English Court of Appeal finds that payment in lieu may not be clawed back in case of gross misconduct

In an English Court of Appeal case (Cavenagh v William Evans [2012] EWCA Civ 697) it was held that the gross misconduct of a managing director of a company, which was only discovered after his redundancy, did not enable the company to avoid liability to pay an agreed payment in lieu of notice. Gareth Thomas, Susan Leung and Tara Grossman analyse the decision below.  

Facts

DC was the managing director of a gun dealership, William Evans Limited (the "Company"). The Company decided that DC was redundant and dismissed him (with immediate effect) pursuant to a clause in his contract which provided for 6 months' pay in lieu of notice. Prior to making the payment to DC, the Company discovered that DC was guilty of gross misconduct (he had caused an unauthorised withdrawal of £10k from the Company's funds for payment to his pension provider in the knowledge that he was not entitled to do so).

Case

DC sued for his payment in lieu of contract (worth £65k). The Company argued that DC was not legally entitled to recover the agreed payment in lieu of notice as a debt due to him because the Company was entitled to rely on DC's subsequently discovered misconduct as a repudiatory breach of misconduct. The Company relied on the case of Boston Deep Sea Fishing and Ice Company v Ansell (1888). In that case a company was able to successfully defend a wrongful dismissal claim by its ex-MD by relying on reasons for dismissal (i.e. gross misconduct committed by the MD) that the company did not know about at the time it dismissed the MD. The Company in this case argued that there were striking similarities between this case and Boston Deep Sea Fishing in that in both cases: (a) the employee had acted in repudiatory breach prior to being dismissed; (b) the breach was not known or made known to the employer (i.e. covered-up by the employee); and (c) the employee was dismissed by the employer without that knowledge. 

Judgment

The English Court of Appeal held that Boston Deep Sea Fishing was distinguishable from this case. In Boston Deep Sea Fishing the employee's claim was for damages for wrongful dismissal whereas in this case DC's claim was for a debt due under a contractual term implemented by the Company. The Court held that Boston Deep Sea Fishing did not go as far to say that misconduct discovered after the fact provided an employer with a defence to an action for payment as an accrued debt. The principle for which that case stands is rather that an employer can defend a claim for damages for wrongful dismissal, by using at trial, in its defence of justification, evidence of misconduct by the employee that was not known to the employer at the time of dismissal. In this case, the Company lawfully terminated DC so there was no claim for wrongful dismissal. The consequence of the lawful termination was that the Company became contractually bound to DC for the payment in lieu.

The Court did hint in its judgment that if the Company had pleaded its case differently (i.e. to include a breach of duty by DC for not informing the Company of his own gross misconduct or that the obligation to make a payment was void or voidable by reason of vitiating unilateral mistake), it may have come to a different conclusion. 

Comment

Although obviously this decision has yet to be applied in Hong Kong, it would appear that it would potentially be equally applicable in Hong Kong. Pursuant to Section 7 of the Employment Ordinance (Cap 57) (the "EO"), an employer can terminate the employee's employment with immediate effect by making a payment in lieu of notice. This right is often embodied in the employment contract by the employer. In the event that the employer terminates the employment contract with immediate effect without making a payment in lieu of notice, the employee will be entitled to sue for damages for wrongful termination of contract under section 8A of the EO. 

In that context, this decision has potentially unattractive ramifications for both employers and employees in Hong Kong, if it is followed here: 

1. an employee will potentially be rewarded for concealing his/her own misconduct as, once the Company has declared that it will dismiss by making a payment in lieu of notice, it cannot withdraw that agreement if it later discovers the employee's misconduct.
2. in the event that an employer wishes to dismiss an employee for a lawful reason and would in ordinary circumstances dismiss the employee by making a payment in lieu of notice, the employer would arguably be in a better position if it dismisses the employee without notice, waits for the employee to bring a claim for wrongful termination under Hong Kong law, in case it discovers that the employee committed gross misconduct while still employed. The employer could defend a claim for wrongful dismissal based on gross misconduct discovered after termination, but once it has declared that it will make a payment in lieu of notice the sum due becomes a debt and, if this case is followed in Hong Kong, the employer cannot refuse to pay that debt relying on such misconduct. One obvious drawback of this approach would be that, if the employer cannot defend the wrongful dismissal claim, if there are restrictive covenants in the contract that the employer wishes to rely on, these are likely to be unenforceable.

Practical Tip for Employers

Employers should consider amending their pay in lieu of notice clauses in their employment contracts expressly to provide that the payment is not due as a debt and can be clawed back (if already paid) if gross misconduct is subsequently discovered. Such an amendment may not be enforceable given the provisions preventing contracting out of the Employment Ordinance (to the detriment of the employee) in s.70 of the EO, but having this wording in the employment contract at least gives an employer the basis for an argument that the payment is not due (or can be clawed back) in circumstances where gross misconduct is subsequently discovered.