Non-Competes Explained.  

Non-compete agreements can be defined as legal agreements or contractual clauses specifying that an employee cannot enter into competition with an employer after the termination of employment. It is a form of restrictive covenant, namely a clause that adds constraints to the employment contract. The reasoning behind such clauses is to prohibit former employees from revealing or using proprietary information or trade secrets. Typically, non-competes specify a certain period in time when the former employee is prohibited from working for a competitor or in the same industrial sector.   

In Serbia, non-competes are prescribed by the Employment Act as the ‘prohibition of competition’ clause. Article 161 of the Employment Act determines that an employment contract can stipulate the activities that an employee may not be engaged in on his own behalf and for his own account, without the consent of his employer. Such prohibition can be imposed under particular circumstances such as the possibility that the employee may acquire new and important technology know-how, a wide circle of business partners, or learn significant business information and secrets. Furthermore, Article 162 sets out the clause’s length of time, covering a period that may not exceed two years counting from the termination of employment relationship, including the employer’s obligation to pay the employee pecuniary compensation in the agreed amount.  

Countries across Europe encompass divergent requirements regarding the validity of such clauses, but it mostly comes down to solutions similar to the Serbian non-compete formula such as written form, restricted activity, length of the prohibition and compensation. Some states, such as California, refuse to enforce non-competes that add up to spin-off entrepreneurship in Silicon Valley.  

FTC Point of View.  

On January 5, 2023, the Federal Trade Commission published a Notice of Proposed Rulemaking to prohibit U.S. employers from imposing non-compete clauses on employees. The agency justified the ban proposal by stating that about one in five employees in America, amounting approximately to 30 million people, are bound by non-compete clauses and thereby, restricted for seeking better employment positions. The Commission pointed out that by preventing employees from pursuing freely better opportunities, and by preventing employers from hiring highly qualified workers bound by such clauses, non-competes directly harm competition. Additionally, these clauses are usually on a take-it-or-leave-it-basis, exploiting the employees’ lack of bargaining power.  

The FTC added that non-competes directly stifle entrepreneurship and prevent new businesses from entering the market. Even though employers justify the use of non-competes with their employees to shield confidential information and trade secrets, and to get the most out of their investment related to capital and training, records have shown that three states in which employers cannot enforce non-competes – namely, California, Oklahoma and North Dakota – have prospered tremendously over the time. For example, modern literature suggests that Silicon Valley owes its success to the dynamics of spin-off entrepreneurship. Namely, spin-off entrepreneurship may have developed in response to the set-up of the Californian labor regulations that don’t allow the enforcement of non-competes. Even though non-competes may produce some desirable effects, the entrepreneurial history of the Silicon Valley started by individuals who previously worked in companies in the same or closely related industrial sectors.   

Discussion: The Proposed Non-Compete Clause Rule  

The rule proposed by the FTC that would supersede all contrary state laws has been defined as a contractual term between an employer and a worker that prevents the worker from seeking or accepting employment with a person, or operating a business, after the conclusion of the worker’s employment with the employer. The extensive definition includes ‘de facto’ non-compete clauses in line with the functional test, namely contractual provisions that may produce the same effects as non-compete clauses. Clauses that could be deemed to be non-competes are, for example, broadly drafted NDAs or repayment-of-training-costs contractual provisions.   

There is an exception to every rule, and the non-compete clause rule provides a sale-of-business exception as well. While the definition’s wording is pretty extensive, the exception is narrow since it is limited to individual persons with at least a 25 percent ownership stake in the business. Therefore, the proposed norm will not apply to a non-compete clause that is entered into by a person who is selling a business entity or by a person who is selling substantially all of the business entity’s operating assets. Additionally, if we take a look at Section 5 of the Federal Trade Commission Act, as the agency’s source of power to promulgate such norms, that it doesn’t apply to particular industries or employers such as banks, federal credit unions, air carriers and others.  

What’s Next?  

At the moment the proposed non-compete clause rule is open for public comment. In the meantime, we can shed light on this issue by taking a look at two 2019 cases on both sides of the Irish sea regarding the impact of competition for the purposes of constructing such clauses. The decisions of the UK Supreme Court in Tillman v Egon Zehnder Ltd and the Irish High Court in Ryanair DAC v Bellew laid down a general rule. Namely, a non-compete clause shall be considered void unless the provision does no more than is reasonably necessary to provide adequate protection of a legitimate interest of the business. The courts further explained that legitimate interests may include pieces of information such as specialist knowledge of the former employer’s business or similar commercially sensitive information.  

Even though such interests can be, in most cases, adequately safeguarded by specific restrictive agreements prohibiting the sharing of confidential information, yet sometimes the courts may accept that it is legitimate to prevent former employees from working for a rival. These cases demonstrate that while these clauses probably won’t be prohibited in the long run, new legal tests may be adopted for assessing their scope. A number of legal experts point out that there is no room for panic. The secret ingredient when it comes to drafting such clauses is the fact that they should be drafted narrowly enough to protect the employer’s legitimate business interests, and reasonable in relation to geography, duration and the prohibited scope of activities.   

Sources: 

1. Books/Journal Articles/Publications: 

Atlas, C.R. et al (2023). A deeper dive into FTC’s proposed non-compete rule. Jackson Lewis. 

Buenstorf, G. et al (2016). Non-compete clauses, employee effort and spin-off entrepreneurship: A laboratory experiment. Research Policy 45(10), pp. 2113-2124. 

FTC (2023). Fact Sheet: FTC Proposes Rule to Ban Noncompete Clauses , Which Hurt Workers and Harm Competition. Federal Trade Commission – Publication.  

Mc Mahon, C. & Eustace, A. (2022). Nothing to Lose But Their Restraints of Trade: Lessons for Employment Non-Compete Clauses From EU Competition Law. Industrial Law Journal 2022. 

 2. Case Law: 

Ryanair DAC v. Peter Bellew (2019) IEHC 907. 

Tillman v. Egon Zehnder Ltd (2019) UKSC 32. 

3. Legislation: 

Employment Act (‘Off. Herald of RS’, Nos. 24/2005, 61/2005, 52/2009, 32/2013, 75/2014, 132017- Decision of the CC, 113/2017 and 95/2018- authentic interpretation). 

Federal Trade Commission Act (1914) 15 USC §45. 

Non-Compete Clause Rule (Billing Code:6750-01-P).