“There will be blood on the streets,” said Ontario Superior Court Justice Arthur Gans when addressing some 200 lawyers at last year’s annual Ontario Law Society Workplace Law Conference.

In a panel discussion with Justices Colin Campbell and John Sproat on how courts should deal with employment law issues in these increasingly calamitous times, the general view was that they would likely be sensitive to employers. And, if companies act reasonably and compassionately when forced to lay off employees, they will less likely face massive severance awards that could threaten their existence.

Since then, Citigroup’s layoff of 53,000 employees and massive layoffs in media, automotive, mining, finance and manufacturing worldwide has added to the human carnage. Even before the credit crunch and its debilitating impact, the Ontario manufacturing sector was experiencing the greatest downturn in its history.

Companies in virtually all sectors and countries are at risk. Since severance costs detract from the capital base required to survive, how should employers handle dismissals?

Many employers cannot afford to be as generous as they once were and those that can, no longer wish to do so. They appreciate their severance dollars must, if possible, be preserved.

Too often, severance formulas are devised by executives based on how they would wish to be treated, knowing they might be next. Generous severance may also be seen as a sign of an employer’s “humanity,” and others pride themselves in never having been sued, rather than analyzing the cost of consistent overpayments that not only reduce shareholder profit, but also can affect competitiveness. One client told me that while her company was not in peril, looking toward a worsening economy, she had decided to lay off some staff as a prevention. Her human resources manager, she opined, was using too generous a severance formula.

It was my view that no formula could emulate the individualistic approach courts take to determine severance. By definition, formulas over-compensate some employees and under-compensate others relative to what a court would decide. As a result, except for those that overpay everyone, the use of formulas invites, rather than ameliorates, litigation. I made myself available to review the terminations beforehand, to ensure they were defensible without overpaying.

Generally, if an employee is provided 80% of what a court would award, it makes little economic sense to sue. The odd employee may sue, but if the offer is defensible, employers should defend! A quick capitulation leaves other laid off employees believing they have little to lose in suing, creating a vicious cycle of increasingly higher severances.

Several years ago, a client that conducted a mass termination in New Brunswick offered severances slightly below what a court might provide. Six out of about 50 employees sued. We defended each one of them. Three years later, five settled for roughly the amount of the initial offers, leaving them worse off after legal fees. One went to trial and, because he had found work in between, did even worse than his initial offer. The national corporation then had another round of layoffs, providing even lower severances. Not a single employee sued. While it could afford to pay more, the company felt an obligation to its shareholders not to overpay severances.

To reduce severance costs, companies should consider the following:

  • Do not use severance formulas.
  • Offer severance at the low end of the range or just below.
  • Ensure all offers are fully mitigated. Do not pay half of the balance, if employees obtain work. The courts will make you pay the difference. Since few people take jobs at half or less of their former salaries, this 50% formula pays the mitigating employee more than what a judge would. Employees, especially now, do not require incentives to take new employment.
  • Don’t settle with unreasonable employees. If employees know you will proceed quickly to mediation and raise your offer, you invite litigation. When I take cases to discovery, I routinely find new defenses. Take more cases there. Use lawyers who know how to litigate and are not anxious to settle.
  • Don’t pay excessive costs to the employee’s lawyer when you do settle.
  • Courts award employees what they would have earned during the period of notice. For commission and bonus-based employees, earnings may be much less now. Accordingly, the severance offer should reflect that drop.