In the startup space, businesses have traditionally used non-compete clauses as one of several ways to help protect the businesses’ proprietary information. Now that most employment-based non-compete clauses will be unenforceable as of September 4, 2024, it is critical that businesses analyze whether there are additional steps they need to take to make sure their proprietary information is adequately protected. This prior post summarizes the recent rule issued by the Federal Trade Commission (FTC) banning most employment-based non-compete clauses (the “Final Rule”).
Non-complete clauses were typically one of a handful of restrictive covenants and protective provisions included in what many startups refer to as a Confidential Information and Invention Assignment Agreement (CIIAA) or a Proprietary Information and Invention Assignment Agreement (PIIAA). There are many other names for these agreements. For example, we often advised clients to use the more literal name, “Confidentiality, Non-Competition, and Invention Assignment Agreement,” because it helped make it clearer for employees what was included in the agreement, which arguably would make the agreement less subject to future challenges by the employee. In this post, we will refer to these agreements as CIIAAs.
Startups often give their employees a CIIAA to sign along with each employee’s offer letter. Having employees sign a CIIAA is a good idea because it helps protect your startup’s proprietary information. Most investors will also require that a business have CIIAAs in place with a startup’s employees before making an investment in such startup because having CIIAAs in place with a startup’s employees helps protect an investor’s investment in a startup because it provides the investor with added assurances that the startup owns the intellectual property rights in the startup’s assets.
CIIAAs often include the following provisions (a) a confidentiality and non-disclosure clause; (b) a clause acknowledging that materials utilized or developed at work by an employee in the course of such employee’s employment are the property of the business; (c) an invention assignment provision; (d) a non-solicitation clause; and (e), until recently, a non-compete clause. Each of these provisions is intended to assist the startup in safeguarding its proprietary information. The confidentiality and non-disclosure clause is intended to be the broadest of these provisions. Such provision typically provides that non-public information relating to the business is confidential and requires the employee to keep such information confidential. The other provisions in the CIIAAs then address specific types of confidential information, the ownership of interests in such confidential information, and restrictive covenants intended to help discourage employees from utilizing confidential information for their own purposes to the detriment of the startup.
The Final Rule does not directly impact the first three provisions set forth in the prior paragraph (i.e., the provisions referenced in (a) – (c)) that are typically contained in a CIIAA unless such provisions have the effect of acting like a non-compete clause. For example, if a confidentiality and non-disclosure clause is overbroad then it may be unenforceable under the Final Rule. A confidentiality and non-disclosure clause is overbroad if it covers information that is not truly proprietary to the business and if the clause has the effect of restricting an employee’s ability to seek alternative employment after such employee’s employment ends with its current employer. Confidentiality and non-disclosure clauses have always been subject to being invalidated as overbroad under state law, but now startups need to ensure such clauses also comply with the Final Rule. Until the exact scope of the Final Rule is better defined through either further guidance from the FTC or case law that is created by courts interpreting the bounds of the Final Rule, startups will need to work with legal counsel to determine the appropriate scope of confidentiality and non-disclosure clauses.
In addition to reviewing and possibly amending existing CIIAAs to remove non-compete clauses and modifying other provisions contained in the CIIAAs that have the effect of acting like a non-compete clause, startups will want to work with legal counsel to ensure the removal of the non-compete clauses from the CIIAAs does not leave the startup vulnerable to having its proprietary information misappropriated by former employees. Startups can do this by narrowly tailoring confidentiality and non-disclosure clauses and non-solicitation clauses so that it is less likely that such provisions will be deemed to violate the Final Rule and, therefore, be unenforceable.
