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03 March 2015
The English law of contract is well known for not having a general duty of good faith and the approach to dealing with good-faith situations in case law has been piecemeal, in line with the general development of common law. One of the main reasons advanced for this is the uncertainty which would arise if a general duty of good faith were imported into contracts generally.
However, a number of recent judgments have reignited the debate over whether English law recognises a general duty of good faith in commercial contracts, including franchise agreements.
This update considers the line taken by the English courts in these recent cases, starting with Yam Seng Pte Limited v International Trade Corporation, followed by a look at the subsequent cases which cited Yam Seng and concluding with the first post-Yam Seng case for good faith in the context of franchising (Carewatch Care Services Limited v Focus Caring Services Limited). This update also proposes a number of lessons to be learned from these cases.
In Yam Seng Yam Seng Pte Limited entered into an exclusive distribution agreement with International Trade Corporation (ITC) to sell Manchester United-branded toiletries across duty-free outlets in Southeast Asia. The relationship quickly broke down amid accusations that ITC had misled Yam Seng on a number of issues, including:
Yam Seng argued that its business suffered financial loss as a result of ITC's erratic and, at times, dishonest behaviour. Yam Seng successfully argued that the agreement contained an implied obligation to act in good faith and that ITC's breaches were repudiatory.
The court's judgment included a detailed summary of English law's uneasy relationship with the concept of a general duty of good faith and argued that the cherished certainty of English common law is not automatically undermined by recognising such general duties. The court further noted that other common law jurisdictions are moving in this direction and English law is "swimming against the tide". The court concluded by noting that contracts involving a longer-term relationship and substantial commitment require a high degree of communication, cooperation and predictable performance based on mutual trust and confidence. It observed that these expectations are rarely legislated for in the express terms of contracts, but are implicit in the parties' understanding and are necessary to give business efficacy to such arrangements. Examples of 'relational contracts' given by the court included franchise agreements, joint venture agreements and long-term distribution agreements.
Yam Seng has been referred to in a number of subsequent cases involving relational contracts.
In Mid Essex Hospital Services NHS Trust v Compass Group UK and Ireland Limited Compass's performance in a National Health Service (NHS) trust catering contract was measured by the calculation of service failure points. The NHS trust was entitled to award those points to Compass and levy deductions from payments due by the NHS trust. Compass claimed that the NHS trust had exercised its discretion in this regard in a way which was either contrary to the implied term not to act arbitrarily, capriciously or irrationally, or in breach of an express duty of good faith which therefore entitled Compass to terminate the contract. The Court of Appeal rejected the first-instance ruling that there was an implied term of good faith which the NHS trust had breached. The Court of Appeal ruled that the NHS trust had breached express terms of the contract when making the deductions and the provisions of the contract dealing with breach were sufficiently clear. The NHS trust had repaid the amounts charged as a result of the wrongful deductions and had therefore cured its breach before Compass terminated the contract. In essence, there was no need to imply a general duty of good faith.
In TSG Building Services plc v South Anglia Housing Ltd TSG provided services to South Anglia Housing's (SA) housing stock. The agreement included an express general duty to work in a spirit of trust and fairness, but SA also had an express right to terminate at convenience, which it did. TSG argued that this amounted to breach of an express duty of good faith, and that there was an implied duty of good faith regarding the exercise of the right to terminate. The judge rejected TSG's claim and ruled that there should be no linkage between the general express duty of good faith and the right to terminate at convenience – implying that such a duty contradicted the express terms of the contract.
In Bristol Groundschool Limited v Intelligent Data Capture Limited the parties collaborated with each other for 10 years to produce electronic training manuals for commercial pilots. Intelligent Data Capture Limited (IDC) supplied static artwork for the manuals which Bristol Groundschool Limited (BGS) then produced and sold. BGS paid for and owned the copyright in the static artwork. BGS commenced proceedings against IDC claiming breach of contract and infringement of copyright. IDC counterclaimed that BGS had breached an implied duty of good faith by downloading materials from IDC's IT systems without authorisation. The High Court found that there was such a duty (which BGS had breached) by determining whether the conduct in question could be regarded as "commercially unacceptable" by reasonable and honest people in the particular context. The judgment referred to and agreed with the analysis in Yam Seng and stated that a duty of good faith "extends beyond, but at very least includes, the requirement of honesty".
In Hamsard 3147 Limited v Boots UK Limited a long-term supply agreement was terminated due to the insolvency of Hamsard. However, the relationship continued on an ad hoc basis once Hamsard emerged from insolvency proceedings, until Boots served notice to terminate the relationship with nine months' notice; the original agreement required 18 months' notice and contained an express duty of good faith. The court rejected Hamsard's argument that the nine-month notice period was unreasonable and amounted to a breach of good faith. The court went on to state that Yam Seng is not authority for implying a general obligation of good faith in commercial contracts – a party acting honestly should not "subordinate its own commercial interests to those of the other contracting party".
Carewatch – the first test case for good faith in franchising
Following the court's comments in Yam Seng, there was considerable speculation over the application of its judgment to franchising. In 2014 Carewatch saw the High Court decide a franchising dispute where the defendants advanced arguments relying on Yam Seng.
Carewatch centred on the enforceability of post-termination covenants. The case is not particularly noteworthy for the decision reached on those issues; the court upheld the franchisor's covenants in the face of challenges on common law and competition law grounds. Similarly, the court rejected various allegations that Carewatch had breached its express obligations to its franchisees. Of interest here, however, is the outcome of the defendants' submissions that various terms should have been implied into the franchise agreements. One of these in particular was that "the parties would conduct themselves as franchisor and franchisee in good faith".
The court reviewed the law relating to implied terms, confirming that the courts will imply terms into contractual relationships only where it is necessary to do so. It also reiterated that the franchise relationship is much closer to an ordinary commercial relationship than the special relationship of employer and employee, into which terms of trust and confidence can be implied. In relation to Yam Seng, the court endorsed the earlier comments of the court in Hamsard.
Examining the Carewatch franchise agreement in particular, the court noted that it already contained detailed express terms which dealt with all aspects of the franchise relationship. There was no obvious void that only an implied term could fill. Second, many of the terms which the defendants hoped to imply were inconsistent with the express terms of the contract (and so even less likely to be endorsed by the courts). Third, Carewatch was "free to have regard to its own commercial interests in deciding how to run its franchise business, provided always that it complied with the express terms of its current franchise agreements".
Carewatch is good news for franchisors, confirming that the courts continue to adopt a pragmatic commercial approach to franchise disputes and removing some of the uncertainty that had been fostered in the wake of Yam Seng. While the court did not say that terms of this nature could never be implied into a franchise relationship, the idea of a contractual duty of good faith seems more suited to highly unusual circumstances than to franchising as a whole.
If Yam Seng was an attempt to let the genie out of the bottle, the subsequent rulings in Compass, TSG, Hamsard and Carewatch show the English courts attempting to push it back in. However, while the English courts are likely to continue to uphold the traditional, narrow approach to implied terms in the near future, Bristol Groundschool shows that this assumption cannot be taken for granted. The concept of good faith underpins many of the franchise-specific regulations which apply in jurisdictions across the world (including in common law jurisdictions such as Australia and the United States), and it remains to be seen how long English law will continue to swim against the tide.
The following key lessons may be gleaned from these cases:
For further information on this topic please contact Gordon Drakes or James Seadon at Fieldfisher by telephone (+44 20 7861 4000), fax (+44 20 7488 0084) or email (email@example.com or firstname.lastname@example.org). The Fieldfisher website can be accessed at www.fieldfisher.com.
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