We recently discussed the rule issued by the Federal Trade Commission (FTC) banning non-competes, which was slated to go into effect Sept. 4, 2024. The rule was expected to impact the private sector but was challenged by various influential plaintiffs in federal court.
Ahead of National Franchise Appreciation Day on Aug. 31 and Franchisor Appreciation Day on Sept. 15, let’s review the federal judge’s recent decision to throw out the ban and what it means for franchisees and franchisors.
An Abridged Background of the FTC Rule
The FTC proposed a final rule which declared non-competes to be unfair methods of competition. It found that employers forcing employees to agree to non-compete restrictions was a violation of Section 5 of the Federal Trade Commission Act which declares “unfair methods of competition in or affecting commerce” to be unlawful. (15 USC 45(a)(1).)
This rule aimed to prevent companies from restricting workers’ ability to accept jobs with competing firms or start their own businesses in the same industry. The FTC argued that non-compete clauses unfairly limit worker mobility, suppress wages, and stifle competition and innovation. The proposed rule would have made it illegal for employers to enter into or enforce non-compete agreements with employees, with few exceptions.
Franchisees As An Exception To The FTC Rule
Regarding the exceptions, the FTC announced that the rule would not apply to the franchisor-franchisee relationship. Specifically, franchisees are expressly excluded from the definition of “worker.” However, the rule would still apply to the franchisee’s employees.
Under New York common law, non-compete agreements are generally enforceable with respect to the franchisor-franchisee relationship. In those instances, non-compete agreements are presumptively valid, as they help to ensure that the franchisor can protect its proprietary business methods. But this is not the case in every state.
Franchisors and franchisees should speak with a NY franchise lawyer regarding the proposed rules and non-compete agreements at state and federal levels.
The Federal Court’s Ruling on Non-Competes
The FTC’s proposal faced significant legal challenges, particularly from businesses and states arguing that such a ban overreaches federal authority and interferes with state laws that govern employment contracts. The plaintiffs who sought to block the rule included advocacy groups and the U.S. Chamber of Commerce, who cited the FTC’s lack of authority to implement broad regulations prohibiting practices it deemed unfair.
Judge Ada Brown of the U.S. District Court for the Northern District of Texas ruled against the FTC’s proposed ban last week, effectively striking it down within the state’s jurisdiction.
“The FTC lacks substantive rulemaking authority with respect to unfair methods of competition,” Judge Brown wrote. “The role of an administrative agency is to do as told by Congress, not to do what the agency think[s] it should do.”
As a result, the rule has been blocked from nationwide implementation. Judge Brown’s ruling was based on key points that included:
- Federal Overreach. The judge argued that regulating employment contracts is traditionally within the purview of state law, not federal agencies.
- Economic Impact. The court expressed concerns that a blanket ban on non-compete agreements could have unintended economic consequences, particularly for industries that rely on trade secrets and other sensitive information. The ruling suggested that the FTC’s proposal did not adequately consider the potential harm to businesses.
- State Laws. Texas, like many other states, has its own laws governing non-compete agreements. These laws typically allow non-compete clauses as long as they are reasonable in scope, duration, and geography. The court’s ruling emphasized that states should retain the authority to regulate these agreements according to their own legal standards.
The ruling may be appealed by the FTC to the Fifth Circuit Court of Appeals, so stay tuned.
Why Employers Benefit
The ruling particularly benefits employers who rely on non-compete agreements to protect their business interests, as it allows them to continue enforcing such agreements where state laws permit.
By preventing employees from working for competitors, employers can protect themselves by safeguarding trade secrets, retaining talent and ensuring better value while investing in employee training.
For now, the FTC’s Final Rule is anything but final. Franchisors and franchisees should consult with their NY franchise lawyer to help understand where they stand and what the future holds if the FTC successfully appeals the ruling.
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Contact us today to learn more about how Lusthaus Law P.C. can help you navigate a clear path for your franchise’s successful future.
