Commercial contracts are frequently full of legal expressions and legal jargon, and although you may have encountered these terms numerous times and seen them in use for many years, there is often considerable misunderstanding as to the true effect of the terminology. This article discusses two such common terms and concepts used in commercial documents: 'reasonable/best endeavours' and the concept of 'negotiating in good faith', and sets out a brief explanation of their meaning and true legal effect.
Negotiation In 'Good Faith'
It is often the case that where commercial sales teams have successfully negotiated and agreed key provisions to their commercial contracts, there is pressure to have a signed agreement put in place right away, with the 'lesser' terms to be ironed out later down the line. The contract therefore goes on to state that the parties will negotiate these low priority terms in good faith in due course. What does this actually mean where parties agree to negotiate in good faith? What would be the consequences if one party simply refuses to negotiate and walks away?
The simple answer is that English law will not generally enforce a contract to make a contract or a contract to negotiate in good faith because the parties have not really agreed to anything at all. The term is too uncertain to be enforceable and there is no way a court could police such an 'agreement'. For example, the court cannot oblige one party to reach agreement with the other, nor would it be possible to determine when or in what circumstances the first party would be entitled to break off negotiations with the other. English law holds that the concept of a duty to carry on negotiations in good faith is inherently contrary to the adversarial position of the parties. Each party to the negotiations must be entitled to pursue his or her own interest (so long as he avoids making misrepresentations, fraud, duress, undue influence or illegality). To advance that interest each party must be entitled, if he thinks it appropriate, to threaten to withdraw from further negotiations or to withdraw in the hope that the opposite party may seek to reopen the negotiations by offering improved terms. English law therefore holds that a duty to negotiate in good faith is unworkable in practice and inherently inconsistent with the position of a negotiating party. It is unenforceable.
The English courts have declined to follow the example of some civil law jurisdictions such as Belgium, France, Germany and Italy in developing a general duty of good faith and fair dealing in the negotiation and performance of contracts. The duty to negotiate in good faith may involve obligations to disclose material information or not to break off negotiations without reasonable cause in circumstances where the other party reasonably anticipated that the contract would be signed. Other consequence of a duty of good faith may be that parties exchange information in a fair manner, agree to reasonable time limits for reflection and refrain from making manifestly unacceptable propositions. Therefore while English law will not enforce a contract to negotiate in good faith, particular care must be taken in international transactions. Be aware that in many European jurisdictions, you can be liable if you withdraw from the negotiations or fail to negotiate in good faith and local law advice should always be taken on international transactions before entering into any commercial documents.
Endeavours – What Is Best And What Is Reasonable?
Commercial contracts frequently contain clauses requiring one party to use 'best endeavours', 'reasonable endeavours' or even 'all reasonable endeavours' to effect a particular action or result. This wording is used to limit the parties contractual obligations – without the qualification, the obligation will amount to an unconditional undertaking that the objective will be achieved, regardless of how onerous it is. It is therefore common for obligations to be qualified by an endeavours clause. However despite the regularity in which these endeavours clauses are used – it is often not clear as to what is actually required from the obligor. For instance, to what extent should an obligor be expected to sacrifice its own commercial interests as a result of agreeing to perform to a specified standard?
It is clear from case law that there is a spectrum of endeavours clauses, with "best endeavours" representing the most stringent obligation and "reasonable endeavours" the least. Whilst the actual extent of the obligations will be inherently fact specific to the particular contract, the following features should be borne in mind as a useful distinction between a 'best endeavours', 'reasonable endeavours' or 'all reasonable endeavours' obligation.
Best endeavours is the most stringent type of endeavours clause. It is often mistakenly believed that a best endeavours clause is as good as an absolute obligation and requires the obligor to completely disregard its own commercial interests to achieve the required result. This is not the case and a best endeavours clause will allow the obligor some regard for its own commercial interests and certainly would not require action resulting in "the ruin of the company or the utter disregard for the interests of shareholders" (Terrell v Mabie Todd and Co. Ltd ). Therefore the negotiating line often used to counter a best endeavours clause, "I'm not going to bankrupt my business", can be dismissed. It has in fact been held that there is an element of reasonableness within a best endeavours clause such that the obligor is only required "to take all those steps in its power which are capable of producing the desired results which a prudent, determined and reasonable obligor, acting in his own interests, would take" (IBM United Kingdom Ltd v Rockware Glass Ltd ).
This is not to say that the obligor can simply have regard to its own financial interest, and disregard its obligations because they are financially unattractive. Whilst the obligor need not engage in any activity which would damage the company's goodwill or lead to its financial ruination, it will be required to take all reasonable steps to be taken to produce the result. There might be a whole number of reasonable courses which could be followed, and the obligation to use best endeavours will require the obligor to take all those reasonable courses that are open to it to achieve that aim. The extent any financial sacrifice is required in carrying out those steps may be a factor in determining whether it is reasonable or not.
Therefore an undertaking to use best endeavours is a promise not to be taken lightly, and is a stringent obligation that will be treated accordingly by the courts. It has also been held that an 'all reasonable endeavours' clause means the same thing as best endeavours.
An obligation to use reasonable endeavours is less stringent than an obligation to use best endeavours. What actually constitutes reason - able endeavours will vary according to the circumstances of the case, but an obligation to use reasonable endeavours does not require a party to do anything that would involve sacrificing its own commercial interests (Yewbelle v London Green Developments ). The obligor may therefore take into account any financial outlay that might be involved, and also the effect that taking certain steps will have upon its reputation and relationships with other parties.
Reasonableness is difficult to define and is inherently fact specific. Therefore there is always a degree of uncertainty as to what a reasonable endeavours clause may actually require in any given case. One way to address this uncertainty may be to set out particular steps that are to be taken as part of the reasonable endeavours. For example if some financial outlay is expected, the clause could set out the parameters for that outlay. Whilst this should not be an exhaustive list, the clause should set out the minimum steps required, making it clear that the specified steps do not otherwise limit the obligation.
A reasonable endeavours clause is therefore less stringent than that of best endeavours, but is certainly not toothless, particularly where certain minimum steps to comply with the clause are set out. Attention should therefore be paid to the remainder of the contract wording, before accepting to a reasonable endeavours clause, as the obligation may not always be as easy to satisfy as first appears.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.