Biden’s Order on Noncompetes: A Game-Changer for Small-Business Clients?

Small businesses that may be affected should know the scope of the order — and act now to protect themselves.

President Joe Biden recently issued a far-reaching executive order (EO) encouraging the Federal Trade Commission to ban or strictly limit the use of noncompete agreements on a nationwide basis. While the order does not ban noncompetes outright, the White House fact sheet on the order lists “banning or limiting noncompete agreements” as one of its objectives.

Biden’s executive order is designed to promote competition and limit unfair corporate business practices that hinder economic growth. If the FTC acts, however, this order could have a significant impact on small-business clients that rely on noncompetes to protect their trade secrets, IP, customer lists and other confidential business information. Small-business clients should be advised as to the scope of the order — and consider acting now to protect themselves if necessary.

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Background on the Use of Noncompete Agreements

Noncompete agreements are typically used to prevent employees from taking jobs with competing businesses in a certain geographic area for a limited amount of time. Employers often rely on these agreements to prevent former employees from disclosing trade secrets and proprietary business information to a new, competing employer. These agreements are designed to prevent both intentional disclosure and the unintentional disclosure that is often inevitable when the employee starts working for a new employer.

While there are other legal methods of protecting this information (such as nondisclosure agreements, trade secret law, etc.), noncompete agreements are typically the most effective because they simply prevent the employee from entering a situation where the former employer could be harmed.

Noncompete agreements, however, are often criticized because they can hinder a worker’s employment prospects and ability to change jobs at will. Most states, therefore, limit their use. State laws typically require noncompete agreements to be reasonable in geographic scope, duration, and the type of work the employee is prevented from accepting.

When a noncompete agreement is overly broad, state courts can get involved to modify the agreement (providing more limited protection to the employer), render the overly broad provision not enforceable or throw out the entire agreement. The possibility of court intervention often motivates employers to draft agreements with narrow provisions specifically designed to protect confidential business information while not unfairly limiting the employee’s ability to change jobs.

Potential Impact of FTC Regulation on Small Employers

Biden’s executive order encourages the FTC to take steps to ban or limit the use of noncompete agreements. This is a controversial move because this area of law has always been regulated at the state level.

In light of the order, employers that rely on noncompete agreements should closely examine the terms of those agreements considering potential future changes. Those employers should identify the business purposes behind their use of noncompetes or restrictive covenants — and make sure the agreements are used in narrowly tailored segments of the workforce to minimize the chance of successful future challenges (even at the state level). Overly broad and restrictive noncompete agreements are most likely to be challenged under the new rules.

Some employers might choose to use nonsolicitation agreements instead of noncompete agreements going forward.

While it’s impossible to say what the FTC will do, a relatively clear and safe move would be to narrow the employment categories in which noncompetes can be used to protect lower-wage workers. Even if the FTC chooses not to act, the extra attention in this area could encourage changes in state laws. California and Washington, D.C., already ban most noncompetes. Other states, such as Massachusetts, ban noncompetes for certain professional groups.

Small-business clients should remember that any FTC rulemaking will likely result in significant pushback. Typically, the draft rule will be released for public notice and comment — meaning that members of the business community will have an opportunity to comment on any rule before it becomes applicable (which can lead to changes before a rule becomes final).

Conclusion

This is one area of law that all business clients should monitor going forward. Federal agencies now have a reasonably strong precedent for relying on executive orders as the impetus for rule change — and it seems unlikely that the FTC will choose to do nothing.

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