Supreme Court Expands the Duty of Honest Contractual Performance Written By: Allie Larson, Associate In C.M. Callow Inc. v Zollinger[1], the Supreme Court recently confirmed and expanded upon the contractual duties previously set out in its decision in Bhasin v Hrynew[2]. Here, the applicable good faith doctrine was the duty of honest contractual performance, specifically in relation to the exercise of a termination clause that permitted the defendants to terminate a maintenance contract unilaterally, without cause, upon providing the contractor 10 days’ notice. Summary of What You Need To Know Strict compliance with a contractual termination clause is not sufficient to avoid liability. Contractual parties have a duty of honest performance, which applies to the performance of all contracts and includes the manner in which a party exercises a termination clause. Parties are not free to exclude this duty entirely from their contracts. The duty does not impose a positive obligation on parties to disclose information against their self-interest. However, parties cannot lie or knowingly mislead a party about the contract, and must correct any mistaken belief that results from the party’s own conduct. To clarify, this prohibits not only overt lies but also “half-truths, omissions, and even silence”[3], which can be linked to “the exercise of a particular right under a particular contract”[4]. Background The defendants, a group of ten condominium corporations under one Joint Use Committee, entered into a two-year agreement with the plaintiff for winter maintenance services. The agreement provided that the defendants were entitled to terminate the agreement unilaterally and without cause as long as it provided the plaintiff with 10 days’ notice. In March or April 2013, after one winter of the two-winter term, the defendants voted to terminate the agreement earlier than its scheduled expiry in April 2014. The plaintiff was not notified of this decision. The plaintiff engaged in discussions with the defendants regarding the renewal of the agreement. Following these discussions, the plaintiff believed that it was likely to get a renewal and that the defendants were satisfied with the services provided. The plaintiff then provided “freebie” services in the summer of 2013 as it wanted to provide an incentive for the defendants to renew the agreement. The defendants gladly accepted the “freebie” services. The defendants did not tell the plaintiff about its decision to terminate the agreement until September 2013, when it provided the requisite 10 days’ notice. The plaintiff sued for breach of contract, arguing that even though the required 10 days’ notice was given pursuant to the contract, the defendants’ failure to exercise the termination right in accordance with the duty of honest performance amounted to a breach of contract. The Ontario Superior Court found that the defendants had breached their duty of honest performance and that they had “actively deceived” the plaintiff by withholding information and continuing to represent that the contract was not in danger. This dishonesty by the defendants resulted in the plaintiff foregoing the chance to bid on other contracts, and thus the plaintiff was entitled to damages. The Ontario Court of Appeal reversed the trial judge’s decision, agreeing with the defendants that the trial judge had improperly expanded the duty of honest performance. The Court of Appeal found that the defendants’ silence did not amount to dishonesty, and that any alleged dishonesty was in relation to the possibility of a future contract, not the contract in existence at the time. The plaintiff sought and obtained leave to appeal this decision of the Ontario Court of Appeal to the Supreme Court. The Supreme Court’s Decision There was no dispute that the defendants had a right to terminate the contract, but this did not preclude them from liability. Justice Kasirer, writing for the majority of the nine-judge panel of the Supreme Court, held that the defendants breached the duty to act honestly in the performance of the contract by knowingly misleading the plaintiff into believing that the agreement would not be terminated. Whether a party has “knowingly mislead” the other party is highly-fact specific and eight members of the Court agreed that this may occur through lies, half-truths, omissions and even silence[5]. The only clear limit imposed by the Supreme Court is that the dishonesty must be linked to the performance of obligations under a contract or to the exercise of rights set forth in a contract[6]. The Supreme Court clarified that the duty to act honestly does not impose a free-standing positive duty of disclosure, but that contractual parties should be “mindful to correct misapprehensions” to avoid the risk of breaching this duty[7]. Dishonesty can occur not only through action, but also through inaction, such as failing to correct a misapprehension caused by one’s own misleading conduct. Moreover, where a party makes a statement and later learns it to be false, it has an obligation to correct that misrepresentation. Here, a breach of the duty of honest performance was found on the following grounds: the defendants led the plaintiff to reasonably believe that the contract would not be terminated early, by actively communicating that the contract would be renewed when its term expired and by gladly accepting the “freebie” services offered by the plaintiff; the defendants knew the plaintiff was operating under the mistaken belief that the contract would not be prematurely terminated; and the defendants failed to correct the misapprehension[8]. The majority held that the plaintiff was entitled to “expectation damages”, that is, damages that would put the plaintiff in the position that it would have been in had the duty of honest performance been performed[9]. In this case, the least onerous means of performance would have been to correct the misrepresentation once it was clear that the plaintiff had drawn a false inference, thus allowing the plaintiff to secure another contract for the upcoming winter. The plaintiff was awarded damages representing the profits it could have earned on other contracts, had it not forgone the opportunity to bid on them due to its mistaken belief the existing agreement would not be terminated, and the expenses it incurred because of its mistaken belief that the existing agreement would remain in force[10]. Practical Implications While the Callow decision expanded the duty of honest contractual performance, it did not create a positive duty of disclosure, nor an obligation to subvert a party’s legitimate contractual interest to its counterparty’s. That said, a contractual party must be cautious as to whether its counterparty may be under a mistaken belief and consider correcting such misapprehension, specifically where an internal decision has been made and a counterparty asks about it. If one party decides to terminate a contract, it is not required to disclose this to its counterparty immediately. However, it should avoid making misrepresentations about the future of the contractual relationship or otherwise misleading its counterparty. Parties must also be cautious of what conclusions its counterparty may draw and, in particular circumstances, consider whether there is a duty to correct a counterparties mistaken belief. While Callow certainly expanded the duty of honest contractual performance, the Supreme Court will undoubtedly have more to say on the duty of good faith contracting in 2021. The appeal of Wastech Services Ltd. v Greater Vancouver Sewerage and Drainage District[11], which dealt with broader issues of the organizing principle of good faith in contracting, was heard by the Supreme Court on the same day as Callow and remains under reserve. This will be a decision to watch out for in (likely) the near future. If you have any questions, please contact Allie Larson or a member of our Commercial Litigation practice group. [1] CM Callow v Zollinger, 2020 SCC 45 [Callow] [2] Bhasin v Hrynew, 2014 SCC 71 [Bhasin] [3] Callow at para 91 [4] Callow at para 68 [5] Callow at para 91 [6] Callow at para 68 [7] Callow at para 81 [8] Callow at para 99 [9] Callow at para 109 [10] Callow at paras 116-119 [11] Wastech Services Ltd. v Greater Vancouver Sewerage and Drainage District, 2019 BCCA 66 Disclaimer: This article is to be used for educational and non-commercial purposes only. Parlee McLaws LLP does not intend for this article to be a source of legal advice. Please seek the advice of a lawyer before choosing to act on any of the information contained in this article.