25 August 2021
While there is sparse literature and judicial references to the concept of Relational Contracts in jurisdictions today, the concept of Relational Contracts has been well recognised in a few decisions by the courts in England.
The concept of Relational Contracts is an emerging one, which will fundamentally alter the underpinnings of parties’ obligations to one another, in order to give business efficacy to their arrangement, even in a commercial context, while also incorporating an implied duty to act with honesty and good faith in all respects.
Relational Contracts are long term contracts, exhibiting a number of features, and essential amongst them is the intent and commitment of parties to collaborate with each other, with the understanding that their roles will be performed with high integrity, in ways which respect the spirit and objectives of their venture, while not being specifically and exhaustively mentioned in the written contract. It is a relational contract which involves reposing trust and confidence in one another, but of a different kind from that involved in fiduciary relationships. The trust is not in the loyal subordination by one party of its own interests to those of another. It is trust that the other party will act with integrity and in the spirit of cooperation[i].
This blog addresses the width of Relational Contracts, the test to term a commercial contract a relational one, and the legal consequences that follow. It also proposes to introduce the concept of Relational Contracts for Indian parties.
What are Relational Contracts?
The concept of Relational Contracts has been articulated by Leggatt J. in Yam Seng v International Trade Corporation Limited[ii], where he observes: “In some contractual contexts the relevant background expectations may extend further to an expectation that the parties will share information relevant to the performance of the contract such that a deliberate omission to disclose such information may amount to bad faith. English law has traditionally drawn a sharp distinction between certain relationships such as partnership, trusteeship and other fiduciary relationships on the one hand, in which the parties owe onerous obligations of disclosure to each other, and other contractual relationships in which no duty of disclosure is supposed to operate. Arguably at least, that dichotomy is too simplistic. While it seems unlikely that any duty to disclose information in performance of the contract would be implied where the contract involves a simple exchange, many contracts do not fit this model and involve a longer-term relationship between the parties to which they make a substantial commitment. Such “relational” contracts, as they are sometimes called, may require a high degree of communication, co-operation and involve expectations of loyalty which are not legislated for in the express terms of the contract but are implicit in the parties’ understanding and necessary to give business efficacy to the arrangements. Examples of such relational contracts might include some joint venture agreements, franchise agreements and long-term distributorship agreements.”
In practice, Relational Contracts would include long term business relationships, joint ventures[iii]; complex outsourcings; franchising and distribution arrangements[iv], long term service contracts[v] and even employment contracts[vi].
The tests to determine whether contracts are “relational”:
To determine whether a contract is a Relational Contract or not, various English decisions[vii] have indicated the specific characteristics that are expected to be present in order to determine whether a contract between commercial parties ought to be considered a relational one, namely:
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A substantial degree of commitment from both parties;
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There must be no specific express terms in the contract that prevents a duty of good faith being implied into the contract;
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The contract will be a long-term one, with the mutual intention of the parties being that there will be a long-term relationship;
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The parties must intend that their respective roles be performed with integrity, and with fidelity to their bargain;
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The parties will be committed to collaborating with one another in the performance of the contract;
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The spirits and objectives of their venture may not be capable of being expressed exhaustively in a written contract;
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They will each repose trust and confidence in one another, but of a different kind to that involved in fiduciary relationships;
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The contract in question will involve a high degree of communication, co-operation and predictable performance based on mutual trust and confidence, and expectations of loyalty;
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There may be a degree of significant investment by one party (or both) in the venture. This significant investment may be, in some cases, more accurately described as substantial financial commitment;
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Exclusivity of the relationship may also be present; and
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Implicit expectations are formed/ evolved during the performance of the contract, which are essential for business efficacy and success of the contract in the long run.
The above list is not determinative and/ or exhaustive. This is because if the express terms of the contract prevent implication of a duty of good faith, then that will be the end of the matter. However, many of these characteristics will be found to be present in a Relational Contract, and with different facts and circumstances of each transaction, it may be that there are other features relevant to argue that a contract is relational in nature.
To courts, Relational Contracts involve more than a requirement to act honestly. A contract being relational in nature directly impacts the interpretation of the contract in the context of parties’ obligations to one another and has legal consequences. The courts’ adjudication of a commercial contract as being relational in nature will have a substantial bearing on how the commercial contract is interpreted, making it more difficult to rely on a very narrow, strict construction.
Further, terming a contract as relational may mean that the courts’ approach to the interpretation of the contract is relatively contextual, obligations of good faith, fair dealing and mutual cooperation, trust and confidence formed at the beginning of the contract and during its performance are implied, with the result that parties should avoid conduct (a) which interrupts the economic dynamic of commercial transactions and (b) that which reasonable and honest people in the relevant context would regard as commercially unacceptable.
From a reading of various landmark judgments on Relational Contracts, the various legal obligations implied by English Courts in Relational Contracts are as under:
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Duty to honestly disclose information that was vital to the success of the business operation/ commercial enterprise, breach of which harmed the interests of the parties[viii];
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Duty of the parties to act in good faith[ix]; and
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Duty of parties to act with honesty and integrity in operating the contract[x].
Further, Relational Contracts may be of massive length and may contain many infelicities and oddities, nevertheless parties are expected to adopt a reasonable approach when enforcing such contracts, in accordance with what is obviously the long term purpose of the contract and what is regarded as commercially acceptable by reasonable and honest people in the relevant context. There is also an expectation that parties should not latch onto the infelicities and oddities of that particular contract to disrupt and maximise their own gain[xi].
Significance of Relational Contracts:
The concept of Relational Contracts is an emerging one. Increasingly, we see that courts in England have been willing to look at commercial contracts through the lens of a relational one. In recent years, courts have treated a variety of commercial disputes, ranging from disputes arising out of joint ventures to distributorship agreements to even long-term service contracts as containing an implied obligation of the parties to act with honesty and in good faith.
As noted above, there is great significance attached to the development (judicial) and application of Relational Contracts and its extension to commercial contracts. Since the obligation of good faith is not implied in all commercial contracts, the recognition of Relational Contracts by English courts means that such an obligation may be implied where it is not inconsistent with the express terms of the contract. Nevertheless, the proposal to read implied terms in commercial contracts by terming them as relational can be controversial as it is likely to dilute the settled position of classical strict interpretation of express contractual terms[xii].
In India, we have not yet seen the development of any jurisprudence around this concept. The judgments rendered by English courts may be a useful reference point for Indian parties seeking to imbue their commercial arrangements with implied terms of good faith, trust, honesty and fidelity to the bargain. This will, in turn, impact the way contractual disputes between parties are considered and resolved.
For further information, please contact:
Anuradha Mukherjee, Partner, Cyril Amarchand Mangaldas
anuradha.mukherjee@cyrilshroff.com
[i] Bates v The Post Office [2019] EWHC 606 (QB); Yam Seng v International Trade Corporation Limited [2013] EWCA 111 (QB)
[ii] [2013] EWCA 111 (QB)
[iii] Bristol Groundschool Limited v Intelligent Data Capture Ltd. and Ors. [2014] EWHC 2145 (Ch)
[iv] Yam Seng v International Trade Corporation Limited [2013] EWCA 111 (QB)
[v] D&G Cars Ltd v Essex Police Authority [2015] EWHC 226 (QB)
[vi] RC Bird, ‘Employment as a Relational Contract’ (2005) 8 U.Pa Journal of Labor and Employment Law 148
[vii] Bates v The Post Office [2019] EWHC 606 (QB); Yam Seng v International Trade Corporation Limited [2013] EWCA 111 (QB)
[viii] Yam Seng v International Trade Corporation Limited [2013] EWCA 111 (QB)
[ix] Bates v The Post Office [2019] EWHC 606 (QB); Bristol Groundschool Limited v Intelligent Data Capture Ltd. and Ors. [2014] EWHC 2145 (Ch)
[x] D&G Cars Ltd v Essex Police Authority [2015] EWHC 226 (QB)
[xi] Amey Birmingham Highways Limited v. Birmingham City Council [2018] EWCA 264
[xii] Hugh Collins, ‘Is a relational contract a legal concept?’ (2016) In: Deggling, Simone, Edelman, James and Goudkamp, James, (eds.) Contract in Commercial Law, Thomson Reuters, Toronto, Canada.
