Introduction

In our November 2019 issue, “Can an employee decline an accepted job offer before commencement? The importance of careful drafting”, we discussed the ruling of the Court of First Instance (“CFI”) in Law Ting Pong Secondary School v Chen Wai Wah [2019] HKCFI 2236 on whether employees may back out of an accepted job offer prior to its commencement date without serving a notice of termination or payment in lieu of notice. The CFI ruled that the defendant teacher (“Teacher”), who failed to give notice of termination, was not liable for payment in lieu of notice to the plaintiff school (“School”) by backing out shortly before the commencement date. The CFI took the view that the term requiring the Teacher to give three months’ notice or make payment in lieu of notice to terminate the contract was not included in the employment offer made at the outset. The School appealed against the CFI’s decision to the Court of Appeal (“CA”).

Relevant facts

On 17 July 2017, the School made an offer to hire the Teacher and provided:

1.     an Offer of Appointment as Teacher (“Offer of Appointment”);

2.     Conditions of Service for Teachers in the School (“Conditions of Service”); and

3.     a Letter of Acceptance (“Letter of Acceptance”).

The Offer of Appointment provided that the Teacher had to sign and return the Letter of Acceptance and the Conditions of Service in order to accept the School’s offer (“Acceptance Provision”). The Teacher signed both documents and returned them on the same day. The following terms in the Letter of Acceptance are material:

1.     “I accept the appointment offered in your letter dated 17^th July 2017 in accordance with the attached [Conditions of Service]”; and

2.     “I also understand that once I accept this contract, the conditions of the new contract will come to [sic] immediate effect e.g. I need to give three months’ notice to terminate my employment with the school”.

The period of employment was stated on the Conditions of Service to be from 1 September 2017 to 31 August 2018. The termination provision contained in the Conditions of Service (“Termination Provision”) stated that the Teacher’s employment may be terminated by either party by giving three months’ notice in writing, or by making a payment equal to the amount of three months’ salary in lieu of notice (“Payment-in-lieu Provision”).

On 22 August 2017, the Teacher backed out of the accepted offer without giving notice or payment in lieu of notice. The School managed to recruit another teacher who reported to duty on 5 September 2017 (“Replacement Teacher”).

The CA’s ruling

At the appeal, the CA considered two issues in deciding on the merits of the appeal:

1.     whether the Letter of Acceptance and the Teacher’s acknowledgement therein that the terms of the contract came into immediate effect form part of the employment contract (“Contractual Interpretation Issue”); and

2.     whether the Termination Provision is unenforceable as a penalty clause (“Penalty Clause Issue”).

Contractual Interpretation Issue

The real dispute between the parties was whether the CFI was correct in concluding that the terms in the Letter of Acceptance did not form part of the employment contract by reason that they were not included in the Offer of Appointment and the Conditions of Service.The CA was of the view that the CFI, in ascertaining the terms of the offer and the employment contract, had focused solely on the words used in the Offer of Appointment without considering the words in all three documents against the background facts. The CFI took the words of the Acceptance Clause too literally without considering the surrounding circumstances, in particular, the CFI’s interpretations that (1) the Teacher’s signing of the Letter of Acceptance was merely to comply with the Acceptance Clause in the Offer of Appointment and, thus, (2) the Letter of Acceptance was a mere medium for accepting the offer were incorrect.

The three documents were given to the Teacher together at the same time. The CA found that the terms of the three documents were accepted as a “package deal”. Therefore, by signing the Letter of Appointment, the Teacher accepted that the terms of the Conditions of Service (including the Termination Provision and the Payment-in-lieu Provision) would come into immediate effect. Although the Conditions of Service stated the “period” of employment to be from 1 September 2017, it only refers to the date of commencement of the Teacher’s teaching duties. Both parties were already legally bound by the employment contract as from the date of signing of the Letter of Acceptance and the Conditions of Service, i.e. 17 July 2017.

The CA was of the view that the essence of interpreting the employment contract at hand is to consider what a reasonable person would have understood the parties to mean, having regard to the parties’ agreement as a whole, the factual and legal background and the practical objectives the parties intended to achieve. The CA found that a reasonable person would have no difficulty understanding the terms of the Letter of Acceptance to mean that the contract would come into immediate effect. Hence, the Teacher was bound by the Termination Provision and the Payment-in-lieu Provision to give three months’ notice or payment in lieu of notice in order to terminate his employment contract with the School.

Penalty Clause Issue

The Teacher argued that the amount involved (being three months’ salary under the Offer of Appointment) is wholly disproportionate to (1) the monetary loss that the School may have suffered, and (2) any legitimate interests of the School. Its purpose was therefore to deter him from backing out from the Offer of Appointment before he officially reported to duty.

The CA ruled in favour of the School as the doctrine of penalty is only engaged when there had been a breach of contract, and thus the Teacher’s argument that the Termination Provision is unenforceable as being penal cannot stand. The School’s claim is not for liquidated damages for breach of contract, but for recovery of a contractual debt arising from a contractually agreed method of lawful termination under the Termination Provision.

The CA further held that even if the Payment-in-lieu Provision (under the Termination Provision) were to be regarded as a liquidated damages clause, the Teacher’s arguments would fail because they (1) narrowly concentrated solely on comparing the amount of the payment in lieu and the actual monetary loss suffered by the School, and (2) focused only on the state of affairs at the time of breach instead of at the time of the formation of contract. Given that the School’s arguments on the difficulties it faced as a result of the Teacher’s termination were unchallenged at trial, the three months’ notice period and the Payment-in-lieu Provision cannot be said to be out of all proportion to its interest in enforcing the contract. Apart from compensation for monetary loss, the School did have a legitimate interest in enforcing the performance of the same. Therefore, even if the Payment-in-lieu Provision were to be regarded as a liquidated damages clause, it would not be unenforceable as being penal.

The CA allowed the appeal and ordered the Teacher to pay a sum equivalent to the payment in lieu of notice that he would have had to pay to the School had he complied with the Termination Provision.

Conclusion

The CA’s decision reconfirmed the importance of interpreting contracts. Employment contract should be interpreted against the background facts and the practical objectives which it was intended to achieve. Taking the wordings of any contract out of context and solely looking at its literal meaning could result in misinterpretation. Further, the Courts will be slow in finding a clause as penal and striking it down on such basis. Employers and employees who intend to terminate their employment contracts should also pay due regard to their respective obligations to give notice or payment in lieu of notice.When in doubt, parties should seek legal advice to avoid any unwanted legal disputes.