Contracts often contain provisions giving one of the parties the right to exercise some form of discretion. Such discretion may appear to be unfettered and, given that the law does not generally require contracting parties to act reasonably, or permit the court to rewrite the parties’ bargain or to substitute itself for the contractually agreed decision-maker, what, if anything, can be done to prevent such provisions from being abused?
In a landmark case, Braganza v BP Shipping Ltd [2015] UKSC 17, the Supreme Court decided that an employer was required to exercise a contractual discretion contained in a contract of employment in accordance with the principles laid down in Associated Provincial Picture Houses Ltd v Wednesbury Corporation [1948] 1 KB 223, which is associated with the exercise of public law discretions.
The Braganza duty has since been applied more widely, albeit sparingly, to contracts in the private law arena. The court decided that it was engaged in a landlord and tenant context in No. 1 West India Quay (Residential) Ltd v East Tower Apartments Ltd [2018] EWCA Civ 250; [2018] EGLR 16 (reasonableness of refusal of a licence to assign), and in Victory Place Management Company Ltd v Kuehn [2018] EWHC 132 (Ch); [2018] PLSCS 17 (reasonableness of refusing to allow a tenant to keep a pet). And it became the central issue in Kwik Lets Ltd v Khaira [2020] EWHC 616 (QB), giving us the opportunity to explore its scope and applicability for the first time, and in greater depth, in Legal Notes.
Settlement agreement
The litigation concerned a compromise agreement settling seven separate sets of proceedings involving numerous parties, arising out of the sale and purchase of plots of land. The agreement required certain companies (but not Kwik Lets, which was a party to the proceedings for other reasons) to repurchase the plots from the buyers to whom they had been sold. The purchase price, in the sum of £1.5m, was payable by instalments, but the companies were entitled to serve a default notice and to suspend the payment of the instalments if they considered the plot owners to be in breach of the settlement agreement.
The companies took the view that the plot owners were in breach of confidentiality provisions in the agreement, served a default notice and suspended the payments due under the agreement. The plot owners served a counternotice and commenced proceedings challenging the suspension of the payments, which they were entitled to do under the provisions of the agreement, asking the court to imply a Braganza duty into the provisions for the service of a default notice.
Braganza duty
The Braganza duty applies to the exercise of a contractual discretion, or judgment or evaluation of some state of affairs, which one party makes as the decision-maker, which affects the interests of both parties to the contract where there is a conflict of interest between them. The duty requires rationality, as opposed to reasonableness.
The court must first consider the decision-making process. Did the decision-maker ignore something that should have been taken into account, or consider something that was irrelevant? The second limb of the Braganza test is concerned with the outcome of the process. Was the decision so perverse that no reasonable person, acting reasonably, could have made it – even though the decision-making process itself could not be faulted?
The court is more likely to imply a Braganza duty in cases involving an inequality of bargaining power between the parties to the contract. But it is not possible to characterise every contractual decision as the exercise of a discretion to which Braganza applies.
Contractual right
In Kwik Lets, the companies argued that it would be completely inappropriate to imply a Braganza duty in this case. The provision enabling the companies to serve a default notice on the plot owners provided a remedy for breaches of contract. It conferred an absolute contractual right, which was exercisable solely by reference to the companies’ own interests – and was not a discretion that was exercisable by reference to any public law duty of fairness.
The High Court agreed, citing Monk v Largo Foods Ltd [2016] EWHC 1837 (Comm) and Shurbanova v Forex Capital Markets Ltd [2017] EWHC 2133 (QB). Rights to revoke, rescind or terminate, or to accept repudiatory conduct as repudiation of a contract, are not the exercise of a discretion.
Furthermore, the decision-maker was, in fact, the court, because the settlement agreement included machinery enabling the parties to ask the court to decide whether there had been grounds for the service of a default notice and for the suspension of payments due under the agreement. Consequently, the companies were not the contractually agreed decision-maker, charged with making a decision that affected the rights of both parties to the contract in circumstances where there was a conflict of interest between them. So there was no need for a control mechanism to regulate the operation of the relevant provisions.
Therefore, the companies were entitled to act entirely in their own interests when serving a default notice, if they considered that there had been a breach of the compromise agreement and believed that action to be the best way forward. It followed that the plot owners were not entitled to declaratory relief on the ground that the default notice was defective because there was no reasonable ground for serving it.
Key points
- The implication of a Braganza duty into a contract acts as a brake on the abuse of a contractual discretion
- There is a distinction between a decision to exercise an absolute contractual right and the exercise of a contractual discretion
Allyson Colby is a property law consultant
