Orrick's Wage-and-Hour Watch

August.30.2012

Key Developments: Christopher v. SmithKlein Beecham - The Supreme Court determines pharmaceutical representatives qualify for the federal outside sales exemption
Notable Decisions: No certification for independent contractors; no attorneys' fees on meal break claims under the California statute; recent developments in the ongoing suitable seats litigation
Worried About This Now? The demise of the administrative exemption in California?
Focus Outside California: Increased activity in FLSA filings and private settlements of FLSA claims
Practical Tip of the Quarter: Implementation of flex time or time away policies

Key Developments

The Supreme Court Rules that Pharma Reps are Exempt Outside Sales People 

On June 18, 2012, a 5-4 split United States Supreme Court held in Christopher v. SmithKline Beecham Corp., 132 S.Ct. 2156 (2012) that under the most reasonable interpretation of the Department of Labor’s regulations, pharmaceutical sales representatives are exempt from overtime as outside salespersons under the Fair Labor Standard Act. This decision resolves the split in authority between the Ninth and Second Circuits in favor of employers and strikes a blow to the deference accorded to the DOL in interpreting its regulations.

The respondent-employer, GlaxoSmithKline (Glaxo), employs pharmaceutical sales representatives (PSRs) to obtain nonbinding commitments from physicians to prescribe their employer’s prescription drugs in appropriate cases. The petitioners, former Glaxo PSRs, brought a class action lawsuit on behalf of current and former PSRs alleging that Glaxo violated the Fair Labor Standards Act (FLSA) by failing to pay overtime compensation. Glaxo moved for summary judgment on the grounds that PSRs fall under the FLSA’s outside sales and administrative exemptions. Without addressing the administrative exemption, the district court agreed that PSRs are outside salespersons and granted summary judgment. The petitioners subsequently filed a motion to alter or amend the judgment in light of the Department of Labor’s (DOL) amicus brief filed in the In re Novartis Wage and Hour Litigation case, which articulated the DOL’s position that PSRs are entitled to overtime compensation. The district court rejected this argument and denied the petitioners’ motion. On appeal, the Ninth Circuit affirmed the district court’s decision. It held that PSRs make sales within the meaning of the FLSA because the commitment that PSRs obtain from physicians to prescribe their employers’ products is the maximum possible under the rules applicable to the pharmaceutical industry. Further, it agreed with the lower court that the DOL’s interpretation of the relevant regulations was not entitled to controlling deference. The Ninth Circuit’s decision in Christopher was at odds with the Second Circuit’s decision in Novartis and created a split in authority. As predicted, the Supreme Court granted certiorari in November 2011 to resolve the split between the courts of appeal.     

Holding: The DOL’s Interpretations Here Are Not Entitled to Deference and Are Unpersuasive

The Supreme Court struck down the DOL’s interpretations of its regulations on two separate grounds. First, the court held that the DOL’s interpretations are not entitled to deference because relying on them would result in “unfair surprise.” The statute and regulations do not provide clear notice to employers that treating PSRs as exempt outside salespersons violated the FLSA. Further, the DOL never initiated any enforcement actions with respect to the PSRs or otherwise suggested they were misclassified. Finally, the DOL’s interpretations of the outside salesperson exemption have been inconsistent.

Second, the court found the DOL’s interpretations to be unpersuasive and inconsistent with the FLSA. Because the court found the DOL’s interpretations wholly unpersuasive, it employed “traditional tools of interpretation” to determine whether the petitioners were exempt outside salespersons.

Holding:  PSRs Qualify as Outside Salesmen under a Reasonable Interpretation of the FLSA

Interpreting the definition of “sale” in a common sense manner, the Supreme Court held that PSRs fall within the FLSA’s outside salesperson exemption. The statutory definition of “sale” includes “any sale, exchange, contract to sell, consignment for sale, shipment for sale, or other disposition.” 29 U.S.C. §203(k) (emphasis added). The court concluded that the PSRs’ primary duty of obtaining nonbinding commitments from physicians to prescribe one of the respondent’s drugs “comfortably falls within the catchall category of ‘other disposition’” because, given regulatory constraints in the pharmaceutical industry, it “is the most that petitioners were able to do to ensure the eventual disposition of the products that respondent sells.” 

The Christopher court further held that the petitioners “bear all of the external indicia of salesmen.”  They were hired for their sales experience, trained to close sales, worked away from the office with minimal supervision, and rewarded for their efforts with incentive compensation. Moreover, the petitioners were not the kind of employees that the FLSA was intended to protect because they earned salaries well above the minimum wage and performed the kind of work that is difficult to standardize to a particular time frame and cannot be easily spread to other workers. Finally, the broad language of the regulations and the statutory definition of “sale” do not support the petitioner’s argument that an employee is properly classified as a nonexempt promotional employee when another employee actually makes the sale in the technical sense (i.e. enters the order).

Implications and Lessons for Employers

The United States Supreme Court conclusively resolved the question for employers of whether PSRs are properly classified as exempt outside salespersons under the FLSA. Additionally, the court’s common sense reading of the outside salesperson exemption and refusal to defer to the DOL’s interpretations is good news for all employers as the DOL has become more pro-plaintiff in its enforcement efforts.

In an interesting turn of events, the Ninth Circuit recently found in a trio of cases involving Roche (Orrick represented Roche), Wyeth and Bayer that PSRs are exempt under the administrative exemption under California law. This opinion is discussed in more detail below in the Worried About This Now portion of the Watch.  

Notable Decisions

California Court of Appeal Affirms Denial of Certification of Independent Contractor Class in Sotelo v. Medianews Group, Inc.

As the government and private plaintiffs clamp down on independent contractor misclassification, the California Court of Appeal provided some relief on July 2, 2012 in Sotelo v. Medianews Group, Inc., 207 Cal. App. 4th 639 (2012), affirming that a putative class of independent contractor newspaper carriers could not be certified.

In Sotelo, plaintiffs sought to certify a class of persons who worked for the company by “folding, inserting advertising materials into, bagging, bundling, loading, and/or delivering” newspapers, or by overseeing such work. However, not all of the individuals who performed this work had signed contracts with the company. Many contractors retained the assistance of others who remained unknown to the company. Therefore, the trial court concluded that it could not determine the actual size of the class. The appellate court agreed, noting that “there were no objective criteria by which class membership could be determined,” and identifying those who signed no contract but nonetheless bagged and delivered papers would “devolve into a disputed mini-hearing, requiring sworn statements and/or deposition testimony from that class member, the evaluation of circumstantial evidence, and credibility determinations.”

Plaintiffs attempted to overcome this by pinning fault on the company, arguing that any difficulties with identifying putative class members was due to the company’s failure to keep accurate records. However, the Court of Appeal observed that the company only would have had an obligation to keep such records if the individuals in question were employees—which was the primary question at issue in the case. The court concluded that “[a]ppellants cannot bootstrap their action merely by assuming as true what they are obligated to prove.”

The court also affirmed that common issues did not predominate because the plaintiffs did not allege that the company had “uniform practices or policies, beyond the issue of employee misclassification that would establish liability for overtime or rest/meal break violations.” The court explained that there are several factors to consider when determining whether an individual is properly classified as an independent contractor. It found significant variability across the class regarding a subset of those factors, including (1) whether the putative class members were engaged in a distinct occupation or business; (2) the method of payment; (3) whether or not the parties believed they were creating an employer-employee relationship; and (4) the worker’s opportunity for profit or loss depending on his or her managerial skill.

It did not matter to the court that there was only variability as to some but not all factors in the independent contractor test. Even if certain factors could be analyzed on a class-wide basis, “the remaining individualized issues would have to be determined and then weighed along with the already-determined common issues in order to resolve whether each class member was an employee or independent contractor.” For instance, one of the factors analyzed relates to the beliefs held by the putative class members regarding their relationships with the company. While contracts generally state an independent contractor relationship, plaintiffs often allege facts to undermine the contract, such as the company’s failure to explain its terms. Getting to the heart of this issue requires individual testimony at trial. As the court noted, “while a class member’s belief about his or her status will not defeat employment status and, as a subjective standard may be entitled to less weight, it may still be a subject of litigation at trial, given the holistic nature of the inquiry.” These observations apply not only to the specific facts in Sotelo, but also to any case involving a dispute regarding the classification of contractors, which often involve careful interpretation of a complex web of factors.

Kirby v. Immoos Fire Protection, Inc.: Attorneys’ fees not available for meal and rest break claims.

The California Supreme Court delivered another victory to California employers in Kirby v. Immoos Fire Protection, Inc., 53 Cal. 4th 1244 (Cal. 2012). In Kirby, the court addressed the availability of an award of statutory attorneys’ fees to either party in cases solely involving meal or rest break period violations under Labor Code sections 218.5 and 1194. Labor Code section 218.5 is a “two-way fee-shifting statute” that authorizes an award of attorneys’ fees to a prevailing party in any action brought for the nonpayment of wages, fringe benefits, health and welfare contributions, or pension fund contributions. In contrast, Labor Code section 1194 is a “one-way fee-shifting statute” that authorizes an award of attorneys’ fees to employees who prevail in an action for any unpaid legal minimum wage or legal overtime compensation claims.

At issue in Kirby was a claim for the failure to provide rest breaks in violation of Labor Code section 226.7. The remedy under section 226.7 requires the employer to pay the employee one additional hour of pay at the employee’s regular rate of compensation for each work day that the meal or rest period is not provided. Plaintiff argued that the penalty of one hour of additional pay was tantamount to a statutorily prescribed minimum wage and, therefore, section 1194 was applicable to prevent an award of attorneys’ fees to the prevailing party-employer. The California Supreme Court rejected this argument reasoning instead that, based on the plain meaning of section 1194, claims for minimum wage or overtime compensation are not the same as missed rest or meal period claims. The court also rejected the argument that an action to recover the one hour penalty triggered section 218.5 stating that the characterization of the one additional hour penalty as a “wage” did not make the action one to recover unpaid wages under section 218.5. Specifically, it explained that although the penalty for a missed rest or meal period is one hour of premium pay, the essence of the wrong was not nonpayment of wages. Rather, the purpose of 226.7 is to ensure that employers provide rest and meal breaks. The California Supreme Court also referenced the legislative history behind the statutes and found no support for the argument that the California legislature had intended statutory attorneys’ fees to apply to such claims. Accordingly, the California Supreme Court held that claims for violations of the meal period and rest break statute do not provide the prevailing party a basis for an award of statutory attorneys’ fees.

While employers are unable to recover attorneys’ fees for failed meal and rest break claims, neither can plaintiffs. Read in conjunction with the Brinker decision, plaintiffs’ counsel may think twice before pursuing meal and rest break violations under section 226.7 because they will not be entitled to recover attorneys’ fees in those actions. Plaintiffs can still potentially recover attorneys’ fees if the meal and rest break allegations are asserted under a PAGA theory, and we are increasingly seeing plaintiffs take this approach.

Suitable Seats: Mixed Reviews

In granting summary judgment on May 31, 2012 in Kilby v. CVS Pharmacy, Inc., a case in which Orrick represented CVS, Judge Anello in the Southern District of California provided California employers with much-needed judicial interpretation of the suitable seating provision found at Section 14 of the Wage Orders. Subsection A of that Wage Order requires employers to provide “suitable seats” when the “nature of the work” reasonable permits the use of a seat. In contrast, Subsection B provides that when employees are not engaged in active duties of their work and the “nature of the work” requires standing, employers must provide suitable seats in reasonable proximity to the work area and permit employees to use those seats when it does not interfere with the performance of their duties.

A key issue in the suitable seats cases is the proper interpretation of “the nature of the work.” Based on statutory interpretation principles, Judge Anello held that the “nature of the work” performed by an employee “must be considered in light of that individual’s entire range of assigned duties in order to determine whether the work permits the use of a seat or requires standing.” He further held that Subsection A and B are mutually exclusive i.e., both Subsection A and B cannot apply to the same position. If the “nature of the work” reasonably permits a seat, then Subsection A applies. If the nature of the work requires standing, then Subsection B applies, and a seat must be provide in reasonable proximity to the work area.

In Kilby, the Plaintiff contended that CVS violated Subsection A because CVS did not provide seats for its Clerk/Cashiers at the front end registers. In granting summary judgment, Judge Anello held that Subsection B, not Subsection A, applied to CVS’s Clerk/Cashiers because there was no dispute that many duties performed by CVS’s Clerk/Cashiers required the employee to stand while performing them i.e., stocking shelves, cleaning or sweeping, fetching photographs or cigarettes from other parts of the store, etc. Accordingly, CVS was not required to provide suitable seats for the Clerk/Cashiers at the registers.

Judge Anello also found that, while not dispositive, CVS’s business judgment and expectation that its Clerk/Cashiers stand while performing their jobs is “undoubtedly relevant” to understanding the nature of the work of the Clerk/Cashier position. Judge Anello found persuasive that CVS expected its Clerk/Cashiers to stand while performing the duties of their jobs, and the Plaintiff was trained to perform her job while standing.

This case is currently pending before the 9th Circuit. Opening briefs are due in early December 2012.

The results have been less favorable in a pair of suitable seats cases filed in the Northern District of California in which the judges granted class certification and, in one case, denied summary judgment. First, in Brown v. Wal-Mart Stores, Judge Davila granted class certification of a class of cashiers who alleged a failure to provide suitable seats. Contrasting the evidence submitted in the Kilby case, where Judge Anello denied class certification, Judge Davila found that the plaintiff submitted evidence that all the cashiers performed common tasks at the registers and spent the majority of their time working at the registers. In Garvey v. Kmart Corporation, Judge Alsup denied summary judgment in a suitable seats case. The undisputed facts showed that Kmart’s cashiers all spent 70 percent to 90 percent of their time working at the registers. However, Judge Alsup found that there was a dispute of fact as to whether a cashier’s movements behind the register could be performed from a seated position. In a later-filed order, Judge Alsup certified a class of cashiers who worked at Kmart’s Tulare store. These cases serve as a reminder that employers should continue to develop solid policies and defense strategies for potential suitable seats class actions.

Worried About This Now?

Turmoil Regarding The Administrative Exemption

The California administrative exemption has been plagued by significant uncertainty in its interpretation and application. Recently, employers had reason to hope that the California Supreme Court’s analysis of the administrative exemption in Harris v. Super. Ct., No. S156555 (Cal. Dec. 29, 2011) (“Harris II”) would bring some much-needed clarity to the debate. Although the Supreme Court rejected the court of appeal’s rigid reliance on the “administrative/production dichotomy,” the Court gave minimal guidance to the lower court about how the text of the regulation interpreting the exemption should be applied.

Two courts have now issued decisions applying the Supreme Court’s guidance regarding the administrative exemption and those courts arrived at different results. The Ninth Circuit issued a decision interpreting California’s administrative exemption in a trio of cases against Roche (represented by Orrick), Wyeth and Bayer regarding the exempt status of their pharmaceutical sales representatives and concluded that they were properly classified as exempt under the administrative exemption. See Menes v. Roche Laboratories, Inc., No. 08-55286 (9th Cir. July 23, 2012) (unpublished) (consolidated with D’Este v. Bayer Corp. and Barnick v. Wyeth). On the same day, the California court of appeal issued an opinion evaluating whether the exemption applied to insurance claims adjusters in Harris v. Super. Ct. (“Harris III”) following the remand order by the California Supreme Court and concluded that they do not qualify for the administrative exemption.

By way of background, in Harris II, the California Supreme Court held that the “administrative/production dichotomy” should not be used as a dispositive test, but clarified that under the administrative exemption whether work is "directly related to management policies or general business operations" involves both a (1) qualitative and (2) quantitative analysis. The qualitative analysis involves determining whether the work is administrative in nature, such as advising management, planning, negotiating, and representing the company. See Wage Order 4-2001 (incorporating 29 C.F.R. § 541.205(b) (2000)). On the other hand, the quantitative analysis involves determining whether the work is of substantial importance to management policy or general business operations. See Wage Order 4-2001 (incorporating 29 C.F.R. § 541.205(c) (2000)). Both the qualitative and the quantitative components must be satisfied before the work can be considered "directly related to management policies or general business operations" under the administrative exemption. In Harris II, the Supreme Court also cast substantial doubt on the Court of Appeal’s holding that work is not administrative unless it is “carried on at the level of policy or general operations,” which is not a phrase found in the regulations. The Supreme Court remanded the case back to the court of appeal for further analysis.

Per the remand order, the Harris III court of appeal only addressed whether insurance claims adjusters met the qualitative component, i.e., whether the adjusters’ work was administrative in nature, such as advising management, planning, negotiating, and representing the company. But the court of appeal went beyond this limited inquiry. The court reasoned that many non-exempt employees (like legal secretaries) ostensibly satisfy the qualitative component because they advise management (e.g. advise partners at law firms about the timing of filings) and plan tasks (e.g. organize legal filings). According to the court, if such an obviously non-exempt employee could satisfy the qualitative component simply by performing these kinds of advising and planning tasks, the exemption would include practically anyone. A limiting factor had to be found. So, as it had done in its initial analysis, before Harris II, the court of appeal again relied on the question of whether the work performed was at the level of policy or general operations of the business: “We take it to mean that only duties performed at the level of policy or general operations can satisfy the qualitative component of the ‘directly related’ requirement. In contrast, work duties that merely carry out the particular, day-to-day operations of the business are production, not administrative, work.” 

The court held that the insurance claims adjusters did not satisfy the qualitative component of the administrative exemption because they did not perform duties at the level of policy or general operations of the business. Rather, the adjusters’ duties were the “day-to-day” tasks involved in adjusting individual claims. The court did admit that some adjusters performed duties at the level of policy and/or general operations including advising and consulting about whether the company should issue certain types of policies; serving on a special investigations unit to shape the policies and procedures of the company; and serving on a committee that determined how to better run the business. The employer, however, had not provided any evidence that any claims adjuster spent more than 50 percent of his or her time on these duties as opposed to the day-to-day tasks.

The court largely ignored the employers’ arguments to the contrary. According to the court of appeal, even though insurance adjusters were not production workers, it does not necessarily follow that their duties relate to administrative operations of the insurance business. Furthermore, in a strict application of Harris II, the Court of Appeal also dismissed 29 C.F.R. § 541.205(c) which lists “claim agents and adjusters” as persons who meet the test of “directly related to management policies or general business operations.”  Because the Supreme Court made clear that subsection (c) relates only to the quantitative component of the administrative exemption and the only issue on remand was the qualitative component, the court summarily disregarded subsection (c) in its analysis (even though Harris II had explicitly held that all of the regulation’s subparts “must be read together”). Finally, the court also dismissed both parties’ reliance on agency opinion letters, as well as numerous federal circuit and district cases finding that claims adjusters do work that is directly related to management policies or general business operations. With a minimum of analysis, the court held that those cases were not binding and were unpersuasive.

In contrast to the court of appeal decision in Harris, the Ninth Circuit found that the qualitative component of the administrative exemption was satisfied because pharmaceutical sales representatives were engaged in the performance of non-manual work directly related to management policies or general business operations when they represented their companies and promoted sales of drugs within their territories, activities characterized as exempt under the applicable federal regulations incorporated into the Wage Orders. The court further found that representatives’ work was of substantial importance to the management or operations of the business, and thus qualitatively exempt, because their work affected business operations to a substantial degree as each representative was expected to disseminate his or her own message to the market, improve market share and generate a large amount of business for the company. In arriving at this conclusion, and in stark contrast to Harris III, the Ninth Circuit rejected the notion that the representatives would be required to participate in the formulation of their employers’ sales and promotional policies at the company level in order to qualify as exempt. Given the contrasting decisions from the court of appeal and the Ninth Circuit, the only thing that is clear is that further clarification regarding the administrative exemption is needed from the California Supreme Court. There is a strong likelihood that the Harris III decision will be appealed yet again to the Supreme Court and perhaps then employers will have some much needed guidance regarding this issue. Until then, expect to see litigants and courts continuing to grapple with this issue.

Focus Outside California

FLSA Cases Continue to Pick Up Momentum, but the Fifth Circuit Approves Private Settlements

If it feels like there is an uptick in the number of plaintiffs bringing Fair Labor Standard Act (“FLSA”) cases, it’s because there is. According to Federal Judicial Caseload Statistics, the number of FLSA cases commenced in U.S. District Courts has increased 32 percent in the last three years from 5,302 back in 2008 to 7,008 in 2011. Administrative Office of the United States Courts, Federal Judicial Caseload Statistics, available here (go to “Federal Judicial Caseload Statistics 2011”; go to “Table C-2”); id. (go to “Federal Judicial Caseload Statistics Archive”; go to “Federal Judicial Caseload Statistics 2008”; go to “Table C-2”). Likely reasons for increased FLSA filings include the national economic downturn and increased employee awareness brought on by an aggressive Department of Labor. Additionally, the plaintiff’s bar likely finds FLSA collective actions more attractive in light of the Supreme Court’s decision in Wal-Mart Stores, Inc. v. Dukes, 131 S. Ct. 2541, 2550-52 (2011) clarifying the high standards that plaintiffs must satisfy to certify a class action under Federal Rule of Civil Procedure 23. Under the FLSA, a plaintiff need only demonstrate that he or she is similarly situated to others to collectively certify a class. If a plaintiff conditionally certifies the class, typically the court will issue a notice informing the entire class of the pending lawsuit and each individual’s right to opt in and participate, regardless of the merit of the claims.

Employers are not completely helpless to fight FLSA claims and collective actions, however. Last month, the Fifth Circuit affirmed that plaintiff-employees can release their FLSA claims for unpaid wages where there is a bona fide dispute about time worked. Martin v. Spring Break ’83 Productions L.L.C., No. 11-30671, 2012 WL 3011004 (5th Cir. July 24, 2012); see 29 U.S.C. § 253 (“Any cause of action under the Fair Labor Standards Act . . . may hereafter be compromised in whole or in part, if there exists a bona fide dispute as to the amount payable by the employer to his employee”). Moreover, the Martin court affirmed the plaintiffs’ release of their FLSA claims even though the settlement agreement had not been approved by a court or the Department of Labor.

In Martin, the plaintiffs were lighting and rigging technicians on the set of movie being filmed in Louisiana. The plaintiffs were represented by a union for theatrical stage employees; the union was the exclusive representative of the employees in bargaining with the employer production company. The plaintiffs filed a grievance against the production company alleging that they had not been paid for hours worked. After investigating, however, the union determined it would be impossible to verify the plaintiffs’ hours and determine whether they had actually worked on the days in question. Thereafter, the union and the production company entered into a settlement agreement pertaining the disputed hours allegedly worked by plaintiffs. The plaintiffs received settlement checks and cashed them. Before the settlement agreement was finally executed, however, the plaintiffs filed a lawsuit against the production company for the unpaid hours under the FLSA. After executing the settlement agreement with the union, the production company moved for summary judgment arguing that plaintiffs had released their claims pursuant to the union’s settlement agreement; the district court granted the motion.

The Fifth Circuit affirmed holding that the union’s settlement agreement released plaintiffs’ FLSA claims. Although the Supreme Court has held that individuals may not release wage claims under the FLSA without approval from the Department of Labor or a court, the Martin court relied on those same decisions to exempt the situation where employees and employers had a bona fide dispute about the amount of time worked. See Brooklyn Sav. Bank v. O'Neil, 324 U.S. 697, 714 (1945) (“Our decision ... has not necessitated a determination of what limitation, if any, Section 16(b) of the [FLSA] places on the validity of agreements between an employer and employee to settle claims arising under the Act if the settlement is made as the result of a bona fide dispute between the two parties, in consideration of a bona fide compromise and settlement.”); see also D.A. Schulte, Inc. v. Gangi, 328 U.S. 108, 114–15 (1946) (“Nor do we need to consider here the possibility of compromises in other situation which may arise, such as a dispute over the number of hours worked or the regular rate of employment.”).

By the Martin decision, the Fifth Circuit also distinguished the reasoning of the Eleventh Circuit, suggesting that the Supreme Court may one day take up this issue. See Lynn's Food Stores, Inc. v. U.S. By & Through U.S. Dept. of Labor, Employment Standards Admin., Wage & Hour Div., 679 F.2d 1350, 1354 (11th Cir. 1982) (“[T]o approve an ‘agreement’ between an employer and employees outside of the adversarial context of a lawsuit brought by the employees would be in clear derogation of the letter and spirit of the FLSA.”). For now, employers in the in the Fifth Circuit states of Louisiana, Mississippi, and Texas should take note of Martin and consider whether to privately settle employees’ disputed FLSA claims.

Practical Tip

Implementation of Flex Time or Time Away Policies

Flex time or time away policies appear to be gaining popularity among California employers. Under traditional vacation policies, employees are allotted a specific amount of paid vacation (typically based on seniority and level) on an annual basis per company policy, and employees then accrue that vacation as they work. Under a flex or time away policy, on the other hand, employees are not given any specific paid vacation allotment. Rather, they are provided paid time off as needed or desired, so long as employees are also completing their work. Under such a policy, employees do not accrue vacation days or maintain balances. Accordingly, an employer arguably need not provide paid vacation at termination because California Labor Code section 227.3 applies only when a contract of employment or employer policy provides for paid vacations. Because a flex time or time away policy does not allot any specific amount of paid time off, vacation should not be deemed “vested” within the meaning of the California Labor Code. See Drumm v. Morningstar, Inc., 2009 WL 2612311 (N.D.Cal. 2009) (“vacation at Morningstar does not “vest” within the meaning of the California Labor Code, and [plaintiff] Drumm has no claim for accrued and unused vacation under Morningstar's time off policy).

Employers interested in adopting a flex or time away policy should consider whether such a policy fits within the culture of the company and whether employees in the organization can be held accountable for managing their own time off. Additionally, adoption of such a policy is not without risk, as there are numerous potential legal issues. For example, employers should consider the following:

  • Consider the eligible population. Flex or time away policies work best with an exempt population, and perhaps only the highest level of exempt employees, for several reasons. First, these employees are typically at the top of the vacation allotment scale, but at the same time, are often the least likely to take significant amounts of vacation given the demands of the job. Second, exempt employees are compensated based on the work that they produce and/or the goals they meet, which they are expected to do regardless of the amount of time they spend away from work. This is typically not the case for non-exempt employees, who are compensated based on the number of hours they work. Finally, flex or time away policies allow employees more freedom to take time off without worrying about whether they have sufficient accrued vacation to cover an absence at that particular time, and a company may, for that reason, want to limit the policy to its exempt employees
  • Create clear communications. It is imperative that communications regarding the new policy are carefully worded. An employer should avoid referring to the time away as “vacation” to avoid running afoul of the obligations created by Labor Code section 227.3, and may also wish to refrain calling it an “unlimited” time off policy, which is likely to create an unrealistic expectation among the affected employee population.
  • Give due consideration to treatment of existing accrued time banks. For the reasons mentioned above, a California employer may not simply take away employees’ accrued vacation banks. Thus, when the transition occurs, an employer must decide what to do with those existing banks. Many employers adopting flex or time away policies have decided to cash out all accrued balances at the time the new policy becomes effective. Other options consist of allowing employees to draw down their accrued balances prior to implementation of the new policy, maintaining the accrued balances and cashing them out at termination, or some combination of these options.
  • Determine how the company will handle leaves of absence. Employers should also give serious consideration to how they will coordinate the flex or time away policy with other paid and unpaid leave benefits, such as FMLA, CFRA, military leave or pregnancy leave. An employer must clearly provide how such leaves will coordinate with the flex or time away policy and whether employees will be entitled to any paid time off during such leaves.
  • Promote fair and consistent administration. Failure to administer a flex or time away policy in a consistent manner may lead to perceptions of favoritism or arbitrariness, which increases the risk of discrimination claims. Training and educating management regarding the need for fair and consistent enforcement of the policy is therefore imperative.

Given the myriad of potential issues created by the adoption of a flex or time away policy, we recommend consulting outside counsel to assist with the process.