Principle of Good Faith in Contractual Dealings Has a Varied Degree

The principle of good faith in contractual dealings has a varied degree of acceptability. In many legal systems around the world, the doctrine of good faith is recognized as one of the general principles of contract law. [1] Not surprisingly, this general principle can also be found in international commercial law. [2]

English and Hong Kong Law have taken a different stance on the doctrine of good faith. [3] The English common law has long established the concept of good faith in the sense of honesty in fact or a clear conscience. [4] The common law concept of deceit imposes a duty on those who negotiate, perform or enforce contracts to act in good faith. [5] However, this is no more than a duty not to engage in fraudulent conducts. When contract lawyers speak of ‘good faith’ they take this aspect of the law for granted: The food faith issue is both broader and narrower in its orientation. It is broader in the sense that the question is whether the law should recognise and apply in a wide variety of situations, a more onerous duty of good faith. It is narrower in the sense that we are inquiring whether the current approach, under which the good faith concept is inherit in a number of areas, should be explicit in a general duty called good faith. For our purposes the good faith issue maybe framed in the following ways: accepting that people must not act fraudulently, does the law require more than this?

In the case of Walford v Miles, their Lordships ruled that the idea of a general doctrine of good faith as an overriding requirement of fair dealings is not part of the English contract law. [6] Post handover of Hong Kong, the courts may depart from the English law position, but the Court of Appeal decision in Hyundai Engineering and Construction Co Ltd v Vigour Ltd firmly endorsed the decision of Walford. [7] This paper will firstly examine the merits of the good faith doctrine in commercial law and then it negative aspects. In the end the writer will examine whether there are inadequacy in Hong Kong Commercial law and whether the doctrine of good faith is the solution to the outstanding issues.

Objections to the General Principle

Right of Breach

Fundamentally when a contract is created, parties to the contract normally agree to carry out the obligations stated under the contract. [8] However it is also understood from the start that the promisor may choose not to perform, for there is a secondary promise to pay damages instead. [9] Furthermore the doctrine of anticipatory breach allows the promisor to be in breach even before the date fixed for performance. [10] An important feature of anticipatory breach is that the innocent party need not wait until the due date of performance by the other party but may accept the breach and seek remedy forthwith. [11] If this right is to be retained in anything like its present form, it cannot live side by side with a duty of good faith.

Uncertainty & Vagueness

“Good faith is an elusive idea, taking on different meanings and emphases as we move from one context to another” [12] A common concern is the uncertainty which would result from the introduction of a standard of uncertain content with a strong moral overtones, and the damage which would be done to the commercial contracting practices which have provided the bedrock of English contract law. It has been argued that good faith in an invitation to judges to abandon the duty of legally reasoned decisions and to produce a decision based on personal values. The notion of good faith may also change under the influence of relative values in time. [13]

Perhaps the most fundamental and widespread reason for hostility to the general principle of good faith within some quarters is the belief that it promotes uncertainty in the law. Instead of general principles, English lawyers placed their faith in incremental reasoning, adjusting certain pre-existing categories of controlling devices such as frustration, undue influence and estoppels to achieve much the same results as their continental counterparts has with a broad principle of good faith. [14]

Targeting Bad Faith

Professor Summers recommended a very different way of conceptualising good faith in comparison to the continental jurisdictions. [15] He proposed deriving the meaning of good faith from its opposite view – bad faith. [16] He argued that it is more usefully to identify the particular forms of bad faith the courts had prohibited. This appears to be the approach taken by English Law and Hong Kong Law in that specific mechanisms have been devised to target certain aspects of bad faith.

Exclusion Clauses

According to the classical doctrine of party autonomy, parties can bind themselves in any way whatsoever and are free to agree any terms including an indemnity or exclusion clause no matter how unreasonable. However in practice, exclusion clauses are unlikely to be “negotiated” and are more likely to be the result of a dominant party imposing the clause on the weaker party. This is especially true in the context of consumer contracts where the consumer has little choice but to follow the terms of the seller if they wish to purchase the goods.

Instead of applying a general principle of good faith, the courts have chose to deal with this problem through formalities. Exclusion clauses are restricted by two controlling devices which are the requirement of due notice and the strict interpretation of the contracting terms or the contra proferentem rule.

If a contractual document is not signed, its terms may, nonetheless, be binding provided notice of such terms are brought to the notice of the other party. [17] The party seeking to rely on the exemption clause need not show that he actually brought it to the notice of the other party but only that he took reasonable steps to bring it to the attention of the other party. [18] It has to be noted that reasonable notice does not necessarily fulfil the duty to act in good faith as demonstrated in the case of Thompson v London, Midland and Scottish Railways. [19] In Thompson, the tickets purchased by the plaintiff made mention of terms and conditions which were not written on the ticket, which was available at a cost. The price of the terms and condition was substantial in price and it could not be argued that the defendant had the interest of the plaintiff in mind when incorporating the exemption clause.

In the interpretation of exemption clauses, the basic approach of the courts is that unless the clause clearly and unambiguously protects the exemptor it will be construed against him. A specific aspect of contra proferentum can be seen in the attitude of the courts on clauses seeking to exclude liability for negligence at common law. There is no common law rule that negligence liability cannot be excluded. However the courts regard it unlikely that a party to a contract would agree to the other party being exempted from liability for negligence under the contract. [20] It should be noted that in cases of limitation clauses, the courts have applied a less restrictive approach to interpretation. This is largely based on the presumed intention of the parties since it is thought more likely that a party would intend to agree to a limitation clause of liability for negligence in comparison to a total exclusion. [21] While the issue of due notice appears trivial, the introduction of the contra proferentum rule appears artificial and a contradiction to the general principle of party autonomy since the courts is intervening a matter explicitly stated in a contract.

Although the common law principles on exemption clauses still plays a large role today, the law have imposed further restrictions through the introduction of legislations such as the Control of Exemption Clause Ordinance. [22] The issue of consumer contracts mentioned earlier is now rarely an issue since legislations prevents any exemption of liability in relation to quality of goods. Further, the ordinance introduces a general principle of “reasonableness”, which takes into account the relative bargaining position of the parties to the contract.

Although it has not been explicitly cited in court, it could be argued that the courts’ introduction of these mechanism were due to some sense of unfairness to the parties. [23] However the solution is fragmented because there is no general principle of good faith. It is difficult to understand how the requirement of reasonableness differs to a duty to act in good faith. Both mechanisms offer a general principle which could be interpreted subjectively. However it has been suggested the reasonableness requirement operates subject to the parties agreement and is purely objective, whereas a general duty of good faith does not necessarily have any reliance on the party autonomy doctrine. [24] Arguably the Control of Exemption Clause Ordinances only really protect consumers and offer little help for small businesses as the court will readily note the reality of difference in bargaining power in company dealings.

Undue Influence and Duress

The doctrine of undue influence and duress does not strike down a contractual obligation due to its terms being unfair or lacking in good faith but because of a deficiency in consent. The court will readily intervene when there is apparent exterior forces exerted on a party to conclude the contract.

The main issue with duress and undue influence is the doctrine of presumed undue influence. Presumed undue influences arises where there is a relationship between the parties in which one of the parties reposes trust and confidence in the other.

Lord Denning attempted to create a general principle of “inequality of bargaining power” in the case of Lloyd’s Bank Ltd v Bundy. However, this was criticised by Lord Scarman in National Westminster Bank plc v Morgan, not for its reasoning but merely as a matter of principle. A general principle is criticised because of its alleged uncertainty and therefore general principles should be rejected in favour of distinct doctrines such as undue influence. However it should be noted that these doctrines remain undefined except to the extent that the courts will announce in a given case whether or not a set of facts comes under a particular doctrine. This while maximises a courts discretion to decide a case on its merits also maximises uncertainty since the application or non application of a doctrine will often seem to be arbitrary.

Promissory Estoppel

Promissory estoppels has traditionally been applied to non-contractual promises in the context of an existing contractual relation. A concept of fair dealing has been employed to rationalise holding the parties in a commercial relationship to a particular course of conduct. [25] The proposition of promissory estoppels is simple in that:

“[w]here one party has, by his words or conduct, made to the other a promise or assurance which was intended to affect the legal relations between them and to be acted on accordingly, then once the other party has take him at his word and acted on it, the one who gave the promise or assurance cannot afterwards be allowed to revert to the previous legal relations as if no such assurance had been made by him…”

However the general requirement of consideration is preserved by the principle that consideration is needed to enforce an agreement but not to escape enforcement. It is said that the doctrine can operate as a “shield not a sword”. [26] Promissory estoppels have often been criticised. It has been argued that it would have been an unnecessary beast had the court been sufficiently flexible in applying the principle of consideration in Common Law. Furthermore, although promissory estoppels allows a certain degree of good faith elements to be included in pre-contractual negotiations, it does not allow parties to claim any damages arising out of any termination of negotiation.

Concluding Remarks

It has been argued that there is no general principle of good faith in contracting in English and Hong Kong Law. White there are various doctrines which achieve similar objectives as some of the meanings of good faith, the law allows a party to contract a large degree of freedom to use economic power, knowledge and skill to conclude a bargain or make profit. Where there is a severe economic imbalance between the parties such as in the case of consumers, legislations will step in to provide the necessary protection mechanism.

The writer is of the opinion that there is no need for adopting a general doctrine of good faith into Hong Kong commercial law as there appears little a general doctrine would benefit parties to a contract.

In conclusion, the combination of common law mechanisms mentioned in this paper and the implied co-operation of the contracting parties rather than intentional acts of sabotage, prima facie there appears to be little in terms of gap between the civil law jurisdictions and the Hong Kong Common Law.