TUPE and share incentive plans – potential collateral damage for employers? 

A common question asked on a transfer of employees under the Transfer of Undertakings (Protection of Employment) Regulations 2006 (TUPE) is whether the new employer has to put in place employee share plans equivalent to those offered by the former employing entity.  In particular, employee share plans are costly and often award employees with shares in a group entity in respect of which they are transferring out, making it difficult to replicate these arrangements for an incoming, new employer post-TUPE transfer.  Thus, it could be onerous and expensive for a new employer to have to take on these obligations to put in place new plans.  

In spite of this, recently the Court of Session in Ponticelli Ltd v Gallagher decided that an employee's entitlements under a Share Incentive Plan (SIP) (which is a tax advantaged share plan) were rights under or in connection with their contract of employment.  This meant that these rights to participate in the SIP, or broadly equivalent rights, transferred to their new employment under Regulation 4(2)(a) of TUPE.  This was in spite of the fact that the entitlement arose out of a partnership share agreement under the SIP which was separate from the employee's employment contract. 

What was the background to the Ponticelli decision?

Mr Gallagher’s (Mr G) contract of employment transferred to Ponticelli Limited under TUPE which confirmed it would not be providing a SIP going forward. Before the transfer, Mr G had participated in a SIP operated by his former employers. This was provided by a separate Partnership Share Agreement from his employment contract. Mr G claimed that he was entitled to be a member of a SIP equivalent to his previous plan as his right to participate in such a scheme had transferred to his new employer under TUPE.

The Court of Session's decision

This was an appeal from decisions of the Employment Tribunal and the Employment Appeal Tribunal who accepted  that Mr G was entitled to participate in a SIP of substantial equivalence or comparable value to his previous SIP.

Essentially the Court of Session agreed with the tribunals' decision.  

The obligations created by the Partnership Share Agreement were within the scope of Regulation 4(2)(a) of TUPE. The right to receive shares under the SIP arose directly from Mr G's status as an employee and the reason why deductions were made from his salary in return for the shares was because of his employment relationship. These entitlements were viewed as part of his financial remuneration package and so clearly resulted from this and the separate contract merely allowed this to be done in a tax efficient way.

The earlier case of Mitie Managed Services Limited v French and others [2002] was relevant in respect of which it was decided that there was an obligation to produce an employee share scheme of substantial equivalence where the scheme arose under or in connection with the contract of employment but only to the extent the scheme was "free from unjust, absurd or impossible features".  

This case emphasises that the TUPE wording is wide enough to cover obligations not contained within or under the contract of employment.  Otherwise, a more restrictive interpretation of TUPE by the employer would enable employers to get around important protections by creating separate contracts to give benefits additional to basic salary.  For instance, bonuses paid annually as a matter of custom and practice at the same level and time and to the same employees could potentially be brought within the contractual remuneration package for the purposes of Regulation 4(2)(a) of TUPE. 

Implications for employers

In terms of offering employees alternatives, it is not clear how to measure "substantial equivalence" under Mitie and unfortunately, Ponticelli does not provide further clarification on this point. However, in the context of a TUPE transfer, a transferee who fails to implement an employee share scheme, for newly transferred employees who are considered to have a contractual right to participate in any existing scheme, or offer suitable or satisfactory alternative recompense, may face claims from aggrieved employees. 

Mitie helpfully notes that if it is simply impossible for a transferee company to implement an employee share plan, for instance due to a differing corporate structure, features and share capital of a transferor and transferee employee, then the equivalence should at least be by reference to value.  In other words, the replacement scheme would only be required in the same form if possible to implement - for instance many private companies would not qualify under tax legislation to implement a tax-advantaged SIP.  However, the replacement scheme should be equivalent in value at least (for instance a cash bonus may be an acceptable substitute for a share scheme, if the scheme was not possible to implement, so that the overall economic impact and value of the arrangement should be on the same terms).

The key takeaway here is to ensure that effective due diligence is carried out on all employee benefits that may transfer under TUPE, and not just those contained in their employment contracts.  In particular, purchasers on transactions involving a TUPE transfer should carefully assess those employee share plans operated by the seller/transferor employers and consider whether an equivalent scheme is possible and, if not, how to offer equivalence in value.  Saying that the share plan is not a contractual right merely because it is not promised in the employment contract is no longer a defence. 

Further information

For more information of any of the issues raised in this briefing, please speak to your usual Ashurst contact or to any of the people whose contact details are given below. 

The information provided is not intended to be a comprehensive review of all developments in the law and practice, or to cover all aspects of those referred to. Readers should take legal advice before applying it to specific issues or transactions.