Considerations for employers when terminating employment contracts
November 2015 | EXPERT BRIEFING | LABOUR & EMPLOYMENT
If handled incorrectly, terminating an employee’s contract can result in significant reputational and financial damage to a business. Therefore, employers will usually want to give careful consideration at the outset to the legal position and the best strategy to adopt, in order to try to minimise costs and the risk of damage to the business.
The best starting point is to establish the employee’s statutory and contractual rights.
Employees with at least two years’ continuous service will have the right not to be unfairly dismissed. A fair dismissal requires an employer to have a potentially fair reason to dismiss (redundancy, capability, illegality, conduct or some other substantial reason) and to have acted reasonably in treating that reason as sufficient to justify dismissal, which will include following a fair procedure. What constitutes a fair procedure will depend on the reason for the dismissal. A fair redundancy procedure, for example, usually involves warning and meaningful consultation over a suitable period of time, ‘pooling’ employees, applying fair and objective selection criteria and considering suitable alternative roles. There are additional obligations on an employer if 20 or more redundancies at one establishment are proposed within a 90 day period. Therefore, early consideration should be given to the total number of proposed redundancies and whether these obligations are triggered.
Even if an employee does not have unfair dismissal rights, it is usually preferable to follow some form of procedure to try to reduce the risk of the employee bringing other claims which do not have a minimum service requirement, for example discrimination or whistleblowing, the awards for which are uncapped (unlike for unfair dismissal, which are capped currently at the lower of one year’s salary and around £78,000).
Consideration should also be given to any other complaints the employee may raise. For example, it may be anticipated that an employee with a disability, or who is pregnant or on maternity leave, may raise a complaint of discrimination or that an employee whose role was in compliance may claim that the dismissal is because they made a protected disclosure (i.e., they ‘blew the whistle’). Although employers sometimes assume that employees in these types of circumstances cannot be dismissed lawfully, this is not always the case. However, in these instances in particular, any dismissal would need to be given careful consideration and handled carefully.
It is also important to review the employee’s contract of employment to establish their contractual entitlements and obligations. In particular, an employer will want to establish the period of notice to which the employee is entitled, and if they want to put the employee on garden leave or to pay them ‘in lieu’ of notice, whether they have the contractual right to do so. If the employer does not observe the employee’s contractual entitlements, not only does it risk the employee bringing a claim for breach of contract or wrongful dismissal, but the employee may be able to claim that they are released from any ongoing obligations, such as post-termination restrictive covenants. There is also a risk that the employee will choose to waive any repudiatory breach on the employer’s part and affirm the contract. This would have the effect of ‘keeping the contract alive’ which could have significant consequences, for example, if this enables the employee to acquire the requisite period of service for unfair dismissal rights or become eligible to be considered for a bonus. It is also worth considering whether the contract can be terminated before contractual entitlements (such as stock options) are triggered.
The without prejudice rule prevents statements made in a genuine attempt to settle an existing dispute from being used in a court or tribunal as evidence. Therefore, it aims to facilitate settlement by encouraging discussion between the parties in a ‘safe forum’. Employees and employers can also engage in ‘pre-termination negotiations’, which are inadmissible in ‘ordinary’ unfair dismissal proceedings. Whilst these do not require an existing dispute (unlike the without prejudice rule), they should still be used with caution, as the protection will not apply in any other proceedings, such as proceedings for ‘automatic’ unfair dismissal or discrimination.
An employer can choose whether to make a without prejudice offer, with a view to reaching a resolution under a settlement agreement. However, it would usually be advisable for it to do so if the termination gives rise to any obvious potential legal claims. The employer may also want to continue an open dismissal process alongside any without prejudice negotiations, so that it has a formal, open position on which to fall back, if necessary.
The level of any offer will need to be carefully considered, taking into account the value and merits of any potential claims, as well as commercial factors. Usually the employer will want to try to strike a balance between a figure that is as low as possible, but one that is still high enough to incentivise the employee to enter into a settlement. Negotiation strategy can also play a big part. From experience, employers may offer (and stick to) a low sum in the hope that the employee will concede defeat, rather than spend further time and legal costs trying to obtain a higher figure. On the other hand, an employer may make a very generous first offer in the expectation that it will avoid further rounds of negotiation and save time and costs in the long run. Ultimately there is no ‘one size fits all’ and the best negotiation strategy will depend on the parties involved and the circumstances of the particular case.
The financial terms of a settlement agreement are usually the most important. However, an employee may be incentivised to enter into a settlement agreement with less generous financial terms if they are offered non-monetary terms which provide an additional benefit to them, such as an agreed reference, the agreement to be structured in a tax efficient manner or post-termination restrictive covenants to be waived.
An employer should remind an outgoing employee of any post-termination restrictive covenants in their employment contract and will usually want to ensure that such covenants are reaffirmed in any settlement agreement (particularly if there is an argument that the employer was in repudiatory breach of contract, which would otherwise release the employee from any restrictive covenants, or if the employer is concerned that the employee will cause harm to the business by joining a competitor). An employer can also introduce fresh restrictive covenants under any settlement agreement if it is concerned about the damage the employee could do to the business after they leave, but it should provide separate consideration (this is usually a payment) for these additional restrictions.
An employer will also want to ensure that employees return all company property when they leave and remind the employee of any post-termination confidentiality provisions in their contract. In the absence of any express agreement, protection after the end of the employment contract will only extend to trade secrets (the most confidential type of information). Therefore, if there is no such express agreement, an employer may want to introduce new obligations to also cover mere confidential information. Again, separate consideration should be provided.
Where things go wrong
Although the majority of disputes reach a settlement before they reach the court or tribunal, they can still be very costly to resolve and occupy a lot of management time. Therefore, it is advisable to seek legal advice at an early stage to try to manage the process in the most cost-efficient way.
From experience, employers can face particular difficulties if the contract of employment provides that the notice of termination can only be given within a certain timeframe (for example, after the first two years, or on a certain date each year). The employer will be in breach of contract if it gives notice outside of the permitted timeframe, which will entitle the employee to damages equivalent to the wages and other benefits they would have received had the contract been terminated correctly, which can be substantial. An employee may also be able to reaffirm the contract, which would continue their employment. Therefore, termination provisions should be carefully drafted at the outset and they should be carefully considered before giving any notice of dismissal.
If an employer has a pre-conceived view of the outcome of a disciplinary, capability or redundancy procedure, any dismissal may be unfair. From experience, it is not uncommon for managers or HR personnel handling such procedures to say or do something that could be construed by the employee as pointing towards a pre-ordained decision. Therefore, it is important that those handling such procedures fully understand the company’s legal obligations and avoid any such actions.
The disclosure of documents is a crucial stage of litigation and is another area in particular that can cause difficulty for employers if there are documents that are harmful to their case and must be disclosed. Employers should always be mindful of the content of written communications (particularly internal emails which tend to be less formal) and their disclosure obligations were the matter to proceed to litigation. Communications with legal advisers will generally be protected by legal advice privilege and therefore it may be possible to protect certain communications by copying them to the company’s lawyers.
In order to manage a smooth exit, employers ought to establish at an early stage the employee’s legal entitlements and seek to adopt a strategy to minimise legal and commercial risk. An employer may want to consider settlement as a means to trying to reach an amicable resolution, without the time, cost and potential reputational damage of litigation. With a well-structured and intelligent negotiation strategy, employers can manage terminations as efficiently and amicably as possible.
Richard Nicolle is a partner and Hannah Farley is a solicitor at Stewarts Law LLP. Mr Nicolle can be contacted on +44 (0)20 7936 8176 or by email: email@example.com. Ms Farley can be contacted on +44 (0)20 7822 8155 or by email: firstname.lastname@example.org.
© Financier Worldwide
Richard Nicolle and Hannah Farley
Stewarts Law LLP