Franchise contracts often prohibit a franchisee from hiring away employees of another franchisee without its consent. Those provisions are called no poach agreements and are designed to keep one franchisee from saving the time, expense, and effort of training by hiring the employees of other franchisees who have made the necessary investment.
Obama DOJ Says All No Poach Agreements are Illegal
In October 2016, the U.S. Department of Justice (DOJ) and the Federal Trade Commission issued a joint guidance to human resource professionals stating that no poach agreements between employers were per se illegal and subject to criminal prosecution under Section 1 of the Sherman Act, which also provides for treble damage civil suits as a remedy. The Sherman Act prohibits agreements that unreasonably restrain trade, and per se restraints are so anti-competitive that they are considered unreasonable and harmful to competition by their very existence. Classic per se restraints between competitors are price and wage fixing and division of markets. Courts call these agreements horizontal restraints, and a plaintiff is not required to prove that the challenged agreement in fact injures competition in the relevant markets involved.
On the other hand, agreements between firms at different levels of distribution on matters in which they do not compete, such as between a manufacturer and retailer may not be harmful to competition. Courts call these agreements vertical restraints and use a rule of reason analysis to determine their validity under the Sherman Act. The rule of reason analysis requires that a plaintiff prove the agreement harms competition in the relevant geographic and product or labor market and requires a much higher level of proof than a per se restraint.
As a result of the DOJ’s 2016 directive, employees of franchisees filed numerous civil damage suits, including class actions, against both franchisors and franchisees, alleging that the no poach provisions of the franchise contracts were per se violations of the Sherman Act that negatively impacted their wages and mobility. In those cases, the employees often equate the no poach agreements with non-competition agreements. Most of those cases are still pending, and initial rulings on the antitrust issues in them have been inconsistent.
Trump DOJ Says Most Franchise No Poach Agreements Are Probably Enforceable
In 2019. the DOJ backed off the 2016 directive and declared that no poach agreements between franchisors and franchisees should be judged by the rule of reason because the no poach agreements between a franchisor and its franchisees are vertical restraints that could benefit inter-brand competition. However, the DOJ said that no poach agreements between (a) a franchisor and franchisees that both operate stores in competition with each other and (b) competing franchisees are naked restraints of trade that should be judged under the per se rule.
There are good arguments for applying the rule of reason to no poach agreements found in the typical franchise agreement. Many agreements allow the franchisor to charge its franchisees fees for training it provides to franchisees’ employees. Even if no training fees are charged, franchisees typically pay the costs incidental to employee training, such as educational materials, travel, lodging and the like. If a franchisee could avoid fees and costs by poaching employees of fellow franchisees who incur the expenses, the practice could damage the very concept of a franchise—franchisors and franchisees working together to build and expand the franchise’s brand and business. If the franchise successfully builds its brand and business, then it will necessarily cause its competitors to up their game, thus increasing competition.
Likewise, employees of franchisees can benefit from no poach agreements because those agreements give the franchisees the incentive to invest in the training and development of their employees. While a no poach agreement prevents employees of a franchisee being hired by a fellow franchisee without its consent, the employees are free to go to work for the competitors of the franchise; and employees of a franchisee learn and develop skills that are easily transferable to competitors, such as management, employee engagement and retention, team building, food safety, and organization and operation a cost-efficient business.
Biden Promises to Ban All No Poach Agreements
President Biden has promised to ban all no poach agreements, and the DOL will likely commence criminal prosecutions of franchise no poach agreements. The DOJ brings criminal actions only for per se violations of the Sherman Act; and once filed, private civil class actions immediately follow in order to piggyback on the government case and the lower burden of proof required in a per se case. So the franchise industry must be in a position to prove the necessity for no poach agreements, their procompetitive effect and that they can promote employee mobility and compensation.
Thomas L. Case is Of Counsel with the law firm Bell Nunnally in Dallas. He can be reached at tcase@bellnunnally.com, or via the firm’s website at https://www.bellnunnally.com.
