When is an absolute discretion not absolute? When it’s bonus time!
Bonus or incentive schemes are commonplace in employment contracts, partnership agreements and similar. It is also not unusual for them to state that the payment or amount is “entirely at the discretion” of the payer, or words to that effect. However, simply stating that the payment or the amount of a bonus is entirely at the discretion of the payer does not make it so.
What on the face of it may look like a discretion, may in fact be an obligation.
This year, in the matter of Subasic v Hewlett Packard Australia Pty Ltd  ACTSC 2, the Supreme Court of the Australian Capital Territory found that an employer breached an employment agreement by attempting to change an incentive scheme to “cap” an incentive amount payable to an employee under the scheme.
Under the express terms of the employment contract, the employee was paid a base rate and an amount calculated under the incentive scheme. The contract stated that the incentive scheme was “subject to change or cancellation at [the employer’s] discretion”. Pretty ordinary stuff and commonplace in various industries.
However, in this case, the employee’s performance was such that under the scheme she was to be paid a very large incentive payment. Her employer sought to amend the scheme to limit the amount that she was to be paid to a figure significantly less than the amount she was originally entitled to. The employee sued.
The Court found that by changing the incentive scheme the employer had breached the employment contract and that the discretion to change or amend the scheme was to be exercised “honestly and conformably with the purposes of the contract”, which did not happen in that case. The Court also found that the proper construction of the express words of employment contract was that the employer was not permitted to decide arbitrarily, capriciously or unreasonably that it need not pay an incentive payment where the set objectives had been satisfied, as they had been in that case. The employee was awarded a significant damages payout.
A related issue was considered in Crowe Horwath (Aust) Pty Ltd v Loone  VSCA 181. In that matter, the agreement provided for the payment of a discretionary bonus as part of a managing principal’s remuneration. The agreement provided that the employing entity would determine “at its absolute discretion” the amount of any bonus payment. The contract set out a number of considerations to determine the amount of the bonus. The Court found that the employing entity did not undertake the agreed contractual process for the assessment of the managing principal’s bonus and also changed the timeframe for the payment of any bonus. Rather than seeking the payment of the bonus, the managing principal in that case argued that the employing entity’s actions were a repudiation of the contract, which he accepted and brought the contract to an end.
The Court, at first instance and on appeal, found that the employing entity failed to have regard to the criteria prescribed in the contract for the assessment of the bonus and even though the amount of the bonus was at its absolute discretion, by its actions it had repudiated the contract. Accordingly, the managing principal was correct in his termination of the agreement. In this case, that had the knock-on effect of bringing the restraints, which were also present in the contract, to an end; meaning that the managing principal was free to compete with the business.
The above are only two examples of a strong line of case authority, which makes clear that there is more than meets the eye to a clause that states a bonus is “in the absolute discretion” of a party and that approaching it that way may have unexpected and undesirable consequences. Much was written about Crowe Horwath (Aust) Pty Ltd v Loone at the time it was decided. However, its application may be becoming more relevant as businesses and business owners look at ways to reduce their costs as part of their COVID-19 strategies and reforms, and employees and others begin to look at alternative opportunities, which may be becoming available to them in the present market.
Should you have any queries about a discretionary bonus clause, please contact Jonathan Ivanisevic.