Terminating Employees in Difficult Economic Times

Welcome everyone to a new edition of the China Tech Law Newsletter. Given the lockdown in Shanghai and other cities, many companies particularly in retail are facing difficulties similar to a little over two years ago. In these times, companies sometimes have to make tough choices on employee headcount.

On employment matters, foreign companies operating in China have always been subject to heightened scrutiny and generally have had to closely follow the letter of the law. While some companies have seen this stricter compliance as an extra cost, others view it as a chance to create a healthy working environment that helps recruit and retain top talent. 

The cost of compliance includes how foreign companies must handle employee termination cases. And we are seeing an increasing number of these cases as companies adjust to the slowdown in China, and globally.

No company enjoys removing employees especially in economic times where those employees may have a hard time finding a new job. But at moments like these, companies must find ways to reduce costs and even to be fair to productive employees by removing unproductive employees. 

And so it is critical for foreign companies to develop and game out a plan of action when approaching employee terminations. China is not an “at-will” system where employees can be terminated without need for a reason or severance payment. Too often we see a company come to us where a US direct line manager or even HR person has already sent an employee a notice or otherwise told them that they are being terminated. Either no reason is given or certainly no “legal” reason under Chinese law is given, nor is severance discussed.

Instead, a good plan starts with trying to come up with a legitimate reason for terminating the employee. This needs to try fit into one permitted by Chinese law, such as the employee violated a clear and written rule of the company as documented in the local China company handbook. 

No handbook? Big problem. Without a handbook, the company can at least try to find a reason that can “pass the laugh test” (no that’s not a legal standard) such as a “change in the economic circumstances on which the labor contract was made.”  If you can find something in the handbook, for example, the employee has been habitually late to the office (or not completing work assignments during WFH in Shanghai at the moment with the lockdown), make sure there is a written record that the manager warned him or her about this before on multiple occasions. Even if there is no strict legal ground because there is no handbook, it can still be enough to start the conversation with the employee on termination with some moral impetus on your side. That still counts for a lot. 

Often what drives termination discussions sideways is when the employee is not given any reason or severance offer and/or the line manager and HR takes a very aggressive tone about the whole process. That usually backfires spectacularly in China as an employee will become defensive, go to his friend who is a lawyer or HR manager, and begin to dig in for a protracted fight. His fellow colleagues will know what happened and support him. At this point it becomes a matter of pride just as much as a matter of who is right or wrong under the law. 

Be prepared for all kinds of tricks as the discussions get more difficult.  An employee showing up even if assigned no work. An employee taking sick leave suddenly when you try to terminate him or her (yes, it is generally illegal to terminate someone while on sick leave).  Fake doctor’s notes are common but often not necessary - most people can get a legitimate doctor’s note from a local hospital without much difficulty (a bit more difficult under lockdown). Also be aware the employee often will bring up past claims for unpaid overtime, unused vacation days, or worse, potential dirt on the company. 

Instead of being dragged into this game, start the discussion on the right footing by outwardly being sympathetic to the employee, finding a reason such as performance or position redundancy if a clear rule has not been broken. 

Most importantly, offer severance. It is required under the law – generally 1 month salary for every year of service (with 6 months rounded up to 1 year, and 13 months rounded up to 1.5 years, and so on). If the employee refuses to accept a severance package and mutual termination agreement, the employer will then be forced to send a unilateral termination notice and the ball will then be in the employee’s court to decide whether to take the employer to local labor arbitration. 

Know that if the company has made a reasonable effort (such as offering the statutory minimum severance amount and ideally a bit more) to take care of the employee with a respectful process, the worst case scenario is a labor arbitration panel will award the employee double the statutory minimum. It is in theory possible that the panel may force the company to take the employee back and reinstate his or her position, but that is rare. Labor arbitrators do not want to actually have to decide cases! Doing so opens the case up to appeal by the company or the employee to the judicial courts. Arbitrators will do everything they can to drive the parties to a reasonable settlement.  

That will not stop the employee from threatening to take the company to arbitration. This threat is usually less effective against big companies with a large number of Chinese employees – every “give” to an employee demand moves the bar for the next employee who wants to fight a company termination. Believe me, word spreads fast on how much an employee gets in severance. 

But small companies particularly ones with no senior people in country are more vulnerable. Responding to an arbitration is a headache and extra expense both internally and in hiring outside legal counsel. Counsel may even need to physically represent the company at the arbitration in lieu of the company flying an executive over to China just to attend (not an easy thing these days anyway). 

Finally, we often also see companies reading the Chinese labor contract law themselves or hearing from someone else that there are other reasons to dismiss an employee such as the employee is incompetent for the job even after training or the “objective basis on which the contract was formed has changed”. Meeting these ambiguous standards is not going to work if fully litigated, even if you have documented trainings or the company is going through difficult times and the key account the employee was working on was lost. 

They are good starting grounds for the discussion, but otherwise know that resistance is futile. Own up to that from the beginning and start off with a clear plan and the right tone in communicating with the employee. It will cost you less in the end in terms of time, money, and aggravation.