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The truth about the new non-compete ban for banks & hedge funds

Last week, the US Federal Trade Commission (FTC) published its new “draft” but “final” 570 page rule banning the sorts of non-compete clauses that have been a much-loved part of banks’ and hedge funds’ arsenal for preventing employees wandering into jobs at competitors.

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Depending upon who you speak to, this is either a disaster or a pinprick. Here, we attempt to dissect which.

Claim 1: The non-compete ban doesn’t matter because the FTC doesn’t cover banks and hedge funds anyway 

We ourselves were the progenitors of this particular claim when we correctly observed that the FTC doesn’t cover many banks and insurance companies anyway.

This is true. Within financial services, the FTC’s own description of its purview includes “mortgage companies, mortgage brokers, creditors, and debt collectors – but not banks, savings and loan institutions, and federal credit unions.” 

From this point of view, then employees at brokerage firms and investment banks won’t be impacted by the new rule. But Bloomberg says employees at private equity firms and hedge funds will be. 

Lawyers we spoke to weren’t willing to stick their necks out and say precisely what kinds of organizations will and won’t fall under the rule’s jurisdiction. However, a senior source at one hedge fund said people there are already looking at how to split off sections of their businesses to avoid falling under the rule.

Claim 2: The non-compete ban eliminates non-competes in all their forms

This is not strictly true. Even under the rule, Peter Steinmeyer, an attorney at law firm Epstein Becker says it’s still possible to make an employee sit out of the market. However, they need to be a current employee. If, therefore, an employee who wants to leave for a rival is asked to defer joining for six months while still employed and paid by their current employer, all is fine. 

“What you can’t have under this rule is a post-employment non-compete period,” says Steinmeyer. “This would constitute a post-employment restrictive covenant. But if someone remains your employee, and you tell them ‘Ok, go and sit at home and we will pay you,’ you can do that.” 

Claim 3: Garden leave is over 

Not at all. Garden leave is not over because, as per point 2, firms can just tell employees to go home while they continue to pay them. This is the very definition of garden leave. Peter J. Wozniak at law firm King & Spalding notes that the FTC explicitly says this kind of garden leave would be permitted under the rule.

Claim 4: Banks will not be able to withhold deferred stock for employees who leave 

Not withstanding the fact that banks aren’t necessarily covered by the rule anyway (see 1), this sounds like it might an issue. Withholding deferred stock from leavers is one of the preferred practices on Wall Street. Jefferies famously asks its employees to repay cash bonuses if they leave within a fixed period of receiving them.

Lawyers have conflicting opinions on this aspect of the rule. 

Wozniak says withholding stock will still be allowed and points to a paragraph on page 83 of the rule stating that:

“For example, a provision requiring the repayment of a bonus if the worker leaves before a certain period of time would not be a non-compete under § 910.1 where the repayment amount is no more than the bonus that was received, and the agreement is not tied to who the worker can work for, or their ability to start a business, after they leave their job.”

Steinmeyer says there is “ambiguity” around the issue. “Technically forfeiture of deferred compensation is not a non-compete agreement if it’s not preventing someone from working, but could there be a deferred compensation agreement that functions to prevent someone taking a  new job,” he says. In this case, it would be a non-compete after all. “One of the many things that needs to be worked out,” Steinmeyer adds.

Claim 5: Employers won’t be able to stop employees stealing trade secrets and will need to split secret activities up around different employees 

If the non-compete ban comes to pass, some hedge funds say they will need to ensure that individuals only have access to part of the code behind a successful trade, particularly at a junior level. Alternatively, jobs exposing people to sensitive data could be sent to London, where non-competes are still a possibility.

Is this really an issue? Wozniak notes that the non-compete ban doesn’t prevent employers from using confidentiality, non-disclosure and non-solicit agreements, but he notes that these won't be as effective. "You can’t put the toothpaste back in the tube,” observes Wozniak. Once a secret is out, protecting it is hard. For this reason, maybe financial services firms will indeed split secret activities up.

Claim 6: The non-compete ban will never come to pass 

Before anyone reconfigures their business, though, it’s worth considering that Steinmeyer says the non-compete ban will never come into force anyway. “There are at least three papers against it, and I am telling my clients not to change anything,” he tell us.

Wozniak says that even if the ban does come into effect, it won’t be soon. “It’s not effective until 120 days after it’s published in the federal register and it’s due to be published on May 7th."

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AUTHORSarah Butcher Global Editor

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