Callow v Zollinger: the Supreme Court of Canada expands the duty of good faith performance of a contract

The Supreme Court of Canada has issued a significant case on the common law duty of good faith performance of contracts in Callow v Zollinger. Six years ago, the Court established the organising principle of good faith in contractual performance in its landmark decision in Bhasin v Hrynew. In that case, the Court held that the duty of honest performance meant that parties must not lie or knowingly mislead each other about matters directly linked to the performance of the contract. Now, in Callow, the Court has expanded the type of conduct that will run afoul of the duty of good faith performance of a contract, as well as the damages potentially available.

Active deception and the decision to terminate the contract

The plaintiff, C.M. Callow Inc. (“Callow”) was a maintenance contractor. The defendants managed the maintenance contracts for several condominium corporations (“Baycrest”) and had retained Callow for a two-year winter maintenance contract beginning in 2012. Baycrest also retained Callow for summer maintenance by way of a separate agreement. After several complaints from condominium residents about the quality of service, Baycrest decided to terminate the contract in the spring of 2013.

At issue in the appeal was the manner in which Baycrest went about communicating — or rather, not communicating — its decision to terminate the contract. In particular, Baycrest deliberately kept its decision secret from Callow throughout the summer of 2013. Relying on its contractual right to terminate the contract for any reason with 10 days’ notice, Baycrest finally gave notice of termination in September 2013.  Callow thereafter sued for breach of contract.

At trial, the judge found in favour of Callow and held that Baycrest had “actively deceived” Callow from the time it had decided to terminate until it gave notice several months later. The following factors were key to the trial judge’s finding of active deception:

• Baycrest withheld communication of its decision because it did not want to jeopardize Callow’s performance of the summer contract.
• Baycrest expressed satisfaction with Callow’s performance.
• Baycrest continued to represent to Callow that the contract was not in danger of termination, even discussing potential renewal of the winter maintenance contract.
• Baycrest knew that Callow was taking on extra landscaping work without compensation in the hope of renewal of the winter maintenance contract.

All the while, the trial judge found, Baycrest was aware of Callow’s mistaken beliefs about the security of the winter maintenance contract and its prospects of renewal, and did not correct this misunderstanding.

The Court of Appeal overturned the trial decision and found that the duty of good faith did not impose a duty of loyalty or disclosure, or otherwise require Baycrest to forgo advantages flowing from the contract. Significantly, the Court of Appeal found that any deception did not link directly to the performance of the contract, but rather related to the renewal — a contract not yet in existence

The interpretation of the duty to act honestly - the decision of the Supreme Court of Canada

A majority of the Supreme Court of Canada allowed the appeal, finding that Baycrest’s conduct amounted to active deception in relation to the exercise of the termination clause of the winter services contract.

Although the duty of good faith did not, in the majority’s view, constrain Baycrest’s right to terminate the contract, Baycrest’s exercise of that right was dishonest, namely misleading Callow into believing the contract was secure. Though Baycrest’s silence itself was not a breach of the duty of good faith, Baycrest “positively misled” Callow into believing the winter services contract was secure. Baycrest was aware of Callow’s misapprehension, and did not correct it.

The majority of the Court held that determining whether a party has breached the duty of good faith is “highly fact-specific”. Whether or not a party has knowingly misled another party is also fact-specific, since misleading conduct can include lies, half-truths, omissions, and even silence. The Court stressed that “the list is not closed” but that, in any event, deliberately misleading another party is not limited to outright lies.

The damages awarded were also noteworthy. Damages were assessed on the basis of the loss suffered as a result of the misleading representations. Had Baycrest not misled Callow, the Court reasoned, Callow would have pursued other opportunities that would have at least equalled the profit under the terminated winter services contract. Damages were equal to the expected profit to Callow for the remainder of the entire winter services contract. This scope of damages is substantial in light of the 10-day notice period negotiated by the parties.

In a strong dissent, Justice Côté challenged both the facts on which the majority based its decision and its application of the law. She took issue with the ambit of the duty of good faith performance expressed by the majority of the Court. In her view, the majority’s decision was not compatible with the “simple requirement” established in Bhasin. She also found that Baycrest’s dishonesty did not directly relate to the performance of the contract. In her view, the trial judge failed to ask whether Baycrest had knowingly misled Callow about the exercise of its right to terminate the winter agreement for reasons outside of unsatisfactory services, since the contract allowed termination for any reason.

The duty of good faith and the dialogue between Common Law and Civil Law

In reaching its decision, a narrow majority of five judges embarked on an interesting – but contentious – “dialogue” between the common law and civil law. The trigger was, apparently, the 2014 finding in Bhasin that, as in Québec civil law, “the notion of good faith includes […] the requirement of honesty in performing the contract”. Bhasin had described matters as being related to the performance of the parties’ contractual obligations, but had not settled whether the requirement of honesty in performing the contract applies to the exercise by a party of a contractual right. The majority in Callow justified its use of the civilian doctrine of contractual good faith as a source of inspiration in clarifying when a matter “relates” to the performance of the contract. 

It has long been recognized in Québec civil law, through the combined effect of Articles 6, 7 and 1375 of the Civil Code of Québec (“CCQ”), that both the performance of the parties’ obligations and the exercise of their rights are part of the requirements of good faith. Under Québec law, therefore, the exercise of a contractual right – including an unfettered right – in an abusive manner constitutes a breach of contract. Unlike at common law, the duty to act in good faith in Québec civil law is not a general principle but rather a free-standing rule that is codified in the CCQ, upheld regularly by the courts, and engrained in the civil law system. As a result, its interpretation and application trigger a number of principles that are foreign to the common law system.

In a judgment otherwise concurring in the result, a minority starkly disagreed with the majority’s reference to civil law in determining the scope of the common law concept of good faith. Justice Brown, writing for four judges on this point, stressed the risk of confusion that comes with citing Québec civil law as authority for finding that the requirement of honesty in performing a contract includes the proposition that no contractual right may be exercised in an abusive manner. Indeed, the civil notion of abuse of right “would not be familiar, meaningful or even comprehensible to the vast majority of common law lawyers and judges,” he held, and would arguably require them to become familiar with the CCQ and the French language. He also emphasized that the obligation of good faith in civil law is more onerous on a party terminating a contract than the general principle prohibiting dishonest conduct at common law.

What are the implications of the Court’s decision?

In Bhasin, the Court described the duty of good faith as “more theoretical than real”. Callow takes a big step away from that restrictive approach. Both the duty and its consequences are now very real indeed.

The Court has broadened the scope of the type of conduct that will be potentially considered in breach of the duty of good faith and honest performance, with important repercussions. Effectively, Callow imposes a positive obligation on a party to actively correct a misunderstanding of a counterparty, even if that is detrimental to itself. As for the circumstances that might give rise to that obligation and the standard of conduct it requires, the decision is vague at best.

In her dissent, Justice Côté captured the uncertainty created by the majority’s approach as follows: “Absent a duty to disclose, it is far from obvious when exactly one’s silence will ‘knowingly mislead’ the other contracting party. Are we to draw sophisticated distinctions between ‘mere silence’ and other types of silence …? If that be so, I wonder how a contracting party – on whom, I note, the law imposes neither ‘a duty of loyalty or disclosure’ nor a requirement to ‘forego advantages flowing from the contract’ … –is  supposed to know at what point a permissible silence turns into a non-permissible silence that may constitute a breach of contract.”

Further, the measure of damages awarded was substantially more than the 10 days’ notice to which the parties had both agreed in their contract. This raises questions about the extent to which the courts will give effect to contractual terms where a breach of the duty of good faith performance is engaged.

The Court’s forthcoming decision in Wastech Services Ltd. v Greater Vancouver Sewerage and Drainage District deals with the duty of good faith in respect to a party’s exercise of discretion. It is expected to be released shortly, and will undoubtedly have further implications for the application of the duty of good faith in Canadian common law.

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