The Paradox That Is Georgia’s Implied Covenant of Good Faith and Fair Dealing
| Publication year | 2023 |
| Pages | 0016 |
The Legal
While Georgia courts hold that a party exercising an express contract right must do so in good faith, those same courts hold that a party exercising an express contract right cannot breach the implied covenant. How can those two statements coexist?
J. Matthew Maguire Jr.
We learned in law school that a duty of good faith and fair dealing is implied in nearly all contracts. This is an easy concept to grasp in the abstract, but not so easy to apply in the real world because of confusing and sometimes conflicting case law. While Georgia courts hold that a party exercising an express contract right must do so in good faith, those same courts hold that a party exercising an express contract right cannot breach the implied covenant. How can those two statements coexist? Similarly, if, as the cases instruct, one cannot breach an implied duty without also breaching an express duty, how is the implied covenant not a legal redundancy?
This article seeks to clarify this confusing area of the law by outlining at a high level the general rule in Georgia that a duty of good faith is implied in all contracts; exploring the exception to the general rule applicable to contracts that grant a party sole or absolute discretion; examining the paradox that a party exercising an express contractual right must use good faith but that a party exercising an express contractual right can never be guilty of bad faith; attempting to reconcile the leading cases that give rise to this paradox and offering an alternative and more workable approach to analyzing these types of cases; and finally, concluding with a brief explanation for why an implied covenant claim is still a valuable tool for litigators despite some limitations in its substantive reach.
While Georgia courts hold that a party exercising an express contract right must do so in good faith, those same courts hold that a party exercising an express contract right cannot breach the implied covenant. How can those two statements coexist?
The Contours of Implied Covenant of Good Faith and Fair Dealing
The concept of an implied duty of good faith and fair dealing seems to have first arisen in Georgia in the early 20th century. In Palmer Brick Co. v. Woodward, the Supreme Court of Georgia ruled that where a mining lease's only compensation to the lessor was a royalty, the law implied a duty on the lessee to actually mine the property within a reasonable time; otherwise, the lessor would receive no benefit.[1]The modern rule is often stated as follows: "where the manner of performance is left more or less to the discretion of one of the parties to the contract, he is bound to the exercise of good faith."[2]
The implied covenant does not block the use of terms that actually appear in a contract but merely fills gaps in a contract to effectuate the parties intent.[3] This is because "[a]n implied term in an agreement exists where it is reasonable and necessary to effect the full purpose of the contract and is so clearly within the contemplation of the parties that they deemed it unnecessary to state."[4] Other courts appear less willing to fill gaps, especially when it is a sophisticated party that is seeking relief. In Sosebee v. McCrimmon, for example, the Court of Appeals of Georgia rejected an attorney's attempt to impose a lien on his former client's recovery after the attorney had terminated the representation in a contingent fee matter.[5] The court held that "[t]his Court will not revise this agreement to fill a contractual void under the pretext of contract construction. Courts are not at liberty to revise contracts while professing to construe them."[6] In keeping with the gap-filler model, "there is no independent cause of action for violation of the covenant apart from breach of an express term of the contract."[7] Thus, allegations of a party's improper motive are irrelevant without a breach of an express contract provision.[8]
Most frequently, the implied covenant acts as a guardrail that keeps the parties
Most frequently, the implied covenant acts as a guardrail that keeps the parties operating within a zone of reasonableness and requires them to "refrain from arbitrary or unreasonable conduct which has the effect of preventing the other party to the contract from receiving the fruits of the bargain."
operating within a zone of reasonableness and requires them to "refrain from arbitrary or unreasonable conduct which has the effect of preventing the other party to the contract from receiving the fruits of the bargain."[9] Less frequently, though, the implied covenant can also impose an affirmative obligation to act because "one who undertakes to accomplish a certain result agrees by implication to do everything to accomplish the result intended by the parties."[10]
The Absolute Discretion Exception to the General Rule
While it is an "overarching presumption" that a duty of good faith is implied in all contracts, "[t]he exception to this general rule occurs only if the contract expressly (not impliedly) provides otherwise."[11]This means that the covenant does not apply if the contract grants a party absolute or sole discretion to take or refrain from taking some action. The best case to illustrate this principle is Hunting Aircraft, Inc. v. Peachtree City Airport Authority .[12] Hunting operated an aviation maintenance facility on land owned by the Peachtree City Airport Authority. Because it needed to cross the Authority's property to access the airport runways, Hunting entered into a written contract with the Authority for a 25-year easement that could be renewed for another 25 years with both parties' consent, "which shall not be unreasonably or arbitrarily withheld."[13] Importantly, the agreement also said that the Authority could declare Hunting in default if it assigned its easement rights without the Authority's prior written consent.[14]
When the Authority refused without explanation to consent to Hunting's proposed assignment to a third party, Hunting sought a declaration that the Authority was breaching the implied covenant by attempting to force Hunting into a default so it could either secure the property for itself or extract additional fees from Hunting.[15] In response, the Authority urged the court to find that the implied covenant did not apply because absolute discretion to withhold approval of the assignment could be "inferred" from the terms of the contract.[16] The court rejected the Authority's invitation, ruling that absolute discretion cannot be inferred but must be granted expressly by the contract terms.[17] The court was clearly concerned that a contrary ruling would allow the exception to swallow the rule.
The granting of discretion to a party triggers a duty to act in good faith; it does not eviscerate it (absent express language so stating). As stated by then Circuit Judge [Antonin] Scalia, "to say that every expressly conferred contractual power is of this nature is virtually to read the doctrine of good faith (or of implied contractual obligations and limitations) out of existence."[18]
The court then held that a jury must decide whether the Authority's conduct (if proven) could constitute a breach of the implied covenant:
A finder of fact would be authorized to find that denying consent to the proposed transaction on the basis that the Authority hoped to secure the property for itself or hoped to extract additional fees from Hunting constituted unreasonableness or failure to act in good faith.[19]
While Georgia courts are fairly consistent in refusing to imply a duty of good faith when a party has absolute discretion, the decisions are not uniform. In Capital Health Mgmt. Grp., Inc. v. Hartley, for example, Hartley's shareholder agreement with Capital Health required the company to purchase her shares upon a change in control if she was either still employed by the company or if her employment had previously been terminated due to disability.[20] Importantly, the agreement granted the Capital Health board "sole discretion" to determine what constitutes a disability."[21] A change in control occurred after Hartley's separation so her buyout rights depended on whether her separation was due to disability or a company reorganization.[22] Citing Hunting Aircraft and evidence that Hartley was terminated because she was disabled, the Court of Appeals ruled that a jury must decide whether the company's refusal to purchase Hartley's shares was "out of an improper pecuniary motive."[23] In so ruling, the Hartley court ignored the statement in Hunting Aircraft that a party's good or bad faith is irrelevant if the contract gives them sole discretion to act.[24]There is no way to reconcile Hartley with Hunting Aircraft or, for that matter, with binding Supreme Court of Georgia precedents such as Charles v. Leavitt that also observe the sole discretion exception.[25]
There are also a handful of decisions that take a different route but still arrive at the same conclusion reached by the court in Hartley by requiring good faith performance because if "sole discretion" really meant what it said, the contract would fail for lack mutuality. In Newport Timber Corp. v. Floyd, for example, a two-year logging contract provided that if weather conditions prevented "practical timber harvesting operations hereunder," the contract shall be extended by the number of days equal to the bad weather days with the grantee (Newport) having "the uncontrolled and absolute right to determine when, as and if weather conditions" justify the extension.[26] The grantor claimed the contract had expired and sought a preliminary injunction when Newport threatened to reenter the property to continue harvesting.[27]Notwithstanding the "uncontrolled and absolute...
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