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24 Jun 2009

Termination payments: good news, bad news

The Federal Government has fast-tracked its crackdown on directors' and executives' termination payments.

Three weeks after receiving public comment on a draft version, the Government has today introduced the final Bill into Parliament.

As noted in our previous Alert, the Government's main aim is to require shareholder approval for termination payments that are more than one year's base salary.

The Bill introduced into Parliament today does not change that. However, some other key provisions have changed - and not necessarily for the better.

Timing of shareholder vote

Under the current law, shareholders vote on a director's termination payment while the director is still in office. Under the draft Bill, that vote would only take place after the director had left office (on the grounds that shareholders would then have a better idea of how the director had performed).

As we pointed out in our submission to Treasury, this was a proposal that was fraught with problems. Not the least of those was that shareholders might rationally decide that there's no point in approving a termination payment after a director has left office, regardless of how well the director has performed.

The Government has responded by dropping the idea. As a result, shareholders will continue to vote on a director's termination payment while the director is in office.

Existing contracts

The good news about shareholder votes is, however, somewhat offset by what the Government now proposes to do to contracts that are already in existence when the Bill is passed.

There has been considerable confusion about this issue, going right back to the Government's first announcement about its intentions.

The draft Bill proposed that the new 12 month base salary limitation would only apply to:

  • new contracts entered into after the Bill became law; and
  • pre-existing contracts that had been extended after the Bill became law.

Our previous Alert pointed out that this was a fairly woolly test. In legal terms, there are no hard and fast rules about how far you can amend an existing contract before it becomes a "new" contract.

Rather than just making it clear that the restrictions only apply to completely brand new contracts, the new Bill goes the other way, and sets out rules for determining when a pre-existing contract will be caught by the new restriction. According to the Explanatory Memorandum accompanying the Bill, the new restrictions will apply to:

"existing contracts for which a variation of a condition is made. Minor changes to an existing contract would not be considered a variation of a condition. However, changes that effect an essential term, including any term relating to remuneration would be considered a variation of a condition."

This suffers from all of the problems of the original proposal (only a court will be able to decide what constitutes a "minor change" or an "essential term"). More worryingly, it appears to mean than any change to the remuneration terms of a pre-existing contract would bring the director under the new 12 month base salary limitation rule.

Where to now?

The fact that the Bill has now been introduced into Parliament does not, of course, mean that it will be passed in its current form. We will be tracking its progress through Parliament and keeping you up to date with developments as they happen.

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Clayton Utz communications are intended to provide commentary and general information. They should not be relied upon as legal advice. Formal legal advice should be sought in particular transactions or on matters of interest arising from this communication. Persons listed may not be admitted in all States and Territories.