Employers have to be very careful when implementing their discretionary performance based bonus systems if they do not want them to become an entitlement. Even when a matrix of employment documents “have been prepared with a high degree of technical drafting skill and diligence”, it is possible that aspects which are intended to be absolutely discretionary will be found to be contractually binding.

In a recent case, the Federal Circuit Court of Australia (the “Court”) determined that Mr R (the “Plaintiff”) was entitled to a “discretionary” bonus as Westpac (the “Defendant”) breached a term in his contract which read:

“If your employment with Westpac is terminated on the basis of redundancy, your entitlements will be determined in accordance with the more favourable to you of any applicable industrial instrument or a relevant Westpac policy or procedure in accordance with the terms and conditions of that industrial instrument or policy.”

The Plaintiff had participated in a “discretionary” bonus scheme in which the payment of bonuses was tied to a performance appraisal scheme. In 2008/2009 and 2009/2010 the Plaintiff was awarded a bonus, being $70,000 in 2009/2010. In September 2011, the Plaintiff’s position was made redundant. He was not paid a bonus.

The Plaintiff argued that the Defendant had breached express and/or implied terms of his employment contract by failing to pay the bonus and also claimed under the Competition and Consumer Act 2010  (Cth) for misleading and deceptive conduct. The Defendant argued that the Plaintiff was not entitled to a bonus on his retrenchment because it was discretionary and non-contractual, and in any case, in the preceding year his performance had been downgraded to “needs development”. This was despite the Plaintiff ranking as “effective” for 70% of his overall performance up to his review.

In its decision the Court accepted that policies did not generally form part of the Plaintiff’s contract (due to a general term excluding them), the redundancy term had to be given effect as a contractual term for determining termination entitlements.

After giving consideration to earlier case law, which required that discretion not to award a bonus must not be exercised capriciously, arbitrarily or unreasonably, the Court determined that the Plaintiff was in fact entitled to a bonus on his redundancy. This was because evidence showed that the Plaintiff’s manager had “confidently, and in some respects arrogantly” departed from the objectives of and policy behind the bonus plan. He had taken irrelevant considerations into account and failed to properly apply the policy.

The Plaintiff was awarded a $70,000 bonus based on the bonus he had received in the preceding year.

Lessons for Employers

Contract is king! If employers wish not to be bound by their discretionary bonus schemes, this must be made clear in the contract with no exceptions. Care must be taken that a specific term does not override a more general exclusionary term.

It remains good law that contractual discretions can be exercised arbitrarily, capriciously or unreasonably.

If a policy requires particular factors to be considered, they should be.

Whether discretion is exercised arbitrarily will depend on how it is framed. The broader the discretion, the broader the range of decisions that may validly be made within it.