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Ontario Court of Appeal deals with stock grants and termination

chequeLong gone are the days when employees would receive pay cheques at the end of the week and possibly a Christmas bonus each year. Compensation for employees, particularly senior employees, has become increasingly complex as employers seek to incent specific behaviours among their executives. In addition, changing tax laws and the wild gyrations of the stock markets have made stock options more difficult to administer and less appealing to employees. Employers have been substituting stock grants for stock option plans and employees have been accumulating a significant amount of shares over long periods of time. This has led to a blurring of the dividing line between employee and owner. This raises issues when a long term employee who has accumulated a significant share of the stock of his employer is terminated without cause.

In an effort to tailor stock grant programs to best mimic incentives provided by the old stock option plans, most grant programs provide for either the right or the obligation of the employer to repurchase stock received by the employee on the occurrence of a triggering event. As the plans are designed to cause the aims of the employee’s and the company’s to coincide, most plans have some provision for the right, or the obligation, of the employer to repurchase the stock on the occurrence of a triggering event. Virtually all such plans provide that termination of employment is one such triggering event.

However, with the increasing volatility of the stock markets, the date on which the employee is deemed to have been terminated can have significant impact on the value of the stock in question. In an effort to bring certainty to the employer’s exposure in such circumstances, most companies seek to draft clear and specific provisions in their employment policies describing the circumstances under which the employer can compel the employee to sell the shares or the employee can require the employer to purchase the shares.

The timing of the purchase of such shares becomes an issue where an employee is terminated without cause and without compensation for the value of the shares. Courts have been faced with determining the valuation date in fixing damages for the employer’s failure to purchase the shares. While most plans provide that these obligations arise on the date of termination, the issue arises as to whether that date is a date on which the employer gave notice to the employee, or the date on which the period of reasonable notice would expire. Part of the difficulty arises from the fiction of reasonable notice. Technically, the employer is obligated to provide the employee with notice of a future date on which the employee’s employment will be terminated. However, practically speaking, most such terminations are effected by an immediate termination of the employee’s employment, together with compensation for the period of reasonable notice.

The Ontario Court of Appeal made clear in 2004, in the decision of Taylor v. Brown, that the payment in lieu of notice is an “…attempt to compensate for the employer’s breach of the contract of employment, and not as an attempt to comply with an implied term of the contract of employment.” In Love v. Acuity Investment, released on February 16, 2011, the Court of Appeal considered the issue again. The court held that based on the decision in Taylor v. Brown, a termination takes place on the date on which the employee’s employment ceases. In reviewing the facts of the case, the Court of Appeal found that the trial judge’s decision that the triggering date for the obligation to repurchase shares was at the end of the period of reasonable notice was, in fact, incorrect. While the Court of Appeal acknowledged that, had the employee been given reasonable notice, his termination date would have been some time later, it pointed out that, in fact, such notice was not given. The court found that the end of the notice period represents “…the end point of his entitlement to compensation in lieu of notice, not the end point of his employment”.

The Court of Appeal therefore overturned the trial judge’s decision and held that the actual termination date was the date for triggering of the obligation to purchase the employee’s shares. This decision significantly reduced the employee’s entitlement to damages in the circumstances.

The proper drafting of employee stock grant programs is critical to the financial success of a company. This is most certainly the case as the issues arising from the entitlement of the stock grant program will become particularly salient when the employee is dismissed. Once that takes place, most of the goodwill that may have existed between the employer and the employee disappears. A properly drafted and implemented stock grant program will significantly reduce the risk to the employer, as well as avoid costly litigation in the future.

Earl Altman
Garfinkle, Biderman LLP

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Earl Altman

Legal consultant at EA Consulting
Earl Altman was a partner at Garfinkle, Biderman and now heads his own consulting firm. Earl has practiced commercial and employment litigation. Earl’s practice focuses on employment disputes, including acting for employees and employers in wrongful dismissal claims, and in breach of contract and breach of fiduciary duty claims. Read more
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