Stock option plans are a familiar and valued part of the “remuneration package” of senior executives.  When carefully drafted, they incentivize key employees to identify personally with the Company’s success and development, and maintain loyalty and discourage turnover.  The Court of Appeal in IBM Canada Ltée vs. D.C. has recently clarified the circumstances when they are (and are not) to be taken account of in calculating what is owed to the departing executive terminated “without cause”.

The Issue

Quebec law allows employers to terminate the employment of senior executives not hired for a fixed term, at any time, even without “cause”, subject to providing “reasonable working notice”, or a “make whole” indemnity intended to compensate the departing employee as if s/he worked such notice.  The measure of “reasonable notice” is fact-driven and varies from to case, but rarely exceeds twenty-four (24) months, even for the most highly paid and longest service employees.

Where an employer feels that change is required at the executive level, but there is no “cause” for termination, “working notice” is seldom (if ever) a favoured option.  Several questions then arise in calculating the “package” owed to the departing executive:

  1. Do “stock options” that were granted, but have not yet “vested”, continue to “vest”, as they would if the executive worked out the notice period?;
  2. Is the “trigger” date for purposes of calculating the exercise period (generally 90 days) measured from the end of the notice period or from the termination date?
  3. Must the employer compensate the employee when this reduces the anticipated “profit” because the options must be exercised at the earlier date.

With One Caveat, IBM Canada Ltée v. D.C. Now Provides Clear Answers

In IBM, the Court of Appeal decided recently that:

  • As the purpose of a stock option plan is to better retain executives whom the firm wishes to keep, a plan may legitimately provide that once the employer decides to terminate the employment and effectively does so, continued vesting ceases;
  • The “trigger” date set by such a plan runs from the date of actual termination of employment, not from the end of the “working notice” that the indemnity is supposed to cover;
  • The employee must take the plan “as is” and cannot “run with the hare and ride with the hounds”, cherry-picking only the parts of the plan that most benefit him;
  • Since the object and the purpose of the Plan under review was the “retention” of key executives whom the company wanted to keep, to have “vesting” continue, or to advantage the executive by deferring the “trigger” date, would seem to contradict the “raison d’être” of the Plan;
  • The employer need not compensate the ex-employee for “lost profits”, allegedly the result of being forced to exercise the options near the “trigger” date, rather than some later date when the shares might have increased in value.

Employer Take Aways

  1. To avoid liability, the rights and obligations of each of the parties, and in particular the purpose of the stock option plan, the rules regarding “vesting” over time, the “trigger” date and the discretionary nature of the option grant itself must be described in detail.
  2. Granting of any options must require the executive to acknowledge and accept the paramountcy of the plan’s provisions and that the exercise of such options is subject to compliance with the precise terms of the plan.
  3. So long as the terms of the plan are reasonably related to its purpose and object, it will not be considered “abusive”, and will be enforceable strictly according to its terms.
  4. Stock option plans are useful and cost-effective tools for attracting/retaining executives, the drafting of which require the skills and insights of trained professionals.

Caveat: The Court’s reasoning is based on the majority opinion in Asphalte Desjardins, a case, raising other, but possibly related issues, that is awaiting judgment in the Supreme Court of Canada.  Stay tuned to see whether the IBM judgment will itself be appealed, or whether its impact will be affected by the forthcoming decision in Asphalte Desjardins.