To vest or not to vest: stock options and equity-based plans in wrongful dismissal claims

Introduction
Facts
Court of Appeal decision
Key takeaways for employers

Introduction

Stock options and restricted share unit (RSU) plans are used by employers to attract, reward and retain employees for the long term. While these tools can be useful, such plans should include unequivocal language limiting entitlements on termination of employment to avoid significant liability for employers.

In O'Reilly v IMAX Corporation (2019 ONCA 991), the Ontario Court of Appeal recently provided guidance on the enforceability of provisions of stock options and RSU plans that purport to limit the entitlements of an employee on termination.

Facts

The employee, Mr O, had 22 years' service, was 53 years old and held a senior executive level position with the employer at the time of termination. His compensation package included participation in a long-term incentive plan (which included RSUs) and a stock options plan (collectively, the 'stock plans'). In a wrongful dismissal action, the lower court determined on summary judgment that the employee had been wrongfully terminated and awarded 24 months' reasonable notice. Among other things, the employee was awarded damages for the lost opportunity to exercise awards that would have vested under the stock plans during the reasonable notice period.

The employer argued that the relevant provisions of the stock plans extinguished the employee's right to any unvested awards following termination of employment and that the employee should therefore not receive damages for the lost opportunity to exercise unvested awards that would have vested during the notice period. The stock plans stated that:

[i]n the event the [employee's] employment with the Company terminates for any reason other than death, Disability or for Cause the RSUs shall cease to vest and any unvested RSUs shall be cancelled immediately without consideration as of the date of such termination.

The motion judge disagreed with the employer's position and determined that the stock plans did not sufficiently preclude the vesting of awards during the reasonable notice period. The employer appealed the lower court's decision.

Court of Appeal decision

The Court of Appeal reviewed leading decisions considering the enforceability of stock options plan language limiting an employee's entitlements on termination of employment. In summarising these decisions, the Court of Appeal outlined the following principles to be considered when evaluating the enforceability of such language:

• Wrongfully terminated employees are entitled to damages for the loss of benefits that the employee would have earned for the reasonable notice period, including bonuses, incentives and stock options that form an integral part of an employee's compensation.
• To determine whether the loss of such benefits is recoverable, the court will undertake a two-step analysis:
  • a determination of the employee's common law right to damages for breach of contract, bearing in mind that the measure of damages is the amount to which the employee would have been entitled had the employer performed the contract; and
  • a determination of whether the terms of the relevant contract or plan unambiguously alter or remove the employee's common law rights, having regard to the presumption that the parties intended to apply the law, in the absence of clear language to the contrary.

Applying these principles to the language in the relevant stock plans, the Court of Appeal concluded that the phrase "employment… terminates for any reason" failed to unambiguously establish the date of termination and, as such, left open the possibility that the termination date was the end of the reasonable notice period. As a result, the court dismissed the employer's appeal and concluded that "terminates for any reason" was intended to comply with the law and that the termination date was thus the end of the notice period. As such, the employee was entitled to damages for the lost opportunity to exercise awards that would have vested under the stock plans during the 24-month notice period.

Key takeaways for employers

Employers which provide employees with incentive compensation in the form of stocks and RSUs could face significant costs when terminating employees. When determining an employee's entitlements on termination of employment, any ambiguity will lead the courts to interpret contractual language in favour of the employee.

Employers may reduce liability by drafting and implementing stock options and RSU plans with the following principles in mind:

• Ensure that provisions governing the employee's rights on cessation of employment are clearly defined.
• Ensure that such provisions cannot be interpreted as defining termination of employment as including the reasonable notice period.
• Consider using an expiry date for an employee's right to exercise vested options following termination of employment.
• Have employees review and agree to the terms and conditions of stock options or RSU plans.
• Get legal advice when drafting plans.

For further information on this topic please contact Avneet Jaswal at Fasken by telephone (+1 416 366 8381) or email (ajaswal@fasken.com). The Fasken website can be accessed at www.fasken.com.