In a widely reported August 20 decision in Ryan LLC, et al. v. FTC, Federal Judge Ada Brown of Texas vacated the FTC's nationwide noncompete ban that was scheduled to become effective on September 4. This was the first court decision that has issued a final ruling on the legality of the FTC's noncompete rule, and therefore, was being followed very closely. To fully appreciate how badly the FTC lost on this motion, it bears emphasis that the FTC was handed a huge advantage in terms of the standard by which their rule would be judged: absent a finding its noncompete ban was clearly arbitrary and capricious, the FTC's judgment and rule would be accorded great deference, and also presumed rational.
And yet, they still lost. And, judging from the language of the holding, it wasn't particularly close.
First, some background about the FTC's noncompete ban:
What the FTC's Noncompete Rule Said
As we noted previously, when the FTC passed its modified noncompete ban, the rule broadly defined an impermissible noncompete provision as follows :
A term or condition of employment that prohibits a worker from, penalizes a worker for, or functions to prevent a worker from:
(i) seeking or accepting work in the United States . . . where such work would begin after the conclusion of the employment . . . ;
(ii) operating a business in the United States after the conclusion of the employment . . . .
Two other important facets of the FTC's rule were that it was intended to have retroactive effect, meaning that agreements already on the books at the time the rule became effective would be deemed unenforceable, and it also barred clauses that were not direct non-compete restrictions, but had similar effect, stating that "a payment to a prospective competitor to stay out of the market may also violate the antitrust laws even if it is not a non-compete under this rule.”
What the Texas Federal Court Held in Ryan
Following are some of the highlights (or lowlights, depending on your perspective) from the Court's 28-page memorandum decision:
(1) The FTC exceeded its rulemaking authority in seeking to impose a nationwide noncompete ban.
When conducting such determination [under Section 706 of the Administrative Procedure Act ("APA")] , courts must “hold unlawful and set aside agency action, findings, and conclusions found to be . . . arbitrary, capricious, an abuse of discretion, or otherwise not in accordance with law,” “contrary to constitutional right, power, privilege, or immunity;” or “in excess of statutory jurisdiction, authority, or limitations, or short of statutory right.” 5 U.S.C. § 706(2)(A)–(C) ...
The issue presented is whether the FTC’s ability to promulgate rules concerning unfair methods of competition include the authority to create substantive rules regarding unfair methods of competition. …. By a plain reading, Section 6(g) of the Act does not expressly grant the Commission authority to promulgate substantive rules regarding unfair methods of competition. Plainly read, the Court concludes the FTC has some authority to promulgate rules to preclude unfair methods of competition. Indeed, the Act alludes to this power in Section 18. See 15 U.S.C. § 57a. However, after reviewing the text, structure, and history of the Act, the Court concludes the FTC lacks the authority to create substantive rules through this method. Section 6(g) is “indeed a ‘housekeeping statute,’ authorizing what the APA terms ‘rules of agency organization procedure or practice’ as opposed to ‘substantive rules.’” Chrysler Corp. v. Brown, 441 U.S. 281, 310, 99 S. Ct. 1705, 1722, 60 L. Ed. 2d 208 (1979) ...
Agencies are creatures of Congress —“an agency literally has no power to act . . . unless and until Congress confers power upon it.” Louisiana Pub. Serv. Comm’n v. FCC, 476 U.S. 355, 374, 106 S. Ct. 1890, 1901, 90 L. Ed. 2d 369 (1986). ... “Agencies do not have unlimited power to accomplish their policy preferences until Congress stops them; they have only the powers that Congress grants through a textual commitment of authority.” See Cent. Forwarding, Inc. v. ICC, 698 F.2d 1266, 1272 (5th Cir. 1983) ...
In sum, the Court concludes the text and the structure of the FTC Act reveal the FTC lacks substantive rulemaking authority with respect to unfair methods of competition, under Section 6(g). See generally 15 U.S.C. § 46(g); 15 U.S.C. § 57a. Thus, when considering the text, Section 6(g) specifically, the Court concludes the Commission has exceeded its statutory authority in promulgating the Non-Compete Rule. Having determined the FTC exceeded its statutory authority, the Court pretermits further discussion of statutory bases.
(2) The FTC's Noncompete Rule Was Both Arbitrary and Capricious.
Here is one of the "money" paragraphs from the decision:
The Court concludes that the Rule is arbitrary and capricious because it is unreasonably overbroad without a reasonable explanation. The Rule imposes a one-size-fits-all approach with no end date, which fails to establish a “rational connection between the facts found and the choice made.” State Farm, 463 U.S. at 43, 103 S. Ct. at 2867 (quoting Burlington Truck Lines, Inc. v. United States, 371 U.S. 156, 168, 83 S. Ct. 239, 246, 9 L. Ed. 2d 207 (1962)). The record does not support the Rule. In enacting the Rule, the Commission relied on a handful of studies that examined the economic effects of various state policies toward noncompetes. (See ECF No. 210 at 37).
The record shows no state has enacted a non-compete rule as broad as the FTC’s Rule. (See, e.g., ECF No. 210 at 686, 881). The FTC’s evidence compares different states’ approaches to enforcing non-competes based on specific factual situations—completely inapposite to the Rule’s imposition of a categorical ban. (See ECF No. 210 at 46–47). As to this latter point, the FTC provides no evidence or reasoned basis.
The Commission’s lack of evidence as to why they chose to impose such a sweeping prohibition—that prohibits entering or enforcing virtually all non-competes—instead of targeting specific, harmful non-competes, renders the Rule arbitrary and capricious. See Transitional Learning Cmty. at Galveston, Inc. v. U.S. Off. of Pers. Mgmt., 220 F.3d 427, 430 n.2 (5th Cir. 2000) (holding that “failing to give a reasonable explanation for how [an agency] reached its decision” may make an agency’s decision arbitrary and capricious under the APA). In sum, the Rule is based on inconsistent and flawed empirical evidence, fails to consider the positive benefits of non-compete agreements, and disregards the substantial body of evidence supporting these agreements.
As my father, of blessed memory used to say sarcastically, "I sense you're holding back on me; tell me what you really think."
What Will Likely Happen Next
While the FTC is almost certain to appeal this decision, it is not anticipated that the 5th Circuit appellate court will overturn this decision. On the other hand, there are some other cases challenging the FTC's rule in other parts of the country where it is assumed that the trial court will reach the opposite conclusion. But for now, the FTC noncompete ban is not the law (or rule) of the Land.
