Judge in ATS v FTC noncompete case seems open to arguments for injunction

Yesterday, Judge Hodge conducted a hearing on ATS Tree Services’ motion to stay operation of the FTC’s noncompete rule and to enjoin its enforcement in the ATS Tree Services, LLC v. FTC case.

Context

Remember that last week (July 3), the court in Ryan, LLC v. FTC issued a preliminary injunction holding that the FTC’s noncompete rule is unlawful, but keeping the relief limited to the plaintiffs.

Although I expect the judge in that case to issue broader relief on August 30 (when the court issues its final decision), that result is far from certain.

In the meantime, companies are now in a complete state of limbo and will have very limited time to comply with the rule if the court’s final order remains as narrow as the preliminary injunction. (My suggestion to join the U.S. Chamber of Commerce to try to benefit from a ruling in that case stands.)

And of course, imagine the chaos that will ensue if the Ryan court’s decision is narrow, but a later order invalidates the rule broadly. Absent a broad order before the rule takes effect, companies around the country will need to send notices invalidating their noncompetes — to (according to the FTC) some 30 million employees (I believe that number is grossly exaggerated, though no doubt it is a very large number) — only to later try to “undo” those notices. Can the notices be undone? Will employees who started a job in violation of the “unenforceable” noncompete be required to quit the job if the rule turns out to be invalid?

Given the limited relief so far and the uncertainty it’s created, yesterday’s hearing in the ATS Tree Services case was suddenly all the more important.

I attended the hearing, as a result.

Initial arguments and questions

At the outset of the hearing, Judge Hodge indicated that she would reserve most of her questions for the end. And that is precisely what happened.Both sides made their planned arguments, which lasted about an hour a half. They were as you would expect. And the judge asked relatively few questions during the arguments, but what she did ask was instructive.

During ATS Tree Services’ argument, Judge Hodge asked a few questions about the impact of some of the amendments to the FTC Act. But her (limited) questioning focused on rules previously issued by the FTC and whether those rules should be viewed as a reflection of the fact that the FTC has authority to issue substantive rules concerning unfair methods of competition (referred to as “UMC”). ATS Tree Services tried to distinguish the prior rules as a different “category of rules,” but primarily argued that they were “erroneous” and outside the FTC’s authority. The court seemed very focused on the distinction between whether the prior rules were (allegedly) not authorized at all or whether any (alleged) invalidity was as a consequence of their scope.

During the FTC’s argument, the court asked about the contention (based on some research on purported “spillover effects”) that noncompetes have negative externalities insofar as noncompetes in one state can impact wages in neighboring states. The judge seemed receptive to the conclusion, noting that New Jersey is “just a stone’s throw away” from Philadelphia. Just a note here: The research on supposed negative externalities is quite limited and far from conclusive; much more research needs to be done before (in my view) such a broad (tenuous) conclusion should be relied upon to support national (or state) policy.

Interestingly, in that regard, the FTC explained that the noncompete rule was to set a floor above which states could regulate and that for the federal government to set a floor “is a policy matter.” Putting aside that the FTC is seeking to set the floor so high that there is little room above it, the notion that this is a policy matter begs the question of why the FTC is trying to make policy. Isn’t that the job of Congress? 

The judge also cut right to the heart of one of the key issues, asking why the FTC chose the carveouts it chose and why it did not take a narrower approach (instead of a full ban). The FTC explained that some of the choice was simply based on the scope of its authority — it cannot regulate banks or nonprofits, for example. As for the exception for existing noncompetes with senior executives (the other exception discussed), the FTC noted “real, practical problems” with invalidating those agreements and a lack of unfairness concerning the use of noncompetes for senior executives.

Jude Hodges questions

Following the arguments, the court asked about 25-30 questions over the course of about an hour, focusing primarily on (1) noncompetes generally; (2) irreparable harm to ATS Tree Services; and (3) the textual arguments about the FTC’s authority to issue UMC rules.

As to noncompetes generally, the court wanted to understand the purpose of noncompetes and how significant an issue they are. In that regard, Judge Hodge first asked, “Would you both agree that noncompetes are an issue of concern?,” noting that they have been the subject of state and federal review for several years. I suspect the court’s interest may go in part to the major questions doctrine.

On the issue of harm to ATS Tree Services, the court pushed (and seemingly tried to help) ATS Tree Services to identify the specific harm it was facing, given the limited evidence about it. Counsel for ATS Tree Services had a difficult time, but highlighted the loss of investment in training, the potential loss of trained employees, and the impact of invalidating contracts that might not be invalid. But the court’s focus on the (seemingly limited) harm to ATS Tree Services, without a corresponding focus on the impact of the rule on ATS Tree Services as a bellwether for the public interest, did not bode well for a broad injunction.

However, when the judge was finished questioning ATS Tree Services about the harm, she turned to the FTC and asked, “You are hearing from a small business articulating severe impact. What is your response?”

The FTC had several responses, ranging from challenging the significance and speculative nature of the harm, to arguing that ATS Tree Services would benefit by having more candidates to hire, and that the Small Business Majority (a partisan advocacy organization that, as near as I can tell, does not actually speak for small businesses) supports the rule.

The court was also interested in the specifics of the noncompetes that ATS Tree Services uses (including how long they last and how far they reach), when employees are notified about them out, whether they are negotiable, and how many ATS Tree Services employees have them. This is a telling line of questions and is one more case suggesting that these types of issues will become increasingly important — which is precisely why I continue to suggest that companies provide advance notice of all restrictive covenants, be open to negotiating them (within reason, when appropriate, of course), and use them only as necessary (with confidentiality agreements being necessary in most instances).

The final round of questioning by the court centered on the text of the FTC Act and the absence of the words “procedural” or “substantive” in connection with UMC rulemaking authority.

Prediction

My takeaway from the last line of questioning (about the statutory text) was that the judge seemed to lean toward interpreting the FTC Act as permitting the FTC to make substantive rules regarding unfair methods of competition.

That does not, however, end the inquiry, and the judge did seem receptive to arguments that the rule itself was outside the scope of the FTC’s authority.

Accordingly — recognizing that predicting what a court will do based on the questions asked and not asked at a hearing is like reading tea leaves (as my former partner, Mike Tuteur, used to say) — I would not be surprised if the court finds that the FTC and to grant broad injunctive relief can make rules, but that this rule is invalid.

Yes, I know that this result would be contrary to expectations because the judge was appointed by President Biden, that noncompete regulation is part of his agenda, and that you can (typically) expect a judge’s interpretation of laws and precedent to align philosophically (at least) with the party that appoints them.

But the judge seemed genuinely receptive to arguments that the FTC does not have the power to regulate noncompetes as UMCs or that the specific rule is too broad. As to those points, in line with the judge’s questioning, noncompetes have been the source of significant public interest both in the states and in Congress; President Biden initially said that he would “work with Congress” (i.e., the proper channel for regulation at the federal level); noncompete regulation is a matter of policy (i.e., not something that the FTC gets to establish); noncompetes affect a significant swath of the country, meaning that the rule will have a tremendous impact; and there are more limited restrictions that should have considered more openly.

It also bears mention that with the exception of Minnesota, every state considering a full ban has, so far, rejected it. Indeed, New York’s governor (last year), Maine’s governor (this year), and Rhode Island’s governor (just last month) have all vetoed noncompete bans, putting aside Washington, D.C., which passed a ban and then vacated it before it became effective. That should enough to indicate that states — with their own economies and industries — do not want a ban and that the issue is not one for the FTC.

All that said, I think that ATS Tree Services had a difficult time articulating imminent irreparable harm. Hopefully, the judge either heard enough to find irreparable harm sufficient in the context of the case or at least recognizes the public interest in not allowing the FTC to enforce the rule nationally only to later have it overturned. Either way, if the court issues an injunction, hopefully it will grant broad injunctive relief.

We will know soon: The judge reiterated that she intends to rule on or before July 23.

We’ll keep you posted.