District Court Ruling Bars Federal Trade Commission Non-Compete Rule for the Near Term

Ostensibly pursuant to those provisions, the FTC passed the Non-Compete Clause Rule by a 3-2 party-line vote on April 23, 2024, concluding that non-compete provisions are an unfair method of competition. The Rule, published on May 4, 2024, would have taken effect on September 4, 2024, and would have barred businesses from entering into non-compete agreements or enforcing existing agreements after that date, with only limited exceptions. In our alert published in the wake of the Rule’s promulgation, Pillsbury anticipated that the Rule would trigger numerous legal challenges.

Indeed, challenges to the Rule were quickly lodged. On the same day as the Rule’s release, the U.S. Chamber of Commerce issued a statement claiming that the FTC’s decision was “not only unlawful but also a blatant power grab that will undermine American businesses’ ability to remain competitive,” asserting its intention to challenge the Rule. Among the immediate legal challenges to the Rule were Ryan, LLC v. FTC, Case No. 3:24-cv-00986-E (N.D. Tex. Apr. 23, 2024); ATS Tree Services, LLC v. FTC, Case 2:24-cv-01743 (E.D. Pa. Apr. 25, 2024); and Properties of the Villages, Inc. v. FTC, Case No. 5:24CV00316 (M.D. Fla. June 21, 2024).

The Ryan, LLC v. FTC Decision
The Ryan matter, filed within hours of the Rule’s release, represents the first decision to set aside the Rule. In its complaint, Ryan, LLC, a global tax services firm that uses non-competes with its shareholder principals and certain other employees with access to particularly sensitive business information, alleged that the Rule contravenes the FTC Act, violates the Constitution, and is arbitrary, capricious and otherwise unlawful. On July 3, 2024, the Ryan court granted a preliminary injunction enjoining the Rule as to the plaintiffs, finding, in relevant part, that the plaintiffs were likely to succeed on the merits of their arguments that 1) the FTC lacks substantive rulemaking authority under the FTC Act, and 2) the Rule is arbitrary and capricious.

Thereafter, on August 20, 2024, consistent with its order granting a preliminary injunction, the Ryan court granted the plaintiffs’ motion for summary judgment and set aside the Rule. The court’s decision turned on whether the FTC’s rulemaking was permissible, not on whether non-compete provisions themselves are unlawful. The court’s decision rested on two key legal conclusions. First, the court found that the FTC has no authority to promulgate substantive rules regarding unfair competition, and second, that the Rule is invalid because it is arbitrary and capricious.

On the first issue, the question was whether the power to “make rules and regulations” listed in Section 6 includes the power to promulgate substantive rules like the Non-Compete Clause Rule, or merely procedural rules. The court adopted the latter interpretation, explaining that Section 6 empowers the FTC to create “rules of agency organization procedure or practice”—but does not empower the FTC to create rules that bind the regulated public. As evidence, the court noted that Section 6 does not provide penalties for rule violations, and that it lists rulemaking as a secondary power in the same clause as “classify[ing] corporations.”

On the second issue, the court found that, even if the FTC had a valid grant of authority to issue the Rule, it must nonetheless be set aside as arbitrary and capricious. The court concluded that the proffered evidentiary support, including the FTC’s reliance on studies of state rules, was insufficient to support a sweeping and categorical ban of the type that the FTC issued. Further, the evidence and explanation put forth did not justify the FTC’s failure to consider less drastic alternatives to the Rule. Those failings resulted in an “unreasonably overbroad” Rule, enacted “without a reasonable explanation,” therefore making it arbitrary and capricious.

The Ryan court wrote that its decision to set aside the Rule has “nationwide effect,” is “not party-restricted,” and “affects persons in all judicial districts equally.” The court further asserted that the Rule “shall not be enforced or otherwise take effect on September 4, 2024, or thereafter.” The court’s order is final and immediately appealable.

Implications and Further Challenges
Following Ryan, the Rule may not ever go into effect—but its fate is not yet certain. While it is uncertain whether the FTC will succeed before the Fifth Circuit, it is widely expected that the FTC will appeal the ruling to that court. Additionally, while the Ryan court was the first to issue a decision on the merits, it will not be the last. Like the Ryan court, the U.S. District Court for the Middle District of Florida, in Properties of the Villages, Inc. v. FTC, temporarily blocked the Rule as to the plaintiff on August 15, 2024. Further, the Properties of the Villages court additionally found that plaintiff was likely to prevail on its argument that the Rule “presents a major question as defined by the Supreme Court,” and that Congress did not render “a sufficiently clear expression to authorize the final rule.”

By contrast, in ATS Tree Services, LLC v. FTC, the U.S. District Court for the Eastern District of Pennsylvania reached the opposite conclusion, declining to enjoin the Rule from going into effect, and concluding that the FTC did not act unreasonably in issuing the Rule.

Assuming these cases each advance to the respective appellate courts, and assuming those courts do not reach a consensus (and assuming the next presidential administration continues to advance the Rule), Supreme Court review is a strong possibility.

The Impact of Loper Bright
The legal fight over the Rule is one of the first major administrative law disputes since the Supreme Court overturned the Chevron doctrine in Loper Bright Enterprises v. Raimondo, 144 S. Ct. 2244 (2024). That decision means that courts will no longer defer to administrative agencies’ interpretations of their enabling statutes, even where those statutes are ambiguous.

While even before Chevron’s demise, courts had several powerful tools for striking down agency rules, the demise of Chevron makes it substantially easier to reach the Ryan court’s first conclusion: that the FTC has no authority to make rules against unfair competition.

The loss of Chevron opens the door for courts to interpret the FTC Act differently from the FTC itself. The results can be sweeping, as this decision demonstrates; rather than merely deem one rule’s justification to be arbitrary and capricious, the Ryan court has definitively ruled out any substantive FTC rulemaking on unfair competition.

Guidance
The Ryan decision is welcome news for employers seeking to promulgate, and enforce, non-competes, but it does not relieve them of existing obligations to carefully craft and narrowly enforce non-compete agreements. For the time being, employers need not comply with the Rule nor prepare notices to employees and former employees informing them that their non-competes are unenforceable.

However, employers must still remain mindful of the state-specific limitations that govern non-competes in many jurisdictions. In many states, judicial precedent cautions against non-competes whose geographic scope or timeframe are overly broad. In addition to judicial precedent disfavoring overbroad non-competes, numerous states and jurisdictions have recently imposed statutory restrictions on such provisions. For example, the District of Columbia recently passed the Ban on Non-Compete Agreements Amendment Act (BNAAA). The BNAAA prohibits and voids non-compete agreements with all covered employees, except highly compensated employees, entered into on or after October 1, 2022. The Illinois Freedom to Work Act similarly prohibits, among other things, non-compete agreements entered into on or after January 1, 2022, with employees earning $75,000 or less per year. Further, several states have banned non-compete agreements altogether. Currently, California, Minnesota, North Dakota and Oklahoma have issued bans on the use and enforcement of non-compete agreements, with only limited exceptions, such as the sale of a business. It is anticipated that state legislatures will continue to enact laws restricting the enforceability of non-compete provisions.

Finally, the Ryan ruling speaks to the FTC’s authority to promulgate a substantive rule regulating non-compete agreements, but it does not preclude non-compete agreements from being deemed methods of unfair competition in case-specific settings. To the contrary, the FTC still has the power to crack down on non-competes on a case-by-case basis (e.g., by bringing complaints of unfair competition against companies on the basis of non-compete practices).

As such, employers are advised to consult with counsel when strategically considering their general approach to non-competes to ensure they are valid and enforceable under applicable state laws. Employers should also consider alternatives, such as paid garden leave, enhanced confidentiality provisions and non-solicitation provisions, when contracting with employees.