And now for something completely different – EU abuse principles sink self-serving contract variation

Quite a fun little case on TUPE this week, if you like that sort of thing (and on the upside, even if you don’t, at least it has nothing to do with COVID-19).

Regulation 4(4) of TUPE states that TUPE-related changes to terms of employment are void in most circumstances.  This has long been read as applying primarily to changes which are detrimental to the employee, as such changes run contrary to the overarching principle that employees’ contract terms are to be safeguarded on a business transfer.  The acquirer of a business is therefore stuck with those terms as they existed at the point of transfer.  But what if pre-transfer those terms have been made more beneficial to the employees, with a specific eye to the transfer?  There may be two reasons for this – first, the “poison pill” to make taking on the staff such an expensive prospect that no-one will buy the business or be willing to take over a service it currently provides, or business owners and directors amending their own contracts shortly pre-transfer to guarantee themselves a big salary and/or extended protections once the transferee arrives.

The former is hard to protect against, which is why many business purchase agreements or services contracts include express restrictions on the intended transferor’s ability to increase pay packages without consent in the window between initial due diligence and the transfer itself.  The latter happens surprisingly rarely, so the light shed on the practice by the Employment Appeal Tribunal in Ferguson and Others -v- Astrea Asset Management this week is, well, illuminating.

Mr Ferguson and his three colleagues were directors of Lancer Property Asset Management Limited and beneficial owners of its holding company.  Lancer was given a year’s notice of the loss of its only client to Astrea.  Following receipt of that notice, Ferguson and his colleagues amended their own contracts to provide for a guaranteed bonus and generous new contractual termination payments amounting to a month’s salary per year served (between two of the directors alone, this was worth over £1.1 million).  They also agreed that if for any reason they did not lose the client or any of them did not transfer to Astrea, those changes would fall away and so would not bind Lancer.  There was no suggestion that those changes were not validly made, so surely on any normal TUPE principles Astrea would be bound by them?

Astrea dismissed the claimants very shortly after its arrival but did not pay the new severance amounts.  The key question for our purposes – were those self-awarded entitlements binding on it as transferee?  On the one hand, the changes were clearly related to the transfer and so potentially void under Regulation 4(4), but on the other, the changes were beneficial to the employees in question and so on the face of it enforceable by them.

Both the Employment Tribunal and the EAT found that contractual severance entitlement to be void.  First, they said, there is no automatic principle that TUPE-related changes to terms made by the transferor are invalid only if they are detrimental to the employee.  There is nothing in TUPE which says that.  Second, the EAT took the view that even if that were not right, the contract variations in this case infringed the EU’s “abuse principle”.  This says that EU law cannot be relied upon for abusive or fraudulent ends.  Proving an abusive practice “requires first, a combination of objective circumstances in which, despite formal observance of the conditions laid down by the EU Rules, the purpose of those rules has not been achieved and secondly, a subjective element consisting in the intention to obtain an advantage from the EU Rules by artificially creating the conditions laid down for obtaining it.”  In determining whether those circumstances are met, the Court must “examine whether economic operators have carried out purely formal or artificial transactions devoid of any economic and commercial justification, with the essential aim of benefiting from an in proper advantage”. 

The EAT took the view that the amendment of the contract had indeed been an abusive practice – the purpose of TUPE is to safeguard the rights of employees in the event of a transfer, not to improve them.  Second, the contract variation was clearly artificial because it had no legitimate commercial purpose for Lancer as a business and had indeed been agreed not to apply if the transfer to Astrea did not take place for any or all of the claimants.  It was quite clear in the circumstances that the claimants did have “the essential aim of benefiting from an improper advantage“, i.e. trying to get a package from Astrea that they would not have had at Lancer.

This is a different position from where the owners of a business benefit moderately and proportionately from a regular and pre-scheduled pay review shortly before a business sale or service provision change.  In those cases the increase would be valid and binding on the transferee because it would not be related to the transfer.

One interesting question arising from this case is how far that principle extends.  For example, if the directors at Lancer had grossly increased not only their own packages but also those of their other staff, would the buyer have been bound by the increased numbers for those other employees?  It seems very likely that the answer to this would be yes, since as passive recipients of that largesse, they would not have acted in their own self-interest or with that “essential aim“.

So if you are buying a small business, do check when and how the remuneration packages of its senior management were last reviewed.  If that was after the possibility of acquisition arose, is there any evidence that that review took place out of the normal pay cycle or represented a jump in remuneration or security not obviously warranted by corporate performance?  Similarly, if you are selling a business in which you have set your own package, can you show how you arrived at it and what market or performance data you used?  You can obviously pay yourself what you want in normal circumstances but if you make that decision with one eye on advancing your own interests in a business sale, beware of the possibility that it may all come unravelled in your hands.

And on that note, a further unhappy p.s. for the four claimants in this case – their conduct in rigging their contracts pre-transfer was found to constitute gross misconduct and all four were dismissed without notice, let alone the six-figure severance payments they had so carefully engineered into their contracts.