District Court Issues Injunction Prohibiting Enforcement of FTC Non-Compete Ban

The U.S. District Court for the Northern District of Texas in Ryan LLC v. Federal Trade Commission issued an order July 3, 2024, enjoining the Federal Trade Commission (FTC) from enforcing its Non-Compete Rule (Rule). The Rule – which prohibits virtually all employee non-compete agreements with limited exceptions – has an effective date of Sept. 4, 2024. The court's order prohibits the FTC from enforcing the Rule against the plaintiffs until the court decides on the ultimate merits of the action, which the court will do on or before Aug. 30, 2024. This order is preliminary, and there is another federal court case pending in Pennsylvania that challenges the Rule. Legal challenges are expected to wind through the U.S. Courts of Appeal and perhaps to the U.S. Supreme Court. In the meantime, the court's preliminary injunction in Ryan is a significant initial win for businesses challenging the Rule.

Background

The FTC issued the Rule on April 23, 2024, by a 3-2 vote along partisan lines. The Rule prohibits employee non-compete agreements, with limited exceptions for existing non-competes entered into by senior executives and for non-competes entered into as part of a bona fide sale of business. The Rule requires that by Sept. 4, 2024, employers issue a notice to all employees subject to prohibited non-competes stating that the existing non-competes are not valid and will not be enforced. For further background on the Rule and its potential impact, see Holland & Knight's previous alerts, "New FTC Rule Ban Non-Compete Agreements in All Employment Contracts," April 23, 2024, and "FTC Bans Non-Competes: Takeaways and Action Items for Healthcare Provider CEOs and Investors," April 26, 2024.

On the day the FTC issued the Rule, Ryan – a Texas tax services firm – filed suit against the FTC in the Northern District of Texas challenging the Rule. The U.S. Chamber of Commerce and other industry groups later joined as plaintiff-intervenors in support of Ryan's challenge to the Rule. In seeking the injunction, the plaintiffs argued that the FTC violated the federal Administrative Procedure Act (APA) because the FTC exceeded its statutory authority and FTC's actions were arbitrary and capricious.

The Decision in Ryan

The court (Judge Ada Brown) issued a preliminary injunction prohibiting the FTC from enforcing the Rule against the plaintiffs. The court found the plaintiffs met all the requirements for issuance of preliminary injunction: likelihood of success on the merits, irreparable harm, the balance of harms weighs in the plaintiffs' favor and the injunction serves the public interest.

The plaintiffs established a likelihood of success on prevailing on its two primary arguments: 1) the FTC does not have statutory authority to issue rules defining unfair methods of competition and 2) the FTC's actions were arbitrary and capricious.

The court examined the text, structure and history of the FTC in concluding that the plaintiffs established a likelihood of success in their claim that the FTC lacks the authority to create substantive rules regarding unfair methods of competition. The court concluded that "Congress did not explicitly give the [FTC] substantive rulemaking authority" under the FTC Act. The court explained that 1) for the first 48 years of the FTC's existence, it explicitly disclaimed substantive rulemaking authority and 2) from 1978 until the enactment of the Rule, the FTC did not promulgate a single substantive rule under the provision of the FTC Act (Section 6(g)) that the FTC argued was its authority to enact the Rule. Because the FTC exceeded its statutory authority to issue the Rule, the court found that the plaintiffs established a likelihood of success on the merits of its claim.

The court also found a likelihood of success with respect to the plaintiffs' argument that the Rule is arbitrary and capricious. According to the court, 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." (internal quotations omitted). The court explained that the FTC'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." The court did not address the plaintiffs' additional argument that the Rule is an unconstitutional exercise of power.

The court proceeded to find that the plaintiffs demonstrated irreparable harm. In so finding, the court recognized that the Rule created "nonrecoverable compliance costs," including through the requirement that an employer issue notice to employees that certain existing non-competes would not be enforced. Ryan would not have the ability to recover costs of compliance from the FTC because federal agencies generally have sovereign immunity for monetary damages. Without the ability to later recover monetary damages associated with complying with the Rule, the court found that the plaintiffs established the required irreparable harm to support an injunction.

The plaintiffs established the final requirements of a preliminary injunction: the balance of harms and whether the requested injunction will serve the public interest. The court explained that if the requested injunctive relief is not granted, "the injury to both Plaintiffs and the public interest would be great." An injunction, according to the court, "serves the public interest by maintaining the status quo and preventing the substantial economic impact of the Rule, while simultaneously inflicting no harm on the FTC."

The court then addressed the scope of the preliminary injunctive relief. The plaintiffs argued for a nationwide injunction, which would necessarily provide relief for all employers subject to the Rule. The court recognized that a nationwide injunction is justified in appropriate circumstances but explained that the plaintiffs "offered virtually no briefing (or basis) that would support 'universal' or 'nationwide' injunctive relief." Further, unlike in cases brought by the government in which nationwide injunctive relief was issued, this case was brought only by private entities. Accordingly, the court limited the preliminary injunction to prohibit the FTC from enforcing the Rule only against the plaintiffs and not as to other businesses nationally.

The injunction prohibits the FTC from implementing or enforcing the Rule against the plaintiffs until there is a decision by the court on the merits. The court stated that it will enter decision on the merits on or before Aug. 30, 2024 – five days before the Rule's effective date of Sept. 4, 2024. The FTC has a right to appeal the preliminary injunction order to the U.S. Court of Appeals for the Fifth Circuit, but it may forgo an appeal given the quick timeline and with a potential merits-based decision before the end of August. If the court issues a merits-based decision that finds the Rule to be unlawful and unenforceable – as appears likely based on the preliminary injunction decision – the court may then enter a broader permanent injunction. Alternatively, the court may issue a final judgment under its APA authority that vacates and "sets aside" the Rule, which would have the same beneficial effect for non-parties as a broad nationwide injunction. Either way, the FTC will almost certainly appeal any merits-based decision that finds the Rule unlawful.

Other Cases Challenging the Rule

Ryan is not the only legal challenge to the Rule. On April 24, 2024 – one day after Ryan filed its lawsuit – the U.S. Chamber of Commerce and other parties sued the FTC in the U.S. District Court for the Eastern District of Texas challenging the Rule. The court initially stayed that case and then dismissed it without prejudice after the plaintiffs there joined the earlier-filed action in Ryan. Additionally, on April 25, 2024, ATS Tree Services LLC sued the FTC in federal court in Pennsylvania and filed a motion for a preliminary injunction against enforcement of the Rule. That court has scheduled oral argument on that plaintiff's motion for July 10, 2024.

Conclusion

The preliminary injunction in Ryan underscores the uncertainty of whether the Rule ultimately survives legal challenge. The effective date of the Rule remains Sept. 4, 2024, though the court stated in Ryan that it will issue a merits-based decision on or before Aug. 30, 2024. After a decision on the merits, it will be known whether the Rule survives in any form or as applicable to parties other than those before the court. In the meantime, the federal court in Pennsylvania may act before the merits-based decision in Ryan. Employers should continue to monitor the legal developments, including appeals, and to confer with counsel about the legal and strategy considerations related to navigating the Rule.

For more information and guidance on the court's ruling or the FTC rule and its impact, contact the authors or another member of Holland & Knight's Labor, Employment and Benefits Group, Antitrust Team or Consumer Protection Defense and Compliance Team.

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