Duty Of Good Faith In Canadian Contract Law

By Steven F. Rosenhek and Nikolas Blanchette, Fasken Martineau DuMoulin LLP, Vancouver and Montreal, Canada

The 2014 decision of the Supreme Court of Canada in Bhasin v Hrynew, 2014 SCC 71 affirmed an "organizing principle of good faith" which informs the rights and obligations of contracting parties. The Court further recognized that a number of duties flow from this principle, including a duty of honesty in the performance of contractual obligations.

The first part of this article will address the effect of the Bhasin decision in Canada's common law jurisdictions (all provinces except Quebec). The second part will address the duty of good faith in the Province of Quebec, which is subject to a Civil Code.

The Common Law Jurisdictions of Canada (excluding Quebec)

In newly recognizing this duty of honesty in contractual performance (which arguably represented an incremental step from previous decisions of the Supreme Court of Canada in this area), the Bhasin decision created the potential for uncertainty as to the breadth of the duty and the boundaries of the principle of good faith in contractual performance. Some commentators viewed the decision as a major change in the law; others viewed it as simply a logical extension of existing good faith principles that had previously been accepted as part of the law of contract in Canada.

While it remains to be seen how the organizing principle of good faith contractual performance will be treated by courts in the years to come, the cases decided post-Bhasin have not expanded the duty of honesty in contractual performance beyond the parameters set by the Supreme Court of Canada.

The Bhasin Decision

The Supreme Court of Canada reviewed the existing jurisprudence that curtailed absolute discretion in contractual performance in three main circumstances: (1) where the parties must cooperate in order to achieve the objects of the contract; (2) where one party exercises a discretionary power under the contract; and (3) where one party seeks to evade contractual duties. Bhasin did not alter these existing good faith duties, Instead, it enunciated an organizing principle of good faith to provide coherence to these rules.

The manifestation of the good faith in issue on the facts of Bhasin was an obligation not to mislead or misrepresent. (The Court found that, while the defendant had exercised its right to terminate its contract with its agent Mr. Bhasin in accordance with the contractual terms, it had deliberately misled him about its intentions and about the reason for an audit in which it had asked him to participate). Accordingly, the Court outlined a duty of honesty in contractual performance as part of the organizing principle of good faith. The Court affirmed that the duty of honesty means that parties to a contract cannot take steps to undermine the other party's legitimate contractual interest. As stated by the Court, "parties must not lie or otherwise knowingly mislead each other about matters directly linked to the performance of the contract." The Court was careful to circumscribe this duty by making clear that it "does not impose a duty of loyalty or of disclosure or require a party to forego advantages flowing from the contract."

Duty of Good Faith Post-Bhasin

Canadian courts continue to apply the limitations on the exercise of contractual discretion that flow from the principles of good faith that existed pre-Bhasin. They have not expanded the duty of honesty beyond what was enunciated by the Supreme Court of Canada

A recent example is Styles v Alberta Investment Management Corp, 2017 ABCA 1. In that case, the Alberta Court of Appeal refused to extend the duty of honesty outlined in Bhasin to a duty of "reasonable" performance of the contract. The Court found that an employer was within its rights to terminate an employee before the vesting of certain performance grants.

Quebec

Quebec civil law has a longer history with the general duty of good faith than the rest of Canada. The recent decision by the Court of Appeal of Québec in Churchill Falls (Labrador) Corporation Ltd. c. Hydro-Québec1 serves as a reminder that there are clear limits to the duty.

The Evolution of Good Faith In Quebec

The duty of good faith in Quebec civil law was initially attached to specific obligations.² It was not until 1989 that a general duty to act in good faith was first recognized by the Supreme Court of Canada based on Quebec civil law. This was in response to a perceived need to sanction behaviour that, while dishonest, was not manifestly illegal.³ The Supreme Court of Canada stated that a general obligation to act in good faith was implicit in all contractual relationships based on an existing Civil Code provision.⁴ This led to the codification in 1994 of the general principle of good faith in the Civil Code of Québec⁵ (the "Code"), which is the foundation of the province's civil law system.⁶

The Duty of Good Faith in the Code

The relevant sections of the Code⁷ create a general obligation to act in good faith that applies to all contractual interactions, whether in formation, performance or termination.⁸ The general duty of good faith has been adapted to the facts of the given case and the nature of the contract in question.⁹

For instance, the Courts have recognized an implicit obligation to inform contracting parties of information that could have an impact on the contractual relationship even in the absence of an explicit clause to this effect.¹⁰ In the context of franchise law, the Courts have recognized an obligation by the franchisor to assist and cooperate with the franchisee by taking active measures in support of the brand.¹¹ In certain cases, the Courts have recognized an implicit obligation of loyalty in matters of commercial leasing, which requires the landlord to not lease nearby premises to a competitor even in the absence of a restrictive covenant.¹²

In addition, whether the duty of good faith has been met is assessed from two perspectives: the subjective (intention and state of mind of the parties) and the objective (whether the conduct satisfies an objective standard of conduct).¹³ It is therefore possible to act contrary to the duty of good faith without having a malicious intent.¹⁴

The Limits of the Duty of Good Faith: Churchill Falls

In the Churchill Falls case decided by the Québec Court of Appeal in 2016,¹⁵ the absence of a price adjustment clause resulted in one party, Hydro-Québec, generating a substantial profit that neither of the parties had anticipated at the time the contract was signed. The other party, Churchill Falls, argued that Hydro-Québec had a duty to renegotiate the contract, in accordance with the principle of good faith.

The Court held that the duty to act in good faith has its limits and cannot create an obligation to renegotiate a clause that had been duly negotiated by the parties. In addition, the Court held that good faith does not require the parties to "put the interests of the other contracting party first."¹⁶ Churchill Falls has filed an application for leave to appeal to the Supreme Court of Canada.

Conclusion

Since the Supreme Court of Canada's decision in Bhasin, the duty of good faith has become an "organizing principle" of Canadian contract law. However, the courts have thus far treated the duty of honesty enunciated in Bhasin narrowly.

In Quebec, the duty of good faith is a well-established principle that has been enshrined in the Civil Code of Québec. However, the Churchill Falls case demonstrates that although the duty is general and of wide application, it has its limits.

The Court held that the duty to act in good faith has its limits and cannot create an obligation to renegotiate a clause that had been duly negotiated by the parties. In addition, the Court held that good faith does not require the parties to "put the interests of the other contracting party first."¹⁶ Churchill Falls has filed an application for leave to appeal to the Supreme Court of Canada.

Conclusion

Footnotes: 1. 2016 QCCA 1229. It should be noted that Churchill Falls has filed an application for leave to appeal, which remains pending as of the date of this article. 2. See, for instance, sections 411 (one may not profit from goods that one does not hold in good faith) and 2202 (presumption of good faith in matters related to the statute of limitations) of Civil Code of Lower-Canada, which was in force from 1866 until 1994, when the Civil Code of Québec came into effect. 3. As recognized by the Supreme Court of Canada in Bank of Montreal v. Bail Ltée, [1992] 2 SCR 554, at p. 582, as well as by the Court of Appeal of Québec in Churchill Falls (Labrador) Corporation Ltd. c. Hydro-Québec, 2016 QCCA 1229, at para. 145, the general duty to act in good faith was first recognized to exist in Quebec civil law by the Supreme Court of Canada in Bank of Montreal v. Kuet Leong Ng, [1989] 2 SCR 429. 4. Houle v. Canadian National Bank, [1990] 3 SCR 122, p. 156, referring to section 1024 of the Civil Code of Lower-Canada: “1024. The obligation of a contract extends not only to what is expressed in it, but also to all the consequences which, by equity, usage or law, are incident to the contract, according to its nature.” 5. CQLR c. CCQ-1991. 6. The second paragraph of the Civil Code of Québec’s preamble states: “The Civil Code comprises a body of rules which, in all matters within the letter, spirit or object of its provisions, lays down the jus commune, expressly or by implication. In these matters, the Code is the foundation of all other laws, although other laws may complement the Code or make exceptions to it.” 7. The three relevant sections of the Code are as follows: Section 6. Every person is bound to exercise his civil rights in accordance with the requirements of good faith. Section 7. No right may be exercised with the intent of injuring another or in an excessive and unreasonable manner, and therefore contrary to the requirements of good faith. … Section 1375. The parties shall conduct themselves in good faith both at the time the obligation arises and at the time it is performed or extinguished.” 8. Bhasin, para. 83. 9. Churchill Falls (Labrador) Corporation Ltd. c. Hydro-Québec, 2016 QCCA 1229, para. 134 and Marie Annik Grégoire, Liberté, responsabilité et utilité: la bonne foi comme instrument de justice, Cowansville, Éditions Yvon Blais, 2010, p. 77, as quoted by the Court of Appeal of Québec in Churchill Falls, para. 129. 10. Bank of Montreal v. Bail Ltée, [1992] 2 S.C.R. 554. 11. Dunkin’ Brands Canada Ltd. c. Bertico inc., 2015 QCCA 624 (Application for leave to appeal to the Supreme Court of Canada was dismissed (C.S. Can., 2016-03-17)). 12. 9142-9134 Québec inc. c. 9180-9293 Québec inc., 2010 QCCS 4397 (confirmed by the Court of Appeal of Québec in 2013 QCCA 1829 at para. 92 and 93). 13. Houle v. Canadian National Bank, [1990] 3 SCR 122, p. 154 and 155; see Bhasin v. Hrynew, 2014 SCC 71, para. 83. 14. Jean Louis Baudouin and Pierre-Gabriel Jobin, Les obligations, 7th edition, Cowansville, Éditions Yvon Blais, 2013, para. 132, as quoted by the Supreme Court of Canada in Bhasin, para. 83. 15. 2016 QCCA 1229. 16. 2016 QCCA 1229, para. 140.