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South Africa: Directors’ duties (8 of 8) – CEO mutual separation agreements

13 May 2024
– 6 Minute Read

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Overview

  • Most contentious terminations of a CEO’s employment are done by way of a mutual separation agreement. These are negotiated in the context of the alternative, being the holding of a disciplinary or poor performance enquiry.
  • Holding a disciplinary or poor performance enquiry can be challenging, so in many instances a mutual separation agreement is concluded.
  • This article covers the considerations in relation to CEO mutual separation agreements including the need to account for long-term incentives and instances where it is inadvisable to conclude a mutual separation agreement.

This is the eighth in a series of articles on the duties of directors in relation to employment, employment law and employee benefits. Senior consultant Graham Damant, has discussed these issues at length with Bowmans’ partner Chris Todd in two ‘Value of Knowing’ podcasts. The first (on our website here) covers what boards in South Africa need to know about employment, employment law and employee benefits to meet their fiduciary duties avoid liability. The second (on our website here here) highlights the obligations and duties of boards in South Africa in relation to CEOs. Subscribe to’ The value of Knowing’ podcast on Apple Podcasts or Spotify.

Most contentious terminations of a CEO’s employment are done by way of a mutual separation agreement. These are negotiated in the context of the alternative, being the holding of a disciplinary or poor performance enquiry. There are many reasons that would warrant the conclusion of such agreements.

Dismissals of a CEO for misconduct are rare. They would often require:

  • subordinate employees or customers to give evidence;
  • the use of outside persons to investigate the misconduct and present the evidence at a cost to the company;
  • a sub-committee of the board or a board member to devote significant time to chairing a hearing, or the engagement of an outside chairperson to chair an enquiry; and
  • the board to consider the evidence and make a decision.

In addition, any dismissal is subject to challenge in the CCMA or by way of private arbitration if the employment agreement provides for arbitration. The decision of the CCMA could then be the subject of a review in the Labour Court and can progress from there on appeal to the Labour Appeal Court.

Listed companies are required to publish the departure of a CEO. If the departure is published as a dismissal, it can lead to publicity regarding the matter and to speculation, none of which will be beneficial to the company.  If the matter is heard in an outside forum it can lead to the private affairs of the company being disclosed. Given the level at which the CEO is employed and the kind of information that may need to be disclosed in a hearing, including sensitive and confidential information, these may be issues that a company would rather not have aired in public. A company can suffer reputational harm as a consequence of the conduct having been allowed to occur in the first place.

Cases involving dismissals for poor performance can be difficult to prove. There may be disputes about the reasonableness of the performance benchmarks or whether other factors beyond the CEO’s control resulted in the poor performance. Dismissals for poor performance face the same challenges as dismissals for misconduct insofar as it may require significant board time and cost. Again, there is a possibility of the company’s affairs and its performance being aired in a public forum.

For these reasons, a company may choose to rather conclude a mutual separation agreement. This usually involves the payment of some form of compensation over and above the notice pay and other payments that would be contractually due on termination.

For many CEOs there is considerable value in the long-term incentive awards that would be forfeited on a resignation or a dismissal. Their interest in any forced separation would be in obtaining a vesting of the awards or compensation for loss of value for the awards. If the rules of the long-term incentive scheme allow for full vesting or for vesting of awards that would otherwise be forfeited on a resignation or termination if a mutual termination is agreed, then the value of the shares can be used to reach an amicable settlement. The value of these shares is often more important to a CEO than a few additional months of remuneration over and above notice pay.

If the rules of the long-term incentive scheme do not contain a discretion to permit vesting on a mutual separation, then any financial inducement to enter into an agreement would have to be by way of the payment of additional remuneration. Given that the consequences of an unfair dismissal finding would be an award of remuneration up to 12 months’ pay, negotiations ordinarily focus on a payment of between one and 12 months.  This is in addition to notice pay as the company rarely requires the CEO to work out the notice period in these circumstances. 

If the grounds for dismissal are clear (particularly in misconduct cases), then the additional compensation will be on the lower end of the scale (one to three months), whereas if the facts are more nuanced it will be in the upper end of the scale (three to nine months).

If agreement is reached, then a formal mutual settlement agreement will be concluded, in terms of which the payments made will be in full and final settlement of all claims that the CEO has or may have.

There are circumstances where a board can be criticised for concluding a mutual separation agreement and paying additional remuneration to a departing CEO. In cases involving serious misconduct, particularly cases involving sexual misconduct or dishonesty resulting in financial loss or harm, the board can be accused of rewarding such behaviour. It can also be accused of covering up the behaviour – particularly where mutual separation agreements preclude the company from making any disclosures regarding the events that led to the separation. Accordingly, in these circumstances, the wisdom of concluding a mutual separation agreement needs to be carefully considered and weighed up.

In the past, a number of companies have concluded separation agreements with employees who alleged sexual harassment or other forms of misconduct by a CEO in order to resolve the employee’s grievance and to retain a successful CEO. These agreements require the employee not to disclose the circumstances that led to the conclusion of the agreement.

If such an agreement results in the behaviour of the CEO continuing, this can have serious repercussions for the board and the reputation of the company. Board members can be accused of being negligent in that they should have foreseen the possibility that the conduct would continue and that employees may suffer harm as a consequence. In these circumstances, a board will have no alternative but to allow grievances of this nature to run their course.

Other articles in the series:

  • Introduction: directors’ duties in relation to employment, employment law and employee benefits
  • Knowledge of the key employment legislation and regulations affecting the company
  • Employee ethics in relation to director duties
  • CEO employment agreements
  • Remuneration, long-term and short-term incentives
  • Ethical breaches, response to reputational and regulatory issues
  • Dealing with CEO misconduct and poor performance
  • CEO mutual separation agreements