If you let somebody go, not for cause, then we're not going to enforce your non-compete. So it depends on the state, but most states will allow it. So what do you do now? Well, time to get your house in order. Let's look at what the the predictions for what we're likely to see so we know the changes are likely. We've already seen many changes around the country in more than half of the states. We will likely see many more over the next several years. There are right now about 74 bills pending around the country in about half of the states, give or take, I think 27 states, I believe. As well as the bills in Congress and the FTC action. The impacts on business employees, job mobility, innovation, competition, all of that. Is currently something that the legislators and the FTC and others are looking at. Research has been done on it. And as we've talked about already in connection with the research, we don't know whether the research is a reflection of non-competes causing something or non-competes simply correlating with the existence of the things that are being found in the research. So we don't know. Does the use of non-competes cause wages to be lower for some groups of people? Maybe, maybe not. We know that it appears to reduce wages for some groups by 3 or 4% maybe. And we know that it also raises it appears, to raise wages for some groups of people. So we don't know. And then lastly, there are areas of future research. And I do expect that we'll see more studies looking at some of those legislative changes in the various states that have made significant changes to their laws Massachusetts, Colorado, Illinois, Washington, D.C. I expect we'll see some research around those as well. There's already been some in connection with Hawaii's change, and that occurred in 2015 with Oregon's change and with Washington's change that that occurred more recently, both of which have low wage restrictions, you know, low wage thresholds so that non-competes can't be used for people earning less than that amount. And so I expect we'll see more research on that. I expect we'll see more research that'll look at different types of job functions and in different industries and try to find how non-competes affect those different industries and job functions differently or are they the same? So what can you do now? There are a lot of steps to take. The slide identifies what you can think of as a trade secret protection program. It's a little broader than that. It's more of a legitimate interest protection program. We're not going to get into all of these different steps now. That's for a later day. But for right now, what we're going to look at is the administrative side. The reviewing and updating agreements offer letters and policies. And specifically, we're going to look at the agreements. So on the agreement side, non-competes and other restrictive covenants. So we've spent a lot of time talking about non-competes. You know what they are. Garden leave clause is a type of non-compete. So it originates actually in England. And the idea was that somebody would give notice and they would actually be continued to be employed by their company and be paid as a consequence and also have fiduciary duties to the company as a consequence. But they wouldn't do any work. They would, as the saying goes, sit in their English garden and then go tend the garden. And we've adopted a concept like that in some states here as an as a way of using non-competes that might otherwise be prohibited or that might ensure that non-competes are more likely to be enforced. So it's really just a paid for and non-compete that's paid for during the term of the restriction as opposed to a non-compete that's paid for as part of the employment relationship or some other relationship. We have some other variations on the theme. I won't spend much time on them, but the idea for a forfeiture for competition agreement or a compensation for competition agreement is that you can go and compete, but you give something up. Maybe you have to pay something or maybe you lose certain vesting rights that you might have otherwise had in some stock or stock options or profit sharing. And then we have this thing in Massachusetts that we colloquially call a springing non-compete or a time out non-compete. And the concept is that somebody doesn't actually have a non-compete. They have other restrictions that we'll look at in just a moment. But they violate one of those restrictions and then the court steps in and says, okay, you can't be trusted to work at a competitor for some amount of time and without violating your other covenants. So we're going to stop you from working at the competitor. The non-compete sort of springs into being. So the other agreements, the other types of restrictive covenants, sometimes people call them non-competes, but they really aren't. They are restrictive covenants. Those are non-solicitation agreements where somebody, an employee, typically says, I will not solicit the customers with whom I worked or some other set of customers of the company, maybe prospective customers, anybody that I may have worked with have knowledge about or some other set. No service agreements is a similar concept, except it's not only that I won't solicit them, but I won't even provide services to them. So if they come to me, I won't provide services to them. And so that protects, by the way, both the information that somebody might have about those clients, maybe the particular profit margins on those clients or different needs and purchase histories of those clients, whatever it may be, there may be information around them. And then it also protects the relationships and it gives the company some time to get in there and reestablish relationships through some other employee with those customers. No raid or no recruit agreements is another type of restrictive covenant. Oftentimes these are called non-solicitation agreements, but really more accurately, they're called no recruit or no raid agreements. And those agreements say that when you leave or while you're working, you won't solicit your colleagues or your former colleagues to leave with you or to come to join you at your new employer. And then a no hire agreement is not only it's similar to the no service. Not only won't you solicit them or recruit them. But you also won't hire them or at least be involved in the hiring. If you're not the one doing the hiring, you won't be involved in it. Don't make recommendations to your employer about who might be a good employee to hire from your former employer. You're completely out of the hiring process. And then finally, non-disclosure agreements, which are basically agreements that are almost universally enforceable that say, look, we're going to share information with you. You can't share that information publicly. You can't disclose it publicly. You can't use it for any purpose other than for the business. Anything that you do with that information has to be done for the benefit of the owner of that information, not for anybody else. So those are the types of covenants that we generally look at and we look at, okay, well, do we need a non-compete? Yes or no? If we do, we'll take these other covenants as well. If we need them, whichever of those we need. But also if we don't have a non-compete or the non-compete is not enforceable. What about these other covenants? Can we fall back on those? And that brings us to why you might do that. And that's because you can't rely on a non-compete being enforceable. As we talked about. They have to be reasonable in time, space and scope. They have to meet all sorts of requirements. And those requirements are now changing on a fairly regular basis around the country. And so keeping up with those changes can be very difficult. We have charts that we've prepared to keep track of those kinds of things, both on what the standards are for using them, the standards for rolling them out as well. And so those are non-competes. They may or may not be enforceable, although they provide you with the best protection at the other end of the spectrum, we know that non-disclosure agreements are very enforceable, but they offer the least protection because they don't prevent somebody from engaging in inappropriate conduct. They only give you a remedy if they have, right? So if somebody discloses or uses your information for a competitor, you won't necessarily find out about that until it's too late. And they've already done it. So you'll look at you'll be looking for a remedy. Typically it's going to be money or preventing further use and money, but you're not going to actually have prevented the use or the disclosure in the first place. So you may have lost all value of your trade secret as a consequence or your other confidential information as a consequence. And then the other types of agreements chart out, as you see on the graph, they tend to be either more enforceable but offer less protection or offer more protection, but tend to be less enforceable. And while not drawn to scale, that graph gives you a bit of a sense of how to be thinking about these things and which ones you may want to try to use for which employees and whether you can rely on them being enforceable or not by a court. So steps to take. Right now, the most important right now is gather up your agreements if you're an employer and certainly if you're an employee, look at your agreements and see what you've got. But if you're an employer, gather up your agreements, see what you've got, review them and make sure that they comply with existing state laws and look for their compliance. Also with the changes that we anticipate happening at the state level and perhaps even at the federal level. But try to make sure that your agreements are written in a way that they're enforceable today and are likely to be enforceable in the near future. And if you find that there are things that need to be updated, then update them and use new agreements moving forward. You want to try complying with the law, You want to try doing that for several reasons. Number one, you want your agreement to be enforceable. Number two, you can't rely on a court to enforce an agreement if you haven't taken the steps to write it properly. It's the right thing to do if you can do it. And it is the thing that is most likely to help you. And then lastly, you don't want to be fined. You don't want to find that you have issued a non-compete or other restrictive covenant that violates a state's laws and now you subject yourself to a bunch of fines or penalties. So with that in mind, there are a few takeaways from the program today. Number one, non-competes are enforceable in most states right now. Know what those requirements are. Second, the law is changing. You need to know how it's changing and stay on top of that and understand that the penalties are going to completely alter the playing field in a number of these states. We fully expect that the FTC will take action to ban some, if not all, non-competes. They will issue a rule and we'll see what happens with that one. But be aware of that and monitor that. And then also recognize it's not just the rule, but they are taking enforcement actions. They are going after companies that they want to use to make an example for other companies so that other companies don't use non-competes in a way that is, in the FTC's mind, improper or unfair. So time to act is now. And with that, thank you very much for your time and attention. And I leave you with a handful of resources that might help you to keep on top of what's happening at the state level and at the federal level and what things you need to be doing in order to protect your information, to protect your customer relationships, and to protect your business. Thank you again.

Presenter(s)

RBJ
Russell Beck, JD
Founder and Partner
Beck Reed Riden LLP

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