Why now is a good time to update employment agreements

With the start of a new year, many employers are finalizing bonus payments.

That means it’s also an opportune time to update employment agreements, according to lawyers at Baker McKenzie in Toronto.

“It's a good time because a lot of companies are paying out bonuses, and depending on how those bonuses are calculated, and what goes into determining who earns what, it could be used as an opportunity to provide consideration,” says Dave Bushuev, a member of the firm’s Employment & Compensation Law Practice Group.

Why consideration matters

Consideration is generally a benefit that the employee would not have received had they not signed the amended employment agreement. It’s a required element of enforceability in contract law, he says.

“A good way to think about it is like an exchange... so the employee needs to be given something in exchange for them agreeing to these new terms.”

So, what might that entail?

“It would have to be something that the employee wouldn't otherwise be entitled to,” says Bushuev, such as a discretionary bonus, so the employer can show that it gave this employee more than he would have otherwise earned, or topped it off a bit, “in exchange for them signing an updated contract — that would make it enforceable.”

It’s something employers can do to make bonuses go further, says Bushuev.

“We all know that end-of-year bonuses, the big purpose of them is for retention. So even if they're discretionary, a lot of times employers decide to pay them out anyway just to keep good employees, or pay out a little more than they otherwise have to. So, we just think it's a good idea to capitalize on that, and shore up some weaknesses in employment agreements.”

Consideration could also involve a one-time lump sum payment, added benefits or increased entitlements to incentive plans, he says, “although that gets a little messier.”

Employers may also want to consider it as an investment in terms of reducing liabilities within agreements, says Rono Khan, also a member of Baker McKenzie’s Employment & Compensation Law Practice Group.

“It might cost… thousands of dollars for the bonus payment, but the underlying liabilities in the employment agreements — particularly when it comes to the termination provisions, the lack of layoff provisions, and any short-term and long-term incentive plans — could outweigh whatever the cost is of the bonuses.”

Consideration could also involve hourly wage bumps, especially with restrictive covenants or confidentiality clauses, says Bushuev.

“It doesn't even have to be in the employment agreement, necessarily; it could be like a standalone agreement.”

But there’s probably less confusion if consideration is included in the employment agreement versus a separate document, says Khan.

“It should be clear that fresh consideration has been given for these new terms of the employment relationship.”

Updating termination provisions

In looking to revise employment agreements, one of the biggest areas of note lately is termination provisions. In the last couple of years, a majority of termination clauses have been rendered unenforceable thanks to Waksdale v. Swegon North America Inc., where the Ontario Court of Appeal determined a termination clause was unenforceable because the just cause provision allowed the employer to terminate an employee without notice or pay in lieu for reasons that did not constitute cause under Ontario’s Employment Standards Act.

Waksdale has since been applied in a number of cases, such as Gracias v. Dr. David Walt Dentistry and Rahman v. Cannon Design Architecture Inc., showing that “different elements of termination provisions in an employment agreement are being more carefully scrutinized,” says Khan.

With Gracias, for example, the court said reference to just cause termination outside of the termination provision can render that provision unenforceable. And with Rahman, despite the sophistication of the parties, the Court of Appeal said a plain reading of the termination provision is what's preferred.

“It's ultimately going to come down to the wording of the provision as to whether or not the provision is enforceable — rather than the contextual considerations of the negotiations with the contract,” says Khan.

“So, really, employers need to review their entire employment agreement and not just the termination provisions… because courts are now increasingly scrutinizing employment agreements and, basically, nitpicking as to any references to termination, which could ultimately lead to employers facing more liability than they anticipated.”

It’s like playing the game Whac-a-Mole, says Bushuev, citing comments from another lawyer: “Courts are just striking down termination provisions for new things all the time.”

“So, you have to really be careful and you have to be vigilant and review your employment agreements regularly,” he says. “As we all know, the liability could rack up — particularly if you have a large workforce.”

Temporary layoffs need provisions

With the onslaught of the pandemic catching many employers off guard, temporary layoffs became a common trend – helped by legislative changes.

But contrary to popular belief, employers do not automatically have the right to lay off employees temporarily, even due to an unexpected downturn in business.

If they lack provisions in their employment agreements, these layoffs could add up to constructive dismissal. So coming out of the pandemic, employers should make sure the language in their employment agreements allows them to temporarily lay off employees without pay.

Especially now, says Bushuev, with a potential recession on the horizon – if not already with us.

“You want to make sure that there's that flexibility to lay off workers temporarily, and not have to deal with the headache and cost of constructive dismissal litigation.”

‘Actively employed’ changes incentives

A third key area in employment agreements that should garner renewed attention is short- and long-term incentive plans, with more and more litigation regarding the payout of these plans. One big reason? Unless the language of the incentive plan specifically excludes payout during a notice period, it will be payable, so requiring an employee to be “actively employed” to qualify for payment will not suffice, say the Baker McKenzie lawyers.

“Courts in employment apply the principle of contra proferentem, so ambiguity is settled in favour of the employee,” says Bushuev.

“In incentive plan language, if you just say ‘actively employed’ without saying that that doesn't include anytime that you're on a notice period or being paid in lieu of notice, the courts will interpret that as active employment — including any time you're on notice or being paid in lieu of notice. So unless you clarify it, it's going to be settled in favor of the employee.”

Technically, an employee would be considered actively employed if they had been given their rights to notice of termination under common law, and paid their bonus when the event happened, says Khan, “so that was the entire issue with the language.”

In Matthews v. Ocean Nutrition Canada Ltd., the Supreme Court of Canada clarified the legal principles applicable to a dismissed employee’s entitlement to bonus money during the reasonable notice period.

Employers with this kind of language in their employment agreements and bonus plans will need to pay out an employee’s incentives during the notice period, including bonus payments and stock option vesting, say the lawyers.

“Combined with an unenforceable termination provision and an employee with an extended length of service, the liability for something like this could be significant.”