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Is Termination by Forced Ranking Legal?

2020-07-06

Authors: Li Hao, He Lian
Translators: Normand Gauthier, Su Yiwei

1. Case presentation and analysis
1.1 The case[1]
Yan entered Company A in January 2007 as a Coordinator. Around 2013, Company A formulated the "Management System for Coordinators" and "Assessment Measures for Coordinators" and incorporated it into the system, which was distributed to each employee and the Company organized related trainings many times. At the beginning of 2016, the Company evaluated the employees' work in 2015. On January 29, 2016, it was confirmed that Yan's 2015 work evaluation result was the fourth lowest with a ranking of 33rd. At the beginning of February 2016, Yan was verbally dismissed according to the above system.

Yan filed for labor arbitration on September 11, 2018, and was found inadmissible by the Labor Commission for exceeding the statute of limitations. Then he filed a lawsuit with the People's Court on September 18, 2018. After hearing the case, the People's Court determined that Company A unilaterally terminated Yan's labor contract using the forced ranking method, which is an illegal termination, and should pay Yan compensation for illegal termination.

Forced Ranking: “performance evaluation systems in which organizations require set percentages of employees to be ranked in specific categories… Such systems are used by companies to identify, reward and weed out top and bottom performers.[2]

1.2. Analysis of the legal risk of forced ranking
The forced ranking adopted by enterprises is generally divided into two situations. The first is internal, that is, through system regulations or contractual agreement to reduce pay by transferring to a post with a lower salary. The second is external, terminating the labor contract of the employee ranked at the bottom of the assessment. In the above case, Company A adopted the second approach and the People's Court judged that it was an illegal termination of the labor contract. It can be seen that this external approach is contrary to the law and has considerable legal risks:

1.2.1 Illegal termination
On November 30, 2016, the "Minutes of the Eighth National Civil and Commercial Trial Working Conference (Civil Part)" promulgated by the Supreme People's Court made it clear that "when employers unilaterally terminate the labor contract on the basis of forced ranking, competition for positions or other similar forms within the labor contract period, the employee may request the employer to continue to perform the labor contract or pay compensation on the ground illegal termination."

1.2.2 Illegal requirements
In the above case, Company A dismissed Yan according to the rules and regulations formulated by the employer. The rules and regulations have been democratically promulgated and announced to Yan. However, legal procedures do not necessarily lead to legal and effective regulations. It is a legal risk to stipulate in the enterprise’s rules and regulations that "the unit has the right to directly and unilaterally terminate the labor contract of the employee with the lowest performance assessment". Even if the rules and regulations have gone through legal procedures, the provisions will be invalid since the content violates the law. Thus, the termination of the labor contract is an illegal termination.

2. Incompetency versus forced ranking
In practice, most companies do not realize that they are unlawfully rescinding the labor contract. They believe that the incompetency assessment of employees based on forced ranking will apply to the "incompetent for the position" clause of the Labor Contract Law of the People’s Republic of China and allows to unilaterally terminate the labor contract. However, is the assessment of the employees based on forced ranking the same as "incompetent for the position"?

On November 8, 2013, the Supreme Law promulgated the Guiding Case regarding Wang Peng (No. 18), a labor dispute caused by the enterprise's determination of employees' incompetence using the forced ranking approach. In the judgment, it was concluded that "being the lowest in the assessment results" cannot be equal to "incompetent for the position". In practice, there still remains considerable doubts on the definition and determination criteria of "incompetent for the position" by the enterprises.

For most corporate management, "competent for the position" means that employees need to perform their tasks well, and being excellent means exceeding average. Therefore, the employees ranked at the bottom of the assessment are defined as "incompetent for the position". This is not the case, "competent for the position" represents the completion of work. Employees at the bottom of the performance appraisal ranking simply represent the position of the performance in the same unit or position. Whether they are qualified for the job is obviously different in nature and should not be confused with rankings. For example, most of the company's 30 employees have assessment scores above 90 out 100, while one has only 80 points and ranks last. This 80-points employee may also be competent even if not as good as other employees. It is obviously unreasonable and illegal for an enterprise to terminate employees directly with this performance appraisal. It can be seen that these two concepts belong to two completely different evaluation systems. Their evaluation criteria and objects are different, and not suitable for comparison. Moreover, they cannot replace each other in terms of usage. Positioning employees "incompetent for the position" based on being ranked last in the performance appraisal cannot be supported at the legal and factual levels.[3]

In addition, although the law gives enterprises the right to autonomous management and to stipulate the assessment criteria for "incompetent for the position" according to their own needs, the practice is different. In judicial practice, the judge determines whether the employee is incompetent, and will objectively assess the scoring standards or performance goals of the performance evaluation system, comprehensively measure the employee's fitness with the position, and focus on reviewing the objective factor. Therefore, enterprises should pay attention to the rationality when formulating the evaluation standard of "incompetent for the position".

3. Designing a legal and effective system
The original intention of the forced ranking is to encourage employees to always maintain a sense of crisis that motivates them indefinitely, to create an elite team and to improve the competitiveness of the enterprise. The "vitality curve" proposed by the former CEO of General Electric, Jack Welch, has a 10% elimination rate and brings the incentive of forced ranking to the extreme. The key to an effective performance management incentive system lies in its legal design:

3.1 Evaluation mechanisms
Efficient evaluation mechanism of employee performance and ability assessment must be based on the improvement of employees' work ability, corporate culture training and career development, so as to improve employees' work enthusiasm. The assessment should set scientific and quantifiable evaluation indicators, improve the operability, objectivity and accuracy of the evaluation, and ensure the fairness and justice of the evaluation system. The purpose of evaluation is nothing more than rewarding employees who have contributed and punishing employees who performed poorly. Therefore, all appraisal must ultimately serve performance bonuses and motivate employees with the increase or decrease of performance bonuses. In addition, to complete the final performance bonus design, companies must first investigate the requirements of employees, analyze the work intensity, conditions, and environment of different positions.[4]

3.2 Use forced ranking cautiously
As a negative performance management incentive system, the forced ranking is not applicable to all industries and positions. If the enterprise is facing redundancy and low work efficiency, it may consider adopting forced ranking as an incentive, and follow legal procedures:

3.2.1 Internal elimination
The forced ranking system itself is a double-edged sword. If there is no objective, fair and scientific performance management evaluation system, implementing the forced ranking will only create an atmosphere where employees follow the “law of the jungle", the survival of the fittest; this creates anxiety and restlessness, destabilizing labor relations. Never stipulate that the company have the right to unilaterally terminate labor contracts, for the employees in the bottom tier. It is recommended that companies can use a variety of "internal elimination" methods in the system to create incentives. For example, the assessment system provides that, for employees in the bottom tier, the company has the right to impose training, adjust position and other detailed operations. However, it should be noted here that, when changing an employee’s position, the enterprise must still consider whether the new position matches the employee's skills.

3.2.2 External elimination
For employees who are ranked in the bottom tier and are deemed to be incompetent for the position by the enterprise, they must be provided with relevant training or have their position adjusted. Afterward the assessment procedures are reset and there must be a second assessment. Those who pass the second assessment can keep their employment. For those fail the second assessment, the enterprise has the right to terminate the labor contract on the grounds that the employee is incompetent for the position; however, the company must pay a severance payment.

3.2.3 Protected employees
On the basis of achieving a legal performance appraisal system and external elimination, it is necessary to pay attention to protected employees as they cannot be terminated for being incompetent for their position. According to article 42 of the Labor Contract Law of the People’s Republic of China, the following categories of employees enjoy some additional protections from termination:
 

(…)

1.    is engaging in operations exposing him to occupational disease hazards and has not undergone an occupational health check-up before he leaves his position, or is suspected of having an occupational disease and is under diagnosis or medical observation;

2.    has been confirmed as having lost or partially lost his capacity to work due to an occupational disease or a work-related injury during his employment with the employer;

3.    has contracted an illness or sustained a non-work-related injury and the prescribed period of medical treatment has not expired;

4.    is a female who is in her pregnancy, confinement, or nursing period;

5.    has been working for the employer continuously for not less than 15 years and is less than 5 years away from his legal retirement age;


[1] 广饶县人民法院(2018)鲁0523民初3959号民事判决书
Guangrao County People's Court (2018) Civil Judgment No. Luzhi 0523 Minchu 3959

[2] Victor Lipman (2012-07-19), The Pros and Cons of Forced Rankings: A Manager’s Perspective. Forbes. Retrieved from https://www.forbes.com/sites/victorlipman/2012/07/19/the-pros-and-cons-of-forced-rankings-a-managers-perspective/#f30a2e870b6c

[3] 姜佳慧:《论劳动合同解除中的不能胜任工作》,载《牡丹江大学学报》2018年第27卷第12期。
Jiang Jiahui: "On the "Unable to Work" in the Termination of Labor Contracts", Journal of Mudanjiang University, Vol. 27, Issue 12, 2018.

[4] 庞江:《试论人才管理和末位淘汰———以三国故事庞统上任为例》,载《商讯》2019年第28期。
Pang Jiang: "On the Management of Talents and Elimination of the Last Place-Taking the Story of the Three Kingdoms "Pang Tong's Taking Office" as an example, contained in "Business News" No. 28, 2019.

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