A recent UK case explored the circumstances in which contractual discretions can be limited. While not binding in New Zealand, the case provides useful guidance on the application of the common law "default rule" (discretionary powers in contracts cannot be exercised arbitrarily, unreasonably or for an improper purpose) and "good faith" obligations.
In Mid Essex Hospital Services NHS Trust v Compass Group UK and Ireland Ltd (Trading as Medirest)  EWCA Civ 200 the UK Court of Appeal was asked to decide if there was an implied term that NHS Trust would not act in an arbitrary, irrational or capricious manner in assessing Medirest's performance and claiming service credits. The detailed services contract at issue contained prescriptive rules as to how the service credit deductions would be calculated. The Court of Appeal found that NHS Trust had an absolute contractual right to levy the full service credit deduction to which it is entitled under the rules of the service specification. The only discretion was for NHS Trust to decide whether or not it would do so. The authorities where the "default rule" had been implied to fetter the exercise of a contractual discretion were cases where the discretion involved making an assessment or choosing from a range of options, taking into account the interests of both parties, rather than having to make a simple decision whether or not to exercise an absolute contractual right.
The decision also provides useful comment on the law relating to general good faith provisions. It concludes that an obligation in a contract to act in "good faith" is conditioned by its context - it will not apply generally and qualify all obligations of the parties unless clearly stated. The decision confirmed recent English authority that a good faith obligation is objective in the sense that it depends on whether, in the particular context, the conduct would be regarded as "commercially unacceptable by reasonable and honest people". In the present case the good faith provision did not apply because it was limited to two specified purposes and did not extend to the wider contract. The Justice noted that a breach of good faith would require that NHS Trust "was acting dishonestly, as opposed to mistakenly applying the provisions of a complicated contract".