Update: commercial contracts

What is the difference between a fiduciary duty and a duty to act in good faith? In AstraZeneca UK Ltd v (1) Albemarle International Corporation (2) Albemarle Corporation [2011] EWHC 1574 (Comm) QBD, the court determined that a 'first opportunity and right of first refusal' granted to a supplier (albeit even 'under mutually acceptable terms and conditions') conferred a duty on the grantor to act in good faith so as to allow the grantee: 1) a right to receive a contractual offer on terms which the grantor was prepared to accept; 2) an opportunity to match any third-party offer which the grantor would otherwise accept; and 3) full disclosure of the terms of any third-party deal which it was minded to accept.

This is possibly a surprising result. It calls into question how a duty to act in good faith arises. Mr Justice Flaux relied on a number of authorities '“ interestingly, all at first instance. In particular, the judgment of Brightman J in Smith v Morgan [1971] 1 WLR 803 determined that 'the first option of purchasing'¦ at a price to be agreed upon' was not merely an agreement to agree but an 'obligation to make an offer to the purchaser at the price and at no more than the price at which she is, as a matter of fact, willing to sell'. Hence, the vendor was obliged to act in good faith and 'the plaintiff must, of course, act bona fide in defining the price to be included in the offer'.

Set that against the decision in Georgi Velichkov Barbudev v (1) Eurocom Cable Management Bulgaria Eood [2011] EWHC 1560 (Comm), and we begin to see the subtle difference between terms which of necessity imply some element of good faith and terms which have no effect however much 'good faith' is bestowed upon them by an optimistic draftsman.

Days before the AstraZeneca decision, the Queen's Bench held that an offer in a contract to allow the other party 'to invest'¦ on the terms to be agreed'¦ [which] we agree to negotiate'¦ in good faith' was nothing more than an unenforceable agreement to agree. Even though the court construed that the duty to negotiate in good faith extended to the subject and price of the contract, there was insufficient certainty. The immediate practical lesson then is that a right of first refusal, even couched as apparently loosely as the AstraZeneca term, may be far more effective than any offer to act in good faith.

Is a duty to act in good faith a fiduciary duty?

Coincidentally, the Chancery Division discussed two months earlier whether an implied contractual duty of good faith gave rise to fiduciary duties. In In The Matter Of The Prudential Staff Pension Scheme v (1) Prudential Assurance Co Ltd and others [2011] EWHC 960 (Ch), the court was asked to determine whether an employer, when deciding to award pension increases on a less generous basis than was the case previously, was in the position of a fiduciary or was merely subject to an implied duty of good faith (and hence able to consider its own interests).

The court recognised the long-established implied term in pension schemes 'that the employers will not, without reasonable and proper cause'¦ [act] to destroy or seriously damage the relationship of confidence and trust between employer and employee' (Imperial Group Pension Trust Ltd v Imperial Tobacco Ltd [1991] 1 WLR 589).

However, it went on to say that the employer had not breached that duty by taking into account its own interests. It was noted that that the implied obligation of good faith was not to be taken as requiring an employer to arrive at a decision which was substantively 'fair'. Overall the power to determine pension increases was not therefore fiduciary. As a result, the employer was entitled to have regard to its own interests when making decisions, so long as the decision was not irrational or perverse.

Meaning of 'good faith'

The meaning of 'good faith' will differ according to the context, spirit and purpose of each bargain. So, in AstraZeneca, the implicit 'good faith' conformed with the traditional view that the obligor is bound to inform the other of important points that the other party needed to know and could not otherwise find out and not break off negotiations without reasonable cause in circumstances where the other party reasonably anticipates that an agreement will be signed.

In CPC Group Ltd v Qatari Diar Real Estate Investment Co [2010] EWHC 1535 (Ch) last year (see solicitorsjournal.com, 29 June 2010), the High Court had looked at what 'utmost good faith' meant. Vos J summarised it as implying a duty to:

• adhere to the spirit of the contract;
• observe reasonable commercial standards of fair dealing;
• be faithful to the agreed common purpose; and
• act consistently with the justified expectations of the parties.

Nevertheless, in all these cases, the duty of good faith was limited by reference to the obligor's own commercial interests.

When do fiduciary duties arise?

So, when do fiduciary duties arise, if a duty of good faith was insufficient in the above examples? By chance, the Commercial Court, last month, examined this very question in the context of any agency agreement.

In John Youngs Insurance Services Ltd v Aviva Insurance Services UK Ltd [2011] EWHC 1515 (TCC), the court considered whether an agent had a fiduciary duty in respect of some, but not all, services under a contract.

John Youngs took on claims handling, surveying and building repair services for Aviva. After the contract terminated, there arose a dispute as to certain invoices issued by Youngs. Aviva contended that Youngs owed an alleged fiduciary duty to account as a result of its position as agent, most notably because Youngs had the authority to bind its principal and there was thus a fiduciary duty to exercise that authority responsibly.

Youngs, by contrast, contended that it was necessary to see whether or not a fiduciary duty arose in the first place by looking at the terms of the actual contract. They cited in particular the House of Lords in Henderson v Merrett Syndicates Ltd [1995] 1 AC 145: 'The extent and nature of the fiduciary duties owed in any particular case fall to be determined by reference to any underlying contractual relationship between the parties. Thus in the case of an agent employed under a contract, the scope of his fiduciary duties is determined by the terms in the underlying contract.'

The court agreed with Youngs' approach and determined that there were aspects of the claims handling services where Youngs acted as an agent for Aviva. In doing so, Youngs was trusted by Aviva to act loyally in Aviva's best interests and to use their expertise to deal with the validation and repudiation of claim and this gave rise to a fiduciary relationship. However, in carrying out the surveys, assessing the work scope and producing estimates, Youngs were not acting as an agent and there was nothing which gave rise to a fiduciary duty. As the disputed invoices related to the latter work, there was no fiduciary duty giving rise to a duty to account.

In reaching this judgment the court made the following useful (although not new) conclusions:

(a) The scope of any fiduciary duty owed by an agent employed under a contract must be determined by the terms of the contract.

(b) Not every breach of duty by a fiduciary is a breach of fiduciary duty.

(c) A fiduciary relationship cannot be superimposed on the contract so as to alter the parties' intentions.

(d) A person can be in a fiduciary position in respect of some part of his activities but not in respect of other parts.

(e) The essence of a fiduciary relationship is that it creates obligations of a different character from those deriving from the contract. A fiduciary duty does not arise merely because one party puts faith in another and contends that his trust had not been repaid.

What does 'fiduciary' really mean?

In Youngs, Mr Justice Ramsey endorsed the decision of the Court of Appeal in Bristol and West Building Society v Mothew [1998] Ch 1 in which Millett LJ reached to the heart of the matter: 'A fiduciary is someone who has undertaken to act for or on behalf of another in a particular matter in circumstances which give rise to a relationship of trust and confidence.

'The distinguishing obligation of a fiduciary is the obligation of loyalty. The principal is entitled to the single-minded loyalty of his fiduciary [and the] fiduciary must act in good faith; '¦ must not make a profit out of his trust; '¦ must not place himself in a position where his duty and his interest may conflict;'¦ [and] may not act for his own benefit or the benefit of a third person without the informed consent of his principal.'

Lessons for draftsmen

To obtain the best result for a client:

(a) One needs to consider the consequences and appropriateness of including duties of a fiduciary nature.

(b) Reviewers of drafts should resist duties which might give rise to fiduciary duties where they are not central to the contract and the parties' intentions.

(c) 'Good faith' implies the duties highlighted above, but also implies reasonable diligence in the performance of obligations and higher, but inchoate, ethical standards.

(d) Obligations to act in 'good faith' may be less onerous than they appear. Any terms which reserve or imply the right to preserve self-interest are likely to be seized upon by the courts to limit the extent of the duty.

(e) Such duties may also be unenforceable for uncertainty or incapable of remedy '“ if the outcome of acts 'in good faith', had they been performed properly, are uncertain or unascertainable, it may not be possible to assess any loss. An agreement to negotiate in good faith, as in Barbudev, is a classic example.

(f) As ever, one should not reach for a term such as 'good faith' or 'fiduciary' in the hope that courts will know what it means, but draft to say precisely what one means with all the consequence and implications made explicit.