Good leaver and bad leaver provisions are contractual terms that determine the consequences for an employee’s shareholding when leaving a company for whatever reason.
These provisions are typically found in shareholders’ agreements, employment contracts, and employee share option plans. They are designed to protect the company’s interests and incentivise employee retention.
What is a Good Leaver and a Bad Leaver?
The concept of a ‘good leaver’ and ‘bad leaver’ typically refer to the circumstances in which an employee or director, who holds shares, leaves a company. The distinction between the two types of leaver usually dictates the price at which the departing employee must sell their shares. Leaver provisions are These clauses are also fairly common where there are shareholder co-founders, investors, advisory board members, consultants or strategic partners.
There is no statutory or common law definition of a good leaver (or bad leaver), so it is important that the relevant document includes a clear, reasoned definition to avoid disputes upon an employee’s exit.
A good leaver is, typically, an employee that leaves their role due to factors outside of their control. This may be because they have reached retirement age; they have health reasons; die, or are made redundant.
Conversely, a bad leaver is an employee that leaves their employment due to misconduct, fraudulent conduct or otherwise materially breaches their obligations to the Company.
Generally, an agreement will provide that when an employee or director leaves a company, they will be required to return their shares to the company for an amount to be determined in accordance with their agreement with the company.
The amount the departing employee will receive depends on whether they are a good leaver or bad leaver.
Typically, if a person is:
- a good leaver, then they may receive market value for their shares; or
- if the person is a bad leaver, then they will usually receive the issue price (the price paid for the share) or a heavily discounted market value.
The premise is that a good leaver will be rewarded for their contributions to the company and a bad leaver will be punished for their misconduct.
It is important to note that good leaver and bad leaver clauses are not always “black and white” and well drafted clauses may also include intermediate leaver scenarios, which may be especially important where it is unreasonable to act in a way which is to overly prejudice the leaving shareholder’s .
To avoid disputes it is very important to define clearly the circumstances that constitute whether a person is a good leaver or bad leaver to avoid disputes. There should also be a dispute resolution clause in the relevant agreement, to ensure that mediation and other dispute resolution procedures are followed to try and avoid the need for litigation.
Benefits of Good Leaver and Bad Leaver Provisions
- Retention: encourage key employees to remain with the company and be on good terms to ensure they remain a ‘good leaver’. These provisions provide transparency and ensure that equity holding employees are treated fairly.
- Shareholder protection: protect the company’s shareholding structure and prevent situations where employees terminated for misconduct do not retain their shareholding.
- Dispute resolution: Provide a clear framework for handling share transfers upon departure and allow for disputes to be worked out directly between the parties to avoid the need for litigation.
What are common practical implications of being a Bad Leaver?
These vary considerably depending on the business but can include:
- Compulsory share transfer – requires the employee to sell their shares back to the company or otherwise to the remaining shareholders.
- Discounted share price – the price paid for the shares is typically lower than the market value a good leaver receives for their shares.
- Clawback provisions – the company may seek to recover benefits or bonuses paid to the employee in addition to any discount on the market value for the shares.
- Valuation methods – deciding on the appropriate method for valuing the shares. This may be based on the Company’s accountant giving a figure, or otherwise an independent valuer may be used.
The corporate team at Branch Austin McCormick has substantial experience in advising on good leaver/ bad leaver provisions and acting for companies of all sizes, from family-owned businesses, private equity funded or venture capital backed companies, SMEs and listed companies. Please get in touch if you need any advice on corporate agreements (including share options, shareholders’ agreements and employment contracts) which may contain good/ bad leaver provisions, or if you are considering changes to your company’s articles of association to incorporate the same.
