Peter Duckitt gives advice on managing capability procedures without facing a tribunal for constructive dismissal.
You need to tread carefully in speaking to this chap to make sure that he cannot claim you are saying “resign or be dismissed” or giving him grounds for claiming constructive dismissal.
It sounds as if relationships between the manager and the employee are strained. You say there has already been one heated meeting; so you need to avoid any more. That probably means either you (or your manager) needs to be present at the next meeting.
I would start to go down the capability route before raising the prospect of compromise agreements. That way he will see that you are serious in your concerns and you will be less likely to compromise your position if you subsequently have to fire him or if he decides on the constructive dismissal route.
I believe it does not matter that you do not have a written procedure (although you ought to have one) as long as you go through the reasonable stages you would expect in such a procedure – ie identifying the standards required, how they are not being met, what needs to be done to put it right, timescale, consequences of not meeting the standards (ie next step in procedure) and appeal process.
You probably (hopefully!) have a disciplinary procedure – so if you follow that format you should be OK. In both cases (capability and discipline) the procedures are there to ensure that a reasonable warning process has been followed. The only thing you need to ensure is, if you reach the stage of dismissal that you have complied with the statutory minimum procedure for the actual dismissal.
Once you have started the warning procedure (ie once the first meeting is out of the way) you will have made your intentions/requirements very clear, formally. I suggest that, in the first instance, you leave it to the employee to raise any discussion about compromise agreements (without prompting). If he does not and things are subsequently not going well and you still want to pursue it (as i guess his manager and managing director will probably want) then, if it were me (in HR), I would ask him (one-to-one) what outcome he envisaged and see if he raises compromise agreement at that time. If he does not then you will have to continue with the warning process.
Having said all that, it sounds to me as if you should wait until your manager returns before you approach the employee but, in the meantime, talk the employing manager through the above thoughts (if you agree with them!).