At Your Discretion: The Art Of Contractual Decision-Making – Corporate/Commercial Law

Bizar Male

In our most recent blog post, my colleague Erik
Holmstrom discussed the Supreme Court of Canada decision
in CM Callow v Zollinger et al. There, he discusses
the general duty of good faith, and the requirement for parties to
refrain from active dishonesty in performing their contractual
duties. Rightly so, he points out that this decision does not
prevent parties from pursuing their own self-interests, and this is
exactly what the Supreme Court sought to clarify in its subsequent
decision in Wastech Services Ltd v Greater Vancouver
Sewerage and Drainage District
, 2021 SCC 7. More specifically,
the Supreme Court discussed the concept of good faith as it relates
to contracts that provide either one or more parties with
discretionary rights.

Background

Wastech Services Ltd. (“Wastech“) is
a company in British Columbia that provides waste transportation
and disposal services. The Greater Vancouver Sewerage and Drainage
District (the “District“) is a statutory
body that administers waste disposal programs in the Greater
Vancouver area. Wastech and the District had contracted many times,
and in 1996 they entered into the agreement before the Court (the
Contract“). The Contract superseded
four existing agreements between the parties and was very complex.
Essentially, Wastech was to remove and transport waste on behalf of
the District to three locations.

Wastech received different compensation rates depending on which
landfill it was instructed to bring waste to. The Contract gave the
District “absolute discretion” to determine and amend the
minimum amount of waste to be transported to Cache Creek Landfill,
which is the only location that carried a higher compensation rate.
Additionally, the Contract specified a target operating ratio,
where Wastech’s operating costs would amount to 89% of total
revenue. This would ordinarily result in an 11% profit margin. The
parties would share the financial consequences if the actual
operating ratio was less than or exceeded the target.

In 2011, the District directed a significant amount of waste
away from Cache Creek Landfill to another landfill, which caused
Wastech to operate at a 4.5 percent loss. After adjustments and
cost sharing, Wastech recorded only 4% profit for 2011 – well
short of its 11% target. As a result, Wastech initiated arbitration
proceedings under the Contract, arguing that the District breached
the Contract and that it was entitled to compensation for the
District’s failure to uphold its duty of good faith. The case
went through arbitration, and multiple appeals through the Supreme
Court of British Columbia and the British Columbia Court of Appeal
before ending up at the Supreme Court of Canada.

The Court’s Ruling

The Court held that, while the duty to exercise contractual
discretion in good faith is a well-established point of law in
Canada, this does not mean that a party must exercise their
discretion in deference to the other party’s interests. By
contrast, a party will have upheld its duty of good faith if it
exercises its discretion reasonably and consistent with the
purposes of the parties’ bargain. If a party exercises its
discretion dishonestly, it will constitute a breach of
contract.

The Supreme Court had held in previous cases that the duty of
good faith and honest performance was a “general organizing
principle” of contract law. Indeed, this duty expressly
covered the exercise of discretionary powers; however, there was
very little discussion on what exercising discretion in good faith
would look like.1 In addition to this, the Court
acknowledged the further confusion over what this duty would be
where a party has unfettered discretion – as the District did
in this case.

Wastech argued that it would be “unreasonable for a party
to exercise its discretion “in such a way as to deny the other
contractual party substantial benefits flowing to it which
represent fundamental aspects of the parties’ legitimate
contractual expectations.”” By this, they meant that when
the District elected to divert waste away from Cache Creek, they
did so knowing that it would result in a significant reduction in
profits flowing to Wastech, which it had previously received and
expected to receive in future. As it had discretion over this, and
could potentially have elected to send more waste to Cache Creek,
Wastech felt that this was done in bad faith.

The Court disagreed. They stated that good faith should not be
used as an excuse for punishing a party’s motives. Even if a
decision results in the substantial or total loss of contractual
benefits for another party, this alone will not mean that a party
has acted in bad faith. Good faith in discretion will be
highly-context specific, and the content of a party’s duty is
found in the wording of the agreement. This means that parties
simply must uphold the objectives of their discretion, as per the
negotiations of the parties.

In this case, the Contract gave the District the absolute
discretion to determine the minimum amount of waste to be
transported to Cache Creek. There was no guaranteed minimum. The
purpose of giving the District this discretion was to allow the
parties to adjust waste flows to accommodate changing
circumstances. The parties knew there would be operational
variability when they negotiated the Contract, and that is why the
adjustment payments were in place – to compensate parties
where there are unfortunate results. The Court was adamant that the
Contract did not require the District to subordinate its own
interests to Wastech’s interests. The discretion was related to
the efficiency and capacities of the landfill sites, and they had
the absolute right to make decisions about this. Wastech’s
“legitimate expectations” were not guaranteed by the
Contract, and thus the District did not breach its duty of good
faith.

Takeaways

Despite the Supreme Court’s rulings in CM Callow v
Zollinger et al 
and others, the duty of good faith and
honest performance does not necessarily mean that a party
exercising contractual discretion must do so with the other
party’s interests in mind. In fact, where a party has absolute
or unfettered discretion over certain matters, they must simply
exercise those powers in reference to the purposes and objectives
of their agreement and they must do so honestly.

I note, however, that what this means will vary from case to
case. Your contractual duties of good faith will depend on the
wording of your contract, and as such you should always seek the
advice of experienced and qualified lawyers. Here at McLennan Ross
LLP, our team of commercial litigators are ready and waiting to
answer your questions and help you should you require assistance
with matters like these.

Footnote

1. Bhasin v Hrynew, 2014 SCC 71, [2014] 3 SCR
494 at paras 47, 48.

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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