News and Insights

Written by Ben Hibbert

This article is about the treatment of employee entitlements where employees are transferred from one employer (the seller) to a new employer (the buyer) in connection with a sale of the seller’s business to the buyer by a sale of business assets. If the buyer buys the business by a share sale (buying the shares in the entity that carries on the business), then employees’ employment with that entity is continuous, and the issues addressed in this article aren’t as relevant.

There is a lot to get on top of when buying or selling a business. Monetary employee entitlements are one issue both sides need to turn their minds to early in the process, or risk a costly surprise closer to settlement.

The monetary employee entitlements include wages, superannuation, annual leave, personal leave (sick and carer’s leave), long service leave, notice of termination, and redundancy.

Each of these entitlements must be dealt with in a sale of business, but the legal obligations of the buyer and seller are not the same for all of them. For employees who do not transfer to the buyer, the seller is responsible for all entitlements. For those who do, the buyer is legally required to recognise some (but not all) accrued employee entitlements. But behind the legal obligations of the buyer and seller to the employees, buyers and sellers commonly negotiate adjustments to the purchase price of the business to compensate the buyer for the employee entitlements liabilities it assumes. Standard form sale of business contracts generally contain adjustment mechanisms but they are not all the same and, importantly, can be negotiated.

Both parties need to be particularly careful signing a Term Sheet, Heads of Agreement or other similar offer documents early in the sale process. Those documents can bind the parties to certain liabilities and adjustments (or lack thereof) regarding employee entitlements before the buyer has had an opportunity to consider the accrued entitlements of the essential employees of the business. Buyers sometimes don’t engage a lawyer until after signing an offer document, by which point they can be at a significant disadvantage in efforts to negotiate more favourable treatment of employee entitlements in the sale contract, even where the offer document is non-binding.

Wages and superannuation – The seller is responsible for payment of these entitlements up to (and usually including) the settlement date. The buyer is responsible for payment of these entitlements from the settlement date. Generally the parties will pay the employees directly for these amounts, including running an additional pay cycle where necessary.

Personal leave (sick and carer’s leave) – Accrued personal leave must be recognised by the buyer. An adjustment is usually included in the sale contract so the purchase price paid by the buyer is reduced by a percentage of all personal leave accrued by the transferring employees at the settlement date. The percentage can be negotiated in each sale, and varies in different Australian standard form contracts between 35% and 70%. The percentage is generally less than 100% because employees usually don’t use all their accrued personal leave.

Annual Leave – Provided the buyer isn’t an associated entity of the seller, the buyer can elect not to recognise employees’ accrued annual leave entitlements. If the buyer does this, the seller must pay all accrued annual leave entitlements to each transferring employee. Buyers don’t always exercise this right. If they don’t, then they are required to recognise accrued annual leave for transferring employees, and an adjustment is usually negotiated between the buyer and seller in the sale contract. The percentage for annual leave adjustments is usually higher than for personal leave because annual leave will always be paid out eventually. Many standard form contracts adjust 100% of the value of accrued annual leave, but some (including the Law Institute of Victoria’s contract) adjust 70% in recognition of the 30% company tax deduction expected to be available to a corporate buyer when the accrued annual leave is paid out.

Redundancy – Provided the buyer isn’t an associated entity of the seller, it can also elect not to recognise employees’ accrued redundancy entitlements, and legal obligations are the same as for annual leave entitlements depending on whether the buyer exercises this right. Of all the employee entitlements, redundancy entitlements seem to be the most commonly overlooked by buyers and sellers. Some standard form contracts include an adjustment for redundancy entitlements, some don’t.

Termination Notice – While employment seems continuous for the transferring employees, their contracts with the seller must still be terminated before they commence employment with the buyer. Most standard form contracts sale of business contracts require the seller to terminate transferring employees (and give notice or payment in lieu). Ordinary termination notice periods still apply, so the seller should give notice in accordance with their employees’ notice periods to avoid unnecessary termination notice payments. Some standard form contracts require the buyer’s offer to employees to be conditional on the employee resigning (relieving the seller of the need to give notice of termination) with the buyer assuming the employee’s termination notice requirements.

Key take aways:

1. Both parties need to consider the accrued entitlements of employees of a business before getting too far down the track with buying or selling the business. Accrued employee entitlements can represent significant liabilities for one or both parties which may factor into what adjustments they would be willing to agree to, and even what purchase price they would be willing to pay/accept, regardless of whether employees will transfer or not.
2. Standard form sale of business contracts often contain general terms adjusting liabilities for employee entitlement between the parties. These terms vary between different standard form contracts and can be changed via special conditions if the parties have negotiated a different arrangement.
3. A pre-contract document like a Term Sheet, Heads of Agreement or other offer document will often set expectations for how employee entitlements will be dealt with, either on a binding or non-binding basis. Parties should ensure they understand employee entitlement liabilities and negotiate any changes required before signing.

Employee entitlements can be affected by various factors including the size and location of the business, the nature of the employment, and whether an award or registered agreement applies to some or all employees. This article is general in nature and may not be the whole story depending on the circumstances of a particular business. Get legal advice early in the process if you are considering buying or selling a business.