Background

A termination benefits policy (TB Policy) is a shareholder approved policy for the payment of certain benefits to managers and executives on their retirement1 from the employ of a company or its related bodies corporate.Since November 2009, a number of listed companies, including Australand, BHP, Boart Longyear, Macquarie Bank, Origin Energy, NIB, Rio Tinto, Stockland and Worley Parsons, have obtained shareholder approval to a TB Policy.

A shareholder approved TB Policy will facilitate the recruitment and retention of executives and avoid a surprise to the board of directors and the executive of a company when that executive, who might be a good leaver, leaves or retires and cannot receive the benefits they thought they were entitled to on termination until the matter has been put before shareholders for a vote.

Why have a TB Policy?

In 2009, amendments were made to the termination benefit provisions (Termination Benefit Provisions) of the Corporations Act 2001 (Cth) (Corporations Act).  These had the effect of tightening up the regulation of the benefits that a company may pay certain officers on their retirement from a managerial or executive office in the company or a related body corporate. For example, under the provisions before the amendments, a company and its related bodies corporate could pay a retiring executive a termination benefit of up to seven times that executive’s total annual remuneration before shareholder approval was required.  However, under the revised provisions, shareholder approval is required where the proposed termination benefits exceed the executive’s average “base salary” for one year.

In a separate Addisons’ Focus Paper entitled “Termination Benefits: How a managing Director got stripped of them”, we outline the story of how Mr Howard Renshaw, managing director of Queensland Mining Corporation Limited (QMC), an ASX listed company, was ordered by the Federal Court2 to repay the entire amount of the retirement benefits paid to him by QMC because there was a breach of the Termination Benefit Provisions (QMC Case).  This really bad outcome for Mr Renshaw could have been avoided if QMC had a TB Policy in place at the time of his resignation from office.

As mentioned above, the 2009 amendments limit the amount or value of the benefits that can be paid to an executive on their termination before shareholder approval will be required to be obtained.  The amendments also made other changes including:

  1. broadening the application of the provisions to persons known as “key management personnel”3 and covering persons who had, at any time in the last three years prior to their retirement, held a managerial or executive office in the company or a related body corporate;4
  2. widening the definition of “benefits” that might be regarded as received on termination. A voluntary out of court settlement, a payment in lieu of notice and a payment for agreeing to a restraint of trade on termination are now specified as benefits:
  3. requiring that “base salary” rather than “total annual remuneration”, as was the case under the previous provisions, is used in each of the exceptions to shareholder approval to calculate the amount payable to a retiring executive on termination.  The definition of “base salary” includes a limited number of items and specifically excludes short term performance based bonuses and long term employee benefits; and
  4. making it clear that any amount received by an executive in contravention of the Termination Benefit Provisions is a debt due by that person to the paying company and is to be held in trust by that person with an obligation to pay back the entire amount to the paying company.

The 2009 amendments apply to employment contracts executed after 24 November 2009.  However, they also apply to employment contracts which are renewed, extended or amended (but only where a condition is changed) after 24 November 2009.

As a result of the 2009 amendments, without a TB Policy or specific shareholder approval to the payment of benefits to an executive, it will be difficult for companies, including listed companies, to provide an executive a benefit on retirement or termination, even where they are entitled to such a benefit under their employment contract or previous company policy.

Some problems created by the 2009 amendments

The 2009 amendments have created some practical difficulties in dealing with retiring executives. A few examples illustrate the point:

  1. An Australian company may be prevented from paying an employee a contractually agreed termination benefit5 because at some time in the three years before that person’s retirement, they held a directorship in one of the group’s foreign subsidiaries. The relevant foreign subsidiary may not be of any consequence in the group but being a director of that company for even a short time will have prevented that employee from getting their agreed termination benefit on retirement until approval is first obtained from the shareholders of the Australian company. Alternatively the payment of the benefit must be characterised as a payment within one of the limited exceptions to the requirement to obtain shareholder approval.
  2. The exercise of board discretion to grant an executive “good leaver” status on retirement and thus become entitled to accelerated or continued vesting of long term share grants may be a benefit under the Termination Benefit Provisions which must have the prior approval of shareholders or must come within one of the exceptions.
  3. The exceptions to the requirement to obtain shareholder approval are limited in their own right:
  1. one requires that the termination payment be a genuine payment by way of damages for breach of contract (section 200F(2)(a)(i));6
  2. another requires that the termination benefit is given under an agreement entered into before the person became the holder of the office or position as consideration, or part consideration, for the person agreeing to hold the office or position (section 200F(2)(a)(ii)); and yet
  3. another requires the payment to be linked to the past services of the executive to the company (section 200G(1)(b)).

The point about the three exceptions discussed above is that they each apply to a particular set of circumstances. They do not have general application to an executive retiring from a company in any circumstances.

In addition, the exceptions have a maximum monetary limit of one times the relevant executive’s “base salary” during the defined “relevant period”. As was discovered in the QMC Case, it is often a difficult matter to determine the “base salary” of a particular executive during the defined “relevant period”. This will be made more complicated where an executive has been in and out of a “managerial or executive office” during the term of their employment.

Thus pre-approval by shareholders of a TB Policy for their company would give the board of directors of a company the general flexibility to deal fairly and efficiently with executives when they retire from the company. The alternative of obtaining shareholder approval to the payment of termination benefits each time a relevant executive retires is not practical for any company of significant size.

Benefits of a TB Policy

As mentioned above, the benefits of a TB Policy are that:

  1. shareholders will necessarily have been involved in approving a policy for the payment of the maximum benefits that might be payable to executives on their retirement;
  2. recruitment and retention of executives on competitive terms by the company will have been facilitated;
  3. on retirement, an executive will be able to obtain their benefits without any need to find an exception that might apply, or be required to wait until shareholders have approved the payment of those benefits; and
  4. for a larger organisation that operates across jurisdictions, a TB Policy allows its executives to be treated consistently across the organisation, whether or not that executive happens to fall within the operation of the Termination Benefit Provisions.

Conclusion

The difficulties in practice with the Termination Benefit Provisions suggest that all listed and disclosing entities should consider putting before shareholders for approval this reporting season a resolution to adopt a TB Policy. In addition, it would be appropriate that all widely held proprietary companies consider putting in place a TB Policy, or obtain specific shareholder approval, so that what happened to Mr Renshaw does not happen to their executives.