Express obligation of 'good faith'
MID ESSEX HOSPITAL NHS TRUST v COMPASS GROUP (T/A MEDIREST) (CA) [2013]
This decision concerned an express obligation to act in 'good faith' set out in the written contract. The Court of Appeal (CA) overturned the High Court’s earlier ruling by giving a much narrower interpretation to the words that the parties had signed up to.
Facts:
The facts are as we reported in April 2012. The High Court (HC) held as follows:
- Duty to co-operate in good faith
- The HC imposed on both parties a general duty to co-operate in good faith that was not just limited to the specific purposes referred to in the applicable clause 3.5, namely the efficient transmission of information and instructions and to enable the Trust to derive the full benefit of the contract (‘the Purposes’).
- The HC found that the Trust had breached its duty of good faith. Even though M was in breach by not having met its performance monitoring and reporting requirements for some time and had accrued a level of service failure points which led to an express right for the Trust to terminate, the Trust’s calculation of the service failure points was described as “absurd”' and “cavalier”. The Trust sought to withhold payment based on these calculations and did not respond positively when M tried to resolve the dispute. The breaches of contract on M's part in 2008 were held to be no justification for the Trust's breaches the following year and did not prevent M acting on those breaches.
- Implied term to not exercise discretion in an arbitrary, capricious or irrational manner
- It was confirmed by the HC that where a party can exercise discretion in relation to a contractual provision, then not only must that discretion be exercised honestly and in good faith but there is an implied term that it should not be exercised “arbitrarily, capriciously or in an irrational manner”. The Trust had discretion when applying the service credit regime and it was held not to have applied the regime in an appropriate way and to have breached that implied term.
- Material Breach/Termination
- M’s termination for material breach was valid because the Trust’s breach of the duty of good faith in awarding itself disproportionate payment deductions and service point failures was sufficiently serious.
- The Trust's termination was also valid because M had exceeded the termination points threshold.
The Trust appealed.
Decision:
The Trust's appeal was upheld and the CA overturned the HC’s decision, finding that:
- Duty to co-operate in good faith
- As a matter of interpretation, a contractual duty to co-operate in good faith was limited to the stated purposes and could not be expanded to relate to the conduct of the parties more generally. The obligation applied only to the defined ‘Purposes’ but would not be extended to qualify or reinforce all of the parties’ obligations in all situations where they interact, as M had contended.
- The CA commented that this was a very detailed contract, where the obligations of the parties and the consequences of any failings were spelt out in great detail. Commercial common sense therefore did not favour a general overarching duty to co-operate in good faith.
- It was therefore held that:
- the Trust's conduct in awarding itself excessive payment deductions and service failure points was not a breach of clause 3.5 because:
- the Trust was not acting dishonestly in applying the calculation provisions; and
- the deductions and service failure points were irrelevant to the Purposes in clause 3.5;
- neither party had committed any other breach of clause 3.5.
- the Trust's conduct in awarding itself excessive payment deductions and service failure points was not a breach of clause 3.5 because:
- Implied term to not exercise discretion in an arbitrary, capricious or irrational manner
- The Trust was not exercising a contractual discretion. This was simply a decision whether to exercise an absolute contract right (to service credits and service failure points). For such a term to be implied, the discretion had to comprise an assessment or choice as to a range of options in which both parties’ interests were relevant.
- The relevant clause merely involved a matter of calculation; the only element of discretion was a simple decision by the Trust as to whether or not to claim the payment deductions or service failure points due to it under that calculation. If the Trust awarded more than the correct number of service failure points or deducted more than the correct amount, then that was a breach of the express provisions of the relevant clause. There was no need for any implied term to regulate the operation of that clause and as there was no implied term, the Trust could not be in breach of it.
- Material breach/Termination
- Whilst the Trust had initially breached provisions of the contract relating to payment deductions, it had repaid all the sums wrongfully deducted before M's termination notice, and so had effectively remedied the breach. The excessive award of service failure points was held, perhaps surprisingly given the comments of the HC judge, not to be sufficiently material in the context of a long-term agreement to justify M terminating under the material breach provision. As the Trust was not in material breach, M had wrongfully terminated the agreement whilst the Trust's termination was valid.
- Perhaps somewhat surprisingly the excessive award of service failure points was held not to be material enough in the context of a long-term agreement to justify Medirest terminating under the material breach provision.
Points to Note:
- This decision is much more consistent with the English courts’ traditional approach to good faith obligations.
- The important aspect of this case is what the Court said about when an implied term not to act ‘arbitrarily, capriciously or irrationally’ may be implied when exercising a contractual discretion. If discretion simply involves the exercise of an absolute contractual right, it seems unlikely that a Court will not apply that term in that context. However, where the discretion comprises an assessment or a choice as to a range of options where both parties’ interests are relevant, then such a term may be implied. Those drafting contracts may want to expressly exclude such an implied term. Nevertheless, it should be noted that the judge warned that doing so would be "extremely difficult".
- It remains to be seen whether contracting parties and their lawyers increasingly look to include express ‘good faith’ obligations in contracts. Until now that has not been common.