The Full Court of the Federal Court of Australia has found that an employer breached the contract of employment by failing to give a payment under the terms of its discretionary bonus plan. The plan had become part of the contact of employment and the employer was required by an implied term of the contract to refrain from exercising the discretion capriciously, arbitrarily or unreasonably.

The Facts

The terms of the bonus plan were set out in a number of policy documents. The decision to award a bonus was expressed in the documents as being in the “absolute discretion” of the employer.

A separate redundancy policy stated that where an employee was made redundant before the end of the bonus period, the employer would consider, in its absolute discretion, if a pro-rated bonus would be paid.

The employee was made redundant and was not considered for a bonus because of the low performance rating which his manager had given him. In every previous year of the employment he had received a bonus.

Proceedings in the Federal Circuit Court

The evidence which emerged at the trial established that the performance rating given to the employee was not well-founded – the judge ultimately described it as irrational and unreasonable.

This meant that the key issues were:

  1. Whether the bonus plan formed part of the contract.
  2. Whether the contract contained an implied term which imposed requirements on the employer’s discretion.

On the first issue, the judge found that although the relevant polices may not have general application as contractual terms, they did for the specific purpose of determining the employee’s termination entitlements on redundancy.

On the second issue, the employer argued that where a party has a discretion to perform a promise which is not capable of objective measurement, the promise is devoid of legal content and is unenforceable.

The employee relied on the decision of the NSW Court of Appeal in Silverbrook Research Pty Ltd v Lindley which dealt with a similarly worded bonus provision. In that case it was held that the employer’s discretion was subject to an implied contractual requirement to act:

  • honestly and conformably with the purpose of the contract; and
  • not capriciously, arbitrarily or unreasonably.

The judge held that Silverbrook remained good law and was not affected by the decision of the High Court in Barker, which had found against the existence of an implied term of trust and confidence. In view of the similarities in wording between the bonus arrangement in Silverbrook and the present case, the employer here was required to exercise the discretion in a way that was not capricious, arbitrary or unreasonable.

As it had been established that the rating given to the employee was not rational or reasonable, the claim for breach of contract was made out. The employee was awarded an amount equal to the bonus he had earned in the previous year.

Significance

The outcome is a reminder that discretionary arrangements ancillary to employment need to be considered and applied in light of the purposes of the contract of employment.