Stock option exercised after termination

Court considered stock option exercise reasonable, as if it were exercised during the employment term

After six years as the purchasing manager for Pacific Insight Electronics Corp. (P.I.), Jim McClarty’s employment was terminated without notice in August 2001. At the time of his dismissal he was paid a lump sum of $11,491.72. According to P.I. this amount was considered appropriate severance and holiday pay. No breakdown of the $11,491.72 was ever provided to Mr. McClarty. However the record of employment provided to Mr. McClarty indicated that he was paid severance pay of $8,076.95.

P.I. is a manufacturer of electronic products for use in the automotive and marine fields. When it was formed in 1984 it was a small company. By the time Mr. McClarty joined in 1995 the company had 30 employees. At the time of Mr. McClarty’s dismissal P.I. had grown to approximately 220 people and sales of $18.5 million in 2001.

When Mr. McClarty began working for P.I. he did all or most of the purchasing himself. By August 2001 the purchasing department was comprised of Mr. McClarty and eight other people, three of whom were supervised by Mr. McClarty.

Although Mr. McClarty was not considered to be senior management, he did report directly to the company president, Mr. Smithson, and the general manager, Mr. Ross. Over the course of his employment Mr. McClarty’s salary increased from $38,400 to $60,000 per year in 2000.

As part of P.I.’s stock option plans for its directors and employees, Mr. McClarty was granted an option to obtain 10,000 company shares in 1996 at a price of $1.43 per share. He was granted a second option in the 1999 plan to obtain a further 10,000 shares at $1.85 per share. Mr. McClarty did not exercise these options prior to his dismissal.

However at the meeting on Aug. 3, 2001, in which Mr. McClarty was dismissed, he was informed that P.I. would assist him to exercise these options. Mr. McClarty did subsequently exercise the options and the sale of his shares provided him with net proceeds before tax of $26,000.

Mr. McClarty brought an action against P.I. for wrongful dismissal. The main issue at trial was reasonable notice. In determining the appropriate level of notice the Court considered the fact that Mr. McClarty was 37 years of age and had training and experience in electronics, including production and purchasing. The Court was unable to assess the difficulty in finding similar employment but did note that Mr. McClarty had undertaken a fairly extensive job search without any success.

Based on these factors the Court held that eight months would have been reasonable notice for Mr. McClarty.

P.I. argued that the net profit gained by Mr. McClarty upon the exercise of his stock options (post-dismissal) should be taken into account in determining whether the compensation paid to Mr. McClarty in lieu of notice was sufficient. P.I. relied on the stock option agreement, which provided that one of the expiry dates was “the date on which the optionee ceases to be an employee of the company for any reason except death.”

P.I. argued that Mr. McClarty ceased to be an employee on Aug. 3, 2000. Its willingness to let Mr. McClarty exercise his options after that date was a gratuitous act and therefore the monies derived from the exercise of the options should be considered as part of the compensation paid to Mr. McClarty in lieu of notice.

In response, Mr. McClarty argued that the expiry of his employment must be interpreted to mean the date on which he lawfully ceased to be an employee of the company, that is, at the end of his period of reasonable notice. Therefore at the time that he exercised his options he was still an employee of P.I.

The Court agreed with Mr. McClarty. The options that he exercised were exercised within the period of reasonable notice, even within the period considered by P.I. to be an appropriate notice period. P.I.’s dismissal of Mr. McClarty without notice prevented him from exercising the option while still employed. P.I. cannot take advantage of that act and gain the benefit of a reduced award.

In summary the Court held that Mr. McClarty was entitled to damages in lieu of reasonable notice based on a notice period of eight months. P.I. was entitled to a credit of $8,076.95 for funds already paid to Mr. McClarty. The amount received by Mr. McClarty upon the exercise of his stock options did not form part of the compensation in lieu of notice.

For more information:

McClarty v. Pacific Insight Electronics Corp., 2002 BCSC 256.

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