A lesson in the limits of good faith contract law

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In 1876, the Medina, an English ship carrying 550 pilgrims from Singapore to Jeddah, Saudi Arabia, shipwrecked on a rocky outcrop in the Red Sea. A nearby ship, the Timor, answered the Medina's distress signal and offered to take the pilgrims to Jeddah for a price – £4,000, which, depending on which online currency calculator you use, is the equivalent today of anything from a few hundred thousand dollars to a few million. It is a lot of money.

Nonetheless, for obvious reasons, the captain of the Medina acceded. For equally obvious reasons, when the Timor arrived home, the Medina's captain refused to pay his debt. The world being then as it is now, the captain of the Timor sued.

The captain of the Medina went to the court and argued something along the lines of, "Yeah, sure, this is a valid contract, but come on – I was dying of thirst in the middle of the desert; this was not a fair deal." And the court agreed, reducing the sum owing to £1,800. Not a small sum, for sure, but a much more reasonable one. Medina is a foundational case in the early development of the doctrine of unconscionability, the proposition that a court may reject a valid contract if the contract resulted from an abuse of one party's bargaining power.

A charming thing about the law is that 140-year-old cases like Medina still have resonance today. When Milton Friedman called economics old wine in new bottles, he could easily have been talking about law, which is the application of time-worn principles to new facts.

Which is one reason that the Supreme Court of Canada's 2014 decision in Bhasin v. Hrynew has proven to be an endless fount of controversy. As a reminder, the Supreme Court in Bhasin recognized an "organizing principle" of good faith and fair dealing in contract law along with a corresponding duty of honest performance in discharging contractual obligations. Some considered Bhasin to be a Jacobinian decision, injecting uncertainty into an established and conservative discipline.

Previously, I've argued that Bhasin has largely repacked old legal wine in new legal bottles. Good faith has existed in contract law for a long time, and attempts to use Bhasin to challenge old concepts have largely failed.

Take the recent Ontario Court of Appeals decision in Bank of Montreal v. Javed, where the plaintiff attempted to use Bhasin to recast the doctrine of unconscionability from one that applies when parties are making a contract to one that applies during the performance of a contract.

Like the Medina, Javed has to do with a debt. In particular, Mr. Javed personally guaranteed the debt of a company he partly owned. Mr. Javed was a director of that company at the time but later resigned. In 2013, the bank refused to provide Mr. Javed – who had already resigned – access to the company's financial statements. In 2014, the company defaulted, and the bank attempted to realize on Mr. Javed's personal guarantee.

Mr. Javed objected, arguing that the bank acted unconscionably in not giving him access to the company financials, and that the principle of good faith articulated in Bhasin required that the court extend the doctrine of unconscionability to void the guarantee in the face of this refusal.

The Ontario Court of Appeals disagreed, finding that nothing about Bhasin extended the doctrine of unconscionability to the actual performance of the contract. Failure to give financial statements in the context of a contract between a bank and its customer is not quite as unconscionable as extracting cash from castaways washed up on an arid rock.

What the court did find is that the bank itself breached a term of the guarantee. The guarantee specified that it would provide Mr. Javed with information upon his written request, and, while Mr. Javed had not made a written request to the bank, the failure to make the request in writing did not obviate the bank's obligation to disclose information to Mr. Javed. If you squint, this looks a little bit like the court using good faith to avoid a strict interpretation of the contract's terms regarding notices.

Nonetheless, a guarantee is a serious obligation, and it takes a serious breach to discharge a guarantee. This was not a serious breach, and Mr. Javed could not show that this breach caused him any damages. The case was not a good result for him.

So what use is Bhasin? I think that it's worth thinking about how this case would have turned out had the guarantee not contained a term requiring the bank to provide Mr. Javed with disclosure. Hypothetically, had the bank engaged in a pattern of responding to Mr. Javed's requests for information and then stonewalled him in the months prior to insolvency, I think Bhasin's duty of honest performance may have required that the corporation continue to make the disclosure to Mr. Javed, even though there was no contractual obligation to do so.

But this still wouldn't have given Mr. Javed a victory; it would have simply been a longer road to the same result. Unconscionability still must be present at the inception of a contract. Bhasin would have opened the door for the damages claim that Mr. Javed failed to prove.

Javed is a lesson in the limits of Bhasin – Bhasin is not a tool for modifying existing doctrine; it is a tool for interpreting the behaviour of contracting parties and a new way of pouring the old wine courts have been serving for centuries. As it turns out, Bhasin is not a storm on legal seas leaving old precedent shipwrecked like the Medina. Instead, Bhasin is more like the Timor – it's not quite the saving grace that the legally stranded hoped it would be.

Adrian Myers is a lawyer at Torkin Manes LLP.