Parties to a contract can expressly agree that they will act in good faith under the terms of the contract, however generally speaking without an express obligation to do so, neither party is obliged to act in good faith towards one another under the contract.
It is becoming more common to include express duties of good faith in commercial contracts.
Generally when performing matters in relation to the contract parties frequently try and impose an obligation on the other party to act in good faith, it can bring comfort to a party that they impose an obligation on the other party to act in good faith.
There is a great deal of flexibility in the language that parties can use to create a duty of good faith, some previous examples are: “act with the utmost good faith”, “act in absolute faith”, and “resolve disputes by friendly discussion”. All of the phrases when used in commercial contracts intend to impose a duty of faith, the courts do not seem to distinguish between degrees of good faith, and using epithets such as “utmost” does not appear to affect the strength of the obligation.
Including a duty of good faith in a contract can have a number of benefits. Stipulating that both parties must act in good faith can avoid people exercising the rights or performing the contract in bad faith which can have negative connotation not only for the commercial relationship but the successful progression and completion of projects as a whole. It can also mean that people are held to the spirit of the contract itself and therefore if a contract doesn’t expressly cover a certain situation, this will provide a fall-back position to ensure parties are acting in accordance with the intended spirit of the arrangement.
Legally a duty of good faith has no universally accepted meaning and will be coloured greatly by the commercial context and the express wording of the relevant clause in the contract, some examples of how duties of good faith have been drafted or interpreted:
• Adhering to the spirit of a contract. The Courts will look to the purpose of the contract and the intended outcome and other relevant factors to determine the spirit of it.
• Observing reasonable commercial standards of fair dealing.
• Being faithful to any agreed common purpose.
• Acting consistently with the justified expectations of the other party.
As the meaning of the obligation of good faith depends on the commercial context, with it comes great uncertainty as to scope of the obligation and trying to determine the meaning of such duty, and its interaction with the other terms of the agreement, may also create uncertainty. If the duty is not defined in the contract, parties will have scope for argument as to what good faith means in that particular context. Worse, it might have an effect that neither party properly anticipated. As such, it is crucial that the exact scope and intention in respect of the duty of good faith is clearly described in the contract.
Parties frequently enter into “agreements” to agree where they agree to agree a certain position at a later date. These are generally unenforceable in English law but can a good faith obligation change this position? The presence of any express duty of good faith is unlikely, by itself, to convert an agreement to agree into a binding obligation. However, where the obligation arises as part of ongoing agreements, the courts are more likely to give effect to that provision. Similarly, the courts may uphold a duty to negotiate if it is intended to resolve a dispute and there is sufficient clarity about how the negotiation will operate in practice.
Whilst there can be a clear benefit to including a good faith obligation, due to the uncertainty of the scope of the duty, it is always beneficial for the parties to spell out the scope of the duty. In addition, a good faith obligation is not a substitute for clear and well drafted terms setting out the agreed commercial and legal positions.
How can we help?
For strategic advice on the duty of good faith, please contact our commercial team at Herrington Carmichael LLP.
