The Nature of a Payment in Lieu of Notice and Why it Matters

In Lo Wai Keung v. Hannover Ruck Se^[1], the Hong Kong Court of First Instance clarified the legal nature of a payment in lieu of notice and whether it constituted a termination “with notice” or “without notice”.  The distinction in this case was central to determining whether the Claimant (“Mr. Lo”) was entitled to share awards under the Employees’ Share Rewards/Options scheme (“Share Scheme”) operated by his former employer (the “Company”). 

Background 

Mr. Lo’s employment contract with the Company stated that his employment would continue “unless and until terminated by either party giving the other not less than 6 months’ notice in writing”.  The Company terminated his contract in writing, stating that his last day of employment would occur at the end of that month. 

The termination payments referred to in the letter included a sum representing “payment in lieu of 6 months’ notice”.  Also included was a reference to a cash payment in respect of share awards and dividends under the Share Scheme.  Mr Lo’s share awards were due to vest after his last day of employment.  However, the Company subsequently informed Mr. Lo that this was an error, and that he was not entitled to receive any payments under the Share Scheme.  In support of this contention, the Company relied on Clause 4(1)(ii) of the Share Scheme which provided:

“If the employment relationship with the manager ends, the manager shall retain his/her claims to the payment of the value of already allocated Share Awards following expiry of the applicable vesting period, unless termination of the employment contract is based upon … (ii) extraordinary cancellation without notice of the manager’s employment contract by Hannover Re or the subsidiary for reasons of conduct or for any other compelling reason that is the fault of the manager.”

The Company contended that Mr. Lo’s employment had been terminated on the ground of misconduct.  This therefore triggered an “extraordinary cancellation without notice” under the Share Scheme, disentitling him to payment of the share awards. 

Labour Tribunal Proceedings 

Mr. Lo filed a claim in the Labour Tribunal for unlawful termination and breach of his employment contract, seeking damages, loss of income, loss of benefits and payment of the share awards. 

In short, the Labour Tribunal agreed with the Company’s position. The Tribunal found on the evidence that Mr. Lo had failed to comply with the Company’s procedures and guidelines, causing the Company to sustain losses, thus justifying termination of this employment on the ground of misconduct. 

With regard to the share awards, the Tribunal found that a payment in lieu of notice signified a choice by the Company to bring the employment to an immediate end instead of requiring Mr. Lo to work through the notice period.  The Tribunal therefore held that a payment in lieu of notice constituted a “termination without notice” under the Share Scheme. 

Mr. Lo appealed to the Court of First Instance on the basis that the Labour Tribunal appeared to have equated termination by payment in lieu of notice with summary dismissal^[2]. The Court granted Mr. Lo leave to appeal on a question of law as to whether the termination of his employment contract was without notice and the effect this may have had on his claim for damages due to the Company’s alleged breach of contract. 

Findings 

In the appeal, the Company acknowledged that it had chosen to terminate Mr. Lo’s employment by making a payment in lieu of notice and not by summary dismissal under section 9 of the Employment Ordinance. The Company was therefore bound by that election. 

The Court accepted the Company’s submission that it could not interfere with the Labour Tribunal’s finding that the termination of Mr. Lo’s employment was based on his conduct or fault, as that would have been outside the scope of the leave to appeal.  The Court did not therefore consider issues relating to Mr. Lo’s conduct. 

Unable to find any Hong Kong authority dealing directly with the question as to whether a termination by payment in lieu of notice is equivalent to termination with notice or without notice, the Court considered two English cases. 

In Gothard v Mirror Group Newspapers Ltd^[3], the English Court held that, when an employee is dismissed by payment in lieu of notice, the payment is regarded as damages for breach of contract.  During the period to which the payment relates, the employee is not employed by his employer. The Hong Kong Court reframed this to state that the payment is designed to extinguish any claim for damages for breach of contract, i.e. wrongful dismissal. 

In Delaney v Staples^[4], the English Court agreed with the findings in Gothard that, where an employer immediately dismisses an employee without the employee’s agreement and tenders a payment in lieu of notice, the employer is effectively in breach of contract by failing to give proper notice. The payment in lieu is a payment of damages by the employer for its breach of contract. It is not payment for wages, since it is not remuneration for work done or to be done under an employment contract. 

The Hong Kong Court also noted the plain and natural meaning of "payment in lieu of notice"; namely, that the payment is made in substitution for giving notice. 

Applying the above principles, the Hong Kong Court found as a matter of law that, when the Company terminated Mr. Lo’s employment contract by making payment in lieu of 6 months' notice, it had terminated the employment without notice.  The Court consequently upheld the Labour Tribunal’s ruling that the payment in lieu of notice constituted an “extraordinary cancellation without notice” under the Share Scheme.  As a result, Mr. Lo was not entitled to any payment in respect of share awards. 

Takeaway

Despite the Company’s argument in this case, when referring to “termination without notice” in their employment contracts and incentive plans, some companies intend to mean “summary dismissal” rather than “termination by payment in lieu of notice”. While a payment in lieu of notice is a termination without notice, it requires a payment to compensate for the lack of notice. It does not connote a termination on the ground of misconduct. By contrast, summary dismissal is a termination without notice and without payment in lieu of notice on the ground of serious misconduct.  Notwithstanding this decision, to avoid misunderstandings and unintended consequences, employers should clearly distinguish between these terms in their contracts and incentive schemes.