Docking commissions for negative sales growth okay under New York, California law

By Joy Waltemath

By Dave Strausfeld, J.D.

Under New York and California wage laws, it was not unlawful to dock a sales rep’s commissions for negative sales growth on an account, held the Seventh Circuit, in a putative class suit against a healthcare products company headquartered in Illinois. Factoring in year-to-year sales declines as part of the commission calculation was “a valid means of incentivizing their salespeople to grow business year over year in their assigned territories,” and the parties had contractually agreed the company “could use both the carrot and the stick in promoting growth,” the appeals court wrote, in affirming summary judgment against the two named plaintiffs’ individual claims (Cohan v. Medline Industries, Inc., December 9, 2016, Flaum, J.).

Sales reps’ argument. The two sales reps who filed this putative class action asserted that their employer made deductions from sales commissions in violation of state wage laws. They argued that if salespersons failed to grow sales on an account year over year, they simply should have earned zero commissions, rather than having their other commissions reduced.

Specifically, if a salesperson had negative net growth on an account, this would result in a negative commission, which was then subtracted from any positive commissions. This docking occurred even if the reason for the decline in year-over-year growth was outside the sales rep’s control (e.g., if sales fell due to a natural disaster, or if sales had already been in decline before being assigned to a sales rep’s territory).

New York law. One of the named plaintiffs was assigned a territory in New York, so the Seventh Circuit began by discussing New York law, explaining that a wage violation occurred under the New York Labor Law if the company failed to pay commissions that were earned. Thus a key question was how the parties’ contract defined whether and when commissions were “earned.”

New York’s highest court addressed a similar issue in Pachter v. Bernard Hodes Grp., Inc., approving the use of a “downward adjustment” in calculating commissions based on evidence the parties had an implied contract to make deductions for certain business expenses. “Like the business expenses in Pachter,” the Seventh Circuit observed, the healthcare products company’s “accounting for negative growth was part of the calculation of what commission was to be ‘earned,’ per the agreement of the parties.”

In other words, there was no wage violation here unless the company withheld commissions that were earned, and under the parties’ contractual understanding, commissions were not “earned” until the growth calculation was completed. This meant the company did not unlawfully withhold any commissions here, because it was merely factoring in growth in deciding what commissions were earned.

California law. The other named plaintiff’s sales territory was in California, and she was able to assert a “somewhat more persuasive” challenge to the company’s method of calculating commissions. She relied on two California appellate decisions, Hudgins v. Neiman Marcus Grp., Inc. and Quillian v. Lion Oil Co., which “establish that employers cannot shift general business losses onto their employees.”

As in those cases, the company’s commission policy here arguably insured “itself against business declines to some extent.” However, in contrast to the policy of a department store in Hudgins that prorated unidentified returns across all sales associates in the department, and the policy in Quillian that reduced gas station managers’ incentive bonuses for cash/merchandise shortages without regard to who was responsible for the shortages, in the present case, each commission was specifically tied to the territory assigned exclusively to that sales rep. “This tethering of commissions to growth within each salesperson’s territory thus lessens the concerns about unfairness underlying the reasoning and holdings in Hudgins and Quillian,” the Seventh Circuit concluded. Moreover, the company’s practice here appeared more akin to accounting for identified returns of merchandise, which Hudgins found lawful.

In sum, unlike the commission schemes in Hudgins and Quillian, the company’s “inclusion of negative growth in its commission calculation was not an unlawful deduction in disguise, but rather a valid means of incentivizing their salespeople to grow business year over year in their assigned territories.” The parties had contractually agreed the company “could use both the carrot and the stick in promoting growth,” the Seventh Circuit stressed, in affirming dismissal of the two sales reps’ individual claims.

Source:: Employment Law Daily Newsfeed