Under English law there is no general rule that a duty of good faith will be implied into all commercial contracts. This is for a number of policy reasons, including that parties should be able to pursue their own self-interest when entering into contracts, and an underlying fear of the uncertainty that such a general requirement might create. However, the last decade has seen a number of findings in cases which have been in contravention of this general rule. In this article we consider the ambiguity of the current position.
It is well known that under English law there is no general rule that a duty of good faith will be implied into all commercial contracts. This is for a number of policy reasons, including that parties should be able to pursue their own self-interest when entering into contracts, and an underlying fear of the uncertainty that such a general requirement might create.
However, the last decade has seen a number of findings in cases which have been in contravention of this general rule, leaving the position somewhat ambiguous. In the seminal case of Yam Seng Pte Ltd v International Trade Corp Ltd (2013), Leggatt J implied a duty of good faith into the contract under dispute. The dispute in this case arose out of a long-term agreement for the exclusive rights of the claimant to distribute Manchester United branded fragrances in parts of the Middle East and Asia. After the relationship had broken down, the claimant argued that there was an implied term in its agreement with the defendant that each party would deal with the other in good faith, which the defendant had breached. Leggatt J held that because this contract was ‘relational’, a duty of good faith was implied. In this context, a relational contract was a long-term agreement, which required the parties to communicate effectively and cooperate with each other in the performance of the contract, and deal with each other on the basis of mutual trust and confidence. He referred back to his judgment in Al Nehayan v Kent (2018), in which, with respect to an oral joint venture contract between the parties, he also held that a relational contract was in place and therefore an implied duty of good faith existed.
However, the discretion that judges have to imply good faith into contracts following the Yam Seng Pte case has been treated with a high degree of caution. By way of example, in Mid Essex Hospital Services NHS Trust v Compass Group UK and Ireland Ltd (2013), Jackson LJ noted that parties who wish to impose such a duty on one another must do so expressly. Even where an express term is included in the contract, the court may narrowly interpret its effect. An example of this was seen in TSG Building Services v South Anglia Housing Limited (2013). In this case, Akenhead J refused to imply a term that an unqualified right to serve notice to terminate a contract should be exercised in good faith even though the contract in question contained an express clause requiring the parties to work together in a spirit of trust, fairness and mutual cooperation. Finally, in the case of Greenclose Ltd v National Westminster Bank Plc (2014), Andrews J confirmed that “such a term [of good faith] is unlikely to arise by way of necessary implication in a contract between two sophisticated commercial parties negotiating at arms’ length”. Instead, she noted that the court would be more likely to imply a negative obligation (i.e., not to exercise duties in bad faith) and, even in those circumstances, the context would be vital.
The case of Marks and Spencer plc v BNP Paribas Securities Services Trust Company (Jersey) Limited and anor (2015), although not dealing expressly with the Yam Seng Pte case, appeared to clarify the position more generally regarding the law of implied terms. It was held that the discretion to imply terms was distinct from contractual interpretation and that terms should be implied only if they fulfil one of two traditional tests (being the ‘officious bystander’ test and the ‘business efficacy’ test). Even in circumstances where (at least) one of these tests is met, a term would be implied only after other interpretative efforts have been exhausted. The facts of this case were that, under the terms of the claimant’s four commercial leases, each lease contained a break clause. The particular lease referred to in the judgment contained a break clause which allowed the tenant to terminate the lease on 24 January 2012. The break clause could only be operated by giving the landlords six months’ prior written notice, and provided that, on the break date, there were no arrears of rent and the tenant had paid the landlords a break premium equivalent to one year’s rent. In early July 2011 the claimant served a break notice. The claimant also paid a full quarter’s rent and the break premium a few weeks later. As a result of those payments, the break notice was effective and the lease terminated on 24 January 2012. The claimant subsequently demanded a refund of the rent it had paid for the quarter following termination, arguing that a term should be implied for its entitlement to a refund for the rent paid in advance. However, Neuberger LJ held that no such term was to be implied based on the aforementioned tests. This appears to contradict the earlier decision made in the Yam Seng Pte case. Despite the fact that a commercial lease and a joint venture agreement are two different types of commercial agreements, are they not both long-term agreements which require the parties to communicate effectively and cooperate with each other in the performance of the contract, and on the basis of mutual trust and confidence?
Moreover, others have followed Leggatt LJ. For example, in the more recent case of Bates v Post Office Ltd (No. 3) (2019), Fraser J held that relational contracts were a distinct type of contract in which a duty of good faith would be implied, and provided further guidance on implying good faith in relational contracts. The case concerned a group litigation between the Post Office (as the defendant) and approximately 550 claimants, mostly sub-postmasters. A new contract in 2011 provided that a sub-postmaster was responsible for negligent loss on the part of himself or his personnel. The ‘Horizon’ accounting system introduced in 2000 found shortfalls in the accounting of some branches of the Post Office, leading to personal and criminal liability for the claimants. The sub-postmasters alleged that there must be a defect in the system and that they were not liable to any losses pursuant to their contracts pre or post-2011. Fraser J, despite noting the tests for implying terms as set out in the Marks and Spencer plc case, confirmed that, as in the case of Yam Seng Pte, relational contracts such as the sub-postmasters contracts, are subject to an implied duty to act in good faith. Whether a contract is to be classified as a relational contract relies upon “circumstances of the relationship, defined by the terms of the agreement, set in its commercial context”. However, if a contract is found to be relational, and there is no express term to the contrary, a duty of good faith will be implied, without reliance on either the officious bystander or business efficacy test.
Fraser J produced a non-exhaustive list of factors pointing towards a contract being classified as a relational contract, including that: (i) there must be no specific express terms in the contract that prevent a duty of good faith being implied into the contract (the only determinative factor); (ii) the contract is long term and the parties have a mutual intention that there will be a long-term relationship; (iii) the parties must intend that their respective roles be performed with integrity; and (iv) there may be a degree of significant investment by one party (or both). On 23 May 2019, Fraser J refused permission to appeal his decision. The written reasons for refusing permission (handed down on 17 June 2019) addressed the apparent inconsistency between the Yam Seng Pte and Marks and Spencer plc cases. Fraser J commented that the Marks and Spencer plc case is not “authority for the proposition that there is no such specie of contracts”. It follows that further clarification and guidance from the higher courts, in relation to Fraser J’s list of factors and the interplay with the law of implied terms more generally, would be welcome in this area.