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If an FTC proposal goes into effect, most contract clauses that bar executives from being hired by rivals could be outlawed: “It would truly be a sea change.”
By Ashley Cullins
Senior Business Editor
A new Federal Trade Commission rule that would ban noncompetes nationwide could complicate Hollywood hiring, even though California already prohibits the clauses in most contracts.
On Jan. 5, the FTC released a proposed rule that would bar employers from making workers agree to noncompetes, which generally prevent them from taking jobs with competitors for a certain period of time after they leave the company. The agency says the clauses are a form of unfair competition in the labor market, lowering wages and stifling innovation, among other issues. The rule, as written, would apply to independent contractors and unpaid interns as well as employees, and it would make companies rescind noncompetes they’ve already secured.
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“An overused term is actually appropriate here — it would be truly a sweeping sea change,” says Molly Lens, co-head of O’Melveny’s entertainment, sports and media group. “Less so for California, which already prohibits the use of post-employment noncompetes in most circumstances, but for the majority of the other states which do not. I wouldn’t be surprised if the FTC were looking at California law for guidance.”
Orrick partner Cathy Lui, who specializes in complex commercial litigation, agrees that California is likely a model, and noted that FTC chair Lina Khan in a Jan. 9 New York Times op-ed lauded the state’s ability to thrive economically without relying on the clauses. “This is a big and bold move from the FTC in banning noncompetes wholesale except for very limited circumstances,” she says. “Multiple states have legislated noncompetes recently and these states have primarily focused on protecting low-wage workers so the natural extension from the FTC would have been to do something similar. The FTC’s proposed rule takes it much further and it was a bit surprising to see the FTC moving the rest of the nation closer to California’s legal landscape.”
Even though the clauses are already prohibited in most cases, California Attorney General Rob Bonta in March 2022 issued an alert reminding workers and employers that noncompetes are unenforceable. “Despite being prohibited in California, noncompete provisions are routinely included in employee contracts, including contracts for lower-wage workers. This can have a tremendous effect of deterring workers from pursuing new, and oftentimes better job opportunities,” Bonta said in the press release. “As our economy recovers, it is more important than ever for employers and workers in our state to have a system that protects competition in the labor market. Today’s alert is a reminder that noncompete agreements have no place in California.”
On Jan. 5, Bonta shared the FTC’s announcement on Twitter writing, “I’m thrilled that @FTC is considering taking action to make [noncompetes] a thing of the past. Every worker deserves a chance to pursue new opportunities.”
Adds Dimitry Krol, senior counsel in Loeb & Loeb’s entertainment labor group, “This is a sign of the times. There is pro-worker sentiment and legislation being promulgated by the Biden administration. I don’t think this is going to be the last we see of these types of rules and regulations.”
While scrutiny of noncompetes affecting lower-wage workers was expected, Anthony Oncidi, co-head of Proskauer’s labor and employment department, says it’s surprising the rule applies even to senior executives who negotiate contracts “with eyes wide open and often with the assistance of counsel.”
The FTC’s proposed rule would also go further than California historically has when it comes to the sale of businesses. “Notably, it permits a noncompete in this context only if the seller is a ‘substantial owner,’ which is defined as having at least a 25 percent ownership interest in the entity,” explains Oncidi. “Although there is no comparable statutory definition of substantial ownership under California law, case law holds that an owner/seller of even less than three percent of the outstanding stock of a corporation may be subject to an enforceable noncompete. The California statutes permitting noncompetes in the sale of business context are even more favorable for purchasers of interests in a partnership or a limited liability company.”
Oncidi and Lens were involved in two of the most high-profile fights over Hollywood executive talent in recent memory, representing Viacom and Fox, respectively, in their suits against Netflix after the streamer hired away employees who were under contract. Those both centered on fixed-term employment agreements, which Netflix unsuccessfully argued were unenforceable. Oncidi says such contracts can help companies stabilize their workforce without running afoul of rules against noncompetes. He notes, “If an employee leaves employment before the expiration of the term, the employer may be able to sue the employee for breach of contract and, perhaps even more potently, a third party for tortiously interfering with that employment agreement.”
In lieu of noncompetes, experts say businesses will be looking for other ways to protect trade secrets when executives depart to work for a competitor. This could manifest as a focus on enforcing non-solicitation clauses, which prohibit exiting workers from soliciting some combination of customers, clients or employees to join them. There’s been litigation in California exploring whether these provisions operate as noncompetes by restraining someone’s ability to do business, so that’s another gray area.
“The interplay between the proposed rule and post-term non-solicitation provisions needs to be resolved,” says Lens. “That intersection has been a hot topic in California recently, and we’ve seen a number of non-solicitation provisions fall based on courts’ conclusions that the non-solicitation provisions violate California Business and Professions Code Section 16600.”
According to the FTC’s 216-page notice, the rule generally would not affect other “restrictive employment covenants” such as NDAs and client or customer non-solicitation agreements unless those were so broad that they effectively functioned as noncompetes. But, because there’s nothing explicitly carving out fixed-term deals, Lens says it could make employers hesitant to rely on them.
“It’s possible that certain employers could decide to jettison their use of fixed-term contracts for fear that some of the ancillary provisions in the contracts may be found to be ‘de facto’ noncompetes under the rule, which would be an unfortunate result for employees who currently benefit from the protection of such agreements,” says Lens. “Of course, this all assumes the proposed rule is both enacted and survives the expected challenges. So, regardless, we’re likely a long way out before the proposed rule goes into effect, if ever.”
Oncidi also expects an uphill battle here. “It’s nearly certain there will be an immediate challenge to whether the FTC even has authority under the FTC Act to issue this kind of rule and whether it passes muster with the Supreme Court,” he says. “Given the legal challenges the proposed rule is likely to face, I expect a lot of give-and-take before a final version of the rule is adopted.”
In its notice, the FTC has already laid out alternatives to the rule. Among other things, it is exploring whether it should issue a categorical ban or consider a worker’s occupation, earnings or other factors. The agency will take public comments through March 10, so now is the time for employers to assess the potential impact to their business and respond accordingly. (The deadline, which is 60 days from the time of publication, was initially estimated to be March 6.)
“This will force many companies, including those in the entertainment industry, to re-evaluate their contracts,” says Krol. “I anticipate comment on the very broad language of who a worker is and on the retroactivity of the rule.”
Adds Oncidi, “I would not be surprised to see a spirited response from the business community, particularly given that one of the more common justifications for having a noncompete — incentivizing investment in employees’ skills and training — is compelling with respect to highly paid workers.”
The FTC has indicated it’s specifically interested in the public’s comments on whether senior executives and other highly paid or highly skilled workers should be subject to a different set of standards.
“Employers across all industries need to take this seriously and pay attention,” says Lens, who says she’d be shocked if Hollywood companies don’t argue for changes or clarifications. “As to the entertainment industry specifically, if the FTC were to exclude skilled and highly paid workers from the final rule, and there’s confirmation that fixed-term contracts are not impacted, the impact could be very low.”
A version of this story first appeared in the Jan. 11 issue of The Hollywood Reporter magazine. Click here to subscribe.
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