The duty of good faith – should we be going with the flow or swimming against the tide?

Good faith is a concept that you may have seen in commercial contracts, but what does it mean and what are the implications for your business?

Here we look at how the concept may be applied to commercial contracts, either as an express term inserted by the parties or by implication in limited circumstances.

Express terms

Traditionally, the English courts have taken a stance that parties to a commercial contract should expressly set out a duty to act or negotiate in good faith if they wish to impose one. There is no general doctrine in English commercial contract law requiring parties to act in good faith in every contract.

Agreements to negotiate (or ‘agreements to agree’ on something in the future) have generally been held to be unenforceable. Recent case law indicates that such a clause is more likely to be enforceable when restricted in time and when it provides a detailed mechanism for negotiations measurable by objective criteria.

Implied terms

In recent years, judges have implied a duty of good faith in certain relational contracts, such as long term distribution arrangements, franchise, joint venture and construction contracts. If you are working with these contracts, which imply trust between parties, then it is likely you are subject to the implied duty of good faith.

The Yam Seng [2013] case concerned a long-term distribution agreement relating to Manchester United branded aftershave for sale at duty-free outlets. The supplier repeatedly misled the distributor and undercut it at non-duty-free outlets. The distributor terminated the contract for breach and claimed damages. The court implied a duty to act in good faith into the contract and held that the supplier had breached that duty, justifying the distributor’s termination of the contract. According to one of the judges in this case, a failure to recognise the duty in this context would be akin to “swimming against the tide”.

In Al Nehayan v Kent [2018], the High Court implied a duty of good faith in an oral joint venture contract. The court held that the claimant breached the implied duty by inducing the defendant to enter into agreements by duress (including alleged threats of physical violence), and that the defendant was entitled to damages for breach of contract.

In Bates v Post Office (No 3) [2019], the High Court held that the implied duty of good faith meant that the Post Office was under a general duty to refrain from conduct that reasonable and honest people would consider commercially unacceptable. Flowing from the implied duty, the High Court held that the Post Office owed specific obligations, including a duty to keep proper records and to investigate the cause of accounting shortfalls before claiming losses from sub-postmasters.

The High Court provided useful guidance for considering if a relational contract exists, by reference to a list of relevant factors including, but not limited to:

• no express terms inconsistent with an implied duty of good faith
• the contract is long term
• an intention that parties will perform their duties with integrity, consistent with the agreement
• a collaborative commitment
• spirit and objectives of the contract which cannot be exhaustively listed
• trust and confidence in one another
• a high degree of communication, cooperation and predictable performance based on mutual trust and confidence, and expectations of loyalty
• significant investment by at least one of the parties
• an exclusive relation.

In contracts where these factors are relevant, parties should take care to act in accordance with the implied duty of good faith.

Conclusion

This is an area which continues to develop through case law. Businesses must be aware that the scope of obligations imposed on them by express or implied duties of good faith will evolve with the latest judicial decisions. Those working with long term distribution arrangements, franchise, joint venture and construction contracts should be particularly aware of the implied duty of good faith.
Judges in English courts have recently been more willing to consider the stance taken in other jurisdictions where the duty of good faith is widely recognised when resolving disputes here. Perhaps the tide is turning.

For more information, please contact Kevin Mahoney on 01242 246 426 or at [email protected]