United States: Hanaway: A Truly Bizarre Opinion On The Obligation Of Good Faith And Fair Dealing

By Thomas E. Rutledge*

Within every contract there exist an obligation of good faith and fair dealing. If you don't believe me, believe the Restatement (2nd) of Contracts, which at section 205 provides:

Every contract imposes upon each party a duty of good faith and fair dealing in its performance and enforcement.1

Numerous Pennsylvania courts have recognized this to be the case. 2 That said, in a recent and fairly described as truly bizarre decision from the Pennsylvania Supreme Court, it held that no obligation of good faith and fair dealing arose in an agreement of limited partnership. 3

The Hanaways, plaintiffs in this action, were among the limited partners of Sadsbury Associates, L.P., a Pennsylvania limited partnership of which T. R. White, Inc. ("White") served as the general partner. The Sadsbury limited partnership was a financial success. In light of that history, the same participants organized the Parkesburg limited partnership, largely devoted to the organization of a housing development. There was transferred to Parkesburg an option owned by White for what was referred to as the " Davis Tract," a 43.2 acre parcel, and the "Loue Tract," it being another 17 acres. 4 The subdivision plat as well included an adjacent quarry, owned by the Hanaways and on which Parkesburg held an option. The agreement of limited partnership gave White broad discretion with respect to its management and as well imposed ongoing capital contribution obligations upon the limited partners.5

Sometime after Parkesburg began the planning effort with respect to the subdivision, the Hanaways advised Parkesburg that the option to acquire the quarry had expired and would not be renewed, and as well that they refused to contribute additional capital to the project. These actions by the Hanaways led other limited partners to be unwilling to contribute additional capital, and the project stalled. 6 White informed the Hanaways that the Davis Tract would be sold, as well as the option for the Loue Tract, for appraised fair market value to a newly formed limited partnership, Park Mansion Partners ("PMP"). 7 White served as the general partner of PMP, and its limited partners were those persons who had been limited partners in Parkesburg, with the exception of the Hanaways. That sale price was $1.9 million. 8 The Hanaways would assert a fair market value of the two parcels of $8.5 million. 9 Some two years later, 10 the Hanaways would file suit, alleging the sale of the properties to PMP for less than adequate consideration and below fair market value, all "as part of the scheme to eliminate the Hanaways' ownership interests." 11 In response to a motion for partial summary judgment based upon the failure by the Hanaways to identify a specific term of the Parkesburg limited partnership agreement that had been breached, they contended that White had breached the implied covenant of good faith and fair dealing. The trial court granted partial summary judgment, holding, inter alia, that the broad discretion afforded White in the agreement of limited partnership could not be overridden by the implied covenant of good faith and fair dealing. An intermediate court of appeals would reverse, holding that the discharge of the contractually granted rights remained subject to the implied covenant of good faith and fair dealing, and on that basis reversed the trial court. 12 In doing so, that intermediate court of appeals both adopted the Restatement (2nd) of Contracts section 205 and, as characterized by the Pennsylvania Supreme Court:

Perceived no reason to treat limited partnership agreements differently than any other type of contract. The majority also opined that the Hanaway's breach of the covenant of good faith and fair dealing claim was a breach of contract action, not an independent action for breach of a duty of good faith. 13

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Footnotes

* A frequent speaker and writer on business organization law, Thomas E. Rutledge has published in journals including The Business Lawyer, the Delaware Journal of Corporate Law, the American Business Law Journal and the Journal of Taxation, and is an elected member of the American Law Institute. He blogs at Kentuckybusinessentitylaw.blogspot.com.

1 See Restatement (2nd) of Contracts §205.

2 See, e.g., Donahue v. Federal Express Corporation, 753 A2d 238, 242 (Pa. Super. Ct. 2000) (in reviewing an at-will employment contract, "Every contract in Pennsylvania imposes on each party a duty of good faith and fair dealing in its performance and its enforcement."); Somers v. Somers, 613 A2d 1211, 1214 (Pa. Super. Ct. 1992) ("In the absence of an express provision, the law will imply an agreement by the parties to a contract to do and perform those things that according to reason and justice they should do in order to carry out the purpose for which the contract was made and to refrain from doing anything that would destroy or injure the other party's right to receive the fruits of the contract."); Sylk v. Bernsten, Nos. 1906, 080528, 080530, 2003 Phil. Ct. Com. Pl. LEXIS 75, at *29 (C.P. Feb. 4, 2003) (The implied duty of good faith and fair dealing arises under the law of contracts); Kaplan v. Cablevision of PA, Inc., 671 A2d 716, 722 (Pa. Super. Ct. 1996) ("[e]very contract imposes upon each party a duty of good faith and fair dealing in its performance and its enforcement" (quoting Restatement (Second) of Contracts, §205) (internal quotation marks omitted)). The law of other states is similar. See Farmers Bank and Trust Co. of Georgetown, Kentucky v. Willmott Hardwoods, Inc., 171 S.W.3d 4, 11 (Ky. 2005) ("Within every contract there is an implied covenant of good faith and fair dealing, and contracts impose on the parties thereto a duty to do everything necessary to carry them out."); see also Ky. Rev. Stat. Ann. §275.003(7); id. §362.1-404(4); id. §362.2-408(4); id. §386A.1-060(6). Accord Restatement (2nd) of Contracts §205 (1981). Dick Broadcasting Co., Inc. of Tennessee v. Oak Ridge FM, Inc., 395 S.W.3d 653 (Tenn. 2013) ("It is well-established that "[i]n Tennessee, the common law imposes a duty of good faith in the performance of contracts." Wallace v. Nat'l Bank of Commerce, 938 S.W.2d 684, 686 (Tenn. 1996). In Wallace, this Court observed that "[i]t is true that there is implied in every contract a duty of good faith and fair dealing in its performance and enforcement, and a person is presumed to know the law." Id. (emphasis added) (quoting TSC Indus., Inc. v. Tomlin, 743 S.W.2d 169, 173 (Tenn. Ct. App. 1987) (citing Restatement (2nd) of Contracts §205 (1979))).).

3 Hanaway v. Parkersburg Group, 168 A3d 146 (Pa. 2017).

4 Hanaway, 168 A3d at 148.

5 For example, the general partner was afforded "full, exclusive and complete discretion in the management and control of the business of the Partnership." Hanaway, 168 A3d at 149.

6 While it would appear that the general partner could make a capital call on the limited partners, they were not obligated to contribute additional capital. Hanaway, 132 A3d at 463, note 1.

7 As described by the Pennsylvania Supreme Court:

Lacking capital and financially restrained from proceeding, Parkesburg's development of the Subdivision stalled. With the option on the Loue Tract approaching its expiration date, T.R. White acted to save the development project and its investment. On September 25, 2007, T.R. White informed the Hanaways that, upon obtaining a third party fair market value appraisal, it intended to sell the Davis Tract and the option for the Loue Tract contemporaneously. Hanaway, 168 A3d at 149.

8 Hanaway, 132 A3d at 463.

9 Id., n. 2; see also id., at 469 ("the sale of TPG property at a price $6 million below market value.").

10 The intermediate court of appeals described the period as being two and a half years. Hanaway, 132 A3d at 463.

11 Hanaway, 168 A3d at 150. While the Hanaways had invested $316,216.22 in Parkesburg, upon its liquidation they received $196,083.20; they sought the $120,000.00 deficiency. Hanaway, 132 A3d at 464. The trial court had dismissed the Hanaways' claims for breach of contract and breach of fiduciary duty on statute of limitations grounds, determinations affirmed by the intermediate court of appeals.

12 Hanaway v. Parkesburg Group, L.P., 132 A3d 461 (Pa. Super. Ct. 2015).

13 Hanaway, 168 A3d at 151.

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