Legalese – Good faith in contracts

English law does not generally recognise any general duty to perform contracts in good faith. However, a duty of good faith has been implied in contracts of partnership, agency and other agreements involving fiduciary obligations.

Case law indicates that to some extent, English courts are willing to give effect to express obligations in contracts to act in good faith. For example, in Berkeley Community Villages Ltd and another v Pullen and others (2007), the court held that the good faith obligation required the parties to ‘observe reasonable commercial standards of fair dealing in accordance with their actions which related to the Agreement’. Whereas, in Gold Group Properties Ltd v BDW Trading Ltd (2010), the court held that an obligation to act in good faith would not ‘require either party to give up freely negotiated financial advantage clearly embedded in the contract’.

The view of English courts that have considered arguments of good faith suggests that once a contract has been entered into, the parties will have freely negotiated its terms and therefore, unless expressly provided for, such a good faith duty should not be implied by the courts. English law has not historically recognised such implied duty as a principle of general application, principally because of the desire to avoid uncertainty, and the need to preserve parties’ freedom to pursue their self-interest both in negotiations and performance, subject to the terms of the contract. The recent High Court decision in Yam Seng Pte Limited v International Trade Corp Limited [2013] EWHC 111 (QB) (‘Yam Seng’) appears to have created some in-roads into this position.

The Yam Seng case involved a distribution agreement between a supplier of Manchester United branded fragrances and toiletries, and a Singapore-registered distributor, pursuant to which the supplier granted the distributor exclusive rights to distribute these products in certain markets. The distributor claimed that the supplier breached an implied duty of good faith, by failing to ship orders promptly, failing to make products available, undercutting agreed prices and providing false information. The distributor contended that there was an implied term in the agreement requiring the parties to deal with each other in good faith. The High Court agreed and found in favour of the distributor.

The High Court noted that, although a duty of good faith was unlikely to be implied in all contractual relationships by default, in case of certain “relational contracts”, a duty of good faith may be implied. Such contracts are characterised by requirements of a high degree of communication, cooperation and predictable performance, based on mutual trust and confidence, and involve high expectations of loyalty which are not legislated for in the express terms of the contract but are implicit in the parties’ understanding and necessary to give business efficacy to the arrangements. Examples cited in Yam Seng include joint venture agreements, franchise agreements and long-term distributorship agreements.

The Court of Appeal has treated the decision in Yam Seng with a degree of caution and reluctance to extend the decision into a principle of general application. In the case of Mid Essex Hospital Services NHS Trust v Compass Group UK and Ireland Ltd (t/a Medirest) [2013] EWCA Civ 200 (‘Medirest’), the Court of Appeal endorsed the High Court’s observation in Yam Seng that there is no general doctrine of good faith in English contract law and such a duty could only be implied into limited categories of contracts. However the Court of Appeal did not endorse those sections of Yam Seng that decided that the distributorship agreement in question fell within such a category – rather, it is notable that that the Court of Appeal concluded that if contracting parties wish to impose a duty of good faith, they must do so expressly.

The Court of Appeal’s reiteration in Medirest that there is no general doctrine of good faith in English contract law, and their narrow interpretation of an express good faith obligation, provides some clarity following the Yam Seng decision. Nevertheless parties may be expected to try to rely on Yam Seng to widen the range of contracts in which an implied duty of good faith exists.

The following drafting notes should be borne in mind in view of the Yam Seng decision:

• Consider including a clause to exclude all implied warranties and conditions. However any such clause would have to be very explicit (further to the Medirest judgment), to the extent that it might indeed be commercially unpalatable ‘ and unacceptable ‘ to the counterparty.
• Particularly as regards ‘relational’ contracts, it would be good practice to specify the extent of duties in as much detail as possible. The more detail is expressly set out, the less scope there is for the operation of such uncertain a concept as good faith.