For over 25 years I have, in one capacity or another, dealt with executive severance work. My background is an employment lawyer specialising in severance work and restrictive covenants on both sides of the fence: acting for both the employer but also the executive. I do though also have a relatively unique perspective, having been the CEO of a large business where it wasn’t about advising on these processes, but actually implementing them in as efficient yet compassionate way as possible.
The Seasonal Cycle of Executive Severance
In my experience, you get peaks and troughs of employers seeking to re-organise their C suites and senior management teams (“SMT”). There will always be one off events which trigger departures such as a clear out of the C Suite and or SMT following on from an acquisition or maybe the repurposing of various roles following on from a strategy review. You do, though, tend to be able to spot the cycle of activity – December is always a busy time as Boards often take an investor led initiative to shuffle the people at the top table as they look to adjust their strategy. March is another key peak point as year end reporting approaches at the end of April for many businesses.
This year more than ever though, we have seen a dramatic uptick over January in executive severance. Why is that? Well maybe it is the gloom following on from the debt laden Autumn budget, or perhaps consternation flowing from that as the employer national insurance rises look to take effect in the next few months. Certainly, the Bank of England forecasting a halving of the growth rate in the UK economy over the next 12 months sets the tone. I think, inevitably, there will continue to be that uptick in executive severance work as Boards and investors look to respond to the various challenges ahead of them.
The Right vs. Wrong Approach to Executive Severance
In my experience though there is the right way and the wrong way to deal with executive severance. CFOs in particular, when faced with tough decisions to try to hit perhaps ambitious budgets, often turn their attention to executive severance packages and turn the screw unnecessarily.
Ex gratia payments
The notice period is what it is and very few executive service agreements these days do not have a payment in lieu of notice (PILON) provision in there. It’s the assessment of the ex gratia sum that tends to get the focus – gone are the days of regularly seeing 12 month ex gratia payments unless you are talking about the person at the top of the tree. The norm seems to be far more toward the 6-9 month mark with some employers starting at even less. Given that the ex gratia sum is meant to buy out the employment rights of the individual and almost inevitably there will not have been a formal process followed other than, if you are lucky, the protected conversation, this level of scrutiny is perhaps misplaced.
Share Options
Leaving aside the ex gratia sum, the other area that gets analysed very closely is the exercise of share options. The definition of “bad leaver” seems to be more willingly applied as companies look to recycle options back through their employee benefit trust for the benefit of the next tranche of C Suite and SMT candidates. I find this short sighted as, inevitably, the executive who has been granted the options in the first place will have worked hard to build the business and as a consequence will have made the contribution. In my opinion, good leaver should be the starting point for these discussions and then the employer should be able to justify why that should pivot to bad leaver because certain things have or haven’t happened in accordance with the trust deed of the employee benefit trust and associated performance criterion rather than some ill informed application of discretion in an ad hoc way. Many executives often move on to similar businesses and having them as a promoter of their former employer is far more powerful than having them as a detractor.
Restrictive Covenants
We then come to the issue of restrictive covenants. Having worked out how much the executive should or shouldn’t get paid to take them out of the business and having applied a discretion in good faith or perhaps not as to the ability of the executive to exercise their share options, the last major concern is what is the executive going to be allowed to do after they have left their employment. Restrictive covenants are by their very nature an unreasonable restraint of trade. This leads to a misunderstanding from many C Suites and SMTs that restrictive covenants are not enforceable. That is simply not the case. Restrictive covenants are very much affordable (and people such as me make a very nice living from enforcing them!) provided that they do not go further than is necessary to protect the legitimate business interests of the employer. Inevitably confidential information is worthy of protection and this gets protected by preventing former executives from going after their team members, or attempting to take away or work with major clients or even suppliers, all of which can be enforced provided that they are reasonable both in time but also in scope (6 months for me is enforceable, 12 months is becoming more tricky; being able to show an ability to impact on the team or the client/ suppler is hugely important). The one that really sticks in the throat is the non competition provision which puts a blanket ban on working for a competitor to the employer for a period of time. I really don’t like these covenants as I do think that there are other ways of protecting the employer position in a better way but, carefully drafted and selectively applied they can be enforced to great effect particularly when there is a greater equality of bargaining power between the executive and the employer usually through a shareholder’s agreement which is a far better place to put that type of covenant obligation.
What are we going to see ahead?
I think that the pace of restructuring will increase as the economic headwinds begin to bite. I think that this will inevitably lead to employers taking a harder line against executives (which we are already seeing) both in terms of packages offered but also in terms of share options and restrictions being applied moving forward. Looks like the employment lawyers are going to be busy…!!
If you are an employer considering a restructure or an executive on the end of a protected conversation, give us a call. We have the knowledge you need to work through this efficiently and intact!
Contact Andrew Leaitherland on hello@arch.law
