Exercising discretion when awarding bonuses

14 January 2016

The recent High Court decision in Patural v DB Services (UK) Ltd is an illustration of the principles on which the courts will examine an employer’s exercise of their discretion in awarding bonuses.  The employee’s claim that his employer had exercised this discretion improperly in awarding him a smaller bonus than his colleagues was dismissed without proceeding to full trial.

The express terms of the employee’s contract distinguished between his discretionary bonus and the guaranteed awards of others. It stated that a discretionary award would be determined in a manner broadly consistent with his peers at similar levels of compensation and by taking into account any other factors the employer may determine as relevant. The Handbook also made clear that there was no contractual entitlement to a bonus and any award of such was at the absolute discretion of the employer, taking into account factors such as the Bank’s performance, individual contribution and the need to retain the employee in question.

In this context, the employee complained that, in respect of 2 bonus years, he received around only 1% of the profits he had earned – significantly less than the 8% and 11% received by two of his colleagues whose bonuses were calculated by reference to contractual formulae. Evidence was given by the HR department that such formulae were relatively rare within the Bank and that they were appropriate in the case of these two individuals given their particular importance to the Bank and the strong need to retain their services. Further, the decisions on the level of discretionary bonuses were heavily influenced by the overall performance of the Bank, the divisions and business units relevant to any particular individual, and the individual’s own personal performance.

The court had no hesitation in finding that, on proper construction, the express terms of the clause were truly discretionary and the employer was entitled to take into account factors which it deemed relevant in any particular bonus year. It then turned to the employee’s argument that his employer was under an implied obligation to act in good faith and not to exercise its discretion “arbitrarily, capriciously or inequitably”. The employee submitted that this obligation had been breached by virtue of the fact he received a significantly smaller bonus than his two colleagues.

In rejecting this argument, the court noted that the public law concept of ‘Wednesbury unreasonableness’ had been imported into the realm of employment law by the Supreme Court decision in Braganza v BP Shipping Limited [2015] when assessing an employer’s exercise of discretion. In essence, this requires an assessment of whether an employer: has taken into account matters which they ought to have taken into account or failed to take into account matters which they ought to have; or, has come to a conclusion which no reasonable employer could ever have come to. It was held that the evidence clearly showed that the decision to pay guaranteed bonuses based on formulae to the employee’s colleagues was rational and the factors used to determine the level of the discretionary bonus were reasonable and appropriate.

The employee also sought to raise the issue of reasonable expectations. He stated that, in interview, he had been told that a trader could expect to earn a bonus of 5% of what they earned for the Bank in a bad year and 10% in a good year. However, the court held that this argument was defeated by the fact his contract stated that it superseded any previous offers, but it also placed some reliance on “the obvious realities of the commercial environment in which the claimant was working and market practice” in coming to that view.

Employers should note that, following Braganza, the court may now review the reasonableness of their decision making in assessing whether they have exercised their discretion in an appropriate way. However, as Patural shows, if proper records are kept and rational evidence for the decision can be given, the court will not necessarily weigh that decision in fine scales. It is also reassuring for employers who have ‘whole agreement’ clauses in their employment contracts that the employee’s arguments in relation to his reasonable expectations of receiving a certain level of bonus, based on pre-contractual discussions, were given short shrift by the court.

Further information

Should you be affected or have any questions about the issues raised in this blog, please contact our employment team.

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