Non-competes – a Transatlantic transfer of ideas to improve labour market mobility?
On 10 May, the UK government announced plans to limit the length of non-compete restrictions. This was revealed as part of a package of regulatory reform aimed at growing the economy. In its long awaited response to the 2020 consultation on non-compete clauses, it confirmed that legislation will be introduced to limit the length of non-competes in contracts of employment to three months.
The government’s focus on non-competes fits a global trend towards tackling anticompetitive issues in HR, such as wage fixing and non-solicitation (no poach) agreements, in an effort to stimulate labour markets and address wider cost of living concerns. It follows the US FTC’s recent proposal to ban non-competes (not limited to employment contracts) entirely.
While the UK proposal falls short of a total ban, it is a departure from the current situation in that there are presently no statutory restrictions on non-competes. Under common law, although non-competes are prima facie void as restraints on trade, courts will enforce them if they go no further than reasonably necessary to protect legitimate business interests. It is not uncommon for courts to enforce 6-month, or even 12-month, restrictions in the case of a business founder or senior management. And - as with all such issues which cross the employment / antitrust divide - we can expect restrictions on non-competes to fast become an area of focus globally.
Why are non-competes in the spotlight?
Restrictions on an employee’s ability to compete with his or her former employer after their employment ends or to establish a competing business for a particular period are currently a part of an estimated 5 million employees’ contracts in the UK. They have been described as “the most powerful weapon in an employer’s armoury”, often having a more significant impact on an employee’s ability to work after leaving a business than other restrictive covenants (such as non-poaching covenants).
Concerns with the use of non competes have centred on adverse effects on workers and harm to competition in labour markets and innovation (i.e. sector specific concerns in e.g. digital companies). They are not, however, new – nor has there been suggestion that they have recently become more prevalent.
Global trend towards HR enforcement in cost-of-living crisis
What is new, however, is the cost-of-living crisis, and concerns about the effect it is having on competition and innovation. As governments globally attempt to address wider economic challenges, improving competition to stimulate growth has been seen as a fundamental part of this effort.
The UK government is clear on the link in its response, highlighting that “job switching is associated with higher wage growth and can help improve productivity”, boosting the economy. It considers the limit of three-months for non-competes important for facilitating job switching, in turn unleashing greater competition and innovation, ultimately bringing down the cost of living.
This is part of a broader picture, in which potentially anticompetitive practices in HR have become a “new frontier” for enforcers - particularly in the current economic climate. The well-documented rise in cartel enforcement post-Covid has also led to increased investigations into wage-fixing and no-poach agreements across the US and Europe. The DoJ has launched several criminal wage-fixing and no-poach cases (although it has suffered four high-profile defeats at trial), while in Europe and further afield, the sports sector has seen considerable activity in this area.
The CMA has also had its mind on employers’ responsibilities under competition law, publishing guidance earlier this year to remind them of their legal obligations to avoid collusion when it comes to employee pay, working conditions and the hiring of staff.
A focus on non-competes across the Atlantic
The US, which has in recent years set the pace sanctioning anti-competitive HR practices, has taken radical action in relation to non-compete clauses: with the FTC publishing a proposal to ban non-competes entirely earlier this year. The FTC suggested that eliminating non-competes would generate jobs for as many as 30 million (one in five) workers currently subject to non-competes, raising wages by $250-$296 billion dollars.
The UK proposal reflects many of the same concerns and aims expressed by the FTC and, although it falls short of a total ban, it marks a move in the same direction.
Impact of the reforms in the UK?
The UK government’s proposal relates only to a three-month cap on non-compete restrictions. An outright ban was ultimately rejected during the consultation on the basis that it would remove freedom for employers and workers to negotiate. The shorter non-compete period was considered likely to help drive economic growth through greater competition and innovation, without affecting those benefits.
The limit will only apply to non-competes in contracts of employment and worker contracts (although it is not yet clear how “contracts of employment” will be defined). Noting the fundamental differences that may exist in the balance of bargaining power between employment contracts and ‘wider workplace contracts’ like partnership agreements and shareholder agreements, the government confirmed in its response that it will not be extending the reforms to wider workplace contracts.
This means that businesses will still be able to restrain individuals for longer than three months within these types of contracts, which could result in a shift to these types of contractual arrangements. Nonetheless, the government will likely be very alive to attempts by employers to undermine the public policy of the legislation and circumvent the cap.
Employers will still be able to rely on lengthier non-solicitation clauses, non-dealing clauses and no-poach clauses (to the extent reasonably necessary to protect legitimate business interests) as well as notice periods, garden leave and confidentiality obligations. It may be that some employers now consider removing standard clauses where time spent on garden leave is offset against the length of the non-compete clause. However, employers must still exercise caution when using lengthy notice and / or garden leave provisions, as such clauses may be open to challenge by employees on the basis that they are de facto restraints on trade.
How does the UK approach compare to the US and Europe?
The approach proposed by the UK government is significantly stricter than that at an EU level (currently no restrictions on non-competes) and in Member States (where limits on duration range from six months to five years). Some countries, like Germany, France and Italy also require mandatory compensation where non-competes are used, a model which was rejected by the government in their recent response.
While not as restrictive as the approach proposed in the US, there is no certainty that the US proposal will come to fruition (although note that some states such as California already ban non-competes). The FTC received more than 26,000 comments on the proposal during the comment period, suggesting there is significantly more debate to be had. Given the mandatory 180-day notice period that follows the comment period, the rule cannot go into effect any earlier than mid-October of this year. Further, there will almost certainly be judicial challenges to the proposal.
Any legislation will take time to come through in the UK, but in our view, it will likely have a retrospective effect. Businesses need to be mindful of this when entering into new contracts (either for new employees or on promotion) and ensure that other contractual provisions provide adequate protection if the non-compete is capped at three months. For now, however, non-competes of over three months remain enforceable in the UK (provided they are no wider than reasonably necessary to protect legitimate business interests).
The UK’s proposal (in addition to the FTC’s) is likely to encourage discussion in other jurisdictions, including the EU. Competition chief Margrethe Vestager has previously indicated that although non-competes are less common in the EU, she would “definitely” look into restrictions on their use should that change. The recent proposals in the UK may encourage a closer look in the EU.
More broadly, the proposed restrictions in the UK are yet another example of competition law being used in HR issues to stimulate markets and protect individuals in the face of wider cost of living concerns. We can expect much more of this to come.