What You Need To Know About The Law On Retrenchment Of Employees

24 January, 2016


Will the last one to leave please turn off the lights?



There has been a wave of retrenchments in Malaysia, which started last year and looks to continue through 2016. Malaysia’s Human Resources Minister says that his ministry expects retrenchments to continue into 2017.


According to the Malaysian Employers’ Federation (MEF), more than 20,000 employees were retrenched in 2015 (as at September 2015). Comparatively, the figure for the entire 2014 was 10,000 employees. The MEF predicts that it will only get worse in 2016.


Although the steepest increase in retrenchment numbers are in the oil and gas industry, the banking industry has also seen several retrenchment exercises or voluntary separation schemes being implemented. The legal industry has also been affected, with many medium and big law firms either downsizing or freezing hiring.

Let’s take a quick look at the law related to retrenchments. As an employer, when can I retrench employees? Am I free to choose which employees to let go? How much do I have to pay them as severance? As an employee, what are my rights? Can I challenge a retrenchment?

> What is retrenchment?


First of all, what’s a ‘retrenchment’? A retrenchment happens when there is a redundancy — when an employer has more employees than it needs.


The following are some of the common reasons which cause redundancies to occur:


  • The company experiencing financial difficulties.
  • A reorganisation of the workforce to increase efficiency or cut costs.
  • The shutting-down or termination of products or services which are unprofitable.
  • A surplus of employees following a merger due to employees from each entity performing similar tasks.
  • A decision to outsource certain tasks or entire departments to external service providers.

> The management’s right to decide on reorganisation


Malaysian courts have taken the clear and settled position that it is the prerogative of the management to decide on the reorganisation of its business.


The courts will not intervene with the management’s decisions in this respect, as the courts are not in a position to decide how many employees a company should have.


However, the court will intervene if it is shown that the employer’s decision was not genuine, such as where it was a termination disguised as a redundancy, or where the affected employees were victimised or selected to be retrenched for unfair reasons.


> How employees are selected for retrenchment: the LIFO principle


An employer cannot randomly choose which employees to be retrenched. It is almost mandatory that the LIFO principle (‘last in, first out’) is followed, though exceptions are possible depending on the circumstances.


The LIFO principle means that the most junior employee must be retrenched first. It is not the most junior employee in the entire company which has to be retrenched first, but the most junior employee in the relevant category. For example, if the retrenchment is due to the outsourcing of accounting services, employees in the legal department would not be included in the pool.


> Giving notice of retrenchment


The employer must give the affected employees a notice of retrenchment. The notice period is based on the employment contract or collective agreement, and employees who fall within the scope of the Employment Act (EA) — there are various factors which determine whether an employee is covered by the EA, but generally these are employees whose monthly earnings are not more than RM2,000 — are entitled to the minimum notice period in the EA.


It’s advisable to consult or inform employees of a potential retrenchment as soon as possible.


Employers are also required to submit a written notification (PK Form) to the nearest Department of Labour at least 30 days before conducting a retrenchment exercise.


> Termination benefits payable upon retrenchment


The right of an employee to a termination benefit upon retrenchment depends whether or not he is covered by the EA.

An employee who falls within the scope of the EA is entitled to termination benefits if he has been employed for at least 12 months. The termination benefits payable are as follows (or the amount in the employment contract if it is higher):


  • 10 days’ wages for every year of employment if he has been employed for less than two years;
  • 15 days’ wages for every year of employment if he has been employed for two years or more but less than five years; or
  • 20 days’ wages for every year of employment if he has been employed for five years or more.

An employee who is not covered by the EA is only entitled to termination benefits if it is provided in his employment contract. If the contract is silent, then it is up to the employer whether or not to pay termination benefits, and how much to pay.


Employers who are carrying out a retrenchment due to serious financial difficulties may also be excused from paying retrenchment benefits.


> Recourse for employees who have been unfairly retrenched


Some employers may carry out a termination disguised as a retrenchment as a way of dismissing unwanted employees. Employees who feel that they have been unfairly retrenched can bring a claim against the employer.


In deciding whether or not the retrenchment was justified, the court will consider the following two key questions:


  1. Firstly, was there an actual redundancy which justified a retrenchment? This will depend on all the relevant facts based on the reason given by the employer for the retrenchment. For example, if a human resources manager is retrenched, and the employer hires another human resources manager to perform the same work functions a month after the retrenchment, it is likely to be concluded that there was not a genuine redundancy.
  2. Secondly, if a retrenchment was justified, was the employee-selection process fair? This goes back to the LIFO principle discussed earlier, and will also involve consideration of whether the employee pool/category was properly defined.

If the court decides that the retrenchment was unfair, the employer will be ordered to reinstate the employee or pay compensation in lieu of reinstatement.


> The Code of Conduct for Industrial Harmony — a guide for employers considering retrenchment


Although it is not legally-binding, the Industrial Court encourages employers to comply with the Code of Conduct for Industrial Harmony which was issued in 1975.


The Code recommends that, where redundancy is likely, an employer should take positive steps to avert or minimise reductions of workforce by adopting appropriate measures such as —


  • limitation on recruitment;
  • restriction of overtime work;
  • restriction of work on weekly day of rest;
  • reduction in number of shifts or days worked a week;
  • reduction in the number of hours of work;
  • re-training and/or transfer to other department/work.

Where a retrenchment becomes necessary, the Code encourages employers to take the following measures:


  • Giving as early a warning as practicable to the affected employees.
  • Introducing schemes for voluntary retrenchment and retirement and for payment of redundancy and retirement benefits.
  • Retiring workers who are beyond the retirement age.
  • Assisting workers to find alternative employment.
  • Spreading the termination of employment over a longer period.
  • Ensuring that the employees are informed or consulted before a formal announcement is made.

The Code also recommends that the employer should select the employees to be retrenched based on an objective criteria, and that retrenched employees should be given priority to be re-employed by the employer if the employer decides to employ workers again in the future.


Non-compliance with the Code will not mean that a retrenchment will be deemed to be unfair, but employers should try to comply with the Code where possible because the recommendations in the Code are good practice, and it could also strengthen the position of an employer if an employee brings an unfair dismissal claim as a result of the retrenchment.


Written by Marcus van Geyzel