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Legal Notes: Discretionary powers in contracts must be used in “good faith”

John Bleasby
Legal Notes: Discretionary powers in contracts must be used in “good faith”

A recent Legal Notes column explained “honest performance” must be demonstrated between contracted parties. The example given was a recent Supreme Court of Canada ruling wherein a condominium management board misled their maintenance contractor into believing one of his two seasonal contracts would be extended. In fact, the board had already decided not to extend, all the while happily accepting free work undertaken by the contractor with the expectation of a renewal.

The Supreme Court of Canada ruled the condo board had deceived the maintenance provider, thus violating the principle of “good faith” and the “duty of honest performance.”

A Supreme Court ruling released last month offers further guidance as to how the principle of “good faith” applies to all contracts, particularly when it comes to discretionary powers.

Wastech Services Ltd. had a disposal contract with the Greater Vancouver Sewerage and Drainage District (Metro).  Included were provisions allowing Metro to direct Wastech to remove and transport waste to its choice of three sites. Travel distances varied, affecting Wastech’s costs. Therefore, an adjustment formula was included that would permit Wastech to reach a predetermined overall operating ratio.

When Metro began to direct deliveries to a facility that was closer, Wastech was unable to achieve its operating ratio target. Wastech sued for damages, claiming that Metro breeched its duty of good faith.

The case went through arbitration, the B.C. Supreme Court and the B.C. Court of Appeal prior to landing before the Supreme Court of Canada.

Sahil Shoor, a partner with global law firm Gowling WLG, writes the Supreme Court majority ruled that, “Metro (had) acted honestly and its decision was not intended to undermine Wastech’s interests.”

It was a challenging argument for Wastech to successfully establish, writes Shoor.

“The court concluded that, in order for Wastech to succeed in its claim that Metro breached the duty of good faith, it would have had to show that Metro’s decision to allocate waste had the effect of, ‘nullifying or eviscerating all or substantially all’ of the benefit of the contract, and that there was a subjective element of dishonesty or improper motive in Metro’s decision.”

For its part, Metro argued its decision to direct Wastech to the nearest site was both consistent and within its rights under the contract, and represented a business decision made for its own benefit.

As Shoor explains, “Metro’s decision was made to maximize efficiency and cost-effectiveness, preserve remaining facility capacity, and ultimately, further its own business objectives. Discretion was not put in the contract in order to provide Wastech with a certain level of profit.”

Furthermore, the party granted discretion is, “not required to subordinate their interests, nor are they required to confer benefits on the other party that was not contemplated in the contract,” continues Shoor.

In other words, making a discretionary decision that might negatively affect the other party is not evidence in itself of a breach of good faith. It’s a cautionary tale for parties who agree to contract clauses that grant discretionary actions to one or the other.

Shoor points out the court offered examples to which discretionary power could relate, such as operative fitness, structural completion, mechanical utility or marketability.

“Construction projects have become larger and more complex over the past several years,” Shoor told the Daily Commercial News. “Large and ever-changing project delivery methods and the number of parties involved in construction projects have increased the size of the construction pyramid.”

For example, owners, managers or consultants may appoint multiple project representatives to assist in carrying out a variety of responsibilities.

He suggests if a contract is to include supplementary discretionary provisions, identifying their purpose and circumstances should be detailed using “plain language” to avoid potential misunderstandings.

Discretionary power must be exercised in a reasonable manner and in “good faith,” never with malicious intent or to exert leverage, Shoor says. After all, successful construction projects are the result of good relationships over their duration.

John Bleasby is a Coldwater, Ont.-based freelance writer. Send comments and Legal Notes column ideas to editor@dailycommercialnews.com.

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