Carefully Defining "For Cause" Termination in Employment Contract Critical to Avoid Paying for Misconduct

Signing Contract.jpgThe apparent resume fraud by Yahoo's former CEO Scott Thompson is grabbing headlines after he became the most recent departure through Yahoo's CEO revolving door; He was the fourth CEO to step down in five years.

But the real expensive lesson that companies should study from this embarrassment is how to carefully draft executive employment contracts to protect against having to pay out severance compensation when an executive is let go for his or her own misconduct. 

Specifically, the Wall Street Journal reports that Mr. Thompson stepped down after inaccurate information about his academic accomplishments was discovered. Because Mr. Thompson was employed pursuant to a "for cause" employment contract, the critical question Yahoo and its shareholders must answer is whether this inaccuracy is sufficient "cause" to disqualify Mr. Thompson from severance pay - millions of dollars in his case - despite the reported resume fraud by Mr. Thompson.        

"Employment at Will" vs. "For Cause"

Under Michigan law, like most states, absent an agreement to the contrary, employment for an indefinite period is at will. What this means is that an employer or an employee may generally terminate the employment relationship at the will of either party, for any reason or for no reason at all. As many employers have learned, however, this seemingly broad discretion has limits, e.g., terminating employment cannot be based on an unlawful discriminatory reason. 

Employment at will, however, is often the exception when it comes to executive or dual owner/employee situations. In those instances a company and an individual will often enter into a definite employment contract that is not terminable at-will and, instead, terminable only "for cause."

Where the contract may only be terminated "for cause," it is important for both the company and the individual to carefully specify what exactly will constitute "for cause" termination. Otherwise - as illustrated by the Scott Thompson situation - millions of dollars of severance pay or other compensation could be owed to an individual in spite of proven misconduct. 

The Importance of Defining "For Cause" Termination

Defining what constitutes “for cause” is one of the most fiercely negotiated terms in an employment contract. It is equally one of the most heavily litigated terms when it comes to for cause employment agreements. 

The following are some common definitions that employers and individuals should consider identifying as justification for terminating a "for cause" employment contract:

  • Fraud, embezzlement, or theft;
  • Willful misconduct damaging to the company, its reputation, products, services, or customers;
  • Intentional violation of any law or regulation;
  • Any unauthorized disclosure of any trade secret or confidential information of the company or a subsidiary;
  • Continued failure to perform duties owed to the company; and
  • Being charged with a felony or a misdemeanor involving moral turpitude.

Additionally, companies and individuals should address two other important provisions in relation to "for cause" termination: First, the employment agreement should specify what, if any, further compensation or benefits the employee is entitled to if the employment contract is terminated for cause.

Second, if the employee is subject to any restrictive covenants, e.g., noncompete agreement, the employment agreement should clearly specify whether early termination extinguishes such obligations.

Conclusion

Negotiating a "for cause" employment agreement generally requires careful attention to many details. But one of the most important details is under what circumstances the "for cause" employment contract may be terminated.

Defining those circumstances will also have significant impact for downstream issues such as terminating compensation or other benefits as well as triggering other obligations. For these reasons, it is important to work with a lawyer experienced in negotiating and drafting executive employment contracts. 

Comments (3)

Read through and enter the discussion by using the form at the end
Ken Adams - May 14, 2012 10:50 PM

Jason: I recommend that everyone be afraid, very afraid, of using the phrase "moral turpitude." Here's a link to my 2007 blog post on the subject: http://www.adamsdrafting.com/2007/12/17/moral-turpitude-the-complete-post/. Ken

Jason Shinn - May 15, 2012 9:11 PM

Ken - Thanks for the recommendation to a great post. Moral turpitude if used should be carefully evaluated or completely revised depending upon how it has been applied in a particular jurisdiction. Another good recommendation would be to refer to any one of your excellent contract drafting books; I'm a big fan of "Legal Usage in Drafting Corporate Agreements." Thanks for taking the time to read my post.

Gail Sanderson - May 26, 2012 9:53 PM

Insightful article, Jason. Our days of "trust" certainly are past!

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