The Obligation to Negotiate in Good Faith

“Negotiation means getting the best of your opponent” – Marvin Gaye

When negotiating contracts, commercial actors are expected to vigorously pursue their own self-interests. Each party is entitled to maximize its own benefit and even seek its gain at the expense of the other party. Unlike consumers, who are protected by legislation in a variety of ways, commercial entities are expected to look out for themselves.  However, in recent times, some have argued that negotiating parties should be required to have regard for one another’s interests. This concept, which has found some limited support in the courts, is commonly referred to as a duty of good faith negotiations.

This article explores how the courts have protected commercial parties’ rights to pursue their competitive interests while looking at certain exceptions that have been created to protect parties from abusive negotiation tactics in situations of inequality of bargaining power.

The Law in Canada

The leading Canadian decision on the topic of good faith in commercial negotiations is the Supreme Court of Canada’s decision in Martel.[1]

In Martel, the Canadian government leased most of an office building from Martel. The lease included a renewal clause. When it came time to renegotiate the lease, the government was fairly elusive. Through a series of communications, Martel was led to believe that the lease would be renewed. Eventually, the government opened its rental needs to the tendering process. Martel submitted the lowest-priced compliant bid, but the government chose to lease another space instead.

Martel sued the government for negligence, taking the position that the government engaged in negligent contractual negotiations and, thereby, caused it economic loss. The first step in Martel’s claim was to establish that the government owed it a “duty of care.” Martel had successfully argued before both lower courts that there could be a duty of care in these circumstances. However, the Supreme Court refused to find one. In particular, the Court felt that imposing a duty of care would deter “socially and economically useful conduct” (i.e. self-interested negotiations). The Court did not wish to “insure” commercial parties against their own lack of due diligence. Since the government did not owe Martel a duty of care, Martel’s claim for negligence failed.

Later in the decision, the Court noted that Martel’s claim for a duty of care sounded a lot like an argument for a duty of good faith in negotiations. The Court said that although the duty had not been recognized in Canadian law to date, it could be in the future.

The Search for an Obligation of Good Faith

The Ontario Court of Appeal’s decision in Cornell Engineering[2] picked up from the Martel decision.

The Court noted that parties negotiating a contract expect that each will act entirely in the party’s own interests. However, there are narrow exceptions to this general allowance, in which courts may find a duty to negotiate in good faith. These exceptions typically come up when one party reasonably relies upon the other for information, leading to a situation where one party may essentially bring about the other’s decision. When the parties have vastly different levels of access to information and leverage, the weaker party may have an “entitlement not to be self-reliant.”

The facts in Cornell Engineering are rooted in a mentor-mentee relationship. The 70-year-old mentor, Stevens, was family friends with the 41-year-old mentee, MacDonald. Stevens had provided MacDonald with career and business advice for nearly a decade.

Stevens owned 51% of Cornell Engineering. His 49% partner was looking to sell his shares, and MacDonald was looking to buy. Stevens, MacDonald and the other party entered into negotiation for the transfer of shares. The negotiation included MacDonald entering into a two-year service agreement with Cornell Engineering. At some point, MacDonald presented Stevens with an 11-page draft services agreement. MacDonald asked Stevens to read the document. However, Stevens only read the first page of the document before signing.

Stevens later realized that the signed agreement included a clause providing MacDonald a payout if the deal fell through. When the deal fell through, MacDonald started a court action to enforce the payout. Stevens applied to have the payout clause removed from the contract, saying it was unenforceable because MacDonald had a duty of good faith to bring it to his attention and did not.

The trial judge found that the parties’ mentor-mentee relationship created a duty of good faith negotiations. The trial judge concluded that because Stevens completely trusted MacDonald, MacDonald was required to specifically highlight the payout provision before Stevens signed the agreement.

MacDonald appealed the trial judge’s decision. The Court of Appeal agreed that the trial judge had erred in finding that a mentee could owe a duty of good faith to his mentor: if anything, the mentor had the upper-hand over the mentee. Stevens was, therefore, not legally justified in relying upon MacDonald as he did.  The Court noted that MacDonald had not tried to hide anything. Notably, he told Stevens to read the contract and had even bolded the heading regarding the disputed payout. Stevens practiced a lack of due diligence, and the Court was not going to insulate him from the fallout of that decision.

Cornell Engineering established that a duty of good faith negotiations may arise in situations of dependence. However, the Court emphasized that it will not allow the stronger party to impose this obligation on the weaker.

Recent Saskatchewan Cases

The Saskatchewan Court of Queen’s Bench recently released two decisions on the duty of good faith negotiation: University of Regina[3] and Input Capital.[4]

In both cases, Justice Krogan relied on the Cornell Engineering decision. She then set about looking for facts that support one party having access to, and control over, information the other party needs in order to make its decision.

University of Regina

In the University of Regina decision, a university-run research centre exploring carbon capture technologies required funding. At some point, a corporation (“Doosan”) became involved in funding the centre. The University signed an agreement and confirmation letter formalizing the parties’ relationship. Doosan prepared these documents.

The University and Doosan had a falling out. The University filed a statement of claim against Doosan. Among other things, it alleged that Doosan had engaged in bad faith negotiations. In particular, the University was upset that Doosan had utilized “strategically uncertain language” in the documents the University signed. Doosan filed an application to strike, or delete, the portion of the University’s claim alleging bad faith negotiations. Doosan argued that there was no duty of good faith negotiations in this case.

Justice Krogan would have granted Doosan’s application simply because there is no relationship between “strategically uncertain language” and good faith negotiations. However, she continued to explore whether there was a duty of good faith negotiations here. She used the Cornell Engineering criteria to resolve this question.

The facts of this case were similar to those in Cornell Engineering: the stronger party claimed to be the weaker in order to impose a duty of good faith negotiation on the other. While the University claimed to be the weaker of the parties, it had filed an affidavit claiming that it was a “world leader in carbon capture technology.”

Justice Krogan found that the University was not the weaker party in a contract concerning a subject area in which it is a “world leader.” Therefore, the University’s claim that Doosan had a duty of good faith negotiations had no reasonable chance of success and was struck.

Input Capital Corp.

The decision in Input Capital is rooted in Input Capital’s “Ag-Streaming” arrangement. Under this arrangement, Input Capital and a Saskatchewan farmer, Thomas, entered into a contract in which Input Capital would purchase an agreed upon tonnage of canola from Thomas over the next six years. Some of the money was provided up-front, and some would be provided in later years.

Thomas defaulted on his obligation to provide canola. In response, Input Capital stopped paying Thomas. Input Capital filed a statement of claim against Thomas and later applied to have its claim decided on summary judgment (a simplified procedure available in certain circumstances).

Thomas’ main defence was that the parties’ contract was not enforceable because Input Capital negotiated it in bad faith, despite owing him a duty of good faith. Thomas said that Input Capital breached its duty of good faith in three main ways:

• By not providing him with the full contract before it expected him to sign it, in a context when he could not seek outside advice before signing it;
• The updated contract provided to him had an increased tonnage of canola from what the parties had previously discussed; and
• Thomas was in dire financial circumstances at the time of entering the contract and could not possibly fulfill his obligations under the parties’ agreement.

Justice Krogan decided that if everything Thomas said were true, then Input Capital may have owed him a duty to negotiate in good faith and may have breached this duty. As a result, Justice Krogan refused to grant Input Capital’s summary judgment application and set the matter for trial.

Justice Krogan found Thomas’ financial situation to be relevant to his defence. By focusing on the parties’ unequal material resources, as well as informational resources, it seems Justice Krogan has slightly widened the narrow exceptions created in Cornell Engineering. This change demonstrates that the law in this area continues to evolve.

Conclusion

A duty to negotiate in good faith may arise in situations where a stronger party uses its superior strength to put the weaker party in a situation where it is compelled to sign an agreement without having the opportunity to fully review or consider it. Although the courts view such a duty with suspicion and will likely only find it to exist in clear cases, the possibility of such a duty should inform how parties to a construction contract, particularly stronger ones, engage in negotiation with weaker parties.

In order to protect themselves, commercial actors should consider the scope of their duty, if any, before beginning negotiations. Parties to inequitable contracts should also consider whether the other party may have owed them a duty to negotiate in good faith.

Miller Thomson’s lawyers are well-positioned to protect your rights, from before you negotiate a contract to the end of any litigation concerning it.

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[1] Martel Building Ltd. v Canada, 2000 SCC 60 [Martel].

[2] 978011 Ontario Ltd. v Cornell Engineering Co. (2001), 144 OAC 262 [Cornell Engineering].

[3] University of Regina v HTC Purenergy Inc., 2019 SKQB 126 [University of Regina].

[4] Input Capital Corp. v Thomas, 2019 SKQB 210 [Input Capital].