Getting what you bargained for: The Supreme Court of Canada’s latest take on the contractual duty of good faith

In the 2014 landmark decision of Bhasin v Hyrnew,¹ the Supreme Court of Canada (SCC) confirmed that contracts are subject to a duty of good faith performance. For the past seven years, the case has had a significant impact on business transactions and litigation alike, and has been the subject of much judicial and academic commentary.

Over the last few weeks, the SCC had a chance to revisit and clarify the two key elements of the duty of good faith performance: (1) the duty of honesty and (2) the duty to exercise contractual discretion in good faith. 

The duty of honest performance

In CM Callow Inc v Zollinger,² CM Callow Inc. contracted with a group of condominium corporations (Baycrest) to provide winter and summer maintenance services. The contract for winter services permitted Baycrest to terminate the arrangement on 10 days’ notice. In early 2013, Baycrest decided to cancel the winter contract, but did not immediately notify Callow.

Throughout the summer of 2013, Baycrest made statements to Callow suggesting the winter contract would “likely” be renewed. Callow sought to sweeten the deal by providing free summer maintenance services, which Baycrest accepted. In September, Baycrest revealed they were cancelling the winter contract. Callow sued, alleging Baycrest had acted in bad faith.

The SCC confirmed that all parties to a contract have a duty to perform their contractual obligations honestly. While parties are not required to actively disclose information relating to the contract, (e.g., an intention to terminate), neither are they free to “knowingly mislead” the other party.

Ultimately, what constitutes misleading conduct will depend on the context. The SCC provided some guidance, noting that:

• it can include half-truths, omissions, silence, and inaction, if a party does not correct a false impression that it has created; and
• the question is not whether the contractual term was strictly adhered to, but whether it was performed honestly.

Even though the contract granted Baycrest a largely unfettered right to terminate, the SCC ruled that Baycrest acted dishonestly by leading Callow to believe the contract was not in danger, and then failing to correct that impression once created. Put another way, Baycrest erred by suggesting the contract would be renewed when, in fact, that was not the plan.

The takeaway here is that while the duty of honest performance forbids outright lies and deception, it also forbids behaviour that can mislead another party into believing something that is not true. This is a very fact-specific issue that will change in each case, but it is a reminder to always keep in mind whether one’s communications with a contracting party are consistent with internal strategy and direction.

The duty to exercise contractual discretion in good faith

In Wastech Services Ltd v Greater Vancouver Sewerage and Drainage District,³ a waste removal company (Wastech) contracted with a municipal district (Metro) for transporting waste to three disposal facilities. The contract granted Metro “absolute discretion” to apportion waste between the facilities. Metro allocated the waste in such a manner that Wastech complained about how its operating profits – the target for which was 11% according to the contract – were significantly reduced. Wastech sued, alleging Metro’s decisions on where to allocate the waste were made in bad faith. 

The SCC noted that even when a contract gives a party the “absolute” discretion to make decisions, the discretion isn’t truly absolute. While Canadian courts have long permitted contractual parties to act selfishly or unwisely, they will not permit parties to carry out discretion “in a manner unconnected to the purposes underlying the discretion.”

What does that mean?

That depends on the wording of the contract.

In this case, three facts were critically important. First, the contract did not provide any express limitations on Metro’s ability to allocate where the waste went. Second, the contract included a formula to help compensate Wastech if it did not reach its target of 11% operating profit. Finally, the preamble to the contract mentioned how one of its goals was to maximize the efficiency and reduce the cost of waste disposal.

With those facts in mind, the SCC ruled there was nothing wrong with Metro’s decision on how to allocate waste, even though it had a direct impact on Wastech’s operating profit. While Metro’s allocation may not have been the best decision for Wastech’s bottom line, it was consistent with Metro’s right of “absolute” discretion, it did not preclude Wastech from using the formula to help compensate it for a bad year, and it fell in line with the goals of maximizing efficiency and reducing cost.

The takeaway here – as is often the case in contractual disputes – is to take care when drafting your contracts. In this case, that means thinking through the idea of how discretion ought to be exercised. Remember: when in doubt, spell it out.

The authors wish to thank Alison Fung, articling student, for her help in preparing this legal update.