Severance Strategies in a Slumping Economy

The drop in oil prices has proven to be more dramatic and prolonged than many experts expected. Hope for a quick recovery is now extinguished, as the impact of low energy prices continues to spread across many sectors of the Alberta and Canadian economy. This has economists warning that Alberta is likely in the midst of its longest and deepest economic slump since the early 1980s.

As a result, 2016 is expected to be the worst job market Albertans have seen in decades. In January, Alberta's seasonally adjusted unemployment rate was 7.4%, the highest it has been since 1996, and the first time it has been above the national rate since 1988. Experts predict a further contraction of the Alberta economy through the first half of 2016, leading to more layoffs and further increases in the unemployment rate.

This economic climate is challenging not only for individuals forced to enter a stagnant job market, but also for employers attempting to reduce costs.

A poor economy can increase the severance liability of employers in two ways:

1. it may increase the amount of severance pay discharged employees are entitled to claim based upon the principle of reasonable notice, and
2. it will decrease the likelihood the employees will mitigate their damages by finding employment prior to the end of their notice periods.

Reasonable Notice

In the absence of just cause for dismissal or a written employment agreement spelling out an employer’s severance obligations, employees are entitled to “reasonable notice” of termination, or pay in lieu of such notice. What constitutes reasonable notice depends upon a number of factors relating to the circumstances of the individual employee, the nature of his/her job and the availability of similar employment. This final consideration is an important factor given that the ultimate purpose of requiring notice of termination is to give the dismissed employee a reasonable opportunity to find other employment. As recently clarified by the Ontario Court of Appeal in Michela v. St. Thomas of Villanova Catholic School, an employer’s financial struggles will not justify a reduction in the notice period. In fact, an economic downturn can lead to a lengthening of the notice period if the job market becomes depressed. However, courts have cautioned that this factor should not be given undue emphasis because, in fairness to employers, some limit needs to be placed on the period of notice to be given to discharged employees even if there is no work available due to poor economic conditions.

Mitigation

Upon being wrongfully dismissed (i.e. without receiving reasonable working notice or pay in lieu thereof), employees generally have a duty to mitigate their losses by searching for comparable, alternative employment. This duty requires individuals to take reasonable steps to replace their lost employment income. If successful in finding work, any income earned for work during the notice period will be deducted from the damages the dismissed employee could otherwise claim.

In the past in Alberta, employers could expect most employees to find new employment shortly after their termination. That has now changed. Employers face the real prospect of laid off employees remaining out of work, through no fault of their own, for the entirety of their notice period.

Risk Management Strategies

As a result, it is important for employers to implement staff reduction strategies which protect against the risk of heightened severance liability in poor economic times.

The most effective strategy is to proactively address your severance obligations in a written employment contract or offer of employment. However, if attempting to implement new contractual terms during the course of employment, extra care is required in order to create a binding agreement. In these circumstances, the employer has the onus of establishing that the severance provisions were clearly communicated to the employee, the employee appreciated that he or she was giving up legal rights and the employer provided fresh legal “consideration” to the employee in exchange for giving up those rights. Moreover, employers have an obligation to perform the contract of employment in good faith, which requires honesty in the negotiation of new severance terms. This obligation of good faith will be scrutinized particularly closely at the time of dismissal, and bad faith in the manner of dismissal can lead to the award of aggravated or punitive damages against an employer. It would therefore be extremely difficult and risky for an employer to propose new severance provisions to an employee in advance of a premeditated layoff.

For employers implementing terminations without any contractual certainty as to the amount of severance or notice required, it is wise to make attempts at the outset to propose a severance package that minimizes the risk of wrongful dismissal litigation.

Severance packages can come in many forms, including working notice, lump sum payments and salary continuance. While employers often have good reason to be reluctant to provide working notice, it should not be forgotten that is an available option. After all, the core obligation owed to an employee is reasonable notice of termination. If an employee is entitled to 6 months’ notice of termination, for example, the employer’s obligations could be fully satisfied by putting the employee on clear notice that his/her employment will terminate in 6 months’ time. The primary benefit of an employer giving working notice in whole or in part is that it receives something back from the employee in exchange for the compensation paid during the notice period.

Where pay in lieu of notice is offered, this allows the employer the opportunity to secure a full and final release from the employee in exchange for the severance package. The challenge for employers, particularly in poor economic times, is formulating a fiscally responsible severance package that the employee is likely to perceive as fair and reasonable in the circumstances.

The attractiveness of a lump sum payment to a dismissed employee is that the payment is not subject to mitigation. In good economic times, employees often take a calculated risk that they will find new work well in advance of the expiry of their reasonable notice period. This allows them to accept a discounted lump sum payment with the expectation that they may achieve a net gain in employment income during the notice period by finding new employment relatively soon. This sort of win-win severance solution is much more difficult to achieve in a poor job market.

In such a climate, salary continuance can become a more attractive option, because it can be structured to provide the assurance of employment income for the duration of the reasonable notice period, as well a possible discount for future mitigation. These arrangements are typically structured so that the salary continuance payments end early if the employee finds new employment. In order to encourage the dismissed employee to find new employment as soon as possible, these severance packages often also include a lump sum amount (for example, half of all remaining salary continuance payments) that becomes payable if the employee finds a new job early.

Providing access to outplacement services at the time of termination can also be a helpful tool in executing a severance strategy. The inclusion of these services increases the likelihood of mitigation through new employment which would ultimately be best for everyone.

Staff reductions are always difficult, but if approached with these strategies in mind, employers are more likely to successfully minimize their severance liabilities and avoid costly litigation.