With yesterday’s announcement that Barclays CEO Antony Jenkins has been fired we recap the key issues to consider when terminating senior executives in the financial services sector.
Considerations regarding the settlement sum
In order to ensure a quick and quiet settlement, institutions who have terminated executives in breach of contract and/or employment legislation will often need to offer an enhanced termination package to avoid a dispute.
Institutions which fall within the remit of the New Remuneration code (the “Remuneration Code”) will need to be conscious that any settlement package (including deferred bonus provisions) does not fall foul of the Remuneration Code, in particular:
- payments on termination should reflect performance achieved over time and not reward failure or misconduct; and
- payments should comply with the general principle to promote sound and effective risk management.
In this regard, companies are advised to avoid accelerated vesting of outstanding bonus payments or long term incentives on termination or to alter the terms regarding performance and/or forfeiture in deferred bonus plans. They should also be prepared to demonstrate the prudential reasons for the settlement, that the settlement sum is reasonable and that it has not rewarded failure. These obligations are a useful basis in negotiations for refusing changes to deferred bonus schemes.
Quoted companies will need to comply with the Corporate Governance Code. This requires that a company’s remuneration committee should:
- carefully consider what compensation commitments their directors’ terms of appointment would entail in the event of early termination;
- avoid rewarding poor performance; and
- take a robust line on reducing compensation to reflect departing directors’ obligations to mitigate loss.
This should be reflected in the company’s internal remuneration policy which must be approved by the shareholders every 3 years. Best practice guidance issued by the Association of British Insurers (ABI) And The National Association of Pension Funds (NAPF) on behalf of institutional investors also states that:
- boards should establish a clear policy to ensure any non-contractual payments are linked to performance;
- no director should be entitled to discretionary payments in the event of termination of their contract arising from poor corporate performance;
- remuneration committees should consider retaining their discretion to reclaim bonuses if performance achievements are subsequently found to have been significantly mis-stated; and
- remuneration committees should ensure that full benefit of mitigation is obtained with particular reference to phased payments (see Timing of Payments below)
The Listing Rules also require notification to a Regulatory Information Service (RIS) of the removal of a director by no later than the end of the business day following the decision stating when the removal will take effect. If the effective date of the board change is not yet known, the initial notification should state this fact and the company should notify a RIS as soon as the effective date has been decided.
When terminating a director, shareholder approval must be sought when making a payment for compensation for loss of office. Shareholder approval is not, however, required for payments settling a claim arising from a director’s termination (for example, unfair dismissal/discrimination). However, such payments must be made in good faith and shareholders may challenge excessive payments that they do not consider to have been made in good faith.
Timing of payments
As companies are generally looking to exit executives as quickly as possible, they are rarely asked to work their notice. Whilst garden leave can be an attractive option (especially if the company is looking to limit the executive’s ability to act in competition with the company) many companies agree to make a payment in lieu of notice (PILON) with the executive leaving with immediate effect. In making these payments, it is now common practice for companies, especially listed companies, to make phased payments on a monthly basis throughout what would have been the executive’s notice period. Under such agreements the executive is obliged to mitigate their loss and any sums earned by the executive during this period can be deducted from the PILON. This policy is generally welcomed by institutional investors of quoted companies and is recommended in the Corporate Governance Code. It does however require a well drafted and clear PILON clause in the service agreement or settlement agreement.
Shares and options
Executives are often also shareholders and consideration will need to be given to how their shares will be dealt with on termination. Many service agreements require the executive to sell their shareholding back to the company on termination and the mechanics of this should be dealt with in the company’s articles or the shareholder agreement. Consideration of how to deal with deferred shares will also need to be given and settlement packages should comply with the Remuneration Code if applicable (see above). Again, well drafted terms giving the company flexibility are key. Equally the executive may hold share options which vest in the event of certain types of termination and the share schemes should be carefully drafted to limit the company’s exposure.
Senior Managers Regime – references
From March 2016 the new senior managers regime will come into force which applies to certain banks, building societies and PRA designated investment firms. The regime will apply to a set list of senior managers including the Chief Executive Function and Chief Financial Function. The proposed regime will require relevant firms seeking to appoint someone to a senior manager function to request a reference from the candidate’s past employer(s) covering their previous five years’ employment history, in order to help them make a better informed decision. These references will need to disclose, if applicable:
- facts that led a previous employer to conclude that the candidate breached a Conduct Rule; and
- a description of the basis and outcome of disciplinary action taken in relation to a breach by the candidate of any of the Conduct Rules.
When entering into a settlement agreement for employees covered by this regime, companies should be conscious of their obligation and not fetter their discretion to provide a reference on this basis.
If you represent a company considering a dismissal of this kind or you want to ensure that your existing contractual documentation gives your company suitable protection and flexibility, we would be very happy to discuss such issues with you.