An Important Clarification Of The Duty Of Honest Contractual Performance – Corporate/Commercial Law

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Background

Six years ago, in Bhasin v. Hrynew
(“Bhasin“), the Supreme Court
of Canada (“SCC“) recognized a
contractual duty of honest performance.1 On December 18,
2020, the SCC released its decision in CM Callow Inc. v.
Zollinger
(“Callow“),
clarifying that duty.

In Callow, the SCC found that a party’s duty to
honestly perform contracts applies to contractual rights, including
the right to terminate an agreement, as it does to a party’s
contractual obligations. Moreover, in addition to prohibiting
parties from knowingly misleading their counterparties, the duty of
honest performance also prohibits parties from “half-truths,
omissions, and even silence, depending on the
circumstances.”2

Facts of the Case

Callow involved the performance of maintenance
contracts between a group of condominium corporations
(“Baycrest“) and CM Callow Inc.
(“CMCI“), a maintenance services
provider.

In 2012, Baycrest entered into two separate maintenance
contracts with CMCI: a two-year winter maintenance contract and a
one-year summer maintenance contract. The winter maintenance
contract permitted Baycrest to terminate the agreement on ten
days’ written notice.

In early 2013, Baycrest decided to terminate the winter
maintenance contract, but chose not to inform CMCI of its decision.
Over the course of the spring and summer of 2013, Baycrest led CMCI
to believe that Baycrest was satisfied with CMCI’s services and
that the winter maintenance contract would not be terminated.
Additionally, Baycrest accepted CMCI’s offers of free and
additional summer maintenance services. Baycrest knew CMCI was
offering these additional summer maintenance services to convince
Baycrest to continue the winter maintenance contract.

In September 2013, Baycrest provided CMCI with ten days’
notice to terminate the winter maintenance contract, in strict
compliance with Baycrest’s rights under the contract. CMCI
alleged that Baycrest had breached its duty of honest contractual
performance by misleading CMCI about whether the winter maintenance
contract would be continued.

CMCI brought a claim against Baycrest for breach of
contract.

The Decision

At trial, the judge found that Baycrest had breached its duty of
honest contractual performance. Baycrest had acted in bad faith
when it: (1) withheld from CMCI that it did not intend to continue
the winter maintenance contract; and (2) continued to represent to
CMCI that the winter maintenance contract was not in danger of
being terminated, despite knowing that CMCI was taking on extra
tasks to increase the likelihood of it being
continued.3

On appeal, the Ontario Court of Appeal
(“ONCA“) overturned the trial
judge’s decision. The ONCA held that Baycrest did not breach
its duty of honest performance because its alleged deceptions were
not directly linked to the winter maintenance contract’s
performance.4

The majority of the SCC restored the trial judge’s decision,
holding that Baycrest had breached its duty of honest contractual
performance.

The majority held that the duty of honest performance, as
identified in Bhasin:

  1. Applies to both the performance of one’s contractual
    obligations and the performance of one’s rights under
    the contract.5 Furthermore, parties may not exclude this
    duty from their agreements, including by “agree[ing] to a term
    that provides for an apparently unfettered right to terminate the
    contract for convenience”6.

  2. Prohibits parties’ from lying or knowingly misleading their
    contractual counterparties.7 Additionally, parties’
    are also prohibited from “lies, half-truths, omissions, and
    even silence, depending on the
    circumstances.”8

Although Baycrest was exercising its contractual termination
right, it knowingly misled CMCI to believe that the contract would
not be terminated early. Moreover, Baycrest knew that CMCI was
operating under the mistaken belief that the contract would not be
terminated, and deliberately failed to correct CMCI’s mistaken
belief.9

The majority also discussed how damages should be measured in
cases for a breach of the duty of honest performance.10
Plaintiffs in such cases should receive expectation damages, the
ordinary measures for breach of contract damages, as opposed to
reliance damages, the ordinary measure for tort damages. In other
words, plaintiffs should be put in the position in which they would
have been had the duty not been breached. In this case, expectation
damages would result in CMCI being awarded the value of the winter
maintenance contract with Baycrest.11

Finally, the majority affirmed that the duty of honest
performance is a contract law doctrine distinct from the doctrines
of civil fraud and estoppel.

Conclusion

The key takeaways from Callow are: (1) strictly
complying with one’s rights in a contract may not be sufficient
to avoid liability for breach of contract; and (2) the duty of
honest performance is broader than a prohibition against lying and
misleading and may include a prohibition against half-truths,
omissions, and silence. Determining whether the duty was breached
will depend on the circumstances, and will necessarily involve a
fact-based inquiry.

It is important for businesses operating in Canada to consider
their good faith obligations under the duty of honest performance
when performing contractual obligations or exercising their
contractual rights. Given the SCC’s ruling in Callow,
businesses may not escape liability when strictly complying with
rights under contracts if there has been dishonesty or the other
party has been misled. Though it does not appear that a party’s
duty to honestly perform contracts goes so far as to require
notifying counterparties of unsatisfactory performance, businesses
should be aware of the risk of misleading counterparties regarding
their future intentions to exercise contractual rights.

Footnotes

1. Bhasin v Hrynew, 2014 SCC 71
[Bhasin]; CM Callow Inc v Zollinger, 2020 SCC 45
at para 30 [Callow].

2. Callow at para 91.

3. Callow at para 21.

4. Callow at para 26.

5. Callow at para 53.

6. Callow at para 84.

7. Callow at para 86.

8. Callow at para 91.

9. Callow at para 104.

10. Callow at para 105.

11. Callow at para 113.

The content of this article is intended to provide a general
guide to the subject matter. Specialist advice should be sought
about your specific circumstances.

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