In two recent cases, the English courts considered whether the duty of good faith should be implied into commercial contracts.

English law has traditionally resisted implying the obligation of good faith into commercial contracts, except in limited circumstances. However, in a growing line of authorities (of which the two recent cases are particularly significant), the English courts have confirmed that a duty of good faith will be implied into certain types of agreement as a matter of law.

This article considers the ramifications of these decisions for parties to this special category of commercial agreement (so-called 'relational contracts'), which includes franchise agreements. For an overview of the cases, please see "Good faith and relational contracts".

Ramifications for franchisors

Franchisors which are members of the British Franchise Association (BFA) are obliged under the BFA's Code of Ethics "to exercise fairness in all dealings" with franchisees. The same obligation applies to franchisees (although they are unlikely to be a member of the BFA). This concept of fair dealing is pervasive and applies to issues such as training, renewals, system updates, advertising, product ties, fees, performance targets, resales and termination. It is similar to the codified concept of good faith in civil jurisdictions and an increasing number of common law jurisdictions, but most franchise agreements do not include an express good-faith provision to mitigate the risk of interpretative ambiguity.

One such example in the context of franchising is the need for a franchisor to make a decision which may benefit the network as a whole, but not necessarily every individual franchisee equally (the decision may even have an adverse impact on a minority of franchisees). Nonetheless, it is important that the franchisor has this discretion and is not prevented from taking such a decision on the basis that is not dealing with the individual franchisee fairly or in good faith.

A well-drafted reasonable business judgment or good-faith clause should deal with this precise issue, as well as including reasonable limits on a party's contractual power in specific circumstances.

Parties to relational contracts should also keep one eye on developments in other jurisdictions to try and pre-empt where the next legal challenge on this issue lies. It is noteworthy that in some jurisdictions, such as Canada, franchisees have successfully challenged franchisors on their failure to protect the brand in the face of local competition. It is therefore conceivable that statements regarding the value of goodwill and system or one-sided contractual powers could be used to create an argument for an implied ongoing obligation on a party to protect and enhance the system or proactively monitor and police the network and enforce terms against non-compliant members.

The issue of good faith is evolving in English law and parties to relational contracts therefore need to monitor these developments to ensure that foreseeable risks are mitigated effectively in their contracts and commercial practices.

This article was first published by the International Law Office, a premium online legal update service for major companies and law firms worldwide. Register for a free subscription.