Non-Compete Uncertainty Means Employers May Consider Alternatives

The non-compete landscape in the US is evolving at the national and state levels—including, notably, in recent pending New York non-compete legislation.

In response, employers may want to evaluate their use of non-compete agreements and consider additional ways to protect confidential information and trade secrets, client goodwill, and investments in key employees.

FTC’s Non-Compete Rule

The Federal Trade Commission issued a final rule in April 2024 effectively banning non-compete agreements nationwide, with limited exceptions. Legal challenges to the rule immediately followed, and, in August 2024, a federal district court in Texas blocked the FTC’s rule from taking effect.

The Texas district court ruled that the FTC lacked the statutory authority to implement the non-compete rule, which it also concluded was arbitrary and capricious. The FTC appealed that decision to the US Court of Appeals for the Fifth Circuit under the Biden administration. The Trump administration has requested additional time to consider whether to maintain the appeal.

New York Legislation

Even prior to the FTC rule, New York legislation was proposed in 2023 that would have severely restricted the ability of New York employers to incorporate non-compete agreements into employment arrangements. Gov. Kathy Hochul (D), however, vetoed the legislation.

On June 9, the New York Senate passed revised legislation, S4641. If enacted, it would amend the state labor law to prospectively ban non-compete agreements, except those for individuals who make an average of $500,000 or more annually, physicians, and certain other health-care professionals. The bill has been referred to the New York Assembly Labor Committee.

Advantages and Risks

Many employers favor non-competes because they can help protect confidential information and trade secrets, goodwill with key clients and customers, and investments in developing and training employees, particularly those with unique or special abilities.

But non-compete agreements aren’t without risks. Non-competes can be difficult to enforce, in part because enforcement often requires involving a court (or arbitration panel) to seek an injunction, which comes with associated litigation costs. Enforcing non-competes can also be more difficult when an employee moves to a state such as California, which has a statutory ban on non-compete agreements.

Also, employers are often hesitant to enforce a non-compete through litigation, as doing so might draw clients into the dispute. Additionally, some employers believe that binding their employees to non-competes makes them more expensive to employ, due to the restrictions that will be placed on their ability to work after their employment ends.

Alternatives to Non-Competes

Given that the ability to enter into an enforceable non-compete varies by state—and legislation may limit their scope and availability—employers can consider other means of protecting their interests.

Garden leave is an arrangement in which an employee remains employed and continues to be paid for a period, but doesn’t actively work. The duration is generally one year or less, and allows for a “cooling off” period without limiting the employee’s ability to earn a living.

During garden leave, the employee no longer has access to sensitive information. Therefore, upon separation, the employee’s knowledge of such information is more removed.

Non-solicitation agreements prohibit former employees from soliciting their previous employer’s customers and clients, and in some cases, employees. These agreements are viewed as somewhat less restrictive than non-compete obligations and can be effective at protecting customer relationships.

Non-solicitation agreements, however, suffer from many of the same concerns as non-competes related to enforcement challenges.

Confidentiality agreements, or nondisclosure agreements, aim to prevent current and former employees from disclosing nonpublic information received while employed. By their terms, a confidentiality agreement doesn’t prevent an employee from seeking or accepting work with another company post-employment.

Such agreements are particularly useful for employers seeking to protect their sensitive information and trade secrets.

Training repayment agreement provisions, or TRAPs, like confidentiality agreements, don’t prevent employees from seeking or accepting work with another company post-employment. Rather, these agreements require employees to repay a company the cost of their training if they leave an employer before the designated time.

TRAPs are especially beneficial to employers who want protections after investing in their workforce. TRAPs help ensure that employers will benefit from their training and hiring costs and may help them retain talent.

Forfeiture-for-competition clauses authorize an employer to cancel unexpired, unpaid, or deferred equity awards if an employee begins to work for a competitor so an employee who chooses to “compete” may forfeit certain benefits.

These clauses differ from traditional non-compete agreements because they incentivize employees to continue working for their current employer. Such clauses are useful for employers that have high-value deferred compensation plans or equity agreements.

Like other alternatives to traditional non-compete agreements, these clauses are considered less restrictive, and courts may be more likely to view them as enforceable. New York courts, for example, have held that forfeiture-for-competition clauses aren’t subject to the same reasonableness standard as a traditional non-compete clause.

In Lucente v. Int’l Bus. Machines Corp., the court explained that forfeiture-for-competition clauses may be enforceable so long as an employee “has the choice of preserving his benefits by refraining from competition or risking forfeiture of such benefits by exercising his right to compete.”

Finally, employers can rely on common-law fiduciary duties applicable to all employees to protect themselves in many situations while an employee remains employed. In most jurisdictions, employees owe their employers a duty to act in the employer’s best interest.

Takeway

As the FTC weighs whether to appeal the Texas court’s decision to strike down its ban on non-compete agreements, and as New York’s latest bill restricting non-competes makes its way to Hochul’s desk, non-competes remain enforceable in many states.

But the legal landscape for non-competes continues to shift. Employers may want to evaluate whether there are suitable alternatives that would work to protect their trade secrets and other confidential information.

This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law, Bloomberg Tax, and Bloomberg Government, or its owners.

Author Information

Ann-Elizabeth Ostrager is a partner in Sullivan & Cromwell’s litigation group and a co-head of the firm’s employment law group.

William S. Wolfe is a practice area associate in Sullivan & Cromwell’s employment law and workplace investigations groups.

Danielle N. Martin, a summer associate at Sullivan & Cromwell, contributed to this article.

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(An incorrect AI summary previously at the top of this story was removed.)