New York’s Noncompete Ban – what next?

By Devyani Aggarwal

Under a noncompete clause, an employee or independent contractor essentially agrees not to enter into or start an enterprise in competition with the employer’s business for a period of time following the end of the service relationship. The Federal Trade Commission describes it as “a widespread and often exploitative practice that suppresses wages, hampers innovation, and blocks entrepreneurs from starting new businesses.”  Once believed necessary to preserve trade secrets and prevent the spillage of sensitive and confidential information by high-level executives, according to The New York Times, this clause is now a standard part of employment contracts in many fashion, retail, tech and other venture backed companies for even low-wage workers.

State-wide bans on noncompete clauses are found in a minority of states including, notably, California, as well as North Dakota, Oklahoma, Colorado, Illinois and Maryland. In an effort to join the list, on June 20, 2023, New York state legislators fast-tracked a bill to Gov. Kathy Hochul’s office that would impose the broadest ban yet on noncompete agreements.

The FTC had proposed a national ban on noncompete agreements at the beginning of the year, which is expected to be voted on next year, in 2024. However, given New York’s accelerated timeline for its own bill, employers may have less time to grapple with the potential changes that may occur as a result. On June 20, 2023, the New York State Assembly passed a bill previously approved by the State Senate that essentially bans all post-employment noncompete agreements in New York State. If signed by the Governor, the ban would become effective 30 days later. New York is an economically powerful state with a labor market that frequently draws from other regions of the country. Because of this shared labor market, whether or not other states choose to follow suit, the ripple effect will be felt by their economies regardless.

With no public hearings beforehand, the announcement of the news came as a bit of a jolt to the business world. The blanket ban found criticism for its lack of clarity and overly broad language with respect to key terms such as the validity of prior agreements and the permissibility of garden leaves (when companies pay exiting employees not to work for a certain period).

To understand the implications of New York’s proposed ban, it may be helpful to have a look at the ban’s impact on an economically comparable state like California, which has upheld it since as far back as the 19^th century. In California, it is illegal to enforce any non-compete agreements that put limits on an employee’s future job prospects, barring a few exceptions such as the dissolution of an entity or sale of a business. Even if a company is based in another state where non-compete agreements are legal, those agreements do not apply to individuals of the company who work in California. Further, choice of law provisions have no impact on the effect of the ban for California workers – any agreement to adjudicate a suit in a different state is invalid if it would deprive the worker of protections under California labor law.

From a cross-border perspective, it is not uncommon to see non-compete clauses in the European and Asian labor markets although they are relatively more regulated and mostly reserved for higher-salaried employees.

In contrast, the proposed bill under New York State law is the broadest any state is yet to see. For starters, the definition of “covered individuals” under such an agreement is said to include any person “who, whether or not employed under a contract of employment, performs work or services” for the employer on terms and conditions that make the individual “in a position of economic dependence on, and under an obligation to perform duties for” said employer. This highly inclusive definition could potentially include both employees and independent contractors, as well as call into question the types of “contract(s)” to which this ban applies.

Employers have a material and legitimate interest in preventing the sharing of sensitive information and trade secrets by dismissed employees. The bill does not affect the ability of an employer to prohibit “disclosure of trade secrets, disclosure of confidential and proprietary client information, or solicitation of clients of the employer that the covered individual learned about during employment, provided that such agreement does not otherwise restrict competition.” Further, non-solicitation clauses and non-disclosure agreements remain protected and enforceable. Employers may, therefore, be reassured that standard protective legal instruments are still available to secure confidential information and trade secrets.

Employers should also be cognizant of employees’ and independent contractors’ private right of action under the bill. The courts are mandated to “award liquidated damages to every covered individual affected […],” up to a cap of $10,000. This will be particularly beneficial to low-wage employees and independent contractors, for whom the seasonal and unpredictable nature of their jobs makes such mobility a key advantage.

Employers are likely to explore various preventative ways to protect their interests. Businesses may see an increase in information systems security and stricter rules around access to company information, separation of personal and business email and phone use, and other methods of employee monitoring. Promotions, incentives and bonuses tied to retention and restrictions on competition may increase. Risk assessment of employee trainings may be taken more seriously. Exit interview processes may be refined to ensure that, at the time of the employee’s dismissal, the employer’s confidential information is secured, and the employee is aware of their post-employment obligations to the employer.

Businesses in industries like fashion, technology, music and media commonly differentiate themselves by relying on ownership of intellectual property and trade secrets. In addition to the steps listed above, these businesses may like to revisit and strengthen the terms of their non-disclosure and non-solicitation clauses specifically with respect to the protection of IP and trade secrets.

Exceptions are unclear under the bill, which makes it difficult to predict how this ban would affect mergers and acquisitions since noncompete agreements are typically standard provisions during the sale of businesses.

In conclusion, while some parts of the new law remain to be fully understood, the collective response to the bill must seek to balance the legitimate interests of both employers and employees. We expect significant additional commentary in the coming months, and likely activity in the courts