Were ‘bad leaver’ provisions forcing an employee to give up their shareholding a penalty or an unlawful deduction from wages?

The EAT in Nosworthy v Instinctif (UKEAT/0100/18/RN) held that “Bad Leaver” provisions that force an employee to give up a shareholding are not a penalty or an unlawful deduction from wages.

The Claimant, Miss Nosworthy, was employed by Communication Operations Ltd (COL) prior to its acquisition by Instinctif Partners Ltd (Instinctif). As a condition of the acquisition, Instinctif required COL's sole shareholder, Mr MacFarlane, to give equity to key employees to ensure continuity post-acquisition. The Claimant had therefore been given a 2% shareholding in COL. COL's shareholders (including the Claimant) sold their shares to Instinctif under a Share Sale Agreement, which provided for both initial consideration and deferred consideration. As part of the deferred conditions, under a Share Purchase Agreement and the Articles of Association, a ‘Bad Leaver’ would forfeit their loan notes and the shares of ‘Bad Leavers’ would be re-acquired. A ‘Bad Leaver’ included someone who had voluntarily resigned. The Claimant also covenanted, in a deed of adherence binding her to the terms of an Investment Agreement when she acquired the shares (the Principal Agreement), that she would not become a ‘Bad Leaver’.

Miss Nosworthy resigned, was treated as a ‘Bad Leaver’ and had to transfer her shares which were valued at an acquisition cost in the total sum of £143. Miss Nosworthy brought a claim concerning the forced transfer of shares in the Employment Tribunal (“ET”), to challenge the ‘Bad Leaver’ provisions by way of breach of contract and unauthorised deductions from wages claims, on the basis that the Sale Purchase Agreement was a “contract connected with employment” for the purposes of breach of contract and that the provisions were unenforceable as they, in effect, a penalty clause.

The ET upheld her complaint of breach of contract but decided no remedy was due and dismissed her complaint of unlawful deduction from wages. It was held that the ‘Bad Leaver’ provisions were not a penalty, nor was the forced share transfer an unlawful deduction of wages. Miss Nosworthy appealed.

The Employment Appeal Tribunal (“EAT”) upheld the decision of the ET. In accordance with the Articles of Association, the Respondent was entitled to treat the Claimant as a Bad Leaver.

The EAT agreed that the criteria for setting aside an agreement as were not satisfied, as this was not a case of serious disadvantage, whether through poverty, ignorance, lack of advice or otherwise, leaving the individual vulnerable to unfair disadvantage. Nor were the ‘Bad Leaver’ provisions a penalty: a penalty is a sum or remedy stipulated as a consequence of a breach of contract. But here the re-transfer obligation arose because of the terms of the Article of Association, not because of a breach of contract.

Finally, the Bad Leaver provisions were not an unlawful deduction from wages within the meaning of the Employment Rights Act 1996 as the claim was barred as it included “payment to the worker otherwise than in her capacity as a worker", which is specifically excluded . The shares were provided to Miss Nosworthy as a vendor of shares, not in her capacity as a worker.

This decision highlights the limits of the penalty clause doctrine as only covering claims based on a breach of contract. Based on this decision, it would not be unlawful to include such a provision to allow shareholders of those who resign to be re-acquired are not an unlawful deduction of wages and will not be considered a penalty.