In its landmark November 2014 decision in Bhasin v. Hrynew1 , the Supreme Court of Canada (SCC) held that there is a general organizing principle of good faith governing the common law of contract in Canada2 , and that flowing from this general organizing principle is a duty of honesty in contractual performance.3

The SCC wrote that the organizing principle of good faith was not a free-standing rule, but rather a standard that underpins and is manifested in more specific legal doctrines that may be given different weight in different situations. The SCC held that recognizing a duty of honest performance flowing from this organizing principle of good faith was a modest, incremental step. 4

In the author’s view, however, both the new organizing principle of good faith and the specific duty of honesty in the performance of contractual obligations are arguably not modest, incremental changes to the common law. These new duties could introduce an element of unintended uncertainty into construction contract performance where breaches of these new duties are alleged, potentially leading to less predictable results at trial and at arbitration. In some obvious instances, the lack of honest contractual performance could take the form of insisting on proceeding with change directives where significant out of scope work is requested which should more properly be dealt with by change order, i.e. where the parties have already agreed on a process to price and agree on the new work, prior to performance. In less obvious instances, a contracting party may allege numerous breaches of the duty of good faith to attempt to extricate itself from having to complete all of its existing contract work, where that party initially signed an improvident contract.

The parties and facts

The contract at issue in Bhasin was a 1998 commercial dealership agreement between Mr. Bhasin and Can-Am, who markets education savings plans to investors through retail dealers, known as enrolment directors. Bhasin was a Can-Am enrolment director and his success depended on building a sales force. It took Bhasin 10 years to build his sales force and become one of Can-Am’s top enrolment directors.

Bhasin’s contract was not a franchise agreement. The statutory duty of fair dealing contained in s. 7 of the Alberta Franchises Act5 did not apply. The contract contained an entire agreement clause stating that there were no agreements, express, implied or statutory, other than as expressly set out. The term of Bhasin’s contract was three years. The clause that resulted in the litigation was the non-renewal clause, which provided that Bhasin’s contract would automatically renew at the end of the three-year term unless one of the parties gave six months’ written notice to the contrary.6

Mr. Hrynew was also a Can-Am enrolment director, and a competitor of Bhasin. Hrynew wanted to capture Bhasin’s business and to that end Hrynew personally approached Bhasin on numerous occasions to propose a merger of their agencies.

In late 1999, Alberta’s Securities Commission required Can-Am to appoint a single provincial trading officer (PTO) to review its enrolment directors for compliance with securities laws. CanAm appointed Hrynew as its PTO. In June 2000, Can-Am outlined its plans to the Commission, which included Bhasin working for Hrynew’s agency. Can-Am failed to make this known to Bhasin and repeatedly misled Bhasin.

When Bhasin continued to refuse to allow Hrynew to audit his records, Can-Am threatened to terminate the 1998 agreement. In May 2001, Can-Am gave notice of non-renewal under the agreement. When the agreement expired, Bhasin lost the value of his business and the majority of his sales force was successfully solicited by Hrynew’s agency. Bhasin then sued Can-Am and Hrynew.

The trial and court of appeal decisions

The trial judge found that it was an implied term of the contract that decisions about whether to renew the contract would be made in good faith, and that Can-Am breached this implied term of good faith by exercising the non-renewal clause in a dishonest and misleading manner.

The Alberta Court of Appeal reversed, held that there was no breach of contract by Can-Am since the contract contained an unambiguous non-renewal clause, and that the trial judged erred in implying a duty of good faith in the face of an entire agreement clause.7

The SCC’s decision

The SCC allowed Bhasin’s appeal as against Can-Am, but for different reasons than the trial judge. The SCC wrote that while commercial parties remain at arm’s length and are not subject to the duties of a fiduciary, a basic level of honest conduct is necessary to the proper functioning of commerce.8 The SCC accepted the trial judge’s finding of fact that Can-Am acted dishonestly in exercising the non-renewal clause, and held that as a result Can-Am breached its duty to perform the contract honestly.

More broadly, the SCC enunciated a general organizing principle of good faith that underlies the common law of contract, and that a manifestation of this organizing principle of good faith is a duty to act honestly in the performance of contractual obligations.9 Specifically, the SCC held that:

  • The organizing principle of good faith is that parties generally must perform their contractual duties honestly and reasonably and not capriciously or arbitrarily;10
  • The development of the principle of good faith must be clear not to veer into a form of ad hoc judicial moralism or “palm tree justice”, and should not be used as a pretext for scrutinizing the motives of contracting parties; 11
  • The new duty of honesty does not impose a duty of fiduciary loyalty, or of disclosure, or require a party to forego advantages flowing from the contract; it is a simple requirement not to lie or mislead the other party about one’s contractual performance;12
  • The duty of honesty should not be thought of as an implied term, but a general doctrine of contract law that operates irrespective of the intentions of the parties, analogous to the doctrine of unconscionability; 13 and
  • The precise content and scope of honest performance will vary with context, and parties should be free in some contexts to relax the requirements of the doctrine so long as they respect its minimum core requirements.14 However parties are not free to exclude the duty of honest performance, and any modification of the duty must be in express terms. 15

Conclusions and future implications

The Bhasin decision creates a new common law cause of action between parties to a commercial contract, namely: breach of the duty of honesty. In the context of construction contracts, where parties routinely enter into expensive and lengthy obligations without being fully aware of the project’s site conditions, often amend their contracts multiple times by way of change orders, revised specifications and schedules, and often request information and clarifications from each other in writing, it is easy to imagine how a subcontractor or contractor could bring a claim for breach of the duty of honesty against a contractor or owner.

In light of the Bhasin decision, will Ontario courts rule that a delay in paying holdback amounts under the Construction Lien Act is a breach of the duty of good faith? In Shelanu, 16 the leading case on franchise contracts, the Ontario court of appeal held that a delay in paying royalty amounts was a breach of the duty of good faith, regardless of the fact that the amounts were ultimately paid.

What is the degree and extent of selflessness that will satisfy a contractor or owner’s duty to perform its contractual obligations honestly? What time frame does a party have to meet the minimum standard of honesty? And when does the failure to disclose a known fact cross the line to become misleading and deceitful? It also remains to be seen whether courts and arbitrators will uphold clauses that limit the scope and extent of a party’s duty of honest performance in the context of construction contracts.

Construction companies would be prudent to review and revise their contracts to ensure they meet the minimum core requirements of the new duty of honesty and to properly define and limit the scope and extent of disclosure expected between the parties for certain construction contracts.