Parties entering into transactions in varied jurisdictions frequently include a contractual provision under which they agree to act in good faith towards one another.  The recent High Court decision by Vos J in CPC Group Limited v. Qatari Diar Real Estate Investment Company ([2010] EWHC 1535 (Ch)) (CPC v. QD) explores this legal shorthand when undertaking transactions under English law.

CPC and QD entered into a joint venture to develop the Chelsea Barracks site in London, having purchased the site from the UK government for £959 million in 2007.  A planning application was made for the re-development of the site, and CPC sold its interest in the joint venture to QD.   Under the sale and purchase agreement (SPA), there were significant deferred payments due to CPC contingent on planning permission being progressed, and both CPC and QD owed each other an express duty to act in the “utmost good faith.

In March and May 2009, the Prince of Wales made known to his Qatari royal contacts his dislike of the proposed re-development.  In June 2009, QD withdrew the planning application.  One of the main issues of the case concerned whether either party to the case had acted in breach of their duties of utmost good faith in the events following the Prince of Wales’ intervention, which gives a good place to start an examination of what this commonly used term means in English law.

The Meaning of “Good Faith” – Reasonable Commercial Standard of Fair Dealing

Vos J noted the lack of English authority as to the meaning of the obligation to act “in the utmost good faith.

In reaching his decision, Vos J agreed with Morgan J’s judgment in Berkeley Community Villages Ltd v. Pullen ([2007] EWHC 1330 (Ch)), which in turn relied upon French J’s analysis of good faith in Bropho v. Human Rights & Equal Opportunity Commission ([2004] FCAFC 16).  French J consulted a plethora of legal articles and textbooks, including the U.S. Second Restatement of Contracts, which states, “good faith performance or enforcement of a contract emphasises faithfulness as to an agreed common purpose and consistency with the justified expectations of the other party.

Vos J held that the obligation of utmost good faith in the SPA was to (i) adhere to the spirit of the contract, (ii) observe reasonable commercial standards of fair dealing, (iii) be faithful to the agreed common purpose and (iv) act consistently with the justified expectations of the parties.  Given (iv), the business context will be determinative as to what is a reasonable standard of commercial dealing, and good faith will differ in relation to each and every contract, as the spirit and purpose of each bargain must be considered.

The Meaning of “Good Faith” – Parties’ Own Commercial Interests

Courts have been reluctant to deny a party the right to take into account its own interests when operating contractual provisions that permit a party room for discretion or negotiation.

Vos J considered Australian authority, looking to Overlook v. Foxtel ([2002] NSWSC 17),which states that “the party subject to the [good faith] obligation is not required to subordinate the party’s own interests so long as pursuit of those interests does not entail unreasonable interference with the enjoyment of a benefit conferred by the express contractual terms.

Vos J looked at the SPA as a whole.  As a result of qualifications to other terms in the SPA, such as “if it is in their respective interests to make” and “all reasonable but commercially prudent,” Vos J held that “the parties’ commercial interests were not intended to be entirely subjugated.”  This suggests that any preservation of self-interest, whether express or implied in the contract, can severely limit the effect of an express duty to act in good faith.

Breach of Good Faith

Good faith has generally been interpreted narrowly as a negative requirement not to act in bad faith.  This is reflected in Medforth v. Blake ([2000] Ch.86, Court of Appeal:  “the concept of good faith should not be diluted by treating it as capable of being breached by conduct that is not dishonest or otherwise tainted by bad faith”) and Manifest Shipping Co v. Uni-Polaris Shipping Co ([2003] 1 AC 469).  In Petromec Inc v. Petroleo Brasilero SA Petrobras (No.3) ([2005] EWCA Civ 891), Longmore LJ provided insight into the meaning of bad faith:  “in the absence of fraud it would be unlikely that there would be a finding of bad faith.

Vos J concurred with Lord Scott in Manifest Shipping that “it might be difficult to understand how, without bad faith, there can be a breach of a duty of good faith, utmost or otherwise,” but did not comment upon whether such an obligation could only be breached by acting in bad faith.  Vos J did not find that either party had breached the obligation to act in good faith.

This renders the legal effect of the good faith provision negligible, since it does not impose any substantive duty or obligation, other than not to act dishonestly, in relation to the bargain intended.  Vos J did not find that the obligation to act in good faith had been breached in CPC v. QD, despite the behavior of the parties to the case.

Effect of Express Good Faith Provisions

Good faith depends on the particular context of the commercial relationship in which the duty is imposed.  Express good faith provisions will be interpreted narrowly in relation to their capacity to fetter a parties’ ability to act in its own best interests.

While the judgment in CPC v. QD has not radically altered the law in relation to good faith, Vos J believes that the current law has moved on from that in Walford v. Miles ([1992] 2 AC 128), where an express agreement to negotiate in good faith was held to be unenforceable.

There is a fine line between a party legitimately protecting its own commercial interests and a party behaving unfairly.  The inclusion of an express term to act in good faith may be a source of uncertainty in the contract or may provide flexibility.  Vos J discussed his judgment at the Chancery Bar Association Conference earlier in 2011, stating that should the parties choose to use such shorthand, any element of unpredictability is a risk borne voluntarily by them, to be interpreted in line with their reasonable expectations.  In order to reduce uncertainty, parties should precisely define the scope of an express term to act in good faith, in relation to the acts covered, any subjugation of each parties’ own interests and the consequences of breach.

Courts will respect freedom of contract and generally will not imply a duty to act in good faith into sophisticated joint venture contracts arising from full legal advice (Bond Corp Holdings Ltd v. Granada Group (unreported, May 17, 1991)).  However, fair dealing concepts are already imposed in English contract law.  The courts can rely on equitable principles, striking against unconscionable conduct and bad faith in contract performance (“Contract, good faith and equitable standards in fair dealing,” Law Quarterly Review, A.F. Mason, 2000).  Furthermore the general approach of courts to problems of interpretation in contract law is to uphold the reasonable expectations of the parties (“Contract Law: fulfilling the reasonable expectations of honest men,” Law Quarterly Review, Johan Steyn, 1997).

CPC v. QD is only a High Court decision, but it has confirmed that express good faith clauses are capable of being upheld with drafting setting out clearly what it is that the parties seek to achieve, and that the courts will seek to uphold these clauses.  The case also shows that “good faith” as legal shorthand is less useful from a legal perspective than it might be as a reference point for commercial negotiations.