Performance-related remuneration – bonus target agreement at reasonable discretion

  • 10/27/2022
  • Reading time 4 Minutes

The achievement of company-related targets is repeatedly used as valuation standard for performance-related target agreements. The Baden-Württemberg Regional Labor Court (decision of August 24, 2022 – 4 Sa 53/21) has now subjected a provision, according to which employers were able to determine company targets at their reasonable discretion – to a judicial review of fairness.

Performance-related remuneration by target agreements make wages more flexible and set performance incentives for the staff. The legal basis is often a framework regulation in the employment contract or a side agreement.

Individual or company agreements further specify the personal or company-related targets to be achieved, the remuneration amount and its distribution among the individual employees.

Dispute on variable remuneration

The parties are in dispute over the payment of variable remuneration for 2017. In addition to her basic salary, the employment contract grants the plaintiff an entitlement to annual performance-related gross remuneration in the amount of 10 percent of her gross annual salary. Such remuneration depends on the achievement of the corporate and personal targets defined in the applicable company regulations, as amended.

The company agreement applicable in the company (“BV Bonus”) provides that employees and their respective supervisors conclude an individual target agreement each year which should include business and personal targets. Business targets are not agreed upon but are determined and communicated by the company and the respective business unit, respectively. These targets can relate to various group areas. Personal targets are to be agreed on the basis of the company’s strategic targets, broken down to the organizational units, whereas the employees and their supervisor are to agree upon three to five targets.

In a target agreement meeting between the plaintiff and her supervisor in 2017, both parties agreed upon personal targets. In 2017, the company-wide targets and the business unit’s targets were communicated as well.

The reasoning of the court

The labor court had already awarded the plaintiff a bonus. The appeal filed by the defendant against such decision was unsuccessful. The Baden-Württemberg Regional Labor Court awarded the plaintiff variable compensation for 2017 in the gross amount of EUR 8,756.78.

The plaintiff’s claim is based on the employment contract in conjunction with the BV Bonus. A target agreement, which is a prerequisite for the claim, is available. According to the BV Bonus’ wording, business targets are not agreed but are “determined and communicated” by the defendant. This constitutes a unilateral right to specify the performance. Only personal targets were actually agreed upon with the employee.

However, the performance specified by the defendant was not in line with reasonable discretion. The discretionary scope is limited to the framework stipulated by the BV Bonus. The company agreement refers to the corporate goals. The setting of company-wide, group-related targets by the defendant is not covered by the BV Bonus. It restricts the defendant’s right to specify the performance in setting business targets to business unit-specific and company-related targets. Although the word “group” established a group reference, the business targets are related to the group’s organizational units. Therefore, the defendant’s right to specify the performance was non-binding.

When determining the compensation, the court must therefore only take into account the targets communicated for the business unit. The decision follows a parallel decision of the German Federal Labor Court dated October 13, 2021 – 10 AZR 729/19, which was issued for the same defendant.

Practical advice

When exercising his right to specify the performance pursuant to Art. 315 BGB (German Civil Code), an employer must observe the provisions under contractual or collective agreements. The more precisely these are formulated, the lower the susceptibility to error in their application.

We recommend a critical review of existing company agreements containing performance-related remuneration. Furthermore, when designing such agreements, the employer should take into account – as far as possible with regard to Art. 4a EFZG (German Continued Remuneration Act) – how periods without work as a result of incapacity for work affect the performance-related remuneration.

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