Alberta clarifies LTIP bonus upon termination

Appeal court reverses ‘surprising’ Styles decision
By Sarah Dobson
|Canadian HR Reporter|Last Updated: 02/17/2017

When the Oct. 5, 2015, decision came out, it caused quite a stir. A dismissed employee was awarded damages of $444,205 when the Court of Queen’s Bench of Alberta decided his employer breached the employment contract and long-term incentive plan agreement.

But in reversing that ruling on Jan. 4, the Court of Appeal of Alberta has set things straight, according to legal experts — and provided relief to many employers with such plans.

“Most employers’ counsel were shocked when they saw (the 2015) decision and weren’t happy… because it really took the principles of good faith and extended them really far, and it also went in direct contrast to the plain language drafting of the long-term incentive plan, so that was very scary,” said Sheena Owens, an associate at Gowling in Calgary.

The lower court decision put a bit of fear in employers, worried they may have to relook at their long-term incentive plans, said Birch Miller, a partner at Blakes in Calgary.

“We have always been working under the assumption that we’ve been able to say that active employment is a condition on which these will be paid out, and a lot of long-term incentive plans work that way.”

The contract involved had very clear language “and, in effect, the trial decision found a way to go around that clear language, relying on a good faith principle when exercising discretion that was inconsistent with the contract,” said Carl Cunningham, a partner at Bennett Jones in Toronto.

“The court of appeal decision provides employers with some greater comfort that if they do prepare well-drafted plan documents that express their rebut to presumption of common law, that they will be enforceable.”

It’s a topic that’s of great interest to a number of employers, he said, “particularly those that have a compensation structure where a significant and even majority of the portion of annual compensation is tied to incentive compensation.”

Background

David Styles became an employee at the Alberta Investment Management Corporation (AIMCo) in June 2010, with compensation that included a base salary of $175,000 and a long-term incentive plan (LTIP) that provided a yearly grant to be paid out after four years of service. Styles was dismissed without cause in June 2013, with three months’ pay, and he was not given the LTIP bonus. So he sued the company for the value of the grants.

In her 2015 decision, trial judge  Debra Yungwirth said AIMCo “failed to exercise its contractual discretionary powers reasonably in dismissing (Styles), while at the same time refusing to pay (him) any of his earned, awarded and approved LTIP grants.”

There is a common law duty, she said, that discretionary contractual powers granted under a contract must not be exercised in a manner that is unreasonable, unfair, capricious or arbitrary.

Yungwirth frequently cited the 2014 Supreme Court of Canada decision Bhasin v. Hrynew, which recognized that good faith contractual performance is a general organizing principle of common law, and parties to a contract must act honestly in the performance of their contractual obligations.

But in its Jan. 4, 2017, decision, the court of appeal disagreed with the trial judge, saying the decision “discloses errors of principle and errors of law.”

The AIMCo contract, said the appeal court, “left no doubt as to whether the participant had to be actively employed on the vesting date. It also left no doubt that any period of ‘reasonable notice’ required in lieu of notice of termination did not qualify as ‘active employment.’ This is not a case where the court has to imply terms in an agreement, fill in gaps or interpret vague provisions.”

Bhasin implications

The court emphasized Yungwirth took Bhasin one step too far when she talked about the common law duty of reasonable exercise and discretionary, contractual powers, said de Lobe Lederman, an associate at Blakes in Calgary.

“The court of appeal basically said that’s not really what Bhasin was talking about, and the trial judge’s position there really isn’t supported by established law and previous decisions.”

The Bhasin principle also relates to the performance of a contract, not to the negotiation or terms of a contract, said the appeal court.

“Secondly, Bhasin does not make it dishonest, in bad faith nor arbitrary to require that the other party perform the contract in accordance with its terms.”

The court of appeal basically said Bhasin doesn’t say anything about negotiating the contract, said Owens.

“Parties are free to put in whatever terms they want to put into a contract, provided they’re not lying, essentially, but they’re entitled to contract as they are. Courts’ jobs are not to go in and rewrite contracts for them, even if the deal is bad — absence some extreme circumstances.”

Challenging wording

The trial judge also focused on the fact AIMCo’s LTIP agreement said a grant “may be forfeited,” but it was unreasonable to suggest these three words “override all the other wording in the plan and that participation agreement that emphatically state that bonuses are forfeited when employment terminates,” said the appeal court.

“There was no right to receive a bonus unless the respondent was actively employed on the vesting date. There was no discretion involved.”

The plan was clear, said Owens.

“But the trial judge hung on that one sentence that said they ‘may be forfeited’ and took that sentence to interpret that there’s some type of discretion that the employer had in deciding whether or not to pay the bonus.”

Termination issues

The trial judge also talked about the “discretion” to terminate a respondent without cause, but that’s inaccurate, said the appeal court.

“It is a further error to suggest that such a decision can be reviewed by the court for reasonableness. This approach treats termination without cause as a breach of contract. An employer can terminate the contract of employment on reasonable notice — no explanation need be given.”

When an employer terminates without cause, the employee is entitled to reasonable notice or compensation in lieu of notice, said Cunningham.

“There’s not a requirement to provide reasons, and the decision doesn’t have to be reasonable; it obviously can’t be contrary to public policy — for example, the human rights code or a reprisal that’s protected under legislation — but that doesn’t mean the employer has to have a reasonable basis for its decision,” he said.

“So the application of the good faith and discretion in terms of exercising that decision to terminate, the appeal court disagreed with the trial judge’s application of Bhasin in that regard.”

In the absence of a reason, the trial judge went on to infer AIMCo was taking the bonus plan into account when Styles was terminated, “when in fact that wasn’t the case,” said Owens.

And while Styles claimed the contract was “unconscionable,” the appeal court disagreed, saying it potentially entitled him to earn very significant bonuses, both annually and in the longer term: “The (LTIP) was designed for senior executives who would be capable of understanding its provisions.”

The court made a point to emphasize that Styles was a sophisticated party who knew what he was getting into, or should have known, when he signed the LTIP, said Lederman.

“If he wanted to have been entitled to these two bonuses under the long-term investment plan before they vested, he should have negotiated those terms at the time the employment began.”

However, the appeal court did admit the LTIP used unfortunate wording, such as using “grants” for the base numbers or bookkeeping entries placed into the bonus formula, or talking about “forfeiting” the grants.

“Since the grants are never paid, and are merely formula entries, it is anomalous to say that they are ‘forfeited,’” said the appeal court.

An employee will have a sympathetic argument if a number looks like compensation that’s already earned, said Cunningham.

“If the payment is truly an incentive to motivate the employee for future positive contributions, then that should be stated. If it’s not, there’s a greater likelihood that the inference can be drawn it’s rewarding for services or work already performed.”

The employer was using words that had certain legal connotations, said Owens.

“For example, most people when they hear the word ‘grant,’ they think something has been given to someone… so you’ve earned that and you have an entitlement to that, but what actually happened in this case under the plan was there was a very complex formula that used sales figures in a certain year to establish a number, and that number would then go to another big formula in those four years to determine what the bonus would be paid. So it wasn’t a grant in the sense that the person had earned anything, it was sort of a placeholder number, for lack of better word.”

It’s important to be very explicit in the agreement, she said.

“You want to be protected as best you can, and you also want the employee to understand what they agreed to as best you can because it is recognized that sometimes there’s an unequal bargaining relationship between employer and employee, so it benefits everyone if you’re all on the same page.”

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