Folklore has it that George Washington confessed to his father that he had cut down a cherry tree by stating "I cannot tell a lie"—thus setting an easily calculable standard of honesty for future generations. Around 270 years later, the Supreme Court of Canada has recently adopted the same principle to measure performance of contractual obligations in the construction industry and other business settings. A duty of good faith that, in the performance of contracts, previously applied only in limited situations such as employment and insurance contracts is now to be generally applied to all contractual relationships in all areas of business.
In its landmark decision in Bhasin v. Hrynew, the Court clarified what it considered to be a convoluted area of the common law applicable to the measure of performance of contractual obligations. It adopted, for the first time, a general duty of honesty in the performance of contractual obligations, further changing the field of the law of contracts in two major respects:
- by acknowledging that good faith contractual performance is a "general organizing principle" in the common law of contracts
- by recognizing a new common law duty, applicable to all contracts, of honesty in the performance of contractual obligations.
According to the Court, this duty means simply that parties must not act dishonestly, lie, or otherwise knowingly mislead each other about matters directly linked to the performance of the contract. A party breaching this duty would be liable for any resulting loss or damages. The Court emphasized that it was not suggesting any general duty of good faith in the performance of contractual obligations—although such a duty has been recognized in many other common law jurisdictions. Instead, it held that such performance was to be measured by a good faith obligation.
Good faith requires contracting parties to perform their duties honestly and reasonably, not capriciously or arbitrarily. It is conduct which one contracting party reasonably expects its counterpart to abide by. It is, according to the Court, appropriate to apply this underlying principle when measuring whether contractual obligations have met those reasonable expectations. A duty to act honestly springs from this underlying obligation of good faith.
The circumstances that led up to the Bhasin decision well illustrate how this principle was not observed. The contract between Canadian American Financial Corp. (Canada) Limited (Can-Am), an Alberta-based marketer of education savings plans, and Harish Bhasin, one of its retail dealers, provided for an automatic renewal at the expiry of its term unless one of the parties gave notice of non-renewal. Can-Am took advantage of this proviso and exercised its contractual right of non-renewal but the Court found that it did so under circumstances that gave rise to a breach of its duty to perform the contract honestly.
Mr. Hrynew—another retail dealer and Mr. Bhasin's competitor—had wanted to capture the latter's niche market and proposed a merger with him but was turned down. At that time, Can-Am was being audited by the Alberta Securities Commission and was fearful that the Commission would revoke its licence. As part of the audit, the Commission required Can-Am to appoint a provincial trading officer (PTO) to conduct a compliance review of Can-Am's dealers.
Can-Am appointed Mr. Hyrnew as the PTO and, as a result, he was in a position to review Mr.Bhasin's confidential business records. The Court found that Can-Am lied to and misled Mr. Bhasin in several ways, including:
- assuring Mr. Bhasin that Mr. Hyrnew was under an obligation to treat as confidential the information acquired in the course of the audit
- that the Commission had rejected a proposal for the appointment of an outside PTO
- denying to Mr. Bhasin that the merger was a "done deal" even though Can-Am had presented a reorganization plan to the Commission that included a merger of Mr. Bhasin's agency under Mr. Hrynew's agency.
The Court found that this dishonesty was directly and intimately connected to Can-Am's performance of the contract and its exercise of its right of non-renewal of the contract.
While the Court has now recognized the existence of a new duty of honesty in contractual performance, it was careful to state that the duty does not impose a duty of loyalty or disclosure. Nor does it require a party to forgo advantages flowing from the contract. The Court made it clear that neither party has a general duty to subordinate its interest to that of the other but each must be able to rely on a minimum standard of honesty from the other so that, if the contract does not work out, both have a fair opportunity to protect their individual interests.
The requirements of this duty are "highly context-specific" so that there may be greater requirements in a contract that contemplates a long-term cooperative relationship as opposed to a one-time agreement. The duty of honesty in contractual performance is a general doctrine of contract law and not merely an implied term of the contract. This means the parties cannot contract out of this duty although they may modify this duty by an express contractual provision to that effect, provided that the minimum core requirements of this duty are respected.
The Bhasin decision may not be altogether surprising but it could prove to be the foot in the door for further development of the good faith principle in measuring contractual performance. The Court recognized this by not imposing a good faith duty as generally applicable to contracts. Rather, it saw it as forming the core of an iterative process, which gives rise to discrete forms of good faith obligations that depend on the factual pattern in any given situation.
Of course, the duty to perform contractual obligations in good faith is not a new concept. Both insurer and insured have long been recognized as having this obligation under insurance contracts. And, within the construction industry, there is a good faith obligation on the part of both bidders and project sponsors in the tendering process to go about performing their obligations fairly, with due diligence and honesty—or, in short, in accord with a duty of good faith owed one to the other.
The discrete duty recognized by the Court, the duty to act honestly in the performance of contractual obligations, is not to be treated lightly. It imposes—over and above, or alongside, express contractual obligations—the implied obligation to discharge them honestly, if not fairly.
So, for example, in the case of a consultant's contractual obligations to inspect a contractor's work during the course of construction, to issue progress certificates from time to time authorizing payment to contractors, or to issue a letter of assurance enabling occupancy of a project, he or she is bound to act honestly. Consultants must now also have regard to the underlying principle of good faith which will be used to measure their performance.
It is impossible to outline all of the circumstances in which consultants on construction projects may be bound by this duty but it is clear that its imposition will heighten the need for them to pay closer attention to their tasks as well as act in an objective, fair and honest manner in carrying out their obligations.
For instance, favouring an owner/client when issuing progress certificates or being less than forthcoming in refusing to issue occupancy or payment certificates would not be acceptable conduct under the general organizing principle of good faith. At least, a court may not find it so.
Similarly, a progress claim advanced by a contractor—which does not, to the certain knowledge of the contractor, accurately reflect work done or materials and equipment supplied—would likely be found to be a breach of the underlying good faith principle and tantamount to dishonest misconduct.
Such a finding could have not only dire financial consequences for the offender but, in addition, it would not be the best form of marketing to have a published court decision in which a contractor or a consultant had been found to have acted dishonestly. Better that all parties to a construction contract emulate George Washington and embody the mantra: "I cannot tell a lie."
An earlier version of this article was published in Singleton Urquhart's quarterly newsletter, "Letter of the Law" located at http://www.singleton.com.
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