From Elusive Concecept to Transactional Practice (An Update)
By Professor Bryan Horrigan (Dean, Faculty of Law, Monash University)
Presentation for the Bar Association of Queensland Annual Conference 2016, Reflecting on the Past Looking to the Future, 27 February 2016
For a number of reasons, some to do with the work of legislators, some to do with judicial law-making, and some to do with the temper and spirit of the times, we can no longer say that, in all but exceptional cases, the rights and liabilities of parties to a written contract can be discovered by reading the contract.
– Chief Justice Murray Gleeson, 1995
Nothing truer can be said of the duty of “good faith” in contract law.
– Chief Justice Marilyn Warren, 2010
The Commercial Transactional Significance of Good Faith
Imagine that a clause in a commercial agreement that you are drafting, litigating, or advising upon simply says that ‘[Your client] can [unilaterally, you think] do X’. Now imagine that the clause in question is at risk of being read by an opposing lawyer and later by an arbitrator or court to mean in reality that ‘[Your client] can [only] do X provided that [your client] is acting honestly, cooperatively, with fidelity to the mutual bargain, non-arbitrarily, non-capriciously, bona fide for proper contractual purposes, without ulterior motives, and reasonably [whatever that means!]’.
How close is the current state of Australian law to that scenario, is there anything a commercial drafter can do about it either way, and what avenues of argument does it open up for commercial litigators, advocates, arbitrators, and judges? The latest developments in the common law world and also in Australian judge-made and statutory law affecting good faith and commercial agreements have considerable practical, tactical, drafting, and pleading (‘work-related’) significance for commercial lawyers (including the commercial bar), commercial clients, commercial judges and arbitrators, and other commercial regulators (‘the commercial community’).
Since it is true that ‘whole forests have been felled to produce judicial and academic writing on the meaning of good faith in contract law’, from the outset it is important to locate this topic squarely in the heart of judicial and legal practice, especially given the recent case law on this topic in the jurisdiction of the conference for this paper. However, as this paper proceeds to show, good faith in commercial agreements is a topic whose development cannot be approached simply as a matter of strict legal doctrine and legal practice alone.
To this point, judicial and academic commentary on the topic of good faith remains overwhelmingly dominated and unnecessarily limited by a wholly doctrinal lens of analysis, focused largely upon the concepts and norms of contract law as a self-contained body of judge-made law. However, the legal and practical realities of good faith in commercial agreements are no longer limited to the boundaries of contract law alone. Increasingly, for example, the judge-made law and responsive legal practice on contractual good faith is being overtaken by supervening legislative norm-shaping of commercial morality through the medium of standards of good faith in business, consumer, franchising, and leasing contexts.
In other words, good faith is increasingly regulated by standards that contractual parties are not freely able to avoid or even exclude by private agreement. Any legal practitioners who approach drafting, advice, and pleadings about good faith in commercial agreements for their clients with an outdated or otherwise limited mindset — namely, that this is just a matter of contract law generally and implied terms in particular — put their professional reputations and indemnity policies at risk.
This paper provides an update and analysis of recent Australian and comparative developments on the law of good faith in commercial agreements (‘legal doctrine’) and the transactional implications of those developments for the various arms of the commercial community. The aim is to do so with some sensitivity to considerations of jurisprudential theory (‘legal theory’), regulatory policy (‘legal policy’), precedential directives (‘legal precedent’), judicial politics (‘legal politics’), commercial/courtroom tactics (‘legal strategy’), lawyerly reasoning (‘legal technique’), and practical reality (‘legal practice’). In other words, this paper illustrates the limits of understanding and working with legal doctrine on good faith in commercial agreements without a sufficiently nuanced appreciation of how that body of law reflects and relates to such considerations.
The Commercial Community’s Main Dilemma About Good Faith
Few commercial lawyers, clients, judges, or arbitrators (if any) can avoid confronting issues of good faith in commercial agreements at some point in their work. Every day, lawyers who draft, advise, or litigate on commercial contracts confront issues of good faith, one way or another. The other side and their lawyers might want or alternatively resist good faith’s explicit inclusion in negotiating an agreement. Arguments might arise in the course of dealings or formal dispute resolution about whether any contractual rights can only be acted upon in good faith, and not simply in one party’s absolute self-interest. Solicitors, barristers, and judges in litigation mode look for ways to construe contractual provisions in ways that are duly sensitive to the contemporary nuances of the law on contractual good faith in commercial contexts.
Having known and worked with many legal practitioners over 25 years in commercial practice, my personal experience is that the best legal practitioners understand and work with and around the everyday reality that absolute certainty in commercial law and practice through having only fixed and determinate rules is unrealistic,parties’ rights can never be made completely foolproof and locked up in a commercial contract anymore,many statutory and non-statutory standards in commercial law have value-based elements that draw upon broader business and societal norms, and ethical business and legal behaviour is an expected norm in commercial legal practice. All of this is a given.
Still, legal practitioners sometimes rightly complain about the loose way in which some court decisions deploy concepts like ‘community values’ and ‘commercial morality’, analyse and develop inherently value-laden concepts such as unconscionable conduct and good faith in ways that are far from uniform in the quality of their reasoning or outcomes, and express conclusions about such concepts in terms that, however much they make sense of the law and its application with the dual benefit of hindsight and authority, do not translate as well as they might to the task of advising a client in the case at hand or beyond.
For too long, Australian judges and academics have been unable to speak with one authoritative voice about matters as commercially fundamental as the presence, sources, tests, elements, and limits of good faith in contract law, let alone its transactional and other work-related implications for commercial lawyers and their clients. The Chief Justice of the jurisdiction of the law school that it is my privilege to lead has referred to ‘a bewildering array of authorities and academic views on the topic’. Together, judicial overreach on many aspects of contractual good faith and academic fixation on doctrine over practice have combined to produce correlative reactions (some would say overreactions) from commercial lawyers and clients in their approaches to the negotiation and drafting of commercial agreements.
One of the chief criticisms of Australian judicial overreach in developing the law of implied terms of good faith is that courts have extended the content of good faith beyond its proper bounds, by introducing reasonableness and other notions into the equation. The gist of this criticism is contained in the proposition that, because good faith is intrinsic to contract law and its interpretation, any implied term of good faith is either ‘redundant’ or imposing ‘a more onerous requirement’ (eg reasonableness) than the concept of good faith properly bears as a matter of doctrinal law (‘the Carter-Peden view’).
As this paper evidences, the state of precedent and commentary on this topic makes it clear that good faith’s relevance to commercial agreements is not necessarily confined to the meaning of express terms, implication of additional terms, and exclusion of terms, with clear repercussions for anyone who drafts and litigates or advises on good faith issues. For example, if good faith is relevant to commercial agreements via routes that lie outside the boundaries of express and implied terms, a standard exclusion clause that is worded in a way that focuses upon exclusion of additional unwritten terms will not necessarily cover all of the ways in which good faith could be relevant in the construction of commercial agreements. Moreover, even the best exclusion clause in the world cannot completely shield a commercial client from adverse regulatory attention and other legal consequences if their conduct surrounding a business or consumer contract is in bad faith and constitutes unconscionable business conduct under more than one piece of Australian legislation at national and state levels.
The transactional significance of bad faith in exercising contractual rights or in the conduct surrounding contracts is therefore taken to another level by the inclusion of good faith as a relevant factor in statutory unconscionability in two of the most significant pieces of Commonwealth legislation regulating the Australian economy — namely, the Competition and Consumer Act (for business-to-business (‘B2B’) and business-to-consumer (‘B2C’) dealings) and the Australian Securities and Investments Commission Act (for financial services). Since 2012, this transactional significance of legislated standards of good faith now extends to conduct towards both other businesses and consumers that is surrounding, preceding, or even without a concluded contract. In addition, the Franchising Code of Conduct now imposes a mandatory and non-excludable mutual obligation of good faith in all franchising contracts, whose content is determined under judge-made law.
A New Wave of Comparative Good Faith Test Cases and Transnational Standard-Setting
Emerging only in the last few years, a new wave of case law and commentary on good faith in the UK, Canada, and elsewhere in the common law world offers possible outcomes and arguments for consideration and possible translation to Australian conditions in future ‘test case’ legal advice, dispute resolution, and litigation in Australia and abroad. For example, recently Canada’s highest court not only accepted the viability of good faith as an organising principle in Canadian contract law, but also mandated a non-excludable obligation of good faith of specific minimum content in the performance of all contracts (ie not just commercial agreements).
Australian judge-made developments and correlative commentary on contractual good faith (including the Carter-Peden view) have demonstrably influenced courts and commentators in other common law countries. In that sense, Australian judicial decisions and academic commentary in this field of law and practice both shape and reflect this broader body of transnational common law. Considered from a systemic perspective, all of this has correlative practical implications not only for those arms of the legal profession involved in contractual drafting, dispute resolution, and litigation, but also for those arms of the legal profession who appear in court, write judgments, and administer and reform legislation and other regulation affecting good faith in commercial contexts.
Beyond Anglo-Australian common law systems, in the domain of international and transnational contracting, norms of good faith and fair dealing are becoming central elements of landmark instruments of ‘hard’ and ‘soft’ law, to the point where good faith arguably deserves recognition ‘as an attribute of modern international commercial law, as it was of the law merchant’, according to Federal Court of Australia Chief Justice James Allsop. Relevant trends here include good faith’s acceptance in contract law in Europe, North America, China, and other countries, its enshrinement in the Uniform Commercial Code and Restatement (Second) of Contract in the USA, and its use in international commercial instruments such as the UNIDROIT Principles of International Commercial Contracts and UN Convention of Contracts for the International Sale of Goods .
The political movement towards reform of Australian contract law to reflect transnational developments and standards concerning good faith appears stalled, at least for the moment. Still, any residual reluctance within the Australian judiciary to normalise good faith is increasingly out of step with comparative common law developments, and also faces ongoing pressure in an increasingly globalised legal world, with its growing transnational movement towards good faith in judicial, legislative, and other forms of regulatory standard-setting.
Long-standing scepticism in the common law world in the wake of the landmark Walford v Miles case about the certainty and enforceability of contractual requirements to negotiate in good faith has now been overcome in Australia, Singapore, and the UK, not least where that requirement is contained in a pre-existing agreement and is time-bound and otherwise facilitates genuine resolution of disputes. Australia’s position as an emerging site of excellence for international dispute resolution in competition with London, Hong Kong, Singapore, and others turns in part upon the extent to which Australian judges and arbitrators applying Australian law as the governing law of contracts produce outcomes that are in sync with the treatment of good faith in international and foreign (‘transnational’) commercial law.
Commercial lawyers and clients with transnational business operations need to know how standards of good faith potentially regulate the formation, performance, enforcement, and dispute resolution of commercial agreements, whether such activity arises in a civil law or common law jurisdiction, as well as any differences in the treatment of good faith across jurisdictions. Lawyers and clients from a civil law background benefit from knowing how their counterparts from a common law background might approach good faith issues, and vice versa.
In short, commercial lawyers who are coming to grips with the current state of the law and practice in this economically significant field of regulation must additionally come up to speed in accommodating recent developments in the common law world, legislative regulation, transnational standard-setting, and scholarly debate surrounding good faith in commercial agreements. All of these developments affect the negotiation, formation, enforcement, arbitration, and adjudication of commercial agreements where good faith is implicated.
Five Flawed Propositions
In practice, many commercial lawyers and their clients would have a basic working view of good faith in commercial agreements that broadly corresponds with the following propositions. Alternatively, at the very least, they would perhaps desire the law to reflect these five propositions:
(1) Proposition 1: Good faith can readily be understood and handled for work-related purposes as a matter of legal doctrine and legal practice, and perhaps also legal precedent and legal technique (ie ‘working the rules’), without being bothered too much (or at all) by ‘academic’ (in the pejorative sense) considerations of legal theory, legal policy, legal politics, and legal strategy;
(2) Proposition 2: Good faith is not automatically part of a commercial contract and its interpretation unless the parties make it part of the contract — in other words, the starting point for contractual interpretation is that good faith is not present or relevant unless the parties have actively done something to include it;
(3) : Good faith is made part of a contract only (or at least mainly) via the two routes of explicit terms or implied terms, in the sense of being additional terms that are either in or out of the contract;
(4) Proposition 4: If parties want to prevent notions of good faith affecting their contractual rights and performance, they can do so effectively through an appropriate combination of drafting devices, including one or more of ‘sole discretion’, ‘entire agreement’ and ‘exclusion’ clauses; and
(5) Proposition 5: Legal advice about negotiation, performance, enforcement, arbitration, and litigation of contracts that is consistent with the first four propositions is professionally sound advice.
For the reasons that follow in this paper, all five propositions have some basic flaws. The treatment of these five propositions provides a structure for the remainder of this paper, after a short summary of the current state of play in this field and an analysis of the elements and limits of good faith.
Current Doctrinal Position on Good Faith in Commercial Agreements
Australian law and commentary is moving closer than ever before towards acceptance of the following ten broad propositions about good faith in the context of commercial agreements, as a reference point for the remainder of this paper:
(1) Internalising Good Faith: Good faith of some kind is part of Australian contract law, and commercial agreements must be interpreted against that baseline of good faith, subject of course to how and particular contract deals with it;
(2) Nature of Good Faith: Good faith operates in contract law as an ‘informing’ or ‘organising’ principle, mediated through specific legal doctrines and norms of construction, which frame the basis for ascertaining the contractual parties’ legal intent in striking their bargain, as a matter of legal interpretation and not at large;
(3) Multiple Good Faith Routes: Good faith manifests itself in a variety of ways in contract law, across the spectrum of implication and construction, through routes that are not limited to express or implied terms of good faith;
(4) Implied Terms of Good Faith: Good faith is not automatically implied as a matter of law in all commercial agreements, although it is now mandated expressly as a non-excludable obligation in all franchising contracts;
(5) Elements of Good Faith: Good faith’s possible elements include but also extend beyond the core element of honesty, with a penumbra of other elements according to context, from a limited set that includes cooperation (also a separate but related duty), mutual fidelity to the bargain, non-subversion of interests and benefits secured by the contract, fair dealing, and — more controversially — reasonableness of some kind;
(6) Reasonableness and Good Faith: To the extent that reasonableness is associated in some way with good faith, this sense of reasonableness is not at large and imposed on contractual parties as a free-standing and additional source of obligations, external to the contract as interpreted under contract law;
(7) Tests and Limits of Good Faith: ‘Necessity’ is now the overarching criterion for all avenues of implied terms of good faith, but no implied term of good faith can override what the contract explicitly or implicitly provides, prevent a party from pursuing their legitimate commercial self-interest, or rise to the level of a fiduciary obligation requiring one party to sacrifice their own interest for the sake of another;
(8) Cross-Regulatory Good Faith Standards: Standards of good faith now apply under statutory and judge-made law in a variety of business, consumer, financial services, commercial leasing, and franchising contexts, so that contract law’s position on good faith needs to be considered alongside good faith’s treatment under other relevant laws too, with clear implications for work-related responsibilities of commercial lawyers and their clients;
(9) Negotiation in Good Faith: Obligations to negotiate in good faith under pre-existing agreements are enforceable under the right legal conditions, especially in time-bound dispute resolution clauses, with an absence or breach of good faith in negotiating a contract now also forming part of pre-contractual conduct that could constitute unconscionable business conduct in both B2B and B2C contexts;
(10) Exclusion of Good Faith: At least some (and perhaps all) elements of good faith are capable of exclusion or other conditioning by agreement between the parties (although never by a simple ‘entire agreement’ clause on its own), except where such exclusion offends contract law’s own rules (eg contracts and terms that offend public policy) or where such an outcome is contrary to what is mandated by supervening legislation (eg non-excludable obligations of good faith in franchising contracts, and standards that make the absence or breach of good faith an indicator of unconscionable business conduct).
Meaning, Elements, and Limits of Good faith
Honesty and Good Faith
Good faith means different things to different people in different circumstances across different locations. So, at the outset, it helps to have a common understanding of what elements might be packed into contractual good faith. Its central element is not in doubt. Courts and commentators across common law jurisdictions have reached a consensus on honesty being a core component of good faith, even where they otherwise disagree about whether it is intrinsic to contract law and what tests should be used for implying good faith.[19]
Australian, UK, and Canadian law, for example, all now accept honesty as the core element in contractual good faith, although there is no monolithic interpretation and application of the requirements of honesty across jurisdictions. This is not surprising, given that the treatment of good faith is heavily value-laden, context-dependent, contract-sensitive, and multi-dimensional. In none of those jurisdictions is an obligation of honesty completely co-extensive with full disclosure to one party of everything known by another party, although honesty can require some disclosure under the right circumstances. It might readily prevent a party from knowingly providing false information upon which another party could be expected to rely, and wilfully misleading another party about a party’s own contractual performance.
In this context, honesty means more than simply not being actively dishonest, deceitful, or fraudulent, and of course there can be overlaps between conduct that breaches such standards of honesty and conduct that might offend the prohibitions on misleading, deceptive, and unconscionable conduct under major Australian economic regulation. Conceived more broadly in terms of ‘honest adherence to the bargain’, honesty conditions how contractual parties deal with one another, exercise their contractual powers and discretions, and otherwise take account of one another’s respective interests under the agreement they have struck.[23] Honest intentions in exercising contractual powers and discretions, honest formation of conforming opinions for contractual purposes, honest attempts to negotiate or meet other contractual requirements, and honest disclosure of essential information for mutual contractual purposes all raise different considerations under the general rubric of honesty.
Depending upon the drafting and context, good faith can have cognate or overlapping content with obligations to cooperate or use best endeavours, which historically have been more likely than good faith to find favour with courts across common law jurisdictions as enforceable obligations. In the right circumstances, honesty might also go to questions of bona fide, non-capricious, non-arbitrary, and even rational exercises of contractual power.
The latter context for good faith introduces one of its possible connections with reasonableness, which at this point in discussion is limited to avoiding irrational exercises of contractual power. This is one of various possible notions of reasonableness, and one that raises judicially flagged questions at the intersection of private and public law, as we shall see.
Semantically, obligations of honesty can be understood and worded in ways that touch upon reasonableness too, ‘in the sense that a requirement of honest conduct must exclude conduct which no reasonable person could regard as reasonable in the circumstances.’ More controversially, some courts and commentators connect or imbue good faith with other (and different) possible notions of reasonableness. This development is controversial. It needs further unpacking, as well as recasting and reform.
Reasonableness and Good Faith
Possible Meanings of ‘Reasonableness’ in Contract Law
As a basic concept, ‘reasonableness’ has more than one possible meaning. It manifests itself in various guises in the law, including contract law. In any particular contractual context, it is important to ask what meaning of ‘reasonableness’ is in play — merely avoiding irrationality, meeting a requirement of objective reasonableness (eg obtaining market value), doing what is reasonable as framed by the contract, acting reasonably as mediated through specific contractual doctrines (eg not unreasonably withholding approval, giving reasonable notice, or construing an ambiguous contract to avoid unreasonable results), or something else?
Expert commentators differ in their view of good faith’s connection with reasonableness.[26] The inclusion or association of reasonableness of some kind with good faith has attracted both judicial support and academic criticism. The set of possible implied obligations in addition to good faith includes not only an implied duty of cooperation but also, according to some academic commentary and case law, an obligation to act reasonably in contractual discretions, approvals, and performance.[27] Hence, one set of academic experts in Australian contract law suggests that obligations such as ‘(a)n implied obligation to act reasonably in the performance and enforcement of a contract’ are of a kind that ‘can without difficulty, and perhaps should, be subsumed within the duties to cooperate and to act in good faith, thus preventing the useless proliferation of categories’.[28]
Another view (eg the Carter-Peden view) is that reasonableness is an unnecessary addition to the content of good faith, even more so when comprised in an unnecessary implied term of good faith, given that good faith is already intrinsic to contract law.[29] A corollary of that view is that judicial references to reasonableness in implications of good faith are more properly viewed as references to other elements of good faith and related obligations.[30] Accordingly, the different possible senses of reasonableness in this context are of ongoing relevance in the evolution of good faith jurisprudence.
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