Who Would You Call a 'Bad Leaver'?

Nosworthy v Instinctif Partners Ltd

Miss Nosworthy was given a 2% shareholding in her employer, which was then sold with the rest of the company's shares when it was acquired by Instinctif Partners. As a result, she was entitled to deferred payment for part of her shares under a three year 'earn-out' scheme in the Share Purchase Agreement (SPA) which provided for her to receive cash payments, loan notes and new shares in Instinctif.

These arrangements were insisted upon by Instinctif as a mechanism to incentivise retention of key employees. The SPA and the company's Articles of Association provided that a 'bad leaver' lost their entitlement to earn-out payments and had to sell their loan notes and new shares back to Instinctive at either 'acquisition cost' or 'fair value', whichever was lower .

A 'bad leaver' was defined as any employee who voluntarily resigns. Miss Nosworthy decided to resign in 2016, and was treated as a bad leaver. This meant that she received £143 for her shares and forfeited her loan notes.

Miss Nosworthy challenged the bad leaver provisions that she should receive effectively nothing for her shares, on three grounds:

• that they were "unconscionable" and therefore unenforceable
• that they amounted to an unlawful penalty clause
• that they amounted to an unlawful deduction from her wages

What Did the Tribunals Say?

The Employment Tribunal rejected all of Miss Nosworthy's arguments and Miss Nosworthy appealed.

The Employment Appeal Tribunal dismissed all her grounds of appeal.

• Regarding the argument that the bargain represented by the share arrangements should be set aside as unconscionable, the EAT reminded itself that this required that "one party has to have been disadvantaged in some relevant way as regards the other party, that other party must have exploited that disadvantage in some morally culpable manner, and the resulting transaction must be overreaching and oppressive". It held that there was no evidence of serious disadvantage whether through poverty, or ignorance or lack of advice or otherwise leaving the individual vulnerable to unfair disadvantage in this case. The first ground of appeal therefore failed.
  
  
• Miss Nosworthy was also unsuccessful in arguing that reasonable people would regard it as unreasonable to treat an employee who gave notice to terminate her employment as a bad leaver when an employee who was dismissed is treated as a good leaver. Regarding that, the EAT said: "The Articles to which the Claimant had subscribed were clear. An employee who gave notice to terminate their employment was a 'bad leaver'. However curious that may be, it was clearly spelled out in the Articles."
  
  
• The EAT was also unconvinced by the argument that such provisions were an unlawful penalty clause, noting that Instinctif hadn't relied upon any breach of contract as entitling it to apply the bad leaver provisions. These were applied because of the terms of the Articles of Association, not as a consequence of any breach of contract. This fundamental aspect of an unlawful penalty argument was therefore missing.

The EAT also noted that this could not amount to an unlawful deduction from wages under section 27(2)(e) of the Employment Rights Act 1996, because whilst the claim in respect of earn-out shares and loan notes could be said to be payable in connection with employment, they were deferred consideration for the sale of her shares and therefore provided to Miss Nosworthy as a vendor of shares, not in her capacity as a worker.

Best Practice

Instinctif had clearly thought carefully about the circumstances in which it was willing to allow the selling employees to continue to benefit from their share incentives when structuring its terms.

These types of good leaver/bad leaver provisions are common in a fairly wide variety of employee share incentives and shadow share schemes. Although, as the EAT pointed out, the definition of 'bad leaver' in this case was wider than one would often expect, employers seeking to provide similar benefits should be similarly careful in the terms that govern employee participation rights after termination.

To discuss how best to structure your employee share schemes, please contact Bob Fahy in our Employment Law team on 01923 919 302, or complete the form below.