Litigation and Dispute Resolution

The duty of good faith and reasonableness: too much pizza, too little dough

11 February, 2018

The liberal conception of freedom of contract has long been haunted by the spectre that, where there are no rules, the “primitive doctrine that might is right” may reign. To fetter this, laws have been introduced to redress the balance of negotiating power, particularly where small businesses are involved. One development has been the 2016 introduction of the unfair contract provisions in the Australian Consumer Law.

Courts are finding their feet in applying these new provisions to render particular clauses in contracts void. The most recent application has been the Australian Competition and Consumer Commission’s application before the Federal Court of Australia against Servcorp in ACCC v Servcorp Ltd [2018] FCA 1044.

The Servcorp Group provides serviced office spaces and virtual office services to its clients, and between 2015 and 2016 entered into a number of contracts for the supply of services to a number of small businesses. The ACCC investigated and then commenced proceedings in the Federal Court seeking declarations that a number of provisions in the contract were in breach of the new unfair contract regime.

Looking out for the little guys

For a provision for a contract to fall afoul of the unfair contract regime, there are a number of elements that must be present.

First, the regime only applies to “small business contracts”, which means that:

  1. one of the parties to the contract must be a business that employees less than 20 people; and
  2. the contract has an upfront price payable of up to $300,000 (or up to $1,000,000 if the contract term is greater than 12 months).

This is indicative of the purpose of the unfair contract regime. That is, the law will not interfere where large commercial parties are negotiating an agreement, but where there is a disparity of bargaining power some legal paternalism is permissible.

However, it is not enough that one of the parties be a small business. The second requirement is that the contract must be a “standard form contract”. The Australian Consumer Law provides that the Courts must consider a number of factors in determining whether a contract is a standard from contract, including whether:

  1. one party has most of the bargaining power;
  2. the contract was prepared by one party prior to any negotiations with the other;
  3. one party effectively only had a choice to accept or reject the contract in the form presented;
  4. there was an effective chance to negotiate; and
  5. the terms of the contract take into account specific factors or characteristics of the party or transaction.

Continuing the theme of redressing power imbalances between the parties, the Australian Consumer Law creates a reverse onus of proof for this question. That is, if a party alleges that the contract is a standard form contract, the other party must prove that is not.

What is unfair?

If the contract in question is a small business contract, and a standard form contract, then the final question is whether the provisions in question are unfair. Provisions that are unfair will be unenforceable.

The Australian Consumer Law provides that a provision will be unfair if:

  1. it causes a significant imbalance of rights and obligations;
  2. it is not reasonably necessary to protect one of the parties; and
  3. it would cause detriment to a party if the provision was relied on.

Examples of unfair terms include terms that allow one party to avoid performance, terminate the contract, vary the contract, assign the contract, or prevent the other party from pursuing their legal rights.

The Servcorp contracts

Servcorp ultimately cooperated with the ACCC, and they reached a statement of agreed facts and proposed orders for the Court which would render a number of provisions under Servcorp contracts unenforceable. The Court made the consent orders, declaring the clauses unenforceable, and ordering that Servcorp establish a compliance program to prevent future breaches.

Nevertheless, the Court engaged in considering whether the impugned provisions were unfair. The types of clauses that the Court held were unfair include:

  1. An automatic renewal clause which provided that if the contracting party failed to notify Servcorp they were terminating at the end of the term of the contract, Servcorp could automatically renew the contract and unilaterally increase the price payable without notice.
  2. Limitation of liability clauses which required the contracting party to insure all goods at the premises, provided that Servcorp will not be responsible for any loss, theft, or damage howsoever it was caused, and prevented the contracting party from suing its landlord even where it had a legitimate claim.
  3. A variation of price clause which allowed Servcorp to vary the price it charged at its discretion, without notice or any requirement to act reasonably. This combined with the requirement that the contracting party gave one month’s notice for any termination led the Court to conclude that this was unfair.
  4. A provision of notice clause which provided that any notice for termination provided by the contracting party to Servcorp will only be effective when Servcorp returned a confirmation letter. The Court considered that this effectively allowed Servcorp to determine when a notice had been served, which in turn allowed them to decide if a contracting party had exercised a right to termination in time.
  5. A termination clause which allowed Servcorp broad rights to immediately terminate the contract in the event of a breach by the contracting party, including in circumstances where there had not been a material breach. There was no requirement to notify the contracting party of the breach or give them an opportunity to remedy the breach.
  6. A termination clause that allowed Servcorp to terminate at any time on one month’s notice without cause. There was no corresponding right for the contracting party.
  7. A limitation of liability clause that limited liability only to the case of gross negligence or wilful misconduct, and required the contracting party to provide an unlimited indemnity to Servcorp.
  8. A non-solicitation clause which provides a $15,000 penalty (along with further damages) if the contracting party persuades another contractor to move to a competitor.

What does this mean for you?

The Federal Court’s decision is a timely reminder of the application of the new unfair contract regime and the clauses that it will render void. If your business enters into standard form contracts with small businesses, now is the time to review and amend those contracts to ensure that there are no provisions that offend the Australian Consumer Law.

On the other hand, if you operate a small business and a service provider has provided you with a standard form contract, you should seek legal advice on whether the provisions contained in the contract are unenforceable against you.

McCabes has expertise in advising its clients on competition and consumer law disputes and can assist you in reviewing your contracts for compliance with the Australian Consumer Law.

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After the phone call, Mr Mickleborough applied his ink signature to the contract, took a photo of it on his mobile phone and texted it to Mr Archter with the text message, "please confirm flax contract". Mr Archter responded by texting back a "thumbs-up" emoji, but ultimately did not deliver the 87 metric tonnes of flax as agreed.   Issues The parties did not dispute the facts, but rather, "disagreed as to whether there was a formal meeting of the minds" and intention to enter into a legally binding agreement. The primary issue that the Court was tasked with deciding was whether Mr Achter's use of the thumbs-up emoji carried the same weight as a signature to signify acceptance of the terms of the alleged contract. Mr Mickleborough put forward the argument that the emoji sent by Mr Achter conveyed acceptance of the terms of the agreement, however Mr Achter disagreed arguing that his use of the emoji was his way of confirming receipt of the text message. By way of affidavit, Mr Achter stated "I deny that he accepted the thumbs-up emoji as a digital signature of the incomplete contract"; and "I did not have time to review the Flax agreement and merely wanted to indicate that I did receive his text message." Consensus Ad Idem In deciding this issue, the Court needed to determine whether there had been a "formal meeting of the minds". At paragraph [18], Justice Keene considered the reasonable bystander test: " The court is to look at “how each party’s conduct would appear to a reasonable person in the position of the other party” (Aga at para 35). The test for agreement to a contract for legal purposes is whether the parties have indicated to the outside world, in the form of the objective reasonable bystander, their intention to contract and the terms of such contract (Aga at para 36). The question is not what the parties subjectively had in mind, but rather whether their conduct was such that a reasonable person would conclude that they had intended to be bound (Aga at para 37)."   Justice Keene considered several factors including: The nature of the business relationship, notably that Mr Achter had a long-standing business relationship with SWT going back to at least 2015 when Mr Mickleborough started with SWT; and   The consistency in the manner by which the parties conducted their business by way of verbal conversation either in person or over the phone to come to an agreement on price and volume of grain, which would be followed by Mr Mickleborough drafting a contract and sending it to Mr Achter. 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