Key issues in non-competes 13 min read
The Federal Treasury recently published an Issues Paper seeking views to inform its consideration of a potential prohibition on post-termination worker restraints of trade, no-poach and wage fixing agreements, as part of a broader review of Australian competition laws announced last year (the Competition Review). The Issues Paper identifies concerns that the widespread use of restraint clauses is limiting Australia's economic dynamism and opportunities for growth. Additionally, the US Federal Trade Commission (the FTC) has announced a rule banning the use of non-compete clauses in employment contracts, which Treasury is likely to consider as its review progresses
This Insight summarises the key research considered in the Issues Paper, and the central issues in relation to non-competes being examined as part of the Competition Review, and looks at the FTC rule.
Key takeaways
- Restraint of trade clauses (including non-competes) are increasingly a key focus of competition policy.
- As part of the Competition Review, Treasury published an Issues Paper in relation to non-compete clauses and other restraint of trade clauses in employment agreements.
- The Issues Paper outlines the following concerns regarding the use of restraint clauses, and seeks feedback on their impact on businesses, workers and the broader economy:
- worker mobility, particularly among young and low-paid workers, who have low levels of bargaining power;
- the high cost of litigation, lack of clear guidance and use of cascading clauses, which leave workers and businesses with an unclear understanding of whether the agreed upon restraint clause will be upheld as reasonable and enforceable;
- impacts on lower-paid workers, who do not have the resources to challenge a non-compete clause; and
- the economic consequences of potentially inefficient allocation of labour, in hampering productivity growth and innovation.
- Submissions close on 31 May 2024. The feedback received will inform the Government's consideration of whether reform is needed. If it decides that reform is required, the Government will engage in further consultation on potential reform options.
Background
On 3 April 2024, Treasury published an Issues Paper seeking views to inform its consideration of a possible prohibition on post-termination worker restraints of trade, no-poach and wage fixing agreements. This is part of the Competition Review announced by Treasury in August 2023. The Issues Paper identifies concerns that the widespread use of restraint clauses is limiting Australia's economic dynamism and opportunities for growth, harming both businesses and employees in the long run. It indicates the Government's growing concern that reform in this area is necessary to promote and encourage job mobility and economic productivity.
On 23 April 2024, the FTC announced a rule banning the use of non-compete clauses in employment contracts. Existing non-competes will be unenforceable except for 'senior executives', and any new non-competes will be banned. The FTC determined that non-competes are 'coercive and exploitative', an unfair method of competition and a violation of the Federal Trade Commission Act. The FTC voted 3-2 to approve the rule. Dissenting Commissioners voted against the rule primarily on the basis that it was beyond power. Opponents of the rule have moved quickly, with three lawsuits already commenced, seeking to overturn it on the basis that it is beyond power.
What are restraint of trade clauses?
Non-compete or restraint of trade clauses limit what a worker can do while employed by an employer and when their employment ends. Australian Bureau of Statistics Research from 2023 (ABS Research) found that 46.9% of Australian businesses include some type of restraint clause in their employment contracts.
There are three main types of restraint of trade clauses.
Non-compete clauses restrict a worker (employee or independent contractor) from working for a competitor or establishing a competing business. These clauses normally define a particular geographic area and specific time period after a worker finishes employment.
Non-compete clauses are generally considered to be a catch-all, compared with other, more targeted, restraint of trade clauses, such as non-solicitation clauses and non-disclosure clauses, which provide businesses with greater and specific protections.
This type of restraint is used most widely in Australia, with ABS Research finding around 21% of businesses used a non-compete clause for some of their workers, and 68.2% of these businesses used them for over three-quarters of their workers.
Non-solicitation clauses restrict former workers from 'soliciting' former clients or customers, business contacts (eg suppliers) or co-workers after ceasing employment. Often these are contacts that have been facilitated by the employer in order to increase or consolidate its network and improve services. Non-solicitation clauses can apply where a customer, supplier or co-worker approaches the former worker, who only reciprocates.
ABS Research reported that 25.4% of businesses used a client non-solicitation clause for some of their workers in 2023, and around 18% of businesses used a co-worker non-solicitation clause. A large proportion of businesses that used non-solicitation clauses (71.3% for clients; 67.2% for co-workers) used them for over three quarters of their workers.
Non-disclosure clauses (or confidentiality clauses) restrict former workers from disclosing confidential information received during their employment. Confidential information can include trade secrets and client lists.
ABS Research reported that 45.3% of businesses used a non-disclosure clause, and 81.3% of businesses used non-disclosure clauses for over three quarters of their workers.
Issues Paper research: impact of restraint of trade clauses
The ABS Research reported that restraint clauses are found across all industries in Australia, and are applied to all levels of employees, not only executives and strategically significant employees. Australian research found that job mobility is associated with higher wages for workers. This was found to be true even for workers who stayed in existing jobs, because a more dynamic labour market increases workers' bargaining power.
The Issues Paper discussed a number of issues and competing employer interests arising from the use of restraint clauses.
Non-compete clauses are generally more straightforward for employers to enforce, as proof of breach may be simpler. Employers are often motivated to rely on non-competes to protect their intellectual property, including client lists. It may be easier to prove that a former worker is working for a competitor than to prove that they are using confidential information or have solicited clients or co-workers. However, the paper notes that simplicity of use by businesses may lead to indiscriminate use beyond what is necessary to protect legitimate interests.
The Issues Paper cites research that suggests non-competes reduce job mobility and innovation, have a 'chilling effect' on entrepreneurialism, and limit the pool of available workers, which is particularly problematic in industries with labour shortages. Further, the paper states that non-competes result in lower wages growth, and reduce workers' bargaining power during employment. The paper also raises concerns that non-competes may disincentivise workers from leaving their current job, which creates barriers to entry by new businesses and barriers to expansion of existing businesses. To avoid breaching a non-compete restriction, workers may move to different industries, which results in inefficient use of worker skills and training.
Finally, the paper raises whether non-competes mean that clients may not be able to continue a productive relationship with a worker.
By providing confidence to businesses, non-solicitation clauses may facilitate greater direct worker engagement with clients, increase the likelihood of businesses investing in their workers, and support business continuity by preserving business relationships after a worker departs. However, the paper states that these clauses may also reduce incentives to change employers, or to establish a competing business, particularly in customer-centric industries. This results in reduced job mobility, especially in smaller markets. As with non-compete clauses, clients may not be able to continue a productive relationship with workers, which can be particularly important in healthcare. Additionally, while clients are not bound by the non-solicitation clause, it can have the effect of restricting clients' ability to seek more competitive pricing or terms.
These clauses may promote the stability of the workforce by reducing turnover and associated costs. However, the paper raises concerns that they may also reduce workers' ability to draw on important existing networks to find new job opportunities, and result in reduced business dynamism and competition in the economy.
Non-disclosure clauses may facilitate investment and innovation, by providing assurance that workers cannot disclose unique processes, technologies or strategies, but they can be more complex to enforce than a broad and simple non-compete clause. The paper also states that these clauses may limit opportunities, by restricting workers' ability to use their know-how and experience in other roles; and disrupt the free movement of workers and non-confidential know-how, which can prevent the best allocation of business inputs, hampering economic growth. Finally, non-disclosure clauses may potentially narrow other businesses' access to a diverse pool of talent.
FTC ban on non-competes
The FTC's final rule adopts a blanket ban on non-compete clauses. FTC Commissioners voted 3-2 to approve the rule, which provides that it is an unfair method of competition for a person to:
- enter into or attempt to enter into a non-compete clause with any worker (including 'senior executives'1);
- enforce or attempt to enforce a non-compete clause (for senior executives, this is limited to non-competes entered into after the effective date of the rule); and
- represent that a worker is subject to a non-compete clause (for senior executives, this is limited to representing that the senior executive is subject to a non-compete clause entered into after the effective date of the rule).
The FTC's rule is the result of hearings, workshops and research on non-competes conducted since 2018. Its final rule differs from the proposed rule, announced in January 2023, which proposed a blanket ban, with no carve-out for existing non-competes for senior executives. While the final rule adopted a near-categorical ban, the proposed rule considered two alternative approaches:
- a rebuttable presumption that non-competes are unlawful. The use of a non-compete clause would be permitted if the employer could meet a certain evidentiary burden. This would allow non-competes to stand in fact-specific circumstances where they are justifiable having regard to the business's needs; and
- differentiation among categories of workers, involving different rules being applied to different categories of workers, based on a worker's job function, occupation, earnings and other factors, or a combination of factors.
The FTC reported in its final rule that it received over 26,000 public responses from a diverse cross-section of the US, including small, medium and large business, workers with wide-ranging income levels, industry representatives, academics and researchers, and government representatives. Over 25,000 comments expressed support for the FTC's proposal to categorically ban non-competes.
There may be underlying concerns about a ban on non-competes that prevents the use of such clauses with no fact-specific enquiry.2 However, the oral statements by the two Commissioners who voted against the final rule being issued,3 and legal challenges commenced, raise issues around the constitutional validity of making an economy-wide rule administratively without the process of checks and balances of Congress.
In 2023, draft legislation proposing a ban on non-competes was introduced to Congress. Similarly to the FTC's rule, the draft legislation proposes a categorical ban except in two limited circumstances. The Bill has not yet passed the Senate, but would address any gap left by a successful challenge to the FTC's rule.
No-poach and wage-fixing agreements
No-poach and wage fixing agreements involve agreements between businesses, often without the knowledge of workers. Both types of restraint limit hiring competition among employers.
No-poach agreements typically involve two or more businesses agreeing to refrain from actively recruiting each other’s workers, or agreeing to complete prohibitions on hiring each other’s workers.
Wage-fixing agreements typically involve two or more businesses agreeing to set a cap on wages, or other employment conditions such as health benefits, non-statutory leave entitlements, and bonus schemes.
Although no-poach and wage-fixing agreements fundamentally involve an agreement between competitors, they may not come within the scope of the prohibitions in the Competition and Consumer Act 2010 (Cth).
There is limited information about the prevalence and impact of these arrangements. However, the Issues Paper refers to an emerging body of research cited as demonstrating that no-poach agreements have the effect of limiting hiring competition among employers, resulting in worse worker outcomes, such as lower wages and fewer employment benefits. The Issues Paper states these arrangements create a 'lock-in' effect on workers, by reducing expected wages from alternative employers and workers' bargaining power. The Issues Paper suggests that this means that workers may also seek employment in alternative industries to find higher wages, which diminishes the value of the worker's accumulated human capital, as it is no longer being used in its most productive industry.
Unlike in Australia, no-poach and wage-fixing arrangements usually come within the scope of competition laws of foreign jurisdictions, including in the US and European Union. The US Department of Justice and the FTC have publicly stated their position that '[f]rom an antitrust perspective, firms that compete to hire or retain employees are competitors in the employment marketplace, regardless of whether the firms make the same products or compete to provide the same services.' Following from this, the US agencies have pursued no-poach arrangements between employers, as both civil and criminal matters, in a range of industries. The EU Horizontal Guidelines were recently updated to specifically refer to wage-fixing agreements as falling into the more serious category of 'by object' infringements of EU competition laws (see paragraph 279(a)).
What's next?
The Competition Review is inviting public submissions to inform its consideration of whether reform is required, and is also specifically seeking feedback from workers and employers, who are invited to complete a short questionnaire. Submissions and questionnaires are open until 31 May 2024. The full issues paper, including discussion questions and questionnaires, can be found here.
We expect that Treasury will have regard to the position overseas, including drawing on the experience in the US following the announcement of the FTC's rule banning non-competes.
Although in Australia, we are in the early stages of the process of legislative reform, there are steps that Australian employers can take now to prepare. We recommend that employers start to consider the available alternative mechanisms other than non-compete and non-solicitation restraints for the protection of confidential information and other legitimate business interests. These alternative mechanisms can include bolstering contractual provisions dealing with notice, confidential information and intellectual property. In addition, employers can consider legal avenues for remedies outside the traditional post-employment restraint landscape – eg those available under the Corporations Act 2001 (Cth) or the general law for misuse of confidential information.
Footnotes
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'Senior executives' are defined in the rule as workers earning more than $151,164 annually and who are in policy-making positions.
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For a more detailed discussion of these concerns, see the dissenting statement of Commissioner Christine S Wilson in relation to the FTC's Notice of Proposed Rulemaking for the Non-Compete Clause Rule dated 5 January 2023, available here: https://www.ftc.gov/legal-library/browse/cases-proceedings/public-statements/dissenting-statement-commissioner-christine-s-wilson-concerning-notice-proposed-rulemaking-non.
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At the time of writing, one of the dissenting Commissioners (Andrew N Ferguson) had foreshadowed, but not yet released, more detailed written statements.