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The value of a good faith clause in a contract

Are parties to a contract bound only to carry out its specific terms, or do they also have an over-arching duty to act toward one another in good faith?

As a general proposition, the law seeks to protect members of the populace from suffering harm at the hands of other people. Thus, for example, there are laws designed to prevent the sale of medicinal products that have not been properly tested and laws to deter people from engaging in conduct that could be injurious to others, such as driving whilst intoxicated.

In matters of contract, people need to protect their own interests

There is one field of law, however, where to a considerable extent the law leaves it to people to look after their own interests, namely, the law of contract.

Fundamentally, where two or more people enter into a contract (a legally enforceable agreement), their rights and obligations toward one another are defined by the terms of their agreement.

Thus, for example, if a purchaser were to discover that the price he has paid for an item is exorbitant and that he could have bought the same thing elsewhere for much less, he has no complaint unless the seller had misled him in some way. His legal obligation to pay the price came into being by virtue of an agreement voluntarily entered into by him, and the law will hold him to that agreement.

As the Supreme Court of Appeal ruled in South African Forestry Co Ltd v York Timbers 2005 (3) SA 323 (SCA) at para [27], judges cannot refuse to enforce a contract merely because it offends their personal sense of fairness.

When entering into a contract, a person should therefore, scrutinise the language with great care, because once he has given his assent he is bound to the contract. Better still, if the contract is important or of high value, he should have an attorney scrutinise the contract before he gives his assent.

But, of course, it is difficult for a person who enters into a contract to insist that the contract spell out, in minute detail, how the contract is to apply to every conceivable permutation of future events. Such a person may seek some way of ensuring that, over and above doing everything that the contract specifically requires them to do, the parties must act toward each other in good faith.

Is such an umbrella "good faith" clause effective in law?

The effect of an umbrella clause requiring the parties to act in the utmost good faith

This question recently came before the Durban High Court in Silent Pond Investments CC v Woolworths (Pty) Ltd and Engen Petroleum Ltd 2011 (6) SA 343 (DCLD) where the parties had included in their contract the following clause:

'In implementation of this agreement the parties hereto undertake to observe the utmost good faith and they warrant in their dealings with each other that they shall neither do anything nor refrain from doing anything which might prejudice or detract from the rights, assets or interest of the other of them.'

The background facts (slightly simplified) were as follows.

As is well known, many petrol stations have a convenience store on the premises, so that a motorist who puts petrol in his car can, at the same time, conveniently purchase items from that store.

This particular petrol station had entered into an agreement with Woolworths in terms of which a Woolworths convenience store, selling only Woolworths products, would be established at the petrol station.

After it had entered into that agreement, Woolworths revealed that it intended opening a much bigger, stand-alone Woolworths store less than 200 metres down the road from the petrol station.

Naturally, the petrol station owner was highly aggrieved. People who might otherwise have purchased from his convenience store might now decide to buy what they needed from that other nearby Woolworths store, particularly since the latter store was going to stock a wider range of goods.

But had Woolworths breached their contract with the petrol station? There was nothing in the contract which forbade Woolworths from opening other stores wherever it liked.

In the result, the good faith clause in the applicable agreement, quoted, above, proved decisive.

The court said (see the judgment at para [66]) that the obligation to observe "the utmost good faith", imposed by this clause of the agreement, had a wider impact than simply requiring Woolworths to abide by the letter of the agreement. In effect (see the judgment at paras [69] - [70]) Woolworths had assumed a fiduciary duty that went beyond the duty to carry out the literal provisions of the contract and involved a duty (see para [83]) not to put its own interests above those of the petrol station. Establishing another stand-alone Woolworths store so near to the petrol station's Woolworths convenience store (said the court) had been a breach of the good faith clause in the agreement.

The court therefore granted an interdict preventing Woolworths from opening the envisaged stand-alone Woolworths store that was going to be located 200 metres from the petrol station's Woolworths convenience shop.

The lessons to be drawn from this decision

It is clear from this decision that a clause, imposing the duty on parties to a contract to act toward one another "in the utmost good faith" and not to act in a manner that prejudices their respective "interests", can be extremely valuable, in that the clause then imposes duties on the parties that go beyond the duty to do the specific things that the contract requires them to do.

Such a clause is particularly useful where the parties to the contract are of unequal bargaining power, and the weaker party wants to ensure that the stronger party does not, after the contract has been entered into, use its superior economic strength to act in an unconscionable way.

This decision is also an illustration of the value that a skilled contract lawyer can provide for his clients in drafting contractual provisions that protect their interests.

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