A leap of faith - the meaning of good faith in commercial contracts

There is no general obligation to act in good faith on contracting parties in English law, either in negotiation or performance of a contract. The English law approach is at odds with that of other jurisdictions. Most civil law jurisdictions (e.g. France, Germany and the Netherlands) recognise the duty of good faith as do some common law jurisdictions (e.g. US, Canada and Australia). 

To further complicate matters, duties of good faith can arise in certain areas of English law, such as agency, insurance, employment, partnership and consumer contracts. Such examples will not be considered in this article as the use of good faith in those situations remains distinct from commercial contracts.   

As for commercial contracts, the term is commonly found in dispute resolution clauses and contracts involving the future performance of parties, such as outsourcing contracts, joint ventures, construction contracts and lock-out agreements. 

Why doesn't English law recognise a general duty of good faith? 

English law does not recognise a distinct obligation to conclude and perform contracts in good faith for the following reasons: 

The desire to avoid uncertainty 

The courts are reluctant to recognise an undefined duty that would allow parties to refuse to honour a contract on the grounds of unfairness or breach of good faith. This would lead to uncertainty as to the validity and efficacy of commercial contracts. 

The need to preserve the freedom of the parties 

Commercial contracts should not be subject to general duties that force the parties to act a certain way. Each party to a contract should be entitled to act in accordance with their own commercial interests and their own self-interest, provided it remains in accordance with the underlying agreement.  

Is there an implied duty of good faith? 

It is rare for a court to impose an implied duty of good faith. Not only for the reasons outlined above but also due to the generally restrictive approach of implying terms into commercial contracts. On some rare occasions the courts have recognised an implied duty, which we set out below. 

Yam Seng Pte Ltd v International Trade Corp Ltd¹  

In this case, the judge highlighted that honesty, fair dealing, loyalty to the parties' intentions and shared values and norms of behaviour underpin certain "relational" contracts. In these contracts, a degree of trust and co-operation is required between parties, so much so that an implied doctrine of good faith can be given effect. Some examples of relational contracts include joint venture agreements and franchise agreements. 

Whilst this reasoning has been occasionally followed, further case law seems to have closed the door on the good faith doctrine being applied in this way in the future. 

MSC Mediterranean Shipping Company S.A. v Cottonex Anstalt² 

Here, the Court of Appeal made clear that there is no "general organising principle" of good faith in English law, stating that to recognise one, would risk undermining express terms that have been agreed by the parties. Therefore, despite the reasoning of Yam Seng, the situations where an implied duty could be applied remain very limited. 

Will the English courts enforce an express duty to negotiate in good faith?  

"The parties will act in good faith to finalise the legal agreements necessary to implement the transaction."

Generally, an agreement to negotiate in good faith, as seen in the drafting above, is not enforceable on the grounds that it is: 

• too uncertain to enforce as it is likely to be unclear when this duty has been breached;
• incompatible with the principle that parties should be free to advance their own interests when negotiating; and 
• too difficult to assess the damages for a breach of an obligation to negotiate, as the eventual outcomes of that negotiation cannot be seen. 

Despite this general position, the courts have identified provisions that could be characterised as an "agreement to negotiate" as enforceable. 

Petromec Inc v Petroleo Brasileiro SA³ 

In this case, the parties had agreed to negotiate in good faith on the cost of an upgrade to an offshore oil platform. The Court of Appeal held that an express duty to negotiate in good faith may be enforceable albeit in the following circumstances:  

• the obligation to negotiate in good faith is part of a contractually binding agreement; 
• the obligation to negotiate in good faith is an express obligation; and 
• the matter to be negotiated is capable of objective assessment by a third party. 

The dispute was capable of objective assessment because the negotiation for the cost of the upgrade was based on an amended specification against the original specification. Therefore, the court could identify the likely result of negotiations in good faith.  

Cable & Wireless Plc v IBM United Kingdom Ltd⁴ 

In this case, a dispute resolution clause included wording that the parties should resolve their disputes in good faith however the clause also made specific reference to an alternative dispute resolution process. As the good faith obligation made reference to a clearly defined mechanism to discharge the obligation, it does not fail on the grounds of uncertainty of enforceability of any breach.

What obligations can an express duty of good faith impose? 

"The parties will co-operate with each other in good faith to facilitate the performance of this Agreement." 

The commercial context will dictate how a court determines the scope and application of any good faith obligation. Some previous interpretations of express duties of good faith have included: 

• preventing action that frustrates the purpose of an agreement;⁵
• requiring disclosure of material facts to the other party;⁶
• prohibition of knowingly providing false information on which the other party will rely; and
• prohibition of  improperly accessing the other party's computer systems.⁷

There is no widely accepted definition of good faith in English law. The doctrine tends to be applied by the courts on an ad hoc basis in response to "demonstrated problems of unfairness."⁸  This can mean that the obligations the doctrine imposes on parties may vary. It can include:

• adhering to the spirit of a contract;
• observing reasonable commercial standards of fair dealing;
• being faithful to any agreed common purpose; and
• acting consistently with the justified expectations of the other party. 

What this means in practice though is open to interpretation by the courts and is heavily dependent on the commercial context and the specific details of the contract in question. 

Two cases that help to explain the position are: 

Mid Essex Hospital Services NHS Trust v Compass Group UK and Ireland Ltd⁹

Unlike the drafting points noted above,  the good faith clause in this case identified two specific purposes that the obligation should apply to. Therefore, the Court of Appeal outlined that this clause could not give rise to a general over-arching duty of good faith, it was instead limited to the purposes outlined in the clause.  

Bristol Rovers (1883) Ltd v Sainsbury's Supermarkets Ltd¹⁰   

The clause in this case required the parties to act in good faith in relation to their respective obligations in the agreement. This meant that the good faith obligation could not be used to require the parties to undertake actions that were not envisaged or specified by the agreement itself.   

These two cases highlight the importance of clear drafting when express obligations of good faith are being included in an agreement. Specifying the scope and content of the duty with precise instructions that outline what is required to satisfy the obligation, will reduce uncertainty at a later date and make it more likely that the clause will be enforceable. 

Due to the inherent uncertainty surrounding the court's interpretation of good faith clauses, there is some risk in relying on them, as parties to a contract are to a degree relying on the court's interpretation. As seen by the case law, a better approach is to ensure that commercial contracts are drafted with the requisite clarity, detail and precision needed to avoid the ambiguity brought about by a good faith clause.   

Notes:

1.  [2013] EWHC 111 (QB)
2.  [2016] EWCA Civ 789 
3.  [2005] EWCA Civ 891
4.  [2002] EWHC 2059 (Comm) 
5.  Berkeley Community Villages Ltd v Pullen [2007] EWHC 1330
6.  Horn v Commercial Acceptances
7.  Bristol Groundschool Ltd v Intelligent Data Capture Ltd [2014] EWHC 2145
8.  Interfoto Picture Library Ltd v Stiletto Visual Programmes Ltd [1989] 1 Q.B. 433
9.  [2013] EWCA Civ 200 
10.  [2016] EWCA Civ 160