The Federal Trade Commission voted 3-2 on Tuesday to ban most non-compete agreements. This rule means that companies cannot require their non-executive employees to wait a certain period of time before joining a competitor or starting their own business in the same category. While the FTC’s decision will have the greatest impact on industries such as financial services and hedge funds, it could also impact startups due to the prevalence of such agreements in these industries.
The ban could be positive news for startup founders and HR managers in many ways. For one thing, it could open up the hiring pool, says Nick Cromydas, co-founder and CEO of recruiting startup Hunt Club.
“Now there will be greater potential cross-pollination of companies that truly understand business models and spaces,” Cromydas said. “I expect there will be more hires with direct domain experience than we have seen in a long time.”
Ryan Vann, a partner at Cooley who specializes in employment law, agreed. He said he had clients who were too interested in poaching potentially game-changing talent from larger companies for fear that those companies would comply with the non-compete agreement.
Banning non-competes could also encourage startups to foster a strong company culture that nurtures people want to stay instead of keeping them with threats, Cromydas said.
Some members of the startup community also seem happy with the ruling – which is rare with FTC decisions these days. Sarah Guo, the founder of AI-focused VC firm Conviction, tweeted that banning non-competition clauses is a benefit for innovation. Cole Harrington, co-founder and CEO of ThoughtWave AI agreed with her.
Understandably, some startup CEOs are concerned about the impact the end of non-compete agreements could have on intellectual property security, but Cromydas said there are other ways for companies to protect themselves. Startups can have their employees sign intellectual property confidentiality agreements or spend more time filing patents. Rather than blocking an employee’s future employment, such alternatives prevent them from using the previous employer’s intellectual property knowledge in their new job.
Start-up employees may not notice much of a change for two other reasons: non-compete agreements are already very difficult to enforce, Vann said, and they’ve fallen out of fashion at start-ups anyway. Certain states, including startup-heavy California, have existing state laws that restrict them. However, he added that any of his customers who can use them usually do so, although they are only used on a small scale.
“Even without this prohibition, it is really, really difficult to enforce a non-compete agreement in virtually every court in America, unless there are serious facts like stealing confidential information, soliciting clients before you leave, or trying to build a competing business beforehand.” “You’re leaving,” Vann said. “I would almost never engage in litigation if I were not armed with such evidence or misappropriation of trade secrets.”
Against this background, non-compete agreements are becoming increasingly rare, according to Hunt Club’s corporate data. While five years ago 90% of offers received through Hunt Club’s platform contained a non-compete clause, today the figure is around 40%. However, Cromydas said he would have no doubt that they will be back on the rise in key sectors such as AI, where intellectual property is crucial and the battle for talent is fierce.
So what should startup CEOs do if they are currently using non-compete agreements with their employees? Absolutely nothing, says Vann, who asks whether the ban will actually last. Several lawsuits have already been filed against the ruling, including one by the US Chamber of Commerce and another by the tax consulting firm Ryan LLC.
Vann believes this potential ban could be overturned by numerous courts. If these legal hurdles are removed, startups looking to hire someone who may have signed such an agreement will be able to terminate existing non-compete agreements incredibly easily.
“The worst-case scenario if you’re a startup and you hire someone with a non-compete agreement is that all you have to do is give notice that your non-compete agreement is unenforceable,” Vann said. “I would maintain the current status quo and see what happens.”