Commercial Contracts – should there be a duty to act in good faith?

As English law currently stands, there is no general overriding principle of good faith in contractual performance which will be applied by the UK courts in the absence of an express term of good faith.

Therefore, if there is no express term of good faith in a contract, an aggrieved party must look to implied terms if it is to succeed in a claim. Where contracts are of a relational nature i.e. long-term relationships which rely on loyalty and co-operation, the U.K. courts will routinely imply a duty for parties to act in good faith (see Johnson v Unisys Ltd [2003] 1 AC 518, Bristol Groundschool Ltd v Intelligent Data Capture Ltd [2014] EWHC 2145 (Ch) and Hamsard 3147 Ltd v Boots UK Ltd [2013] EWHC 3251 (Pat).

In all other contracts, the U.K. courts are prepared to imply a term of good faith only where a contract confers a discretion upon a party. This approach was first considered in the case of Socimer International Bank Ltd v Standard Bank London Ltd [2008] EWCA Civ 116 in which the Court of Appeal found that such an implication was necessary by reason of “concepts of honesty,good faith and genuineness, the need for the absence of arbitrariness,
capriciousness, perversity and rationality”. Since then a number of cases have applied this approach to contracts which confer a discretion upon a party, most recently in Braganza v BP Shipping Ltd [2015] 1 WLR 1661 and Property Alliance Group Limited [2016] EWHC 3342 (Ch).

In the Supreme Court case of British Telecommunications Plc v Telefonica 02 UK Ltd [2014] UKSC Lord Sumption said: “As a general rule, the scope of a contractual discretion will depend on the nature of the discretion and the construction of the language conferring it. But it is well established that, in the absence of very clear language to the contrary, a contractual discretion must be exercised in good faith and not arbitrarily or capriciously. This will normally mean that it must be exercised consistently with its contractual purpose”. The effect of this is akin to a default rule to act in good faith in every contract which confers a contractual discretion.

Whilst the U.K. courts are increasingly prepared to imply a term of good faith where a contract confers a discretion, there is considerable reluctance
towards introducing a default duty of good faith applicable to all commercial contracts which are silent on good faith.

This question of introducing such a duty was first addressed four years ago by Mr Justice Leggatt in the case of Yam Seng Pte Limited v International Trade Corp Ltd [2013] EWHC 111 (QB). Since then, a number of judges have expressed a degree of scepticism of introducing an overriding duty of good faith. For example, in MSC editerranean Shipping Co v Cottonex [2015] EWHC 283 (Comm), Lord Justice Moore-Bick argued against introducing a general duty of good faith: “the etter course is for the law to develop along established lines rather than to encourage judges to look for what the judge in
this case called some ‘general organising principle’ drawn from cases of disparate kinds”. He warns that a general principle of good faith could be used to undermine the terms of an agreement reached between contracting parties rather than to
support it (see [2016] EWCA Civ 789).

In Hamsard 3147 Ltd v Boots UK Ltd [2013] EWHC 3251 (Pat),Mr Justice Norris puts forward the concern that an obligation of good faith would require a party to elevate the interests of the other party above its own commercial interests.

However, good faith requires loyalty to the agreement rather than to the other party in contrast to fiduciary duties. Therefore, it would seem that objections to a duty to act in good faith on this basis are misconceived.

In a recent lecture given by Mr Justice Leggatt to the Commercial Bar Association, he set out a number of advantages of introducing a duty of good faith. Firstly, he argues that values of loyalty to common purpose of contract and abiding by reasonable commercial standards of fair dealing are key to protecting the integrity of the contractual and that a duty to act in good faith would both preserve these values and heighten their importance. Secondly, it could reduce the cost of contracting by reducing the need for complex documents and the risk for parties entering into short form contracts. Thirdly, a number of common law and civil systems around the world have introduced a duty to perform contracts in good faith namely, the U.S., Canada, Australia and France and the U.K is ‘swimming against the tide’.

In spite of Mr Justice Leggatt’s persuasive arguments, it seems that the only hope for introducing a duty to act in good faith in all commercial contracts comes from Lord Sumption’s comments in British Telecommunications Plc v Telefonica 02 UK Ltd [2014] UKSCwhich, if supported by other senior commercial judges, could result in a default duty to act in good faith when exercising a contractual duty. This in turn could lead to backing for a default duty to perform all commercial contracts in good faith.

For more information and advice on this topic, please contact Ruhi Sethi-Smith, a commercial barrister at Forum Chambers, on 0203 735 8070 or at
rsethi-smith@forumchambers.com

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