In the midst of the current global economic crisis, many multinational corporations are facing reduced demand for their products and services, and a corresponding need to reduce costs and overhead wherever possible. For many such companies, responding to this economic climate has necessitated a reduction in their workforce in all workplaces and regions where they have operations.
For those multinationals with subsidiaries in Japan, however, head offices face the challenge that the options of redundancy and termination with statutory severance, which may be available in other jurisdictions, do not exist.
Following are some practical solutions available to multinational and local employers in Japan seeking to legally reduce their workforce, in circumstances where they may not meet the rather stringent criteria but which are applicable to employees who can legally be terminated for “financial reasons” in Japan. Also discussed are the general legal principles governing dismissal in Japan and the legal risks involved.
Dismissal Law in Japan: General Principles
Dismissal of an employee in Japan can be a difficult and expensive proposition. Under the Labor Contracts Law (
rodo keiyaku ho) and Japanese case law, a dismissal will be unlawful if it is found to have been conducted in a manner which is an “abuse of the employer’s right of dismissal.” A dismissal will be considered an abuse of right and therefore null and void if it is not based on objectively reasonable grounds and may not be recognized as socially acceptable.
This duty not to abuse the right to dismiss is a further obligation on employers, which applies on top of the need to observe the laws and dismissal grounds set out in the work rules or the individual contract of employment. As a result, even if an employment contract or work rules contain an “at will” termination clause, any termination based on such clause will not be held valid, unless there are reasonable grounds for dismissal.
Although there are several grounds which can constitute justification for an employer’s dismissing an employee under Japanese case law (such as poor performance, mental and physical incapacity, and grave misconduct), the employer’s motives for the dismissal must be quite serious to be considered reasonable. An employer must also be prepared to justify the termination with substantial, and an abundance of, evidence in the event that the dismissed employee brings a lawsuit.
Further, while economic necessity is one of the permitted grounds for dismissal, the requirements to justify dismissal for economic reasons (“adjustment dismissal”) are rigorous and demanding. They include the need to prove an objectively strong operational necessity to reduce staff, which usually requires that the company prove that it is in dire financial circumstances, such as being threatened with closure of its entire business, or at least one of its divisions.
In addition, a company must show that it has exhausted all reasonable efforts to avoid personnel reduction both by cutting costs through other means, and by using less drastic measures to reduce staff levels, before resorting to terminations. Such measures may include a review of the compensation of its directors, review and/or reduction of staff salaries and bonus levels, a freeze in hiring new employees, efforts to second employees to affiliates and, most importantly, the implementation of voluntary or early retirement plans, prior to implementing dismissals.
As a result, the common practice in Japan is that adjustment dismissals are used as a last resort. Companies generally implement mass employee reductions (where necessary) by way of early retirement packages or voluntary resignations, with an agreement being reached amicably. Large-scale dismissal or employment disputes are seen to damage company brand and reputation and are avoided.
Non-Contentious Means to Downsize Workforce
The starting point for all workforce reduction measures is to look at the Work Rules, employment contracts, and agreements with inside unions (if any) to see what minimum requirements and consultation obligations apply. In the case of voluntary retirement, the company will encourage employees to accept retirement by offering a package which is more generous than employees’ statutory and contractual entitlements. Generally, the solicitation for voluntary retirement is implemented as either (1) an Early Retirement Program (ERP) or (2) Individual Solicitation of Resignation (ISR) (
taishoku kansho).
Early Retirement Program (ERP) (soki or kibo taishoku seido)
In the case of an ERP, the company typically produces a package which proposes, in the form of solicitation to employees, either a one off lump sum (e.g., one year’s salary), or a standard base payment plus a premium payment, calculated based on years of service, age, number of dependants, etc. to entice employees to resign or “retire” early.
This process may take one of two forms, both of which are often collectively or interchangeably referred to as an “ERP” in English:
- A long-range plan to gradually reduce the number of employees over an extended period of time. This method is also known as a “Second Career Plan” or soki taishoku seido in Japanese;
- An attempt to reduce the workforce by a significant number of employees (10 or more), within a short and defined period, as a tool by which to respond to redundancy due to the global economic downturn, outsourcing of services, etc. This method is sometimes referred to as kibo taishoku seido in Japanese, or a Voluntary Retirement Program.
An important point to note about an ERP is that it must apply equally to all employees within the eligible group. The ERP may be offered only to a distinct group of employees, for example, those working in a particular factory or a particular division of the company, or those in a certain division over the age of 35. However, each company employee must be able to clearly and easily ascertain whether or not they fit in the defined group, and are therefore eligible to apply.
Further, an ERP cannot be selectively offered on the basis of performance, for example, and indeed, performance should not be mentioned as a factor in the ERP at all. In addition, the company is not allowed to change the package in the process of solicitation with the employees. In other words, once the package is announced, it must be fixed until the close of the application period.
It should also be understood that the ERP is not
an offer by the company – it is a
solicitation by the company to the employees. When an employee agrees to accept the ERP, this constitutes an offer from the employee to the company. Under the ERP, the company can therefore avoid losing key employees who may request that they avail themselves of the benefits under the ERP by including a reservation clause stating that the company has a right to refuse an employee’s offer, where the individual in question is critical to the company’s business operations.
Individual Solicitation of Resignation (ISR) (taishoku kansho)
ISR is usually utilized where the company has a small number of employees to downsize. It is more flexible insofar as individual employees can be approached separately, and the company may target specific employees based on performance, for example. The amount offered may also be more flexible than in the case of an ERP, where the plan is not subject to individual concessions. This kind of plan is very difficult to manage, however, because employees will often exchange information as to the amount offered, etc. in order to strengthen their bargaining position. For these reasons, ISR is usually not suitable for largescale downsizing.
Achieving the Target Number of Resignations
Where a company seeks to reduce its workforce by more than a handful of employees, companies will usually utilize an ERP first. If the desired number of employees do not accept the package, the company may offer the ERP for a second and even third time. However, it is not recommended that an employer offer more favorable conditions in the second or later rounds. If the company offers better conditions in the second round, those employees who accepted voluntary retirement in the first round may possibly bring a claim against the company.
Further, the possibility of more favorable conditions in the future will encourage employees and/or their union to “hold out” for a better package, and will reduce the number of employees who wish to avail themselves of the benefits under the ERP in the first round (and increase costs). So ideally, the initial ERP package should be attractive enough to induce a substantial number of employees to resign during the first round.
An ERP may also be followed by an ISR; however only if the number of employees remaining to be reduced is quite small for the reasons discussed above.
Calculation of Severance Package
Where voluntary resignations are being solicited due to financial difficulty, the severance package which the company offers will depend on the severity of the company’s economic situation. However, as mentioned, the package must be attractive enough to induce employees to offer their resignation, and if a large downsizing is sought, the package must be attractive enough to induce a large number of voluntary resignations.
There are no rules or statutory requirements regarding how the company should calculate its severance package, but packages commonly comprise of the following:
- Any retirement allowance or other payments which are guaranteed once an employee leaves the company (This should be confirmed under the company Work Rules or Retirement Allowance Rules);
- Compensation for unused days of annual leave, if any;
- Access to an outplacement service to help employees find new jobs; and
- A base component of three to six months’ salary plus one month’s salary for every year of service.
If the amount of retirement allowance in item (a) is significant, the severance component in item (d) may be reduced. The base component in item (d) will also vary depending on the employer’s financial situation and should be more generous where the employer implements an ERP while still profitable.
The alternative approach is for the company to offer a lump sum (such as 12 months’ salary) to employees who accept the package, regardless of the length of service. However, this approach is generally less attractive to older employees, who may expect a higher payout if the first type of calculation is used.
Legal Risks
Soliciting voluntary retirement by ERP and ISR is usually carried out to downsize a workforce while minimizing the risk of litigation and negative media coverage which often arises in the case of dismissals. Nonetheless, the following risks do exist when soliciting voluntary resignations:
Risk of Legal Action
Where an employee feels that the solicitation (particularly in cases of ISR based on performance) is actually in substance a termination (that is, they feel that they are being coerced to resign), that employee may seek a temporary court order and injunction. These orders may be a confirmation of his or her status as an employee and his or her continued employment, or nullification of the solicitation, etc. If the company’s actions only constitute a solicitation for voluntary retirement, then a court order may not be issued, but if an employee has resigned “under duress” and the solicitation is judged to be a de facto termination, the court may order the employee’s reinstatement and back pay of his or her salary. Because of these risks, it is important that a company not use force pr coercion in its solicitation attempts, or discontinue to actively solicit an employee who has expressly rejected an ISR or ERP solicitation.
Risk of Union Involvement
Even if there is no trade union inside the company, and even in the case of a solicitation which is not suspected to be a termination, it is possible that outside unions may intervene in company negotiations with employees. An employee may likely seek the assistance of an independent trade union if they feel they have been unfairly treated or pressured. The company may not refuse a demand for collective bargaining negotiations with a union. The trade union may also organize or mobilize employees and ask the company to stop solicitation for voluntary retirement, or may negotiate for an offer of a higher severance package from the company.
If an employer refuses to negotiate with trade unions, despite union calls for bargaining negotiations, this is likely to be seen as an unfair labor practice. In such cases, the union can apply to the Labor Relations Board for a “rescue order,” which is backed by legal penalties for non-compliance. The rescue order, if granted, will require the employer to carry out bargaining negotiations with the union, before soliciting resignations. While the Labor Relations Board is an independent third party, it tends to be sympathetic to workers and so any application by a union for a rescue order is likely to be successful.
Failure to negotiate with unions is also likely to lead to a decline in morale among employees.
Conclusion
In summary, while legal termination for economic reasons can be difficult in Japan, the processes of ERP and ISR offer practical alternatives which allow companies to reduce their workforce by a limited or significant number of employees, within the bounds of the law. Despite the lack of statutory provision for both redundancy and severance pay in Japan, existing practice in regard to the ERP and ISR provides guidance on both the sort of severance package which should be offered to encourage employees to voluntarily resign, and methods to tailor the process so as to ensure the target number of reductions is reached from the desired group of employees.