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NLRB and Federal Courts Clash Over Merit Pay and Flexible Benefit Proposals

December 31, 2003

As the cost of health insurance continues to rise, most employers find it necessary to reevaluate and refine their benefit packages on a regular basis in an effort to contain costs. In an ever more competitive economy, employers are always looking for ways to reward star performers and motivate others; merit pay plans often fit this bill. For years, the ability of unionized employers to accomplish these goals, in light of their duty to bargain under the National Labor Relations Act ("NLRA"), has been the subject of conflict between the National Labor Relations Board ("NLRB") and the federal courts. The debate continued in 2003.

A core principle under the NLRA is that an employer may not change terms and conditions of employment - referred to as "mandatory" subjects of bargaining, and which include pay and benefits - without bargaining with the union that represents its employees over such terms and conditions. At the same time, it is well settled under the NLRA that, after bargaining to a good faith impasse with the union, an employer has the right to unilaterally implement proposals concerning mandatory subjects of bargaining. The problem arises when an employer bargains over its right to give discretionary merit wage increases, or its right to make changes in its benefit plans during the term of the collective bargaining agreement, but the union refuses to give the employer this flexibility, and a good faith impasse results. May the employer then unilaterally implement discretionary merit increases or benefit plan changes?

Unilateral Implementation of Merit Wage Plans - an Illusory Right?

Generally, an employer that bargains over a proposal concerning wages may, at impasse, implement its final proposal. But, in a long series of decisions, the NLRB has ruled that an employer may not lawfully implement a proposal that, instead of providing for a fixed wage adjustment, reserves to the employer's discretion the right to award wage increases on the basis of individual merit or other criteria that have not been bargained for with the union.

This case law originated over a decade ago with Colorado - Ute Electric Assn., Inc., 295 N.L.R.B. 607 (1989), enforcement denied, 939 F.2d 1392 (10th Cir. 1991), where the NLRB created an exception to the "implementation upon impasse" rule. In that case, the NLRB ruled that, even after bargaining to impasse, an employer could not lawfully implement its merit pay proposal where: (1) the only criteria for increases would be the employees' "individual performance" and "contribution to their job"; (2) the proposal did not specify the timing of increases; and (3) the proposal excluded wage increase decisions from challenge under the grievance procedure. Finding that implementation of such a proposal violated the employer's duty to bargain under the NLRA, the NLRB reasoned that the employer could not lawfully reserve to itself the unfettered discretion to determine the amount and timing of future increases. On appeal, the United States Court of Appeals for the Tenth Circuit disagreed. The court found no NLRA violation because the employer's proposal to retain discretion over merit increases was a mandatory subject of bargaining, and therefore, a condition that could be implemented upon impasse. It observed that a contrary holding would effectively grant the union a veto over wage terms. That is, if an employer was denied the ability to implement a merit wage plan upon impasse, the union could permanently prevent the adoption of such a plan, just by saying no.

The next round in this debate played out over the course of seven years in McClatchy Newspapers, Inc., 299 N.L.R.B. 1045 (1990), enforcement denied, 964 F.2d 1153 (D.C. Cir. 1992) ("McClatchy I") and McClatchy Newspapers, Inc., 321 N.L.R.B. 1386 (1996), enforced, 131 F.3d 1026 (D.C. Cir. 1997) ("McClatchy II"). In that case, the employer's merit pay proposal: (1) guaranteed minimum wages; (2) based decisions as to increases on merit reviews; (3) provided for consideration of the union's comments on the reviews; (4) provided an appeal process in which the union could participate if requested to do so by the employee, but (5) exempted all decisions under the merit pay system from grievance and arbitration procedures. The proposal also did not specify the dates when the increases would go into effect. Upon reaching an impasse in bargaining, the employer proceeded to award wage increases to selected employees in accordance with its merit pay proposal.

The NLRB, in McClatchy I, relying upon its decision in Colorado Ute, found that the employer committed an unfair labor practice. The NLRB reasoned that implementation of the proposal, even after impasse, was unlawful because, in effect, it forced upon the union a waiver of the union's right to bargain over individual wage increases. The United States Court of Appeals for the District of Columbia Circuit found this waiver rationale unpersuasive, and remanded the case for further consideration by the NLRB. Thereafter, in McClatchy II, the NLRB made clear that an employer may bargain to impasse over a merit pay proposal that permits discretion over wage increases without limitations as to timing, criteria or the union's agreement; but the NLRB reiterated that the employer may not lawfully implement such a proposal, even after bargaining to a good faith impasse. The NLRB reasoned that implementation of such a proposal concerning the vital subject of wages is inherently destructive of fundamental principles of collective bargaining and inimical to the policies of the NLRA. The NLRB in McClatchy II also instructed that if an employer wishes to implement a merit pay system that affords it discretion to determine the amount of merit increases, it must include in its proposal "definable objective procedures and criteria" governing such increases and then negotiate over them to impasse.

The case was again appealed to the D.C. Circuit and this time the court enforced the NLRB's decision. The court emphasized "that the [NLRB]'s decision does not prevent an employer from implementing a merit pay proposal post impasse . . . so long as the proposal defines 'merit with objective criteria'." 131 F.3d 1026 (D.C. Cir. 1997).

The NLRB and court decisions in McClatchy II certainly appeared to provide a road map by which an employer, with proper bargaining, would be able to implement a merit pay plan. Both the NLRB and the court stated that, provided the employer bargains over the specific criteria that form the basis for the employer's determination of merit increases, the employer may implement its merit plan at impasse. Since then, however, the NLRB has been presented with several cases in which employers have implemented merit wage proposals affording them varying degrees of discretion; in none of these cases has the NLRB found that the terms of the proposal limited the employer's discretion to a sufficient degree to make the unilateral implementation of the proposal lawful under McClatchy II. The NLRB's decisions continue to receive a mixed reception upon review in the Circuit Courts. See, e.g., Liquor Industry Bargaining Group, 333 N.L.R.B. 137 (2001), enforced, 2002 WL 31236400 (D.C. Cir. Oct. 4, 2002) (finding violation where employer's proposal afforded it complete discretion to set wages and exempted wage decisions from grievance and arbitration procedures); Anderson Enterprises, 329 N.L.R.B. 71 (1999), enforced, 2001 WL 59043 (D.C. Cir. Jan. 9, 2001) (finding violation where employer's proposal gave it right to set hourly and flat rates, determine each employee's job classification, decide whether to transfer employees between job classifications, advance employees on the basis of "ability and performance" and, which, under one plan, exempted wage decisions from grievance and arbitration procedures); Detroit Newspaper Agency, 326 N.L.R.B. 700 (1998), enforcement denied, 216 F.3d 109 (D.C. Cir. 2000)(NLRB found violation where employer's proposal set forth the dates upon which increases would go into effect and the average amount of the increases, and permitted the union to grieve, but not arbitrate, the amount of the increases, but did not include criteria by which the amounts would be determined).

It was against this background that the NLRB issued its most recent decision in this area, Edward S. Quirk Co. d/b/a Quirk Tire, 340 N.L.R.B. No. 33 (2003).

In its first decision in the case, in 2000, the NLRB ruled that the employer violated the NLRA by unilaterally implementing a discretionary wage plan that provided that employees would be paid "at a base rate of not less than $8.90 an hour, however, the Company may continue its current marketplace pay practices for the [contract] term." In its decision denying enforcement of the NLRB's order, the United States Court of Appeals for the First Circuit remanded the case to the NLRB to provide "something more of a reasoned explanation of where it draws the line (with regard to the McClatchy exception) and why the line has been crossed in this instance." Edward S. Quirk Co. v. NLRB, 241 F.3d 41, 45 (1st Cir. 2001).

Following the remand, the NLRB in its 2003 Quirk decision adhered to its earlier decision that implementation of the employer's wage proposal was unlawful and declared that implementation of the proposal was illegal because it conferred on the employer the ability to make recurring unilateral decisions over employee wages, in particular by allowing the employer to "choose between marketplace pay and $8.90 per hour." The NLRB further explained that because the proposal contained the word "may" with respect to the determination of whether to pay each employee $8.90 an hour or marketplace pay, the company was reserving to itself the unfettered discretion to determine whether and when to increase wages and, in fact, whether to cut wages at any point to $8.90. The NLRB also reiterated its theme from McClatchy II that this kind of proposal would undermine the union's ability to bargain by creating uncertainty about prevailing terms and observed that, over time, the implementation of the proposal "could reasonably cause employees to conclude that the Union did not possess any real bargaining ability over the issue of wages."

The recent decision in Quirk demonstrates the NLRB's continued adherence to the McClatchy II exception to the rule that, after bargaining to a good faith impasse, an employer may unilaterally implement its proposal on a mandatory subject of bargaining. At the same, the decision also underscores the NLRB's continuing reluctance to find that an employer's merit pay proposal contains sufficient limits on an employer's discretion to pass muster under the McClatchy II standard.

McClatchy Extended: Securing Benefit Plan Flexibility

Many employers provide health insurance to bargaining unit employees by covering them under the same medical plan offered to the non-union segment of the employer's workforce. With respect to non-union employees, the employer always has the right to change the benefits, co-pays, or deductibles that exist in the plan to address increasing costs or changes in business circumstances. On the other hand, the employer may be precluded from making these changes for bargaining unit employees unless the collective bargaining agreement grants it the flexibility to do so. Employers seeking to obtain a contract provision granting such flexibility, however, face the same obstacle as those seeking to obtain a provision for discretionary merit pay plans. That is, the NLRB has extended the rule of McClatchy II to health care benefit proposals, and has ruled that, even after bargaining to impasse, an employer may not implement a proposal that gives an employer the right to modify health plans during the contract term.

In KSM Industries, 336 N.L.R.B. 133 (2001), for example, the NLRB found that the employer violated its duty to bargain by unilaterally implementing its medical and dental insurance proposal after reaching impasse. The employer's proposal reserved for itself complete discretion to make changes to the plan design, the level of benefits and the plan administration, provided that any changes applied company-wide (to bargaining unit and non-bargaining unit employees alike) and so long as the employer "discussed" (not "bargained") any changes with the union beforehand. Moreover, any changes to deductibles and coinsurance limits could not exceed specified dollar amounts. The NLRB found that this proposal, like the wage proposal in McClatchy II, "left no room for bargaining" between the company and the union and that it, therefore, "nullified the Union's authority to bargain over the existence and the terms of a key term and condition of employment." In extending its decision in McClatchy II, the NLRB noted that there was no reason to distinguish wages from health benefits since both are mandatory subjects of bargaining and both are considered an important term and condition of employment.

Early this year, an NLRB Administrative Law Judge ("ALJ") again applied the McClatchy II rationale and found that an employer unlawfully threatened to implement a proposal which reserved to the employer the discretion to make changes to its health insurance plan. The NLRB adopted the ALJ's conclusion but on different grounds, and therefore did not take the occasion to reaffirm the applicability of McClatchy II to the benefits area. Servicenet, Inc., 340 N.L.R.B. 148 (2003). Nevertheless, there is no reason to believe that the NLRB will change course anytime soon and permit employers to implement proposals reserving benefit flexibility.

Concluding Thoughts

Achieving contract provisions permitting merit pay or flexibility in benefit plans are legitimate goals, which an employer may insist upon even to the point of impasse. There remains a significant risk, however, that the implementation of such proposals over the union's objection (by the actual granting of merit increases or implementation of changes in benefits) will result in a finding by the NLRB that the employer violated its duty to bargain. Any employer seeking to incorporate merit pay or other discretionary elements into the wage or benefit provisions of its collective bargaining agreement should proceed with caution. In particular, to the greatest extent possible, an employer should incorporate defined, objective standards limiting the size, timing and criteria underlying merit increases and limiting the scope of the employer's discretion to modify benefits during a contract term. To this point, the NLRB has not endorsed an employer's unilateral implementation of a merit pay proposal containing these kinds of objective limits, but McClatchy II clearly indicates that unilateral implementation of a discretionary wage or benefits proposal may be lawful on this basis. Not only may the NLRB eventually sustain an employer's implementation of such a proposal, but an employer that follows this approach will greatly improve its chances of success on appeal of an adverse NLRB decision in federal court.