On April 23, 2024, the Federal Trade Commission (“FTC”)approved a new rule (“Rule”) banning most non-compete clauses as an “unfair method of competition.” The Rule is set to take effect on September 4, 2024. Franchisors should know the ramifications of the Rule. Luckily, you have us! Here’s the skinny:
Overview
The Rule does not prohibit non-compete agreements between franchisors and franchisees. However, it does apply to non-compete agreements signed by employees of a franchisee or franchisor.
The Rule describes a “non-compete clause” as any contractual condition, employment policy, or term—whether written or spoken—that restricts an employee’s ability to seek, accept, or start new work, or run a business after leaving a job. This can include anything that punishes or effectively prevents a worker from doing so. Additionally, other types of agreements meant to apply after employment ends, such as non-solicitation agreements, might be challenged under this Rule if they essentially act as non-compete clauses.
Generally, the Rule will impact all employers which are subject to the FTC’s authority (i.e., franchisors). The Rule applies to paid and unpaid workers, including employees, independent contractors, externs, interns, volunteers, apprentices, and sole proprietors. Importantly, the Rule does not apply to non-compete agreements between franchisors and franchisees.
Franchise agreements commonly stipulate that franchisees secure non-compete agreements from managers or key personnel. However, under the new Rule, non-compete agreements are unenforceable unless the employee qualifies as a “Senior Executive”—defined as an individual earning over $151,164 annually and holding a “policy-making position” (a person who has final authority to make policy decisions that control significant aspects of the entity). This applies only to non-competes entered into with Senior Executives before the Rule’s effective date. Furthermore, the Rule forbids franchisees from even attempting to obtain non-compete agreements from their employees. Should the Rule remain unchallenged (more on this later), franchisees will be unable to require non-compete agreements from any employees except Senior Executives. Accordingly, franchisors will need to revise their franchise agreements to eliminate any mandates that franchisees obtain such agreements from employees.
What is Banned under the Rule?
The Rule restricts employers from: (a) signing or attempting to sign a non-compete, (b) enforcing or seeking to enforce a non-compete, and (c) claiming that an employee is bound by a non-compete. The Rule applies to non-competes established prior to the Rule’s effective date, except when it involves a Senior Executive.
As previously mentioned, the Rule does not ban non-compete agreements in the context of a franchise relationship between a franchisor and a franchisee. It explicitly clarifies that the term “worker” “does not encompass a franchisee in the context of a franchisee-franchisor relationship. Thus, assuming compliance with state laws, the Rule will not affect the ability of franchisors to enforce reasonable non-compete clauses that restrict franchisees from competing post the expiration, termination, non-renewal or sale of a franchised business.
What Should I Do?
Employers (including franchisees) are required to notify employees (except Senior Executives) who are parties to existing non-compete agreements that these are now unenforceable. This notification must be given by the Rule’s effective date, anticipated to be September 4, 2024.The Rule provides sample notice language to use.
Franchisor’s employees are covered also by the Rule. So, like all other employers, franchisors should remove any non-competes from their employment contracts, except for Senior Executives and provide the notice discussed above.Remember, the Senior Executive exemption will only apply to Senior Executives who entered intoa non-compete agreement prior to the Rule’s effective date. The Senior Executive exemption will not apply to non-competesexecuted after the Rule’s effective date.
Any Chance the Rule is Invalidated by the Courts?
Lawsuits challenging the Rule were filed almost immediately after the Rule was approved. Many experts believe that some courts will enjoin the Rule from taking effect until the U.S. Supreme Court has the final say. It’s possible the Rule never takes effect, but only time will tell, so it’s best for you to stay informed. You can always reach out to us if you have any questions!