Commercial Contracts in Good Faith

When parties enter into a contract, they often agree to ‘act in good faith’. But what does this mean?

There is no express principle in Australian contract law that parties must negotiate a contract in good faith. However, a particular clause in a contract requiring the parties to act in good faith can be included and be effective. There are certain contracts where good faith plays a particularly important role such as in Australian Consumer Law. For example, a person engaging in trade and commerce must does not act in a deceptive or fraudulent manner.

Implied obligation of good faith

There are three positions of implied good faith in Australian contracts:

1. good faith is implied when a party is exercising a right to terminate the contract;
2. where present, the source of any implied good faith requirement becomes an implied term of the contract;
3. an implied requirement of good faith is satisfied by a party when it has demonstrated that it has acted honestly and reasonably.

View of the Australian Courts

In the case of Masters Home Improvement Pty Ltd v North East Solutions Pty Ltd, the Victorian Court of Appeal highlighted the lack of certainty in the concept of good faith.

This case involved a dispute between Masters Home Improvements (“Masters”) and North East Solutions (“North East”). Masters was accused of breach of an express obligation in an Agreement to Lease, which required Masters and North East to act reasonably and in good faith to resolve differences that arose in relation to certain costs.

Masters terminated the Agreement and North East brought proceedings, alleging that Masters had breached its obligation to act reasonably and in good faith. North East further argued that Masters terminated the Agreement for other commercial reasons . The Trial Judge agreed with North East and held that Masters had breached the express obligation of good faith in the Agreement to Lease. The Court awarded North East $10.875 million in damages.

Masters appealed.

The Victorian Court of Appeal disagreed with the Trial Judge found that:

1. there was lack of sufficient basis that Masters had breached the express obligation of good faith; and
2. the steps the Trial Judge stated that Masters should have taken to comply with the good faith obligation would take that obligation too far.

The Court of Appeal summarised the duty of good faith in the Agreement to Lease as:

1. an obligation to act honestly and with fidelity to the bargain;
2. an obligation to not undermine the agreed bargain or the substance of the contractual benefit bargained for; and
3. an obligation to act reasonably and with fair dealing, having regard to the interests of the other party (but not to the extent causing detriment to their own interests) and the provisions, aims and purposes of the contract (which are to be objectively determined).

Key Takeaway

It is advised to always incorporate specific obligations of good faith in any Australian contract where it is intended to apply, for example, including the express obligation to act in good faith in very certain circumstances or with respect to specific contractual obligations.

Please feel free to reach out to our Commercial, Business & Private Client Services Lawyers on +61 3 9822 8588 or supportteam@burkelawyers.com.au. Burke Lawyers are here to support you in business. We look forward to hearing from you.