GOOD FAITH IN CANADIAN CONTRACTLAW

RUOWEI ZHANG

INSTITUTE OF COMPARATIVE LAW

FACULTYOFLAW

McGILL UNIVERSITY, MONTREAL

AUGUST 2001

A thesis submitted to the FacultyofOraduate Studies and Research in partialfulfillmentofthe requirements ofthe degree ofMaster ofLaws (L.L.M.)

© Ruowei Zhang 2001

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Acknowledgements

l would like to express my sincere gratitude and appreciation to an of those who have

supported me in the process of writing this thesis.

Firstand foremost, l thank: Professor John Swan for ms invaluable guidance and patience

as thesis supervisor. His unfailing encouragement and inspiring remarks were crucial for

the completion ofthis thesis.

l also wish to thank: my friend, Jakub Adamski, for having so kindly taken time offto

read my earlier drafts and offer me insightful comments.

l dedicate this thesis tomy family. Their loving support and encouragement were

indispensable to let me live through the two years in Montreal.

August 2001

Ruowei Zhang

ABSTRACT

"Good faith", as a technical legal tenn, has been recognized in many legal systems

around the world as a general principle of contract law. However, in Canadian common

law of contract, the doctrine still has not been explicitly recognized due to sorne doubts

cast on the doctrine. This thesis will first deal with various criticisms presented by the

doctrine opponents. Next, the effect and utility of the doctrine and the relationship

between "good faith" and concepts in equity and corporate law will be examined. It will

be finally concluded that explicit recognition of good faith would help fonn a more

functional body oflaw.

Résumé

La "bonne foi", en tennes juridiques, a été reconnue comme étant un principe général de

la loi contratuellepar plusieurs systèmes juridiques. Par contre, dans le système canadien

du "common law", cette doctrine n'a pas encore été rElconnue explicitement, car certains

doutes persistent. Cette thès~ présentera la critique des opposants à cette doctrine. De

plus, les effets et l'utilité de cette doctrine et la relation entre cette dernière et les

concepts en"equity" et et les concepts en droit des. sociétes seront examinés. Pour

tenniner, la conclusion montrera que la reconnaissance explicite de "la bonne foi" aiderait

à formuler une loi plus fonctionnelle.

2.2.1

2.2.2

2.2.3

Contents

Ir1trodlllction------------------------------------------------------------------------------------------1

Chapter l Tradlitional Theory of Contract andl Trendls Towardl a Goodl Faith Concept----7

1.1 Freedlom of Contract----------------------...------------------------------------------------7

1.2 The Decline ofFreedlom of Contract----------------------------------------------------9

1.3 Development of "Goodl Faith" Concept at commonlaw-----------------------------13

Chapter II MeaIlings and Functions of "Goodl Faith"-----------------------------------------19

2.1 MeaniIlgs of "Goodl Faith"--------------------------------------------------...------------19

2.1.1 The Premise of A Goodl Faith Doctrine-------------------------------20

2.1.2 Goodl Faith as the basis of contract liability--------..,-----------------20

2.1.3 A Badl Faith Excludler---------------------------------------------------23

2.2 Fllnctions ofA Goodl Faith Doctrine--------------------------------------------------23

Protection ofReasonable Expectations--------------------.,.----------23

Preventing the Parties from Breaking Faith--------------------------25

Functionsin an the stages of contracting process-------------------25

2.2.3.1 Contractual Performance andl Enforcement----------..,------25

2.2.3.2 Negotiation ofFormation------------------.,.-------------------29

Chapter ID Good Faith andl Fidluciary Duty---------------------------------------------------37

3.1 FidluciaryDuty~--------------------------------------------------------------------------37

3.2 Fidluciary DutYandl Goodl Faith--------------------------------------------------------43

3.2.1 Common featuresofFiduciary Dllties---------------oo-----------------43

3.2.2 Relations Between Fiduciary Duties andl Goodl Faith---------------43

3.3 Implications to a Goodl Faith Doctrine------------------------------------------------45

3.4 Good Faith, Fiduciary DutYand Oppression Remedy------------------------------47

<:hal'ter I\1 <:onclusion----------------------------------------------------------------------------50

Introduction

The doctrine ofgood faith has been recognized in many legal systems (both civillaw and

common law) around the world as one of the general principles of contract law. It also

appears in a number of international documents suchas the l]NIDROIT Principles of

International Commercial Contracts I and European Council Directive on Dnfair Terms

in Consumer Contracts2. However, this broad recognition of the doctrine of good faith

does not mean that it is understood in the same way in each country that explicitly

recognizes the idea. And in common law jurisdictions, heated debate still rages over the

meaning of "good faith" as weIl as its applicability due to ifs conflict with the traditional

theory ofcontract.

It isa commonplace that one of the most troublesome aspects of a doctrine of "good

faith" relatesto its meaning. It i8 not disputed that the expression "good faith" can have a

number of distinct meanings in different contexts. Firstly, "good faith" could refer to the

state of mind of a buyer of property, or of the holder of bill of exchange, that is, "good

faith purchaser" who is given no notice of defects in title. However, this is a concept

under property law and not what 1 am going to deal with in tms thesis. In contract law,

"good faith" could mean reasonableness according to objective standards when one

exercises ms right under the contract. For example, when a contract prohibits an

assignment bya party without consent of the other party, the other party, if wants to

withhold the consent, must have acceptable reasonsthat could be subject to the objective

standards of reasonableness and could not abuse ms right. "Good faith" could also refer

to sincerity and without fraud. Ifa party performs properlyunder thecontract, it would be

considered to àct in good faith.3 "Good faith" could mean"fair dealing". In a case of

procedure to expel, an association was considered not acting in good faith when the

proceedings for expulsion its members were not followed. according to •the rules of the

association.4 FinaIly, when "good faith" is used by the court to imply or interpret terms

of contract, the exact meaning of gond faith could onlybe examined in each context. It

1 Article.!.7 of the UNIDROIT General Principles for International Commercial Contracts provides thateach party should 'act in accordancewith good faith and fair dealing in international trade'.2 Article 3(1) of the European Council Directive 93/13/EEÇ on Dnfair Terms. in Consumer contractsstatesthat :"A contract tenn which has not been individually negotiated shan·be regarded asunfair if, contrary tothe requirement ofgoodfaith, it causes a significant imbalance in the parties 'rights. and obligations arisingunderthe contract, to the detriment of the consumer."3 For example see Asea Brown Boveri fnc. v. Transelectrix Technology fnc. (1998), 115 Q.A.C. 3594 Marsh v. Huron College (1880), 27 Gr. 605

1

seems that to give a precise meaning to "good faith" is difficult and impractical. Sorne

scholars therefore suggest thatgood faith should only be considered as an 'excluder' of

bad faith behaviour.5 Professor Robert.Summers pointed out that "in contract law, taken

as a whole, good faith is an 'excluder.' It is a phrase without general meaning (or

meanings) of its own and serves to exclude a wide range of heterogeneous i forms of badfaith.,,6

Besides the difficulty of finding a general and precise meaning, opponents of a doctrine

of "good faith" take the view that the doctrine is contrary to the traditional theory of

common law contracts. They .argue that the concept of freedom of contract emphasizes

the centrality of the individual, his liberty and its creative expression. Contract provides

individuals with the opportunity to excuse his freedom, it allows individuals to act as

private legislators as to their own rights and duties. In this connection, the role of

intervention by .either the court or the state wasmainly restricted. The freedom of

contract approach was said to have led to the reduction of supervision over contractual

tenus to a bare minimum.7 Although modem contract law is characterized by an

increased control over the contractual regime, opponents of a good faith doctrine still

worry that when good faith is used to imply terms into a contract or to construe the

meaning of words, the only judge of what the parties have intended is the court, and the

court may fee! free to alter the meaning of contracts by using such a flexible tool8.

Furthermore, the opponents of good faith tend to argue that the doctrine is inconsistent

with the adyersarialethic, the fundà1nental phi10sophyof freedom of contract. To them,

to act in good faith means to take into account the legitimate interests and reasonable

expectations of the otherparty and therefore, to have certain degree of restraint in the

pursuit of self-interest. In his controversial9 judgment in Walford v. Miles10, Lord Ackner

stated that:

5 Beloba.ba, "Good Faith in Canadian Contract Law" in Law Society ofUpper Canada, Commercial Law:Recent Developments and Emerging Trends. (1985), p. 73.6 Robert S. Summers, "Good Faith in General Contract Law and the Sales Provisions of the UniformCommercial Code" (1968), 54 Virginia Law Review 195, atp. 200-201.7PSAtiyah, The Riseand FallofFreedol1lofContract (1979) at p.523-561.8 For example: Gutteridge, "Ab1.lseofRights" (1933),5 Cambridge Law Journa122,at 44 a doctrine ofgood faith " would become an instrument ofdangerous potency in the hands of demagogue and wouldunleash awave ofjudicial moralism". and cause "institutional and commercial havoc".9 Forexample, see F.P. (1932),48 Law QUarterly Review 141; Lambert v. HT. V. Cymru (Wales) Ltd.Thetimes 17 March 1998; Queensland Electricity GeneratingBoard v. New Hope Collieries Pty Ltd. [1989] 1Lloyd's Rep. 205,at p.209-19; also see Neil, "A Key to Lock-out Agreements" (1992),108 Law QuarterlyReview 405, at p. 409-410.

2

The concept of a duty to carry on negotiations in good faith is inherently

repugnant to the adversarial position of the parties when involved in

negotiations. Each party tothe negotiations is entitled to pursue his (or her)

own interest, so longashe avoids making misrepresentations...A duty to

negotiate in good faith is as unworkable in practice as it is inherently

inconsistent with the position of anegotiating party.11

Because of the heated debate over the meaning of"good faith" and its inconsistencies

with traditional theory, itis not surprising that reactions tothe doctrine in common law

jurisdictions are quite different.

In the United States, the doctrine was codified in the country's Uniform Commercial

Code (UCC) decades ago. Section1"203 of DCC provides that "Every contract within

this Act imposes an obligation of good faith in its performance or enforcement". The

Code's g~neral definition of good Jaith 1S contained in section 1-201(19), which states

that good faith means "honesty in fact in the conduct· or .transaction concemed." In

addition, other articles in the Code articles also.contain variant definitions of good faith.

The best known of these definitions is contained in section 2-103(1)(b), which provides

in connection with the sale ofgoods, that in the case of a merchant, good faith means not

only honesty in fact butalso "the observance ofreasonable standards of fair dealing in the

trade"..For contracts not covered by the Code, s. 205 of the Restatement (Second) of

Contracts is important, which provides that "Every contract imposes upon each party a

dutYof good faith and fair dealing in its performance and its enforcement."

English law relies ona number ofspecific doctrines aimed at securing fair dealing rather

than a general principle of good· faith..• Bingham L.J. stated in Interfoto Picture Library

Ltd. v. Stiletto VisualProgrammesLtd. 12 that

"[The civil principle of good faith] does not simplymean that [the parties

to a contractJ should not deceiveeach other, a principle which any legal

system·. must recognize; its effect is most aptly conveyed by such

metaphorical colloquialisl11.S as 'playing fair', 'coming clean' or 'putting

one'scards face upwards on the table.' It is an in essence a principle of fair

10 [1992] AC 128.11 [1992] AC 128, at p. 138.12 [1989]QB 433.

3

and open dealing... English ·law has, characteristicaUy, committed itself to

no such overriding principle [of good faithl but has developed piecemeal

solutions in response to demonstrated problems ofunfaimess.,,13

The English approach can be seen in various situations. For example, in employment

contracts, English common law has implied an obligation of trust and confidence

between the employer and its employees to ensure fairbehavior of the parties during the

relationship. For example, in Malik v.. Bank ofCredit and Commerce SA. (B. CCI),14 the

court did not mention the duty of "good faith". But by recognizing that there is an

implied obligation of trust and confidence, the court actuaHy achieved the same purpose

as a good faith doctrine would do, that is, to protect reasonable expectations of one party.

In this case, Malik was the employee of a bank which was considered by the regulatory

authorities that the bank's business had for a number. of years been carried on

fraudulently. And after his contract was tenninated by the. bank on the ground of

redundancy, Malik was unable to obtain employment in the financial services industry

because ofthe stigma attaching tohimas a fonner employee of the bank, notwithstanding

his innocence ofany wrongdoing. The court recognized that there was an implied

obligation of trust ~d confidence between the employer and its employees. And it is

reasonable for an employee to expect that the employer shaH not without reasonable and

proper cause, conduct itselfin a manner calculatedand likely to destroy or seriously

damage the relationship of confidence and trust between them. The employer breached

the obligation by carrying .on a dishonestor corrupt business. Inconsequence of the

corruption, the employee's fumre employrn.ent prospects were handicapped which no

employee would haveexpected when he enters into the contract. The bank was thus held

liable for the financiallosses the employee suffered accordingly. Though in the later case

Bank of Credit and Commerce S.A. v.. Ali, 1.5 Lord Hoffman in his dissenting judgment

denied Ali's stigma daim for the reason of not being able to prove the losses caused by

the stigma.

In recent years, English Law has an important development in recognizing a general

doctrine of good faith. The Unfair Terms in Consumer Contracts Regulations 1994 has

13 [1989] QB 433, at p. 439.14 [1998] A.C. 20, [1997] 3 AIl E.R. 1.15 [2001] 1 AIl ER 961.

4

explicitly introduced the requirement of good faith. 16 Though, the Regulation only

applies to consumer contracts, it might indicate the possible open acceptance in near

future of a broad doctrine of good faith in English law of contract.

The situation in Canada may be slightly different from both the situations in England and

the V.S. Though the doctrine has not been recognized explicitly, "good faith" is not a

novel concept in Canadian law. 17 The language of good faith can be found in hundreds of

Canadian statutes,18 both.federal and provincial. 19 Besides, Canadian judges frequently

use "good faith" to interpret contract terms and impose implied obligations to the parties

in dispute for the protection .of the parties' reasonable expectation when they think:

traditional approaches to contracts are unable to deal with problems of unfair deal. Such

problems of unfaimess may especially arise fromlong-term arrangement which the

framework for future co-operation operates in ways that one party may not have expected

when he enters into the contract. Forexample, in McKfnlay Motors Ltd. v. Honda

Canada Inc}O the parties had ten years relationship as dealer and manufacturer before

thetenninationof the agreement. Honda adopted a new allocation system which it could

determine dealer allocations with an unfettered discretion. As the result, the performance

of McKinlay under the dealership agreement became highly relied on the allocation of

the cars by Honda. By deliberately operating the system to the disadvantage of

McKinaly, Honda terminated the McKinlay's dealership as it had wished. Wells J. stated

in the judgment for McKinlay that "it is obviously an implied term ofany such agreement

that the parties act toward each other in their businessdealings, in good faith." He,

therefore, found that Honda had acted in bad faith in the exercise of its unfettered

16 s. 4 (1) In these Regulations, subject to paragraphs (2) and (3) below, 'unfair term' means any termwhich .contrary to the requirement of good faith· causes a significant imbalance in the parties' rights andobligationsunder the contract to the detriment of the consumer.

s. 4(3) In determfuing whether a term satisfies the requirement of good faith, regard shall be had inparticular to the matters specified in Schedule 2 to these Regulations.

Schedule 2: "In making an assessment ofgood faith, regard shan be had in particular to -(a) the strengthof the bargaining positiqns of the parties; (b) whether the consumer had an inducement toagree to the term;(c) whether the goods or services were .sold or supplied to the special order of the consumer, and (d) theextent to which the seller or supplier has dealt fairly and equitably with the consumer."17 See E.P. Belobaba, "GoodFaith in Canadian Contract Law" (1985) in Law Society ofUpper Canada,Commercial Law: Recent Developments and Emerging Trends, atp. 73.. Example cases see Hurley v. Roy(1921),64 D.L.R. 375; Smith v. Upper Canada College (1920), 48 O.L.R. 120; Marshallv. Canada CornProducts (1925),28 OW.N. 320.18 Belobaba, "Good Faith in the Law ofContract" (1982) Appendices A and B.19 For example, CBCA s. 122 (1) (a) states that "Every director and officer of a corporation in exercisinghis powers and discharging his duties shall act honestly and in good faith with a view to the best interests .ofthe corporation;"20 (1989), 46 B.L.R.62.

5

discretion to allocate cars to McKinlay in the last two years under the dealership

agreement.

Though there is still debate as to whether Canada needs a doctrine of good faith,21 it may

be more appropriate to say that "good faith is a part of [Canadian] law ofcontracts,,22 and,

as sorne scholars put it, "good faith" is already an operative doctrine in Canadian contract

law.23

Thus it seems unlikely that Canadian courts will reject the doctrine of good faith as

English courts would do. The question left is whether Canada needs an explicit judicial

recognition.

Then, what is "good faith"? It is in essence a mechanism which regulates legal relations

between the parties. Byexcludinga wide range of forms of bad faith behaviour, a

doctrine of good faith can upholdcertain standards ofconduct during the relationship so

as to make surethat the parties' reasonable and legitimate expectations areprotected.

This thesis will first deal with the issues that bother the .opponentsof the doctrine,

basically whether it is conflict with traditional contract theory and what is the meaning of

"good faith". The effect and utility of the doctrine· and the relationship between "good

faith" and concepts in law of equity and corporate law will also be examined. It will be

finally concludedthat explicit recognition of good faith would help form a more

functional body of law.

21 For example: Michael G. Bridge 'Does Anglo-Canadian Cbntract Law need a doctrine ofGoodFaith?' (1984), 9 Canadian Business Law Journal 385.22 Ontario Law Refonn Commission, Report on Amendment of the Law ofContract (1987), at p.166.23 Trebilcock, "Good Faith in Sales Transactions: Research Paper No. II.3 (1974) Ontario Law ReformCommission Sale ofGoods Project. Aiso see Belobaba, "Good Faith in the Law of Contract" (1982)Ontario Law Reform Commission Law ofContract Amendment Project.

6

Chapter 1 Traditional Theory of Contract and the Trends Toward a Good Faith

Concept

As mentioned above, what troubles most opponents of good faith is that the doctrine is

inconsistent with the traditional theory of contract law. Before 1make the conclusion that

such worry is unnecessary, it may be appropriate to examine the traditional contract

theory and its influence to modem contract law first.

1.1 FREEDOM OF CONTRACT

It is generally agreed that the main body ofmodem common law contracts was deve10ped

during the nineteenth century and the first part ofthetwentieth century. This body oflaw

is celebrated as the expression of liberal individualism.24 Influenced by the theories .of

naturallaw and the philosophy of laissez-faire, most judges ofthat period believed that

"the law should interfere with people as little as possible"?S To thesejudges, the main

object of the law of contract was to enable people to "realize their wills", that is, to

enforce the private arrangements on which the parties hadagreed and to assist one of the

party when the otherbroke the mIes of the game and defaulted in·the performance ofhis

contractual obligations.26 Such an attitude lay in the presumption that "individuals are

equally capable ofprotecting and pursuing their welfare, are naturally self-interested, and

willbargain only with an eye to thatinterest, seeking to maximize theirutilities".27 Sir

George Jessel, one of the greatest judges of the nineteenth century, dec1ared that "if there

is one thing morethan another which public policy requires, it is that men of fun age and

competent understanding shaH have the utmost liberty of contracting and that their

contracts, when entered intofreely and voluntarily, shan be held sacred and shaH be

enforced by Courts of Justice".28 These ideas encouraged almost unlimitedfreedom of

contracting, and as a result, nfreedom of contract" and "sanctity of contract" became the

foundations onwhich the whole contract lawwas built.29

24 See Jamie Cassels, "Good FaithinContract Bargaining: General Principles and Recent Developments",(1993), 15 The Advocates' Quarterly 56, atp.58.25 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4th ed. atp. 8.26 P.S. Atiyah, An Introduction to the Law ofContract(1989), 4th ed. at p. 8.27 See Jamie Cassels, "Good Faith in Contract Bargaining: General Principles and Recent Developments",(1993), 15 The Advocates' Quarterly 56, atp. 59.28 Printing and Numerical Registering Co. v. Sampson q875}LR 19 Bq at p .. 465.29 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4th ed. at p. 9.

7

Generally speaking, the concept of freedom of contract has two meanings. One is about

its positive aspect, that is, "freedom to contract".30 It emphasizes "the .creative power of

the participants in the contractual process to act as private legislators and to legislate

rights and dutiesbinding upon themselves".31 Thus, a contra.ctwould not be void on the

groUlld of unfaimess or unreasonableness as long as the parties agreed on it or, iuother

words, chose to do so. Contractual justice tended to honor the parties' agreement with

little regard to its contents.32 In the meanwhile, judges Were reluctant to impose

obligations on those who had not voluntarily assumed them. Under the traditional theory,

if obligations were imposed, there wa.s a tendency to treat them as contractual, sin.ce "the

judges denied that they had any power to make a contract for the parties".33

The othermeaning of "freedom of contract" is about its negative aspect, that is, "freedom

from contract". This means "the parties are free from obligations so long asa binding

contract has not been concluded,·}4 It obviously derived from the idea of "freedomto

contract". Since any obligation from a contract should be assented by the parties, it came

to be a fundamental principle of the law that contracts were. binding andenforceable· as

soon as they were agreed upon or they were made.35 Thus, as long as thereareno

contracts concluded, negotiators could withdraw .from the negotiation al any time and

"canget away withsome very nasty bargaining behaviours",36

Traditional contract law is thus considered as including "a numberof features which

offered considerable advantages to the powerful and the knowledgeable, while posing

substantial risks to the ignorant and the unwary. ,,37 For example, participants did not

need to "lookbeyond the commodity, to the person or interests of the other,,}8 The

30 N. Cohen, "Pre-Contractual Duties: Two Freedoms and the Contract to Negotiate" in GoodFaith andFault in contract Law, p. 25.31 Jack Beatson and Daniel Friedmann, "Introduction: From 'Classical' to Modem Contract Law" in GoodFaith and Fault in ContractLaw, p.l, atp. 7.32 Jack Beatson and Daniel Friedmann, "Introduction: From 'Classical' to Modem Contract Law" in GoodFaith and Fault in ContractLaw, p.l, atp. 8.33p.s. Atiyah, An Introduction to the LawofContract (1989), 4 th ed.. at p. 11.34 N. Cohen, "Pre-Contractual Duties: TwoFreedoms and the Contract to Negotiate" in Good Faith andFault in Contract Law, p. 25.35 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4th ed. at p.14.36 See Jamie Cassels, "Good Faith in Contract Bargaining: General Principles and Recent Developments",(1993), 15 The Advocates' Quarterly 56,at p.6037 Jack Beatson and Daniel Friedmann, "Introduction: From 'Classical' to Modem Contract Law" in GoodFaith and Fault inContractLaw, p.l, atp. 11.38 See Jamie Cassels, "Good Faith in ContractBargaining: General Principles.andRecentDevelopments",(1993),15 The Advocates' Quarterly 56, atp.59.

8

lUlscrupulous, by unfulfilling certain legal requirements, could avoid contractual liability

as the promise can not be enforced by the courts with these requirements lUlfulfilled.

However, to say that in the contract law there is no room for a doctrine of good faith

would he unwise. Even in 1792, courts concluded that: " In contracts of aIl kinds it is of

the highest importance that courts of law should compel the observance of honesty and

good faith,,}9 Furthermore, even during the heyday of post-Benthamite formalism, a

Chancery judge still explicitly admitted that a necessary prerequisite for thespeoific

enforceOlent of a contract of sale was the utmost good faith between buyer and seller.4o

Besides, what is more important is that the impact the freedom of contract gives on the

modem law of contract is at most partial and maybe misleading. The .law of contract

developed significantly after 1870 with the development of a modem economy.

1.2 THE DECLINE OFFREEDOM OF CONTRACT

Theperiod from 1870 to 1980 is generally identified as a period of graduaI decline in

belief in freedom of contract.41 Asmentioned above, traditional contract theory paid

little attentionto inequ,alities between contracting parties and took little accolUlt of social

and economic. pressures which in many circumstancesmight virtually force a person to

enter into acontract.42 With the further development of a modem economy, especial1y,

the considerable awareness of the existence of long-term relationships, the weaknesses of

traditional contract theory to provide justice seemed obvious.

Many' factors are said to have influenced the challenge to the coherence of traditional

contract law and in helping to develop the modem law of contract.

The emergence and subsequent widespread use of standard formcontractsis one ofsuch

factors. On the one' hand, standard formcontracts affordedmany advantages. For

example, for companies dealing with many customers or suppliers .or other parties,

standard form contracts. could reduce expenses, time spent bargaining over terms with the

other party in each transaction. Secondly, a carefully dra:fted standard. form contract

could provide great protections to the companies who provide it. The contract of adhesion

39 Mellish v. Motteux (1792), Peake 156,J70 EK 113.40 Philipsv. Homfray(1871), 6 Ch. App. 770,atp. 778.41 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4 fu ed.atp. 17.42 P.S. Atiyah, An Introduction to theLaw ofContract (1989), 4fu ed; atp. 17.

9

can work as a great iron fencé3 to insure the performance of the contract by the other

party therefore to keep any prospective litigants or devil parties away frorn taking

advantage of the transaction. Thirdly, standard form contracts are also used to rnake the

practice in certain industry uniform. And when the usefulness of these contracts was

discovered and perfected·in the transportation,. insurance, and banking business, their use

spread into aIl other fields of large scale enterprise, into international as weIl as national

trade, and into labor relations.44

On the other hand, the problern with the contract of adhesion is that it could sometimes

have the effect of depriving the other party ofits free choice. 45

In certain situations, the other party mayhave no choicebut to accept the terms that may

be strict and unfair to them. This is more cornmon in consumer cases. Especially when

the standard terms are offered by large organizations, the consumer is free only in the

sense whether to "take it" or "leave it". These organizations may have "every advantage

overthe individual".46 They usually have the access to large resources of the best legal

service while do not have to be too worried about the cost. Besides, in practice, many

standard fonn contracts "are signed without being read or understood,,47 by the consumer.

A change in.political values was another factor thatis said to cause the decline in belief

in free choice. According to Atiyah, the period of 1870 to 1980 was a period when

coIlectivist, and even socialist values became widespread in England. And there wasan

increased sophistication in economicunderstanding of the limitations of the system of

freecontract.Especially, it was graduaIlyrecognized that free exchanges couldcause the

problem of "externalities".48 Although in most cases a free exchange could be beneficial

to the parties ofa contract, it would not be in the public interest if its externality outweigh

43 Havigurst, The Nature ofPrivate Contract (1961) atp.116.44 Friedrich Kessler, "Contracts of Adhesion--somethoughts about Freedom ofContract" 9 (1943), 43 Col.L. Rev. 629, at p. 631.45 They are not always characterized as depriving of the other party of its free choice. According toHavighmst, The Nature ofPrivate Contract (1961)at p.116, "Infonned, intelligent and well-ba1ancedpeople are not as a mIe too much concerned about the extent of the legal pressures available in the event ofdispute. In deciding with whom they win deal.they are apt to take more account of the attractiveness ofother terros and of the company's reputation for fair dealing."46 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4th ed. at p. 19.47 TildenRent-A-Car Co. v. Clendenning(1978) 83 D.L.R.(3d) 400 at pA08,18 O.R. (2d) 601.48 Externality is the sîde effect ofa transaction betweerl two parties which affects third parties. It means!hat even if an exchange is beneficial to both the parties who make it, ît win not be in the public interest ifthere are side effects to third parties which outweigh the private gain. See P.S. Atiyah, An Introduction tothe Law ofContract (1989), 4th ed. at p. 22.

10

the gain achieved by the contracting parties. Such extemality problems, forexample,

pollution, became extrernely serious during the Industrial Revolution.

As a result, there is awareness of the problemsof unfaimess that the traditional contract

lawcouldnot deal with.49 It came to be widely recognized that the system of free

contract would lead to unacceptable and unjust result and that the interference by the law

to protect the weak and the vulnerable party is necessary.

It was not. surprising that huge tracts of law then came to be regulated by legislation,

muchofwhich interfered with or totally overrode freedom of contract.50 And in certain

situations, the state may even compel persons to make contracts. The following statutes

areonly single examples ofmany.

According to the Employers' Liability (Compulsory lnsurance) Act51, the employer must

insure against liability for bis employees. The Race Relations Act52 also made it clear

that. employers and shopkeepers can not refuse to deal withanother because of his or her

racial origins. In Canada, similar legislation also came into force. The Canadian Human

Rights Actprohibits any discrimination on grounds of race, national. or ethnic origin,

colour, religion, age and sex, etc.53 Thus, an employer can not refuse. to employ any

individual.on the prohibited groundS.54

A statute may also prescribe the contents ofthe·contract for the parties. The Carriage of

Goods .by Sea Act55 contains six pages of rules to be inco:rporated in every contract for

'the carriage of goods by sea in slips where· the port of shipment is a port in the United

Kingdom.56.In Canada, the Carriage ofGoods by Water Act57 contains similar rights and

obligations .to be incorporated in every contract for 'the carriage of goods by ship from

one place in Canada to any other place in Canada, either directly or by way of place

outside Canada.'

49 For examp1e, see Parker v. South Eastern Railway Co. (1877) 2 C.P.D. 416.50 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4th ed. at p. 23.51 1969 c.57.52 1976 c.74.53 Canadian Human Rights Act RoS. 1985, s.3.54 Canadian Human Rights Act 1976-77, s.7.55 1971 c.1956 Cheshire, Fifoot & Furmston, Law ofContract (1991), 12lh ed. at p. 1957 R.S. 1985, c.27

11

On the other hand, it is no longer true that the only function of the court was to enforce

contracts. Judgescame to admit that contractual solutions were sometimes 'imposed' on

the parties.58 Issues, which were formerly dealt on the basis of the parties' intention, now

came to be simply govemed by rules of law. For instance, the doctrine of frustration was

traditionally explained to rest on an implied term in the contract. In Taylor v. Caldwell,59

Blackburn J. stated "in the absence of any express or implied warranty that the thing shall

exist, the contract is not to be construed as a positive contract, but as subject to an

implied condition that the parties shall be excused in case, before breach performance

becomes impossible from the perishing of the thing without default of." However, tms

theory was abandoned in Davis Contractors v. Fareham UDC. 6o Lord Radcliffe

explained in ms judgrnent why the theory on implied terms should be replaced:

"Lord Loreburn ascribes the dissolution to an implied term of the contract that was

actuaUy made. This approach is in line with thetendency of English Courts to

refer aU the consequences of a contract to the wiUof those who made it. But there

is something of a logical difficulty in seeing how the parties could even impliedly

have provided for something which, ex hypothesi, they neither expected nor

foresaw; and the ascription of frustration to an implied term of the contracthas

been criticised as obscuring the true action of the court which consists in applying

an objective mIe of the law ofcontract to the contractual obligations that the parties

have imposed on themselves...."

Another important approach, the objective test, was also set out in this period. In Smith v.

Hughes,61 Blackburn J. stated: "If, whatever a man's real intention may be, he so conducts

mmself that a reasonable man would believe that he was assenting to the terms proposed

by the other party, and the.·other party upon that helief enters into the contract with mm,

the man thus conductingmmselfwould beequallybound as ifhe had intended to agree to

the other party's terms..,62 This approach is important because if a contract has to be

decided on what is subjective in each party'smind, it would be difficult for the court to

find out what the real intention of the parties is and therefore, either party could easily get

away from the deal whenever he wants.

58 P.S. Atiyah, An Introduction to the Law ofContract (1989), 4th cd. at p.2359(1863) 3B.&S. 826, 122 E. R. 309.60 [1956] AC 696.61 (1871),L.R. 6 Q.B.597.62 Ibid, at p. 607.

12

Thus the new theory that the courts, which should act as the spokesman of the fair and

reasonable man, will impose solutions based on what it thinks the parties ought

reasonably to have agreed or intended became widely accepted.

In Canadian case, Hobbs v. Esquimalt and Nanaimo Railway CO.,63 the Supreme Court of

Canada not only followed the objectiveapproach in Smith v. Hughes, but also focused on

the reasonable expectations of the .parties. It established thatthe purpose .of a contract is

to give effect to the reasonable expectations of the parties, in particular to protect. the

reasonableexpectation ofthe promisee.

As sorne scholars stated, "the legal boundary identifying freedom is a function of legal

decision-making, and has variedover the course ofhistory".64 Because ofthese social and

legal changes, freedom of contract is no longer the only feature of modem contract law.

And in fact, we can see from various doctrines and principles under modem contracUaw

which do reflectand promote faimess .ofcontract, greater truthfulness, careand regard

for the interests of the other party.

1.3 DEVELOPMENT OF "GOOD FAITH" CONCEPT AT COMMONLAW

Although the court rarely claimedthe power to intervene.the freedom of contract and to

override contract tenus when it thought necessary, judges had been so influenced bythe

considerations ofprotecting the weak parties that they have developed techniques to help

them control what they considered objectionable uses of contract power. For example,

the court may use the process ofinterpretation or construction toexpand obligations or to

narrow the scopeof exemptions under a c.ontract. In Dick Bentley Productions Ltd. v.

Harold Smith Motors Ltd,65 Lord Denning took abroad viewofwhatwould constitute a

warranty so that the seller's statements would be more likely to be considered warranty.

This can be contrasted with the narrow approach taken in Heibut Symons & Co. v.

Buckleton.66 In Wallis v. Pratt ,67 the courtheld thatthe exemption clause,"the seller

gives no warranty express or implied· as to growth, description or any other·matler", was

ineffectiveas the statement given by the seller as to the seed was not a warranty •but a

"condition" ofthe contract.

63 (1899), 29 S. C.. R. 450.64 Mensch, "Freedom ofContract As Ideo1ogy", (1981), 33 Stanfard L. Rev. 753.65 [1965] 2 AH E.R 65, [1965]1 W.L.R. 623.66 [1913] A.C. 30.67 [1911] A.C. 394.

13

In the last half of the twentieth century, the court has also developed much flexible

approach to the problem caused by the traditional rigid rule for a signed contract.

According to the traditional mIe, "when a document containing contractual tenus is

signed, then, in. the absence of fraud, ... , misrepresentation, the party signing is bound, as

it is wholly immaterial whether he has read the document or not. ,,68 In the case of

consumer contracts, a signed standard tenu document may not be conclusive. Courts are

more willing to enforce the reasonable expectations of the consumer rather than the

printed document. In Tilden Rent-A-Car Co. v. Clendenninl9, Dubin J.A. stated that

In many cases the parties seeking to rely on the terms of the contract know or

ought to know that the signature of a party to the contract does not represent the

true intention of the signer, and that the party signing is unaware of the stringent

andonerous provisions which the standard form contains. Under such

circumstances, l am of the opinion that the party seeking to rely on such terros

should notbe able. to do so in the absence of tirst having taken reasonable

measures to draw such terros to the attention of the other party and, in the

absence of such reasonable measure, it is not necessary for the party denying

knowledge of such term toprove .either fraud, misrepresentation, or non est

factum."

It became the rule under modem contract law that the more unusual or draconianthe

tenu, the more stringent the notice required}O

Most importantly, there was considerable awareness by the academic and legal profession

ofthe factthat most contractual dealings in modemeconomy are not discrete transactions

on which the traditional contract lawestablished.71 Long-tenucontinuing relationships

are almost pervasive in. a· modem economy. .. For example, transactions between

manufacturer and its suppliers, orbetween manufacturer and its distributors usuallyhave

long-term relational feature.

68 L'Estrange v. Graucob, Ltd., [1934] 2 K.B. 394{C.A.), at p. 403.69 (1978) 83D.L.R. (3d) 400 atp. 408,18 O.R.{2d)601.70 LSpurling, Ltd. v. Bradshaw, [1956]2All E.R. 121 (G.A); Thornton v. Shoe Lane Parking Ltd., [1971] 2Q.B. 163 (C.A.); Corckerv. Sundance NorthwestResorts Ltd. [1988] 1 S.C.R. 1J86, {l988)51 D.L.R. (4th

)

321,44 C.C.L.T. 225; Betker v. Williams (1992), 86 D.L.R. (4th) 395, [1992] 2 W.W.R. 534, 63 RC.L.R.(2d) 14 (C.A.)71 "Discrete.contract is a relation created for one transaction thathad neither history nor future." John Swan,Barry J. Reiter, Nicholas BaIa, Contracfs: Cases, Notes, and Materials, 5th ed, at p. 752.

14

The awareness of long-term relationship changed the attitude of using contract as a

careful planning for the transaction. Though important transactions not in the ordinary

course ofbusiness are still handled by a detailed contract, which concems allthe factors

that may affect the transaction, such as the performances in the transaction,

contingencies, defective performances and legal sanction, many, if not most, exchanges

reflect no planning or only a minimal amount ofi1.72

In most transactions, parties mayonly agree expressly on their primary obligations. This

is because certain terms and customs or "unwritten laws" are widely accepted within the

trade, therefore, parties tend to assume thatthe otherparty would also follow the trade

customs and leave them outside of the contract either consciously or unconsciously.

Moreover, when the parties do business witheach other regularly, both parties would

know what attitude the other party was likely to take andmay tend to trust andrely on

such attitude. Finally, many businessmen took the view that too much negotiation might

sour a peaceful relationship.73 This in tum may give rise to good faith disputes duringthe

life orthe exchange relationship often is present.74

The court began to recognizethe trust and reliance between the parties in contractual

dealings, especially those with long-term feature and those with established trade

practices and customs. Tt is also recognized that the trust and reliance between the parties

of a contractual dealing can also extend to the period when the parties are only involved

in pre-contractual negotiations. In the United Dominions Corporation Ltd. v. Brian

Property Ltd.75 a majority of. the High Court of Australia held that "A fiduciary

relationship can arise .andfiduciary duties can exist between parties who have not

reached, and who may .llever reach, agreement upon the consensual terms which are to

govem the arrangement between them".76 In LAC Minerals Ltd. v. International Corona

Resources Ltd.77 , La Forest J. took the view that the parties have reached a stage in their

relationship where their expectations should be protected. And finding a fiduciary

relationship between Corona (the junior mining company) and LAC (the senior mining

72 Macaulay, Non-Contractual Relations in Business,at p.61.73 Beale & Dugdale, "Contracts Between Businessmen: Planning and the Use of Contractual Remedies"(1975),2 British Journal ofLaw and Society 45, at p. 47.74 Macauly, Non-Contiactual Relations in Business, at p. 60.75 (1985), A.L.R. 676.76 (1985), A.L.R. 676, at p. 680.77 [1989] 2S.C.R. 574, 61 D.L. R. (4th)14.

15

company) is "the practice esta1)lished by the evidence to support the obligation was

consistent with 'business morality and with encouraging and enabling joint development

ofthe natural resources ofthe COUlltry'''.78

On the other hand, the parties began to realize that it may be more effective and realistic

for them to just agree on a work system which would help resolve any unforeseen event

during the life of contract. The problem with such arrangement is that, during the life of

contract, the circumstancesagainst wbich the contract is made may change and the

system may not work as the parties have expected. It is possible that though·the parties

are of equally bargaining power at the time of contract, one party may become so strong

that he may actually abuse the system leaving the other party live at its mercy,though

strictly speaking, bis action is not in violation ofthe contract. Thus, a legal mechanism

which could regulate the work systemduring the life ofcontract seems necessary.

Theproblem is more obvious in corporatecontext. The modem theory of the corporation

views it asa legal fiction that serves as a nexus for contracts among all individuals with a

consensual daim againstit.79 The contract for setting up a corporation is, in essence, a

long-term relational contract between the shareholders.

The work system for such contract under the traditional mIes of corporate governance is

the majority mIe. It means onlythose holding a majority of shares in a company can

actually control the management of the company and therefore have the discretion to

make decisions as to the operation and development of the. corporation. And the minority

shareholders could not directly determine their own fates and may be detrimentally

affected by.a decision, action or occurrenceover which theyhaveno control.

The potential unfaimess to. minorities created a major ünpetus toward the reform of

modem company law.8o In the Report ofthe Committee on Company Law Amendment,81

the competing principles between the flexibility ofmanagement to conduct business

efficiently and the interests of corpo:rate •• stakeholders were recognized.82 According to

78 [1989] 2 S.C.R. 574, 61 D.L.R. (4th) 14.79 F.R. Buekley, M. Gillen, R. Yalden, CorporationsPrinciples and Policies, 3rd .ed., afp. 23.80 Stanley M.Beek, "MinorityShareholders Rights in the 1980s" in Corporate Law in the 80s: SpecialLectures ofthe Law Society ofUpper Canada, 1982 (DonMills, Ont.: Richard De Boo, 1982) at p. 312,81 United Kingdom, Cmd.6659 (London: Her Majesty's Stationary Office, 1945), [hereinafter the CohenReport].82 Cohen Report, at p. 7-8.

16

the recommendation in the Cohen Report, a statutory oppression remedy, a mechanism

for the regulation of unfaimess caused by the majority mIe, was enacted under Section

210 of the Company Act (U.K.),1948.

In common law, the courts also started to look into the faimess of the majorities' act to

the minorities. The decision of House of Lords in Ebrahimi v. Westbourne Galleries

Ltd. 83 was considered hallmark in the evolution of the opprèssion remedy. In this case,

the Hause of Lords rejected a "strict constructionist" approach to the articles of a

corporation.84 By recognizing the personal aspects to. an incorporated partnership, the

Hause of Lords held that under the "just and equitable" wording found in the Companies

Act that the court had the power, in limited circumstances, to relieve party from the

bargain it had entered into if the powers contained in the articles were being exercised in

a manneroutside of or inconsistent with the contemplation of the parties. Lord

Wilberforce stated in his famous statement:

The words (just and equitable) are a recognition of the fact that a limited

company is more than a mere judicial entity, with a personality in law of its own;

that there is rQom in company law for recognition of the fact that behind it or

amongst it, there are individuals with rights, expectations and obligations inter se

which are not necessarily submerged in the company. structure...Acts which, in

law, are valid exercises of powers conferred by the articles may nevertheless be

entirely outside whatcan fairly be regarded as having been in the contemplation

ofthe partieswhen they became members of the company.

[The just and equitable provision] does, as equity always does, enable the court

to subjectthe exercise oflegal rights to equitable considerations; considerations

that is, of a personal character arising between one individual and another which

may make it unjust, or inequitable, to insist on legal rights, or to exercise them in

a particular way.

The decision recognized a judicial discretion to grant the relief of winding up, though

none of the actionswere contrary to anystatutory or contractual right ofthe.applicant. If

legitimate "interests" and "expectatians" had been infringed by an act outside the

83 [1973] A.C. 360.84 Theapproach in Cooper (Cuthbert) &Sons Ltd. (Re), [1937] 2 AIl E.R. 466.

17

contemplation of the parties, the relationship could be terminated. The House of Lords

made it clear that the statute permitted, in special circumstances, doctrines of faimess and

good faith to be superimposedon the exercise of legal rights.

Influenced by the decision inWestbourne Galleries Ltd. and the academic debate, in

1980, the U.K. provision was further revised to provide a broader oppressionremedy.

The statutory oppression remedy was introduced into Canadian statutes by Canada

Business Corporations Act (the "CBCA") in 1975. According to section 241 of CBCA,

any "complainant" may make an application for the oppression remedy. "Complainant"

includes any present or former security (not just share) holder, an officer or director of

the corporation or ofany of its affiliates, plus any person who, in the discretion of the

court, is a proper person· to be a complainant. The conduct complained of may be

"oppressive" or "unfairly prejudicial" to, or may simply "unfairly disregard" the interests

of, any security holder, creditor,diredor or officer.85

The above mentioned trends suggest that the classical model of the contract process

operates only in a special and limited case where the conditions are met.86 The

developmentof modern law as weU as contract law Can be seen as an evolution towards

the concept of good faith and fair dealing. As a result, good faith as anorm actuaUy

pervades the modern law ofcontract.87

85 Most Canadian. statutes closelyfoUow the version of CBCA s. 241 and include conduct which. is"unfaîrly prejudicial" or which "unfairly disregards" the interests of a complainant: Alberta BusinessCorporations Act, S.A. 1981, c. B-15, s.234; Manitoba Corporations Act, R.S.M. 1987, c. C 225, s.234;New Brunswick Business Corporations Act, S.N.B. 1981, c. B-9.1, s. 166; Ontario Business CorporationsAct R.S.O. 1990, c. B-16, s. 248 ; Newfoundland Corporations Act, S.N. 1986, c. 12, s. 366; Nova ScotiaInvestorsProtections Act, S.N.S. 1990, c. 15; and Saskatchewan Business Corporations Act, RoS.S. 1978,c. B-lO, s. 234. In the British Columbia act the ''unfaîrly disregards" wording is absent: British ColumbiaCompany Act, KS.B.C. 1979, c. 59,5.224.86 Macaulay, Non-Contractual Relations in Business, at p. 61.87 Trebilcock , Good Faith in Sales Transactions, Research Paper No. II.3 (Ontario Law RefonnCommission Sale ofGoods Project)4-5(1974); Belobaba, Good Faith in the Law ofContract, Researchpaper(OntarioLaw Refonn Commission Law ofContract AmendmentProject) (1982); Belobaba, "GoodFaith in Canadian Contract Law" (1985), in Law Society ofUpper Canada, Commercial Law: RecentDevelopments and Emerging·Trends, at p. 73

18

Chapter II Meanings and Functions of nGoodFaith"

2.1 MEANlNGS OF "GOOD FAITH"

As mentioned above, "good faith" is a general concept that could have different meanings

in different contexts.

Though Canadianjudges frequently use the tenu "good faith" in their judgments, its exact

meaning is still unclear. Sometimes, they may use the phrase loosely. For example, .in

Asea Brown Boveri Inc. v. Transelectrix Technolagy Inc., 88 the respondent ("ABB") was

requestedby the appellant to repair the goods sold to the appellant's customer. As

disputes arose between the appellant and thecustomer, .the appellant instructed· the

respondentnot toreturn the goods to customer. But before receiving this instruction, the

respondenthad already returned the goods to the customer on its demand. The appellant

thus refused to pay the fees for the repair. The court held that "it was completely

improper for the appellant, after the respondent had, in good faith, perfonued the repairs

under the contract, to attempt to use the respondent to gain leverage in its dispute with

Hydro [the customer]".89 Here the tenu "good faith" itself.is nothing more than a label

expressinga conclusion, result or judgment.

In other cases, judges might use the phrase with more careand indicate only that in a

given context, a party did not act in good faith, but still may not elaborate clearly what

they mean by "good faith". In McKinlay MatorsLtd. v. Handa Canada Inc.90 Wells J.

stated that "It is obviously an implied terro ofany such agreement that the parties act

toward each other in their business dealings, in good faith. l find therefore that the use of

the allocation system in respect of McKinlay in 1983 and 1984, was not in good faith,

and was sufficiently serious to constitutea breach ofthe agreement and... ".91 But it may

still beasked what is the exact meaning of "good faith"?

It seems to give an exact and precise definition of good·· faith is impossible and thus

Professor Summers pointed out in his famous article that good· faith could only. be

88 (1998), 115 O.A.C. 359 (ont C. A); also see Rosart Real Estate v.. Horvath [1961] O. R. 675, 29D.L.R. (2d) 205 (C.A)89 (1998), lISO.AC. 359 (Ont. C. A.) atp. 361.90 (1990),46 B.L.R. 62.91 (1990),46 B.L.R. 62, at p. 80.

19

considered an exc1uder.92 "It is a phrase without general meaning or meanings ofits own

and serves to exc1ude the wide range ofheterogeneous forms ofbad faith.,,93

2.1.1 The Premise ofA Good Faith Doctrine

As we know, each community and social groupingexist views and practices conceming

standards of conduct in contract relations that are both widely shared or generally

adhered to.94

In business practice, these Vlews and practices may not be put into the agreement

explicitly, that is, the contracting party may not put these standard~ of conduct or the

basic behavioural requirements into their cbntracl. But it is understoodand assumed by

the contracting parties and the people in comnmnity that all parties shan follow these

standards and neither will t(lke advantage of the fact that these standards of conduct and

basic behavioural requirements are not actually in the contract itself. It is tbis

understanding and rehance that needs a doctrine of good faith to protect il.

2.1.2 Good Faith As the Basis ofContract Liability

"[GJood faith can be seen as the primary basis of contract liability".95 As thecbmmunity

standards ofconduct could always be linked to the idea of an implied term "requiring co­

operation on the part of one party to the contract so that another party will not bederived

of bis reasonableexpectations".96 The doctrine of good faith is to recognize these

standards of conduct and basic behavioural requirements and to guard for the parties'

reasonable expectation that the other party would act according tb theseconductual

standards.

For example, in George Wimpey Canada Ltd. v. Hamilton-Wentworth (Regional

Municipality),97 the Municipality called for tenders for a road construction projecl.

92 Summers, "'Good Faith' in General Contract Law and the Sales Provisions ofthe Unifonn CommercialCode" (l968), 54 VirginiaLawReview 195.93 Summers, "'Good Faith' in General Contract Law and the Sales Provisions ofthe UnifonnConn11ercialCode" (1968), 54 Virginia Law Review 195,at p. 200-201.94 Reiter, "Good Faith in Contracts", atp.706.95 Reiter, "GoodFaith in Contracts",at p. 716.96 Farnsworth, "Good Faith Performance and Commercial Reasonableness Under the Uniform commercialCode" (1962~63) 30 University ofChicago Law Review 666.97 (1997), 34 C.L.R. (2d) 123 (Ont. Gen. Div).

20

Tender documents contained a privilege clause providing that municipality could reject

any or all bids and need not accept the lowest bid. The second lowest bid was fin(llly

accepted a.nd the .lowestbidding contractor therefore brought action for damages .for

breach· of contract. The court· held that an owner has a dutYto aU tenders to treat them

fairly and in good faith. This requires the owner to accept, according to the industry

custom, the lowest and qualified bid subject only to qualifications stated or impliedin the

tender documents. Thus, though the tel1der documents .contain the privilege clause, it can

onlybe exercised on commercial considerations stated or reasonably contelUplated in the

tender documents or puhlished elsewhere. In the absence of possible grounds· in the

tender documents or a publishedpolicy regarding reasons for rejecting tenders,the

municipality's decision was found to have been made in breach orthe duty to treatall

tenders in good faith.

In LeMesurier et al. v. Andrus,98 the parties entered into a contract for the sale ofthe

house. Thepurchaser,however, relying on the title clause in the contract, repudiated the

contract for (l small,non-material deficiency in title. The court found that the discrepancy

was only 0.16 per cent of the total property. By referring to Judson l's statement in

Masan v. Freedman99 that "A vendor who seeks to take. advantage •of the cHmse must

exercise his right reasonably and ingood faith and not in a. capricious· or arbitrary

manner", Grange J.A. concluded thepurchaser's reliance upon· the clause was "eapricious

or •arbitrary" as "it would be a rare case where a careful survey would not disclose. sorne

minor. discrepal1cy. Vendors and purchasers owe a dutYto eachother honestly to perfonn

a contract honestly madel'.lOO Grange lA. further briefly discussed the clevelopment of

an independent doctrineofgood faithintheperfonnance ofcontract law.

Most .opponents of agood faith doctrine tend to miss. the pointthat the concept ofgood

faith "isnot identical· with moral good faith... a requirelUentof good faith i8 a .rninirnal

standard rather thana high ideal".IOIThe concept of goodfaith providesonly"a minimal

behavioural. base >line in the exerciseof contractual and statutory rightsand

obligations"I02 in contractdealing. To act ingood faith in contract transactionsdoes not

mean to bealtruistic or behave according to$emost moral standards. And contractors

98 (1986), 25 D.L.R. (4th) 424.99 [1958] S.C.R. 483, at 487, 14D.L.R. (2d)529.100 (1986), 25 D.L.R. at p. 430.101 Summers, "The General DutyofGoodFaith--Its Recognition and Conceptualization" (1982), 67 CornellL. R. 810, atp. 834.102 Ontario Law ReformCommission, Report on Sale ofGoods (1979), atp. 171.

21

will still "be permitted to deal in a wholly self-interested way until they reach the bad

faith hne as drawn by the commercial community. ,,103

Since trade custOffiS may vary in different industries and situations, it is not surprising

that the breach of good faith requirements can be different in different context.

For example, in Naylor Group [ne. v. Ellis-Don Construction Ltd.,104 Weiler J.A. pointed

out thatthe practice in bid procedures in construction industry is that the successful prime

contractor is obligated to enter into construction subcontract with the subcontractor,

whose bid was incorporated in the prime contractor's successful bid, unless the prime

contractor has a reasonable objection to the subcontractor. The fairness and good faith of

the prime contractor in its dealings with the subcontractor are factors to consider in

determining the reasonableness of the prime contractor's objection. IOS The factors which

a court should consider as to whether the prime contractor's objection is reasonable

include the timeliness of the prime contractor's objection and the actions taken by the

prime contractor as a result of its objection. The court found out that nEllis- Don didnot

raise its objection to using Naylor in a timely fashion. Instead, Ellis-Don shopped Nalor's

bid, including the priee for the post-tender addendum, to other companies including Guild

Electric.... ,,106 What Ellis-Don did was inconsistent with thepractice in the bidding

industry as "the integrity of the bid systemdepends upon bid shopping not taking place;

indeed, the whole system is set up to prevent bid shopping". 107 WeilerJ.A. concludedthat

Ellis-Don's objection to using Naylor was unreasonable.

In George.Robson Construction (Weston) Limited et al. v. The Regional Municipality of

Hamilton-Wentworth I08, theSuperior Court of Justice found outthat the defendant acted

in bad faith as its conducts are contrary to community standards of honesty,

reasonableness and fairness while the reasonable expectation in building contracts is for

the owner to work with the contractor in resolving any technical details. However, the

defendant's once again invoked a good faith doctrine and held that thedefendant shol.lld

be liable for his conducts that were contrary to community standards of honesty,

reasonableness and fairness.

103 Brownsword, "Two Concepts of Good Faith" (1994), 7 Journal ofContract Law 197,atp. 211.104 (1999) 171 D.L.R. (4th)243, 43 O.R. (3d) 325.105 (1999) 171 D.L.R. (4th) 243at p.244, 43 O.R. (3d) 325.106 (1999), 43 O.R. (3d) 325,171 D.L.R. (4th) 243, at p. 258.107 (1999), 43 O.R. (3d) 325, 171 D.L.R. (4th) 243, at p.258.108 (2001),53 O.R. (3d) 337.

22

2.1.3 A Bad Faith Excluder

The idea that to understand good faith as a bad faith excluder can be justified in at least

three ways.

Firstly, it makes the good faith doctrine much more workable. It is generally agreed that

focusing on bad faith behaviour makes a good faith doctrine more precise and, thus, more

predictable)09 In Mogridge v. Clapp,110 the court also defined good faith simply as "the

absence ofbad faith." Belobaba has also pointed out thatthe definition of good faith by

way of bad faith example is an approach that has been judicially endorsed in other areas

ofCanadian law.111

Secondly, the "bad faith" approach also makes the good faith doctrine consistent with

other contemporary contractual control techniques used by the courts. Doctrines suchas

inequality ofbargaining power or unconscionability, and undue influence, aH work as •• an

excluder ofcontractual wrong-doings. "They focus on the negative repercussions of

transactional abuse, not on the positive requirements ofcontractual obligation." 112

Finally, the bad faith approach also makes it clear that the test for breaching the good

faith requirement is an objective one, as it is based on existing views and practices

conceming·standards of conduct in contract relations.

Therefore, it is not surprising that Belobaba pointed out "the explicit adoption of a good

faith doctrine today would not impose any new contractual obligations or responsibilities.

It would simply consolidate existing doctrinal approaches and provide a more precise

remedial vocabulary."

2.2 FUNCTIONS OF A DOCTRINE OF GOOD FAITH

2.2.1 Protection ofReasonable Expectations

109 Summers, "The General Duty of Good Faith--Its Recognition and Concetualization" (1982), 67 CornellLaw Review 810.110 [1892] 3 Ch. 382, at 391, per Kekewich J. :"What does good faith mean? .. 1 think that the best way ofdefming that expression.. .ls by saying that it is the absence ofbad faith--of mala fides."III Belobaba, at p. 79 note 53 "in the public administrative law area, for example, " the ...of good faith isexpressed negatively...by reference to instances of [bad faith} ... " aslo see Horvath v. The Queen, [1979} 2S.C.R. 376, at 424-25, per Beetz J..112 Belobaba, "Good Faith in Canadian Contract Law" at p. 80.

23

As discussed in.Chapter l, the development of modem contract law is associated with a

focus on the protection of reasonahle expectations of the parties. Steyn L.J (now Lord

Steyn.) expressed the importance of the role of "reasonahle expectations" in modem

contract law in First Energy (UK.) Ltd. v. Hungarian International Bank Ltd. 113:

A theme that runs through our law of contract is that the reasonable expectations

of honest men must be protected. It is not a rule or principle of law. It is the

objective which has been and still is the principal moulding force of our law of

contract. ..if the prima facie solution to a problem runscounter to the reasonable

expectations of honest men, this criterion sometimes requires a rigorous

examination of the problem to ascertain whether the law does indeed compel

demonstrable unfaimess.114

Since it is natural for the parties to assume that each other will act according to the

community standards and trade practices, there are reasonahle expectations as to the other

party's proper conduct in contractual dealing. Further more, theconduct standards wbuld

differ between the discrete contracts and the relational ones. They will differ "depending

upon whether it is among professionals, among consumers, or between consumers and

professionals.,,1l5 Theyalso differ over lime with the changes in prevailing social,

economic and political views, etc. As Reiter pointed out, "It hecomes apparent that what

is common in aIl ofcontract can be stated only in the most general terms."116

Thus, itseems. impossible that the identical and specifie mIes, such as offerand

acceptance, could resolve aIl the contractual prohlems arising from various contractual

dealings and protect the reasonable expectations in different settings. But a doctrine of

good faith could work flexibly and effectively. As Summers put it, "By invoking good

faith, implying a promise or working an estoppel it may he possible for a judge to do

justice and do it according to law. Without legal resources of tbis general nature he

might, in a particular case, be unable to do justice at aIl, or he might he able to do it only

at the cost of fictionalizing existing legal concepts and mIes, thereby snarling up the law

113 [1993] 2 Lloyd's Rep. 194.114 Ibid, at p. 196.115 Reiter, "Good Faith in contracts", (1983) 17 Valparaiso University Law Review 704, at p. 715.116 Ibid, at p. 715.

24

for future cases. In begetting snarl, fiction may introduce inequity, unclarity orunpredictability.,,117

2.2.2 Preveriting the Parties from Breaking Faith

It is also normal that during the course of contractual dealing, "misunderstandings may

arise, unforeseen events occur, expected gains disappear or dislikes develop whichmay

motivate one party to act in bad faith. If, however, such a party is legally as well as

morally obligated to act in good faith, he will be significan.tly less likely to breakfaith" 118.

According to Belobaba "where so 1lluch of modem contract law is devoted to· the

protection of reasonable expectations and to policing against contractual unfaimess

generally, it would he odd if reasonable and faimess were pervasive norms but somehow

good faith and fair dealing were not. ,,119

2.2.3 Functions In AlI the Stages ofContracting Process

Though thereis still debate whether a·good faith doctrine should apply ifparties are only

in the stageofnegotiation, most scholars agree thafthe doctrine ofgood faith couldwork

effectively.in the later two .stages of the contracting process, that is, contractual

performance and contractual enforcement. Robert Braueher once stated: " Idon't thirik

you can find a case in the wholehistory ofthe common law in which a court says that

good faith 1S notrequired in the performance of the contract or in the enforcement of a

contract"~ 120 So 1· will first look at thefunctions in the contract performance and

enforcementand then in contractual negotiation.

2.2.3.1 Contractual Performance and Enforcement

117 Summers, "'Good Faith' in General Contract Law and the·Sales Provisions of the. Uniform CommercialCode", (1968) 54 VirgiJ1ia Law Review 195, at p. 198.118 Summers, "'Good Faith' in General Contract Law and the Sales Provisions ofthe Uniform CommercialCode", (1968)54 Virginia Law Rcview 195, at p. 198.119 Belababa, "Good Faith in Canadian contract Law" at p. 81.120 As quoted in Summers, "The General Duty ofGood Faith--Its recognition and Conceptualization"(1982),67 ComellhR810, atp. 814.

25

As mentioned above, parties when enter into contract mày only agree expressly on their

general obligations, and may leave certain terms undefined or certain preliminary

obligations outside of the contract consciously or unconsciously. Thus, it could be said

that every contract is incomplete. The words llsed may have to be interpreted in the

context in which the meaning or force has to be considered or sorne kind ofmachinery or

sorne extended course of action has to be imposed on one party to make the arrangement

work l21 When construing. or interpreting contractual provisions, the court will look for

and be guided by the reasonable expectations oftheparties. 122

A good faith doctrine is a tool which could help the court to findout what the parties

"really" intended according to the particular circumstances.123 Thus the most important

functions of a good faith doctrine incontractual performance is to help· define the

obligations and rights .ofthe parties under the contract.

For example, in the contract for the sale of land, parties may have agreed that the contract

will be conditional on obtaining of certain approval without setting out what the party

should do to obtain such approvaL A doctrine of good faith provides the guidelines for

the Interpretation and the imposition of obligations so as to help the parties achievetheir

contractual objectives.

Where the parties have agreed that something has to be donefirst so as to secure the

performance of contract, a good faithdoctrine requires that eachparty shall do all thatis

necessary to he doneon his or her part for the carrying out ofthe thing}24 In reaching

this construction,. it will be relevant to take account of the legitimate orreasonable

expectations of the parties when they make the contract.125 Therefore, "the implied

121 J.Swan, B. J.Reiter, N.Bala: Cont;racts, cases, notes & materials, 5th ed, at p.505.122 Brooke lA. stated inLeadinglnvestments Li. v. New Forest Investments Ltd. et al (1981),20 R.P.R. 6 at20 (Ont. C.A.)123 Lord Denning.admitted.in Greave and Company Ltd. v. Baynham Meikle [1975}3 AU E.R. 99, at p.103(C.A.), "It has often been .stated that the law will orny imply a term when; itisreasonable and necessary todo so.in.order to give business effica,cy to·the transaction; and indeed, soobviousthatboth parties musthave intended.it. But those statements mustbe taken with considerable qualification. In a great majority ofcaseS it isno use 100king for the intention ofboth parties. Ifyou asked the parties what theyïntended,theywould say that theynever gave it a thought;or, if they did, the One would say that he intended somethingdifferent from the other. Sothe courts imply--or, as 1would say, impose--a term such as is just andreasonable in the circumstances."124 Mackay v. Dick (1881) 6 App. Cas. 251, at p. 263.125 A.F.Mason, "Contract, Good Faith and Equitable Standards in FairDealing", (2000) 116 L.Q.R, 66 at p.75.

26

obligationdoes no more than spell out what, on the true construction of the contract, is

the effect of promises and undertakingsentered into by the party."126

1t couldprotectthe innocent party's reasonable expectations from the contract when the

other party is trying arbitrarily toget out of the deal by claiming that the contract is

uncertain. 127 In Dynamic TransportLtd.·v. O.K. Detailing Ltd.,128 the contractwas silent

asto who should obtain the subdivision approval. Dickson J., by implying the

requirement thatUthe vendor is under a dutYto act in good faith and to take an reasonable

steps to complete the sale.", gave effect to what he assumed the parties. must have

intended by the· dealthat th.ey made. He further· explained where such obligation came

from:

"1 cannot accept the proposition that failure to fix responsibility for obtaining

planning approval renders a contract unenforceable. The common intention. to

transfer à<parce1of land in the knowledge that a subdivision is required in order

to effect suchtransfer must be taken to inc1ude agreement that the vendor will

make a proper application for subdivision and use his best efforts to obtain such

subdivision. This is the only way in which business efficacy can be given to their

agreement."

The same approachwas taken in Hogg v Wilken. 129 Lerner J. stated that "An application

for suchconsent would have tobe carriedout in good faith to its logical· conclusion by

presentation. of same· to the committee, the necessary appearance before .the c6mmittee

and furnishinganyanswers or material that would be reasonably within the power of the

vendors to supply ifrequested bythatcommittee."130

A good faith doctrine also imposes on the parties the general dutYto co-operate with each

other to achieve thecontractual objective.It requires thàt each party take reasonable

steps to perform. its partofthe contract to complete the transaction.

126 A.F.Mason, "Contract, GoodFaith and Equitable Standards in Fair Dealing", (2000) 116 L.Q.R, 66at p.75.127 See, for example, Mason v. Freedman, [1958] S.C.R. 483; Hogg v. Wilken (1974), 50.R. (2d) 759(H.C.).128 [1978] 2 S.C.R. 1072,85 D.L.R. (3d) 19.129 (1974), 5 O.R.(2d) 759.130 (1974),5 O.R. (2d)759, at p. 761.

27

Just as the scope of contractual obligations could be defined by a doctrine of good faith,

so also the cOlltractual rights could be defined by such doctrine. lt is possible that a

contract may confer power on a contracting party in tenns wider than that are necessary

for the protection of the party's legitimate interests.A good faith doctrine, by referring to

the reasonable expectations of the parties and the community standards of conduct, could

provide the exact extent of such power and therefore could make sure the particular party

will not act in an arbitrary way.

One of the most common situations is thatthe party is given a discretionary right under

the contract. In Mesa Operating Ltd. Partnership v. Amoeo Canada Resourees Ltd.13l the

plaintiff entered a contract to sell. certain oil and gas properties to the defendant.

According to the contract, the plaintiff reserved to itself an overriding royalty and the

defendant had a discretion, subject to a dutY to act in good faith, to pool any portion of

non-producingproperties with. other lands. The effect of any such pooling was· the

reductionofthe royalty payable to the plaintiff. The defendant pooled one of the royalty

properties, on an. areal basis, with another that it owned outright. The actual reservoir

was located entirely on the royalty property. The court held that the dutY to act in good

faith was. breached by. failure to consider reserves based pooling, as the defendant was

expected to consider both areal" andreserves-based pooling and apply whichever method

the. facts justified according to the traditions and standardsgeneraUy observed in the

industry.

lt is. also common that performance •of the contract was conditional on one party's

satisfaction.. In North End Investments Ine. Alsman132, the plaintiff agreed to purchase

the defendant'sbusiness. The partiesentered into a contract, wmch was prepared by the

plaintiff..One of the tenns of the contractprovided for the plaintiffsbeing satisfied upon

a reviewofthe defendant's financial and leasehold information. Though the plaintiffhad

not expressed any dissatisfaction previonsl)',. aweek before closing he repudiated the

contract by claiming dissatisfaction with thefinancial andJeaseholdinformation. Itwas

held that· the plaintiff failed to perform according to the contract terms. Rowbotham J.

stated in his judgment: "the words 'satisfactory' and 'satisfaction' must be read in context

withthe entire agreement. Reliance upon them must be. made in abona fide manner,

honestlyand in good faith. The contract was prep~redbythe plaintiff and it should not

131 (1994), 19 Alta.LR. (3d) 38,13 B.L.R. (2d) 310, 149 A.R.187, 63 W.A.C. 187 (C.A.), affmning(992), 129A.R. 177.132 .

[1989] 4 W.W.R. 545.

28

now be pennitted to tenninate the contract by a literaI interpretation of its own language.

There must be a valid legal reason for the tennination of the contract, not the personal

whim ofthe plaintiffs owner.,,133

Agood faith doctrine could not only restrain "a party in its exercise of discretion

conferredon it by the contract"p4 but also prevent one party from taking advantage of

the clauses in the contract, thus avoid the abuse of the rights by one party. Le Mesurier et

al. v..Andrus mentioned above is but one example. In Mason v. Freedman,135 Judson J.

said " A vendor who seeks to take advantageof the clause must exercise hisright

reasonably and in good faith and not in a capricious or àrbitrary manner.,,136

2.2.3.2 Negotiation and Fonnation

Most of the negotiations today are quite different from the simple bargaining envisioned

by the classicrules •.. of offer and acceptance. According to the classical rules, an

agreement is said to be reached only when an offermade by one party is accepted by the

other. However, today major contractual commitments are usuaUy set out· in a

document, or in a set of documents, .signed by the parties in multiple copies and

exchanged more or less simultaneously,137 It is also common that parties, before

reaching the final contract, may have an agreement stating that.both parties haveagreed

inprinciple. The parties may even start to work together before the process ofbargaining

isfinally completed. .Even if the partieshaye reached· the final agreement and signed

contract, it is still possible that certain issues may be leff open. Thus the way people

contraet makes it difficult tofind a clear eut between the phase of contractual negotiation

and the phase of eontractual perfonnanee. As a result,pr()blems may arise when one

party wants to get out of thenegotiationor the deal, if a contract has been executed,

arbitrarily.

133 North End/nvestments /nc. v.Alsman and Alsman [1989] 4 W.W.R. 545, at p. 547.134 Famsworili, "Good Faith in Contract Performance", GoodFaith and Fault in Contract Law 153, at 159.135 [1958] S.C.R. 483, 14 ti.L.R. (2d) 529.136 [1958] S.C.R. 483, at 487, 14 D.L.R. (2d) 529.137 See 2 Formation of Coritracts: A Study ofCommon Core of Lega.l Systems (R. Schlesinger ed. 1968),at1585-86.

29

Before 1 discuss the function a doctrine of good faith could offer in the process of

contract negotiation, 1would like to first look at sorne cases to see how the courts have

solved these problems without such a doctrine.

In one line of cases, the courts take the view that an agreement to negotiate 1S

enforceable.

In Nil/as & Co.· Ltd. v. Arcos Ltd. 13& Arcos sold 22,000 standards of lumber to Hillas.

As part of the deal, Arcos gave Hillasan option for the foHowingyear to be the exclusive

importer of about ten times the original amount on the same tenus and at the same priee.

But the next year, when the market price of lumbers rose, Areos refused to be bound by

the option on the ground that important terros, such as the sizes of IU111ber, the

proportions of the variOu.s sizes, were not stated. The House of Lords found that the

parties believed they had a .contract and the parties had made the deal work in thefirst

year, therefore, their lordships held that they could make the deal work in the secondyear

and thusthe agreement is enforceable. Lord Wright stated inhisjudgment "There is

then no bargain except to negotiate, and negotiations may he fruitless and end without

any contract ensuing...yeteven then,in strict theory, thereis acontract (ifthere is good

consideration) to negotiate, though in the event of repudiation by one party the damages

may be nominal, unless a jury think that the opportunity to negotiate Was of sorne

appreciable value to the injured party."139 Thus it seems the court's position is that there is

a contract between the parties though no agreement on details.

In Pitt v. PHH Asset ManagementLtd. 140 two people, theplaintiff and Miss Buckle, were

interested in purehasing the defendant's cottage. After discussions, the defendant told the

plaintiff that the sale to mm at ;(200,000 would proceed, subject to contract, and that no

other offer would be eonsidered providedcontracts were exchanged witmn.14 days of

submissionofthe draft. Theproperty was finallysoldto Miss Buckle fort210,000. The

plaintiffclaimed for damagecaused bythe defendant's breach ofthe 'lock-out' agreement.

The court held that the plaintiff· was entitled to damages for· breach of the lock-out

agreement, even though the agreement. was not in writing and the sale was subject to

contract.

138 [1932J AlI E.R. 494,38 Corn. Cas 23, 147 L.T. 503 (H.L.)139 [1932JAll E.R. 494.140 [1994J1 W.L.R. 327.

30

However, there is another category ofcases in which the attitude of the courts is different

from that mentioned above. In Courtney & Fairbairn Ltd. v. Tolaini Brothers 141 the

parties agreed that Courtney would help Tolaini obtain the financing necessary for the

building ofa hotel, in return, Tolaini agreedto let Courtney have the contra,cfto huild the

hotel and that they wouldltnegotiate fair and reasonable contract terms". But later after

the Tolaini obtained the fina,ncing, the parties could not agree on a price for the

construction and Tolaini contracted with another contra,ctor. The Court of Appeal held

that 1) there was no enforceable contract between the parties. The letters didnot giverise

to an enforceable contract since the price had not beenagreed; 2) the agreement between

the parties is·. no more than an agreement to negotiate fair and reasonable contract sums.

A contractto negotiateeven thoughsupported byconsideration was notacontract known

to the law since it was too uncertain to have any hinding force and no courtcould

estimate .the .damages for breach ofsuch an agreement. Lord Denning stated in the

judgment:

Ifthe law does not recognise a contrllct to enter into a cohtract (when there is a

fundamentatterm yet to be agreed) it seems to me it cannot recognise a contract

tonegotiate. Thereason isbecause it is too unceitainto haveanybiIidingforce.

.No court •could estimate the damages because no one can tell whether the

negotiatiohs would be succes.sful or would falLthrough~ or if successful, what the

result would be. If seems to me thata contract to negotiate, like a contract to

enterintoa contract, is not a çohtract kIiown tothe law.. .I think we must apply

the g~neraLprinciplethat when there is a fundamentalmatter left undecided and

b h b'f . 0 • Oh' • 142toet e su ~ecto negotlatlOn, t ere lS no contract.

The House of.Lords took the sameposition in Walford v.Mi/es. 143 In· Walford, the

parties had negotiated and agreed inprinciple to sell a business for ~2m. They further

agteed that, provided the appellants. supplied a comfort letter from their bank: hy a

stipulated date, they 'would terminat~ negotiations with any tOOd party'. The comfort

letter was duly supPlied and the respondents confirmed, suhject to contract, the sale to the

appellant for f:2m.. However, therespondent sold the businessto the third Party. The

appellant therefore claimed damages for the breachof the 'lock-out'agreement, alleging

that such agreement containedan implied term that, so long as the respondent desited to

141[1975] 1 W.L.R.297,[1975] 1 AlI KR. 716.142 [1975] 1 W.L.R. 297,[1975] 1 AlI E.R. 716.143 [1992]2 A.C. 128, [1992] 1 AlI E.R. 453.

31

sell the business, they would continue to negotiate with the appellant in good faith. The

court held that an agreement to negotiate lacks the necessary certainty and the court could

not be expected todecide whether a proper reason had existed for the termination of the

negotiations. Therefore, the agreement was unenforceable;

In a recent case Martel Building Ltd.v. Callada,l44 the plaintiff Martel owned a building

that itleasedto the defendant government. Before the leaseend, the partiesengaged in

negotiations regarding its re:newal. During .the negotiation, Martel was led to believe.that

thedefe:ndant would renew the lease at a specifie rent~l rate, and advised that it was

prepared to offer that rate. The offer was rejected andthedefendanHssued a call for

ten.ders. Thelease was finally awarded to a competitor. Before doing so, thedefendant

added ah. amount to· Martel's bid to coyer additional three itemsofcosts. Though· two

items were added to allbidders, the third one--thesecurity costs were nqtadded to that of

the cOInpetitor, whose bid was accepted as th~lowest. Martelthus brought an action in

tort and contract for damages for pure economic 10ss. The··Supreme Court ofCanada in

itsdecisiondenieda dutYto bargain in good faithl45, though the wholejudgment orny

gives the reasons why· the tort of negligence should not be extended to include

negotiation.

Itseems the law on th~ problem of the agreement to negotiate is quite uncertain~Andit i5

obvious that there are·. no standards to decide whether an agreement. should .be •upheld,

though it issaidthat,.traditionally, an agreement to agree i8 not enforceable. However, if

we look at the issue from the point that rea~onable reliance couldbeprotectedeven if no

contract exists,146 we may tend toagreewithtl1e reasoningDenning L.J. usedin Brewer

Street Investments Ltd. v. Barclays Wool/en .147

InBrewer Street !nvestments, the prospective tenant and the landlord agreed on the rent

for an initial 21-yearterm.Beforereaching the final contract, the prospective tenant

wrote to the landlord requesting certain work to be done to rtleet theirspecific needs. The

negotiation broken.d.own as the parties could notagreeon the option to purchase the

premises. De11ning L.J. stated:

144 (2000), 193 D.L.R. {4th) 1.

145 MartelBuildiflg Ltd.v. Canada (2000), 193 D.L.R. (4th) l,at p.21

146 For example, Central LondonProperty Trust Ltd. v. High Trees House Ltd [1947] 1 K.B.130, 116 L.I.Rep. 77, Craven-Ellis. v. Canons Ltd., [1936] 2 K.B, 403, [1936] 2 AU E.R. 1066.147 [1954] l Q.B.428, [1953] 2 A.UE.R. 1330.

32

It is clear on the facts that the parties proceeded on a fundamental assumption-­

that the lease would begranted--which has tumed out to be wrong....[The

question to ask is:] what was the reason for the negotiations breaking down? If it

was the landlords'Jault, as for instance, ifthey refused to go on with the lease for

no reason at aIl, or because they demanded a higherrent than that which had been

already agreed, then they should not be allowed to recover any part of the cost of

the alterations... On the other hand, if it was the prospective tenants' fault thatthe

negotiations broke down, as for instance, if they sought a Iower rentthan •• that

which had been agreed upon then the prospective tenants ought to pay the costof

the alterations upto the time they were stopped. .. It is a very old principle laid

down by Sir Edward Coke that a man shaH not be aI10wed to take advantage of a

condition broughtby himself148

The issue discussed is about th~ allocation of risk for a breakdown of a negotiation. The

general principle is· that the parties will bear their own risks for abreakdown in

commercial negotiations. However, the law shaH not· allow a party at JauItto .take

advantage of this principle. According to the examples Denning L.J. gives in his

judgment, what hemeans by "fauIt" can be understood as the conduet that does not.meet

certain standards. Such standards are the conduets whieh people would reasonably rely

on.when theyenter into negotiations. Thus the reasoning is consistentwith the

explanation. a good faith doctrine would provide, and the purpose achieved is to protect

the parties' reasonable expectation.

Therefore,an agreement to negotiate could be given sorne force by holding that the

parties have an obligation to negotiatein good faith. If, after negotiating ingood faith,no

agreementis reached, neither party will have a c1aimagainst the other. If, one party does

not negotiate ingood faith,the other partytnay have a daim for breach of such

obligation.

Agood faith doctrine, by recognizing certain relationalnonns before the parties come

int() a contractual relationship,couldprovide protection of the innocent party's legitimate

expectations grounded in the reasonable helief thaf"a dealison". After aIl, there is no

c1ear eut between contractual negotiation and performance. Both negotiation and

perfonnance constitute the whole process ofcontracting.And it is the whole process that

148 Brewer Street Investments Url. [1954] lQ.B. 428, [1953] 2 AU E.R. 1530.

33

needs a doctrine of good faith to protect the parties' reasonable expectation. The lawthus

requires the parties to act according to certain standards of conduct once the process

starts. In this connection, it would be weird if a doctrine of good faith can be recognized

in contractual performance while not in negotiation.

The. recognition of a dutytobargain ingood faith could not only solve the problemof

uncertainty in the current law by providing a test according to the related trade custotns

andpractices, bgt also prevent advantage taking andother blameworthy conducts byone

party which would be unfairly prejudicial. to theother party and which preventthe

consummation of a contract during the process ofnegotiation.

The concept of negotiating in good faithcould also prevent one party from arbitrarily

getting out of a dea1. The mere factthat terms are left for further agreement or a contract

without certainessential tenu does n9t necessarily give .. anyground for a party who

anxious to withdraw from the deal to do so. The function of the. doctrine inthis

connection is consistent with that in contractual performance.

Another ilnportant function of a good faith doctrine in contractual formation is to prevent

one party from attempting unfairly to impose an obligation on the other. In Bettison v.

1 C.B. C. 149 the plaintiff sought enforcement of a settlementagreement with the defendant

insurer. The insurerhad previouslyappointed an independent adjuster to deal with the

daim, but the partieshad not been able· to reach a settlement. Later, in a chance

encounterbetween the plaintiffs lawyerand a solicitoremployed by the insu.rer in an

administrative capacity, the insurer's solicitoroffered to settle· the clailn for$900,OOO~

The conversation tookplace in an elevatorand lasted. about one minute. The plaintifrs

lawyer wrotetoaccept the offer the nextday. Southin J. conduded that the solicitor's

words shquld not reasonable beconstrued.asa contractual offet l:>Y taking into·· account

the context in which the· offer was tnadeand the normal bargaining practices.The

plaintiffs lawyer should have had doubts about the. seriousness of the offet, particularly

given the. large stakes,and should at least haveconfirmed that it was intended seriously.

Accordingly, the purported acceptancewasconsiderednQt in good faith.

149 (1988),22 B.e.L.R. (2d) 130 (S.e.).

34

Though LAC Minerais Ltd. v. International Corona Resources Ltd.150 is a case about

fiduciary duty, La Forest J. stated in his judgment that "institution ofbargaining in good

faith isone that is worthy onegal protection in those circurnstances where thatprotection

accords with the expectations for the parties."151 It is interesting to note that although

LAC MineraIs is the first case in which the Supreme Court of Canada explicitly

recognized a notion of bargaining in good faith, the judgment did not caught anybody in

thetrade by surprise. What the court did is only to recognize and enforce the practice

which people in the trade would normally comply with. In contrast, Martel· obviously

became a case out of line.

2.2.3.3 Summary

It seems that open adoption of a good faith doctrine in aIl the three stages of contracting

process could, by looking into the actual practicesand expectations of the marketplace,

notonly protect reasonable expectations of the parties in contractual dealings but also

promote, rather than upset, the quest for certainty.

2.3 Current Canadian law

Though there is still doubt over whether a doctrine of good faith should apply if parties

areonly in the stage ofnegotiation. Cases suggest that Canadian contract law has already

recognized the doctrine and the functions of a goodfaith doctrine in aIl thethree phases

of contracting process. In Gateway Realty Ltd. v. ArtonHoldings Ltd.(No.3)152 Kelly J.

made it more clear:

The law requires that parties to a contract exercise their rights under that

agreement honestly, fairly and in .good faith. This standard is breached when a

party acts. in .a bad faith manner in the performance of its rights and obligations

und.er the·contract. "Good faith"· conduct is the· guide to ·the manner in whichthe

parties should pursue their mutual contractual objectives. Such conduct is

breached when a party acts in "bad faith"--a conduct that is contrary to

community standards ofhonesty, reasonableness offaimess. The insistence on a

good faith requirement. in discretionary conduct in contractual formation,

150 (1989),61 D.L.R. (4th) 14, .[1989] 2 S.C.R. 574,26 C.P.R. (3d) 97.151 LAC MineraIs (1989),61 D.L.R. (4th) 14, at p. 47.152 (1991), 106 N.S.R. (2d) 180.

35

performance, and enforcement is only the fulfillment of the obligation of the

courts to do justice in the resoJution of disputes between contending parties.J53

153 (1991), 106 N.S.R. (2d) 180, at p. 191-92.

36

Chapter lU Good Faith and Fiduciary DutY

The idea that to use an excluder to uphold certain standards of conduct and to deter

various conduct that would be unfair or prejudicial to the other party (or parties) in

certain relationships is not peculiar only in contract law. In fact, other branches of law

have already allowed the doctrine of faimess and good faith to be superimposed on the

exercise of legal rights. The extension of fïduciary duties from the traditional categories

to novel relationships and the inclusion of statutory oppression remedy in corporate·Iaw

to proteet minority shareholders from abuse of majority power may weIl indicate the

trends.

l have already discussed the oppression remedy in corporate law context. In this ehapter,

l will look at another good faith example, fïduciary duty. It will be concluded that the

doctrine .of fïduciary dutYhas provided the courts the necessary mechanism to regulate

the problem ofunfaimess arising within the life ofrelationship. The doctrine has not only

helped achievethe purposes offaimess as weIl as the certainty oflaw.

It will be fmally concluded that to explicitly recognize a doctrine of good faithcould also

provide such mechanism in contract law so that the courts could have more flexible ways

to deal with the problem ofunfaimess.

3.1··FIDUCIARY DUTY

The fiduciary concept is often described as a dutY of utmost good faith owed by one

party, the fiduciary, toanother, the beneficiary. Though fiduciary dutY is originally

found in the relationship of trust, over the years, fiduciary obligations have been

expandedto situations which are unconnected to a trust. 154

The courts recognized that other relationships, such as partnerships and agency, aiso

involve elements of trust and vulnerability similar to those foundin express trust and,

therefore, similar duties and standards of conducts need to be imposed in those situations.

154 Gerard V. La Forest, "Overview ofFiduciary Duty" in The 1993 Isaac Pitblado Lectures: FiduciaryDuties/Conflicts ofInterest at p. 3.

37

In Standard Investments Limited v. Canadian Imperial Bank ofCommerce, J55 Griffiths J.

at trial pointed out that:

the common. elements that must be present [in a fiduciary relationship] are the

reposing of trust and confidence in one who undertakes to act for or on behalf of

the person reposing the trust. Equity then imposes a duty on the fiduciary to act in

good faith and with due regard to the interests of the one imposing the confidence.

It is the undertaking to act for and on behalf of another which imports the fiduciary

responsibility. The conflict of duty and interest rule applies not. simply because· of

the placing of trust and confidence but, in my view, because of the undertaking of

the fiduciary to act for or on behalf ofhis principal.156

During the last decades,fiduciary dutY hasbeen further extended to new. relationships

such as the Crown and an IndianBand in relation to Indian reserve lands and the

custodialparent .and the non-custodial parent as to the interest in the non-custodial

parent'srelationship with his/her children.

In. the former case, ,Guerin. v. The Queen/ 57 the federal government leased 162 acres of

Musqueam Indian reserve land to a Golf Club on termsand conditions that were less

favourable,. from the Musqueam Band'spoînt of view, than those disclosed to the Band

before theirsurrender vote. In determining the nature of the relationship between· the

Crown .and the Band, DicksonC.J.C. stated that "it is the nature of the relationship, not

the specifie category ofactor involved that gives rise to the fiduciary duty."J58 He furlher

quoted Ernest Weinrib that where there is a fiduciary obligation, "there is a relation in

which theprincipal's interestscan be affected by, and are therefore dependent on, the

manner in which the· fiduciary uses the discretion which has been delegated to him. The

fiduciary obligation is the law's blunt toolfor the control ofthisdiscretion."J59 Thecase

established that two .elements are important to form a fiduciary relationship. Firstly, the

fiduciary must havescope for the exercise of discretion.•Secondly, suchdiscretionmust

becapable.of affecting the legal position ofthe principal.

155(1983),5 D.L.R. (4th) 452.156 (1983), 5 D.L.R. (4th

) 452.157 [1984] 2 S.C.R. 335.158. Gurein v. R., [1984] 2 S.C.R. 335, at p. 384.159 E. Weinrib, The Fiduciary Obligation (1975),25 UTL] l, atp. 4.

38

In Frame v. Smith}6ü Wilson J. found a fiduciary relationship to exist between the

custodial parent and the non-custodial parent as to the interest in the non-custodial

parent's relationship with his!her children. Besides the two elements already established

in Guerin, Wilson J. added a third element which lies behind a fiduciary relationship, that

is, the vulnerability of the beneficiary to the fiduciary's discretion. She stated that:

Relationships in which a fiduciary obligation have been imposed seem to possess

three.general characteristics:

(1) Thefiduciary has scope for the exercise ofsorne discretion or power.

(2) The fiduciarycan unilaterally exercise thafpower or discretion so· as to

affect thebeneficiary's legal or practical interests.

(3) The beneficiary is peculiarly vulnerable to or at themercy or the fiduciary

holding the discretion or power.161

Though Wilson J. is the dissenting judge in that case, in Canada, it lS nowgeneraHy

accepted that this statement has summarized the essential criteria fora fiduciary

relationship.

First of aH, "[t]he need to control discretion has been ajustification for the imposition of

theharsh mIe conceming fiduciariessince the beginning".162 As early as in Keech .v.

Sandford,163 the Lord Chancellor pointed out the importance to control discretion inthe

case of a trustee. Such desirability to deterthe. fiduciary from usinghis discretion except

for the benefit of the berteficiary can alwaysbe found in later cases. Fiduciary obligation

is the legal device necessary to regulate the act of the fiduciary during the relationship so

as to make sure that the fiduciary woulduse hispower beneficently. .It is not surprising

that the scope of such obligation is also related to the scope of the discretion. As Scott put

it "the greater the independent authority to be exercised bythefiduciary, the greater the

scope ofhisfiduciary.duty."l64

It follows that to impose a fiduciary obligation, adiscretionor power must be present

otherwise there would.·be no need for law to supervise andrestrict the damaging use of

160 [1987] 2 S.C.R. 99, (1987) 42 D.L.R. (4th), 8l.

161 [1987] 2 S.C.R. 99, (1987)42 D.L.R. (4th), 81 atp.99

162Ernest J. Weinrib, "The Fiduciary Obligation", (1975) 25 UT.L.J. 1, atp. 4.163 (1726),Sel. Cas. Ch. 61;25 E.R. 223.164 Scott, (1949), 37 California L.J. 539, at p.541.

39

the discretion or power. In R.H. Deacon & Co; Ltd. v. Varga,165 a stockbroker was

instructed by rus client to purchase at a given price a given number of shares in a

corporation in which the stockbroker had an interest. As the stockbroker's dutY was

restricted to the very precise instructions given by the client, the transaction did not entail

theexercise of any discretion. Thus there was notrung that needs to be controlled through

the imposition of the fiduciary obligation. The court therefore held that there was no

breach of a fiduciary obligation.

As discussed above, the discretion or power afforded to the fiduciary could be exercised

in a way that would notbe in the interest ofthe beneficiary. This leads us to the second

element of a fiduciary relationship. The interests thefiduciary law is going to protect

include not only legal interests of the beneficiary but also his vital non-Iegal •or

"practical" interests. Forexample, the fiduciary dutYimposed on a director is not limited

to protect only the property interests of the corporation but other practical ones such as

the financial well-being, public image and reputation, etc. In Attorney-General v.

Goddard166 the Crown was able to recover bribes which had been paid to its employee, a

sergeant in the Metropolitan. Police. Obviously, it could not be said that the interest

protected is a legal one but rather a practical one.

Finally, the beneficiary must he vulnerable to the fiduciary's exercise of the discretion.

Vulnerability refers to the "inability of the beneficiary (despite rus or her best efforts)to

prevent the injurious exercise of the power or discretion combined with the grave

inadequacy or absence of other legal or practical remedies to redress the wrongful

exercise of the discretion or power." 167 It arises not only from the discretionconferred to

the fiduciary but alsofrom the trust and reliance on the fiduciary. Therefore, the

"vulnerability is a consequence, rather than a catalyst, of fiduciary relations."168 The

beneficiary becomes vulnerable as the resultof the relationsrup established between the

parties. Such relationsrup can becreatedby contract or simply by interaction betweenthe

parties which give rise to the vulnerability of one party to the power and discretion orthe

other.

165 (1972), 30 D.LoR. (3d) 653; affrrmed in a short Supreme Court ofCanadajudgment at (1973),41 D.L.R.(3d) 767.166 (1929), 98 LoJ.K.B. 743.167 Frame v. Smith [1987] 2 S.C.R. 99, (1987) 42 D.LoR. (4tb),81 (S.C.C.) at p. 100.168 Leonard I. Rotman, "The Vulnerable Position ofFiduciary Doctrine in the Supreme Court of Canada"(1996),24 Manitoba 1. J. 60, at p. 67.

40

Among the three elements for finding a fiduciary relationship, vulnerability has become

the most confusedone and has sometimes misled people to the conclusion that fiduciary

obligations will not apply to dealings of experienced businessmen of similar bargaining

strength acting at arm's length. 169 It has often been said that commercial actorsare

presumed to either possess the sophistication to protect their own interests against other

commercial actors, or at least be knowledgeable enough to hire someone who will do so

on their behalf Therefore, judicial intervention is considered not necessary. Finn has

also explained that:

...That reticence [of imposing fiduciary duties toparties in commercial

dealing negotiated at arm's length] flows •• in some measure from an

acceptance·(i) that, at least in contracts ofthis type, the parties themselves,

first and foremost, are to be .the authors oftheir respective rights and

obligations, and (ii) that fiduciary duties should, in consequence, only be

imposed upon them when,· and to the extent that, this is necessary and

appropriate to give effect to the expectations they could properlyentertain

in consequence of their contract given the business setting in which it

occurs. 170

Theproblem with .this argument is that, though the ability toengage in self-help may

limit cOmmercial actors' need for judicial protection in manysituations,.it does notmean

thatthey can effectively protect themselves against aH potential circumstances. •As

Rotman pointed out, ',[ilt is prohibitivelydifficult, if not impossible, for any actor--be it

commercial or otherwise--to so completely protect itself against any possible outcomein

a transaction with another party that judicial.intervention toprotect the former is rendered

completely redundant." 171 This is notonly becauseagreements may not necessarily catch

all possible circumstances, but also that they may be too vague to be enforceable. In this

connection, Canadiancourts have already shown a wiHingness to intervene in pti:rely

commercial relations to address unforeseenevel1ts. For example, in Cadbury Schweppes

Inc. v. FR! Food Ltd.,172 though Binnie J. did notfind that a fiduciary relationship existed

169 See, for example, Jima Ltd. v. Mister Donut ofCanada Ltd. (1971), 22 D.L.R.{3d) 639, [1972] 1 O.R.251,3 C.P.R. (2d), 40 (C.A.); affirmed 40 D.L.R. (3d) 303, [1975] 1 S.c.R. 2,12 C.P.R.(2d).170 Finn, "Fiduciary Law and the Modern Commercial World" in McKendrick (ed.), Commercial Aspects ofTrusts and.Fiduciary Obligations, (1992), atp. 13-14.171 Leonard.!. Rotman, "Developmentsin fiduciary and trust law: the 1998-99 term", (2000) Il SupremeCourt Law Review (Canada) 2nd Series 483, at p. 497.172 [1999] 1 S.C.R. 142

41

in the case,173 he did expressly acknowledge that fiduciary obligations may be imposed

upon commercial relations, where appropriate. In Cadbury Schweppes, the anti­

competition clause in the licensing agreementbetween Cadbury Schweppes (the licensor)

and Caesar Canning (the licensee) only prohibited Caesar Canning from manufacturing

or distributing any product "which includes among its ingredients clam juice and tomato

juice" fora period of five years after the termination of the agreement. Binnie J. held

that "the law will supplement the contractualrelationship by importing a duty not to

misuse confidential information.,,174 While "the respondents did not bargain for the

unfair competition of having their own know-how, imparted in confidence, used against

them...the contract cannot reasonably be read asnegating the dutYof confidence imposedby law."l75

Thus "characterizing parties to a relationship.as commercial actors and their relationship

as commercial in nature need not automatically result in the rejection of fiduciary

principles.Il l76 The fiduciary law is not concemed with who the actors involved are or

whether their relationship fits within.accepted categories of fiduciary relations. l77 In fact,

fiduciary relationships are as prevalent among· parties on an equal· footing as amùng

parties.in an unequal relationship. For example, partners in a business venture, spouses

and partners in a professional services firm are normally classified as the parties on an

equal footing, while the relationship of guardian and· ward are usually in the later

category.178 Rotman further argued that 'Judicial reluctance to extend fiduciary law into

the realm of arro's length commercial transactions between sophisticated parties has more

to do with the perceived function of fiduciary law as protection of the weak and

vulnerableagainst the strong and powerful rather than· the courts' belief that their

intervention in strictly commercialmatters isneitherwarranted nor required." l79

173.It seemsthat the finding that Cadbury Schweppes did not suffer much of a loss as a result of theunauthorized use of confidential infonnation in the creation of Caesar Cocktail played an important role inreaching the conclusion.174 CadburySchweppes Ine. v. FBIFood Ltd. [1999] 1 S.C.R 142, at p. 165.175 Cadbury Sehweppes Ine. v. FBI Food Ltd. [1999]1 S.C.R. 142, at p. 167-168.176 Leonard I. Rotman, "Developments infiduciary and trust law: the 1998-99 term", (2000) Il SupremeCourt Law Review (Canada) 2nd Series 483, .at p. 499.177 Flannigan,"CommercialFiduciary Obligation" (1998), 36 Alta. L. Rev. 90Sat p. 913.178 Leonard I. Rotman, "The Vulnerable Position ofFiduciary Doctrine in the Supreme Court of Canada"(1996),24 Manitoba L. J. 60, at p. 65.179 Leonard I. Rotman, "Developments in fiduciary and trust law: the 1998-99 term", (2000) Il SupremeCourt Law Review (Canada)2nd Series 483, atp. 499.

42

As we can see from the above, when a rylationship with aIl the three elements in

character, the parties are not of equal power in the relationship and one party may easily

take advantage of ms strong position. The law of fiduciary thusbecomes the necessary

mechanism which the courts can use to intervene into and to regulate any problem of

unfaimesswhich may rise during the life ofrelationsmp.

3.2 FIDUCIARY DUTY AND GOOD FAITH

3.2.1 Common Features ofFiduciary DutYand GoodFaith

The extension of fiduciary law makes it clear that fiduciary law looks to the nature of the

parties' relationship and ifs consequence to determine whether fiduciary standards of

conduct and responsibility ought to apply. Though it is still difficult to give an exact

definition to the term "fiduciary", the three elements .established by the courts for finding

a fiduciary relationsmp shows that it is a special relationship where intense application of

the concept of good faith and fair dealing is required. If foUows that fiduciary law is a

special form of good faith and it shares certain common features with a doctrine of good

faith.

Firstly, .both are legal concepts representing standards of conduct which require the

person who is under the dutY to act fairly andprombit certain kindsofbehavioUf towards

theotherp'lrty during the relationship~

Secondly, the standards of conduct in both fiduciary law and a good faith doctrine can hot

set out exactly and maybe different in different situations.

Finally, both impose duties on the relevant party by looking into the nature of the

relationship between the parties. It is not the· nature of the parties but the nature of their

relationship that requires the •• law to provide certain protection to the party· in the

vulnerable or weak position in the. relationship. We have already seen the analysis. of

Wilson J. in Frame v.Smith and the analysis ofLa Forest in LAC MineraIs Ltd. v.

International Corona Resources Ltd.

3.2.2 Relations Between Fiduciary Duties and Good Faith

Though fiduciary dutYand a good faith doctrine share certain common features, they are

different in degree. Fiduciary dutY is stronger than the good faithdoctrine inthat it gives

43

primacy to theinterests of the party to whom the fiduciary obligation is owed. While a

good faith doctrine presupposes that parties to a contract are on an equal footing and are

pursuing their own interests. 180 And as a result, fiduciary dutY generally requires more

severe standards of conduct.

Since the scope and degree of the three elements in each fiduciary relationship.may .. be

different, the content of the fiduciary duty, or the standards of conduct, required for each

particular fiduciary maydiffer accordingly. Scott once stated that the· concepts of

"fiduciary" are applied in various degrees of intensity.181 Thus in the case ofa trustee, the

fiduciary element is more intense than in the case of a director. A trustee is forbidden to

take to himself a profit by dealing with the property he holds in trust, whilea directorof a

corporation is required to "acthonestly and in good faith with a view to the best interests

of the corporation".182 Likewise, the fiduciary element in directorsand corporation

relationship is usually more intensethan a fiduciary in a commercial dealing. In LAC

Minerais Ltd. v. International Corona. Resources Ltd.,183 the parties entered into

negotiations to jointly develop a property. The court found that a fidl1ciaty relationship

existed between the two parties, and LAC was imposed obligationsto maintain the

information disclosed to it as confidential and to refrain from using it for its self-interest.

Thus it isnot surprising to see that fiduciary dutYis onlyanother formof agood faith

doctrine inrelationships which require relatively severe standards of conduct ofone party

to protect the otherparty's reasonableexpectations from such relationship. And in those

commercial relationships where the fiduciary element is not so intense, the·standards of

conduct required for a fiduciary may not be too much different· from those a good· faith

doctrine otherwise would require. There may not he a clear cut between the situations

where afiduciary dutYshould apply and where a good· faith doctrinewould do in certain

commerciaLcon.text. We have already seen that LAC Minerai is a case of fiduciary duty.

When explaining why fiduciary obligations should be imposed, La Forest J. focusedon

the importance of institution of bargaining in good faith to protect the parties reasonable

expectations. It follows that the doctrine ofgood faith isthe supplement of fiduciary dùty

in the law of contract. It helps to .solve the problems of unfaimess arising from

contractual relations which are not subject to fiduciary obligations. Without such a legal

180 AF.Mason, IGoodFaithandEquitableStandards" (2000), 116 TheLaw Quarterly Review 66, at p.84181 Scott, "The Trustee's Duty ofLoyalty", (1936), 49 Harv. 1. Rev. 521182 C.B.CA s.122 (1) (a);183 [1989] 2 S.c.R.. 574 (S.C.C.), (1989), 61D.L.R. (4th

) 14

44

device, the law of contract would be incomplete and the court will be crippled in dealing

with unfair behaviour in certain situations.

3.3 IMPLICATIONS TO AGOOD FAITH DOCTRINE

As discussed above,fiduciary dutY originated in equityand traditionally· the· remedies

available for thebreachof such dutY wereequitable remedies. The idea under these

remedies is that a fiduciary must not acquire anything for himself fromhis abuse of his

position.184

Equityinsists that it is unconscionable for a fiduciary to obtain and retain a benefitin

breach of dllty. When a benefit is obtained by a fiduciaryas.a result of breaching of ms

duty, the benefit whether in money or in kind belongs in law to the recipient. .Thus any

improper transaction, such as a sale orthe beneficiary's property to the fiduciary, maybe

invalidatedand whatever hasbeen acquired in addition must be paid over tothebeneficiary.185

Further more, equitable remedies are not the only forms of relierinvoked by the courts

where a breach of fiduciary duty has been held to occur. The courts are also willing to

invoke other formsofreliefwhen it seems moreappropriate for the situation.

In·. Courtright v. CanadianPacific Ltd.l86 the plaintiff> suingfor wrongfuldismissalfrom

hisemployrn.ent asa solicitor with the defendant company in its legaldepartment, bad

concealed from the company, when hewas discussing the possibility ofsl.1ch

employment, that he was· suspected of the crime·of influence peddling which. couldbe

charged. ·Later, afi:er he had heen hired and hadbegun hisemployment, the plaintiff Was

actual1y charged with the offence. He was. acquitted. In consequence, •the company

dismissedhim from ifs employment. . The court found that hewas a fiduciary of the

company by reason of the:negotiationshetween himself and the c.ompa:ny that ledtohis

being employed. Hence, he oughtto have disclosedthe possibilityofcrinlinalcharge that

might have.affected thecompany's·decision whether or notto hire him for the position in

184 Fridman, Restitution (2od ed.) at p. 380.185 Fridman, Restitution (2od ed.) at p. 380.186 (1983), 5 D.L.R(4th

) 488.

45

question. Therefore the denial of such an action for wrongful dismissal to the guilty

fiduciary seems to be the most proper relief.

Though traditionally damages were remedies under common law, Canadian courts have

shown the wiUingness to award damages for breaches of fiduciary. dutY where

appropriate.

In Stcmdardlnvestments Ltd. v. C.IB.c. 187, the plaintiffs were customersofthe bankand

were interested in acquiring a certain company. Unknown to theperson who was

consulted by the plaintiffs, the chairman of the bank, at the request of one of the bank1s

directors,)1ad aIreadydecided to buy shares in the cornpanyso as to increase itsholding

to ten percent of the shares to prevent the plaintiffs ftom acquiring the. company.

Another customer of thebank bought44 per cent of theshares, Those shares and the

shares oft)1ebank were later soldto athird party, who thus acquired a majority interest in

the company and thereforefoiledthe desireofthe.plaintiffstoacquire the company. The

bankwas found in breachofits fiduciary dutYfor failure to disclose materialinformation.

The Ontario court of Appeal awardedthe damages for. thebreach which was calculated

based on· the.· difference .between ·(a) the purchaseprice of the shares acquired by the

plaintiffs plus the 10ss of interest·which would have been eamed in safe investments of

those funds.of the plaintiffs which were not fundsborrowed tpacquire the shares plus

interest paidby the plaintiffs on funds which were borrowed to· acquiretheshares, and (b)

the amount of dividends received by ilie plaintiffs duringthe period of thdr ownership

plus the proceeds derivedform the saleoftheir shares.

Goodman J. stated that "the properbasis for assessing damages must followlogically

ftom •the basis. upon which a findingof liability against the defendant has beep. made.

Thatfinding Is that if the 4efendant had not committed a breach of its fiduciary dutY...

and tl1ereafterby failing to maketheplaintiffsaware of itsconflictofinterest, they would

havedisposed oftheir shares ofCrown Trust heldby themon that date and would not

havepurchased the additionalshares acquiredby them thereafter. .."

As La Forest J. stated in.his judgment •of CansonFJnterprises Ltd. v. Boughton.& CO.188

that law and equitywere now fused189 anddifferentsituations whereabreach of trust or

187 (1986),22D.L.R. (4th) 410.

188 (1991),85 D.L.R. (4th) 129, affirming (1989), 61D.L.R. (4th

) 732, wmch affinned(1989), 52 D. L.R.(4th

) 323.

46

of fiduciary dutY occurred had to be dealt with by different principles, the appropriate one

to apply being that which was more reasonable in the particular circumstances. 190 The

maxims of equity are not mIes that must be rigorously applied but maHeable principles

intended toserve the ends of faimess and justice. 191 His statement and the related cases

indicate thatCanadian courts will apply whatever principles seem most appropriate to a

particular instance of breach of fiduciary duty, having regard to the particular facts, the

nature of the breach, and the causal connection between the breach and the loss incurred

by the plaintiff. 192

It is also interesting to note that in LAC Minerais Ltd. v. International Corona Resources

Ltd}93, though only the minority of the supreme court held that Lac owed Corona a

fiduciary obligation to use the confidential information, the majority of the courtheld that

the approprigte remedy was the imposition of a. constructive trust. The .effect is that

though Lac held the Williams property for the benefit ofCorona,it had to transfer the

mine to Corona withreimbursement from Corona for the costs ofdeveloping the mine.

We have already seen that a doctrine of good faith and the fiduciary dutY share the same

underlyingidea. It foHows that if a doctrine of good faith can be openly recognized, the

remedies available shaH not be limited to cornmon law remedies if it is also toserve the

endsof justice, like the situation in LAC MineraIs. Thus, explicitly.recognizing a good

faith doctrine will alsoafford the courts same broad discretion in granting the most

appropriateremedy where a breach of good faith occurred. This in tum can deter

potential breaches which otherwise may occur if there is no such mechanism to regulate

the relationship.

3.4 GOODFAITH, FIDUCIARY DUTY AND OPPRESSION REMEDY

As early as.in 1900, the English Court of Appeal. stated in Allen v. GoldReefs·of West

Africa194 that it is a principle of Equity that whenever a· person who is in a superior

189 (1991),85 D.L.R. (4th) 129, affmning (1989),61 D.L.R. (4th

) 732,which affirmed (1989),52 D. L.R.(4th

) 323, atp. 148-149.190 (1991),85 D.L.R. (4th

) 129, affmning(1989), 61 D.L.R. (4th)732, which affinned (1989),52 D. LR.(4th

) 323,atp.151-153.191 (1991), 85 D.L.R. (4th

) 129, affinning (1989),61 D.L.R. (4th) 732, which affirmed (1989),52 D. L.R.

(4th) 323, at p. 151.

192 see Fridman, Restituton (2nd) at p. 384.

193 (1989), 61 D.L.R. (4th) 14.

194 [1900]1 Ch. 656.

47

position to others exercises his power he owes them duties of good faith and faimess.

The case is about an exercise ofmajority power to amend the articles of association under

a power granted by s.50 of the D.K. Companies act,1862. 195 Lindley M.R. statedthat:

Wide, however, as the language of s.50 is, the power cortferred by it must,

like aIl other powers, be exercised subject to those general principles of law

and equity which are applicable to aIl powers conferred· on majorities and

enabling them to bind minorities. It must .be exercised not only in the

manner required by law, but also bona fide for the benefit of the company as

a whole and must not be exceeded. These conditions are always implied and

seldom ifever expressed. 196

It is interesting to note that the fiduciary dutYhas beenextended in the D.S. to include not

only casesconcerning an .expropriation of company property but to any exercise of

managerial powerby a majority or controllingstockholder-- the situations which are

regulated by the statutory oppression remedy in England and Canada.

For example, in Southem Pacifie Co. v. Bogert,197 a <;ontrolling shareholder has the right

to appoint thedirectors andtherefore determine corporate policy. As a result, he actually

manages the corporation. According to Mr. Justice Brandeis: "Themajority has the right

to control, but when it does so, il. occupies a fiduciary relation towards the minority, as

muchso asthe corporation itself, or its officers or directors.,,198

MacIntosh pointed out that. "althoughthe English and Canadian courtsha,ve, in the main,

sedulously avoided a characterization of evolving shareholder duties as 'fiduciary' lU

nature, there can belittledoubt that they arefiduciaryin character .and substance.,,199

Thus, it isclear. that though good faith, fiduciary dutY and oppression. remedy are

different principles in law, they are, in essence, one concept. More specifically, the

oppressionremedy and fiduciary dutY are just special formsof good faith in different

legalbranches.

195 The statuteappeared togive the holders ofsufficient shares to pass a special resolution unfettered powerto alter the articles. Allen v. GoldReefs ofWestAfrica [1900] 1 Ch. 656.196[1900] 1 Ch. 656, atp. 671.197 250 U.S.483 (1919).198 250 U.S.483 at p. 487-88 (1919).199 Jeffrey G.MacIntosh, "Minority Shareholder rights", (1989) 27 OsgoodeHall Law Journal 561 atp.615.

48

They are standards of conduct which work as an excluder tounfair and prejudicial

conducts and which can not be exactly defined. They are the necessary mechanisms the

courts can use to intervene and regulate the faimess of the relationship after the parties

haveentered into i1.

It seems that the only difference is that in fiduciary relations and in the situations of

majority shareholders to minorities, the standards of conduct required are normally

relatively highaccording to thecircumstances. But this does not mean that a good faith

doctrine is not required incontractual relationship. On the contrary, the legal theoryon

which the two legal principles .are established and. the related cases may well urge a

similar legal tool to be explicitly recognized in the branch of contract law.

49

Conclusion

In conclusion, "good faith" as.a technical legal term is actually a part of Canadian

contract law. The courts have already developed mIes for what is acceptable conduct in

the·light of the parties' reasonable expectations. Besides, the doctrine of good faith can

work effectively in aIl the stages of contracting process. If the doctrine couldbe

recognized explicitly, it could not only heIp define contractual rights and obligations but

also promote, rather thanupset, the quest forcertainty. Further more, open recognition

of the doctrine would also provide the courts a. broad discretion· in remedy 80 that the

courts, when dealing with the problems of unfaimess, could find the most appropriate

solution to serve the ends of faimess and justice. In short, explicitly recognition of a

good faith doctrine would help form a more functional body oflaw.

50