The commercial agent’s duty of good faith: short-changed by the Court of Appeal?

A commercial agent falling within the Commercial Agents (Council Directive) Regulations 1993 owes both a fiduciary duty towards his principal at common law and a duty to act in good faith towards that principal under reg 3(1).  There has been little case law in the UK on the meaning of the statutory duty.  Although, by contrast,  there is a large body of case law on the agent’s fiduciary duty at common law, that duty is often expressed using broad abstract language, making it difficult to apply to concrete situations.  The English Court of Appeal case Crocs Europe BV v Craig Lee Anderson & Anor t/a Spectrum Agencies [2012] EWCA Civ 1400, presented an opportunity to shed light on the meaning of both duties and the effect the agent’s breach has on the agency contract. 

The dispute centred around a practical joke taken too far.  Employees of the agent were frustrated with the alleged poor service offered by the principal, the manufacturer of the famous crocs shoes.  The agent’s employees created a “Crawl”, i.e. a posting on a website poking fun at this lack of service.  The Crawl was in the form of rolling credits, a spoof of the format used in the Star Wars films.  Unfortunately, the principal did not see the funny side.  Describing the Crawl as “highly derogatory,” the principal treated it as repudiatory conduct on the part of the agent and rescinded the agency contract.  Where the principal has terminated the agency contract because of a default attributable to the agent which would justify immediate termination, no indemnity or compensation is payable to the agent (reg 18, read in conjunction with reg 16).  The agent, not surprisingly, argued that the principal’s identification of the Crawl as repudiatory conduct was nothing other than a veiled attempt to escape from an agency contract which was no longer attractive at the same time avoiding payment of compensation to the agent.  Compensation is, after all, the agent’s entitlement under reg 17.     

Decision at first instance
At first instance judgment was entered by Sir Raymond Jack for the agent, with damages due to be assessed.  Only one point was appealed by the principal, namely that the principal had not been entitled to terminate the contract on the grounds of a repudiatory breach.  The trial judge concluded that a reasonable person would not have concluded that the Crawl showed an intention on the part of the agent not to fulfil the contract (para 42).

Court of Appeal – Defendants’ Submissions
On appeal, the defendants (the principal) argued that reg 3 implied a “condition” into the agency contract.  This is to use the word “condition” as it is understood in English contract law, i.e. as an important contract term, breach of which results in the right to terminate.  It can be contrasted with a warranty, breach of which results only in damages.  This distinction is not part of Scots law where a material breach results in a right to rescind, with non-material breaches resulting in a right to damages only. Scots law has no hierarchy of the importance of contract terms.  The English classification is more complex than has been presented here: innominate terms also exist, but thankfully that class, and indeed the English approach as a whole, need not be analysed here.  If the principal was correct in its assertion that the duty of good faith is a condition, any breach of that duty would result in the principal’s  right to terminate.

The defendant drew interesting analogies in their appeal (the defendant was represented by Fergus Randolph, one of the two authors of the leading English text on commercial agency, The European Law of Commercial Agency, the other author being Jonathan Davey).  The first was with contracts of marine insurance, where they argued that an agency contract was, like a contract of marine insurance, a contract of utmost good faith.  The second was with the duty of trust and confidence which lies at the heart of the employment relationship.  This analogy was supported by the fact that it would be productive of commercial uncertainty if a principal was forced to accept a disloyal agent. 

Court of Appeal – Lord Justice Mummery 
Lord Justice Mummery reviewed the relevant provisions of the Regulations and, in particular, reg 3 which contains the agent’s duty of good faith towards the principal.  He noted that the Regulations did not specify the consequences which flowed from breach of the duty of good faith (para 18).  Rather, reg 6 provides that the law applicable to the contract governs the consequences of breach of the rights and obligations under regs 3 and 4.  Thus, the correct approach is to apply English contract law relating to termination for breach. 

The principal appealed on the basis of both the agent’s duty of good faith under the regulations and the common law fiduciary duty.  Lord Justice Mummery indicated that these duties “co-exist” (para 22).  He noted that, according to Bowstead and Reynolds on Agency, not all breaches of fiduciary duty go to the root of the contract (para 23, referring to this book at para 7-049).  From this he concluded that whether or not a breach was repudiatory “depends, in general, on an objective assessment of all the surrounding circumstances” (para 23).  And, indeed, not all of the agent’s duties are fiduciary in nature (para 24).     

Lord Justice Mummery had no hesitation in rejecting the defendant’s “condition” argument, describing it as suffering from “insuperable difficulties” (para 44).  Reg 3 was not expressed in a way that would suggest an intention to create a condition (para 45).  He emphasised his earlier observations that not all agency duties are fiduciary in nature, and not all breaches of fiduciary duties give rise to a right to rescind.  He indicated that the remedial consequences of breach of fiduciary duty depend “…not only on the nature of the duty owed but also on the factual circumstances in which the particular breach occurred and the intentions of the parties, as expressed or inferred, in relation to the contract” (para 48). 

The analogy with the employee’s duties did not, in Lord Justice Mummery’s opinion, assist the defendant.  He identified a line of employment law cases in which an isolated act of misconduct did not justify termination of the contract (para 49). 

The judge at first instance had, in Lord Justice Mummery’s opinion, used the correct approach which was to judge the seriousness of the agent’s conduct in connection with the Crawl (para 50).  An appeal court could only overturn what was, essentially, an issue of fact if the judge had misdirected himself in law, and there was no evidence to support this conclusion (para 50).  The breach was simply not serious enough to support repudiation: “The Crawl did not in terms disparage the goods to any one (sic).  It referred to the inability of the defendant to meet delivery obligations, a state of affairs that was well known.  The style of the Crawl was obviously jokey, though not everyone might see the joke and though the defendant was not amused.  The circulation of the Crawl was limited and temporary.  The website was soon shut down for other reasons and the Crawl was removed…There was no evidence of harm suffered by the defendant” (para 51).  The breach did not go to the root of the agency, rather it was a “one-off incident that did not involve bad faith on the part of the claimant, was not shown to involve a real risk of harm to the defendant by dissemination to the world at large and did not, when viewed objectively, evince an intention to abandon or to refuse to perform the commercial agency contract” (para 52).  This led him to dismiss the appeal.  

Court of Appeal – Mr Justice Bean
Mr Justice Bean was more persuaded by the analogy with the employee’s duties in the employment contract.  He observed that the agent’s duties were not materially different from the employee’s duties (para 56).  Counsel for the defendant had argued that the agent’s duty was at least as wide as the Malik term.  He referred (at para 56) to the formulation of this implied term in Woods v WM Car Services (Peterborough) Ltd ([1982] ICR 693) and Western Excavating (ECC)Ltd v Sharp ([1978] ICR 221).  This was, in Mr Justice Bean’s opinion, no more than the application to employment contracts of classic principles of general contract law (para 58): “If party A conducts himself in a way which viewed objectively, is likely to destroy or seriously damage the contractual relationship, that amounts to a repudiation of the contract which party B can accept and thus terminate the relationship” (para 58).

The attempts by counsel for the defendant to draw an analogy with shipping law and specifically the obligation to perform timeously were thought to be unhelpful. 

Mr Justice Bean simply agreed with Lord Justice Mummery’s conclusions on the submissions on regulation 3 as a fiduciary duty.        

Although indicating that he thought the breach in question was close to the line between a breach sounding only in damages and one which could be repudiatory in nature, he found no reason to overturn the trial judge’s decision, and dismissed the appeal.  Lord Justice Hughes agreed with both judgments. 

This is a welcome decision, underlining the fact that not all breaches on the part of the agent necessarily result in termination, and, in the context of commercial agency, the forfeiture by the agent of his rights to either compensation or indemnity.  This must surely be correct.

It is a useful decision for Scots lawyers.  Clearly there are differences in the underlying law of contract in relation to breach in Scotland and England.  Nevertheless, the exercise of examining the breach carried out in the Court of Appeal is highly similar to the one which should be applied in Scotland.  It is a highly factual exercise. 

In other respects one cannot help feeling short-changed by the Court of Appeal’s analysis.  There is no analysis of the meaning of the agent’s fiduciary duty in the context of commercial agency.  There are broad references to “loyalty” but little more. 

There is also a failure to address the manner in which the fiduciary duties at common law interact with the statutory duties of good faith appearing in reg 3.  Randolph and Davey, in The European Law of Commercial Agency (referred to above) concluded that the duties of the commercial agent under reg 3 “essentially mirror the fiduciary duties imposed on the agent by English law” (p. 55).  And yet they later refer to the significant different between the two, i.e. the fact that fiduciary duties require the agent to place the principal’s interests above his own whereas duties of good faith do not impose this very strict requirement (p. 64). It is surely questionable whether there is a mirror-like quality between the two duties.   The need for judicial analysis seems obvious.  They are likely to differ.  In particular, we should understand the duty of good faith imposed by the regulations by reference to the law in other European member states, particularly France and Germany, the acknowledged inspiration for the compensation and indemnity provisions in the Directive.  Where such an exercise of comparison is carried out, the court is more likely to achieve harmonisation, the aim of the Directive.

Finally, I would question Mr Justice Bean’s use of the employment contract as an analogy for the agent’s duty of good faith.  There are sufficient differences between the two types of contract to make such analogies dangerous.  The law is highly protective of employees and rightly so, given that the employee is almost invariably the economically weaker party.  That can be contrasted with the tradition in the UK where agents are economically independent actors.  It is true that the Directive has made a significant inroad into this tradition, extending to agents significant protections on termination of their contracts.  But we are not yet at a stage where an agent can be completely equated with an employee.  Where an employee breaches his duty of trust and confidence, it will indeed be difficult for employer and employee to carry on the employment relationship.  But an agent is in a different position, one step further removed from the principal.  A breach of the fiduciary duty of loyalty is serious, but need not rule out the continuation of the agency contract.  The agent is not in such close proximity to the principal.

Despite these questions, this case is a significant one which should be a point of reference for future cases in Scotland where the question of the commercial agent’s breach of fiduciary or good faith duties arises.       


Illegality in performance of a contract: one of the least satisfactory areas of contract law?

If a contracting party performs an illegal act in the course of performance of a contract, what impact does that conduct have on the availability of remedies for breach of contract?  Can the “innocent” party use that illegality as a defence in order to avoid, for example, payment of damages for breach of contract?  This is the important question considered in the recent English Court of Appeal case, Parkingeye Ltd v Somerfield Stores Ltd [2012] EWCA Civ 1338. 

The parties had entered into a contract in terms of which P had agreed to provide an automated monitoring and control system for some of the S car parks.  The system read and recorded the vehicle registration numbers and times of entry and departure of vehicles using the car park.  The system was able to determine when a car had overstayed the maximum time permitted for customer use of the car park and therefore when a penalty was due.  P was also responsible for pursuing customers who failed to pay.  This might involve sending out a number of letters to the customer, and in individual cases customers received 4 different letters.  It was the terms of those letters which formed the focus of the dispute.  As further letters were sent to an individual customer, the terms of those letters escalated, becoming more aggressive.  The later letters incorporated a chequered edge in a clear attempt to mimic a police letter and indeed contained falsehoods.  P was entitled to retain the fees levied and so had an incentive to operate the fine system aggressively.  In Sir Robin Jacob’s words, the terms of the later letters were quite “crude and aggressive in fashion” (para 12). 

The contract was to endure for 15 months but was terminated early by S after 5 months.  P raised an action for breach.  S raised the defence of illegality, citing P’s unlawful actions committed in performance of the contract.  At first S alleged that P’s conduct had been both criminal and tortious in nature.  As the case progressed, the allegations of criminal conduct were dropped.  

First Instance
At first instance the judge indicated that he was not convinced that P intended to perform the contract in an illegal manner.  In fact, he suggested, neither of the individuals managing the two companies had fully appreciated the legal implications of the letters.  The judge awarded P damages of £350,000 for breach of contract by S.  He rejected illegality as a defence although he indicated that he had made a modest discount to the damages to reflect the terms of the third and fourth letters.  On appeal the sole issue before the court was whether S could resist payment of damages on the basis of illegality.     

Court of Appeal – Sir Robin Jacob
In the Court of Appeal Sir Robin Jacob began his substantive analysis by commenting “Illegality and the law of contract is notoriously knotty territory” (para 28).  In his own words he “ducked out of a comprehensive review of the cases” (para 28).  His starting point was two Law Commission papers on the subject, a Consultation Paper from 2009 (No. 189) and a Report from 2010 (No. 230).  A specific point of reference for him in the Law Commission publications was the part on illegality in performance of a contract (paras 3.27 and 3.28 of the Consultation Paper).  Para 3.27 rather depressingly commented that “…the effect of unlawful performance on the parties’ contractual rights is very unclear.”

Counsel for S had argued not only that P had performed the contract in an unlawful way, but also that P had had the intention to perform the contract illegally from the point of formation. As a result, it was argued, the contract was completely unenforceable.  Sir Robin was unconvinced that this was correct, particularly where “the intention was limited to only a partial (and minor on the facts) mode of performance” (para 31). The law is not a “straightjacket” (para 32), in other words not every illegality in performance has this draconian effect.  He rejected too the emphasis on the point of formation as the crucial point at which intention ought to be determined.  To Sir Robin this contract was not intended to be carried out in a wholly illegal manner (para 35), nor was illegal performance an object of the contract or necessary for its performance (para 36). 

In response to Counsel for S’s arguments that P’s intention was imbued by moral turpitude, Sir Robin identified unenforceablity as a disproportionate remedy (para 38).  Although the reference to moral turpitude is reminiscent of the Inner House decision in the famous Scottish case of Cuthbertson v Lowes (1870) 8M 1073, it seems unlikely that it inspired counsel.  Sir Robin was careful to indicate that, in making this decision, he was not exercising a judicial discretion (para 39).  Proportionality is something different: “It involves the assessment of how far refusal of the remedy furthers one or more of the specific policies underlying the defence of illegality” (para 39). 

Sir Robin Jacob rejected S’s entitlement to the illegality defence, Lord Justice Laws agreeing both with this conclusion and Sir Robin's reasons.   

Court of Appeal – Lord Justice Toulson
Referring to Sir Robin Jacob’s description of this area of the law as “knotty”, Lord Justice Toulson raised the stakes: “That is a mild way to describe it.  It is one of the least satisfactory parts of the law of contract” (para 43).  The reason why it is so difficult is because it involves questions of public policy (para 44).  He also acknowledged the difficulties inherent in “weighing” the respective illegalities on the part of the contracting parties:

“But where, as in this case, both parties were complicit in the illegality, denial of one party’s claim on that ground will be to give an unjustified benefit to the other.  The rule that where both parties are equally at fault the defendant should prevail may be right in more serious cases (on the ground that the court should, in effect, wash its hands of the dispute), but may be a disproportionately severe response in less serious cases” (para 45). 

Lord Justice Toulson also referred to the Law Commission work in this area, noting their conclusion on the possible creation of a statutory discretion, i.e. that this “…was not the best solution to the problems of illegality in the law of contract, because of the difficulties which close study showed that such a scheme would itself present” (para 48).  He also noted the relatively high standard that the Law Commission suggested ought to be adopted.  In essence, the Law Commission suggested that the court should identify the policies involved and base their decisions “transparently on these policies” (Consultative Report, para 3.140, quoted by Lord Justice Toulson at para 50):
“If this approach were adopted, we consider that the illegality defence would succeed in only the most serious of cases.  That is, we believe that the policy issues underlying the defence would have to be overwhelming before it would be a proportionate response to deny the claimant his or her usual contractual rights” (Consultative Report para 3.141, quoted by Lord Justice Toulson at para 50). 

The Law Commission suggested that “…the courts should consider in each case whether the application of the illegality defence can be justified on the basis of the policies that underlie that defence.  These include: (a) furthering the purpose of the rule which the illegal conduct has infringed; (b) consistency; (c) that the claimant should not profit from his or her own wrong; (d) deterrence; and (e) maintaining the integrity of the legal system.” (para 3.142, quoted by Lord Justice Toulson at para 51.)  Those policies could not be looked at in isolation: “Against those policies must be weighted the legitimate expectation of the claimant that his or her legal rights will be protected.” (para 3.142, quoted by Lord Justice Toulson at para 51).  Whilst endorsing this approach Lord Justice Toulson did not see it as a complete substitute for the rules on illegal contracts developed in the case law (para 53), “…rather that those rules are to be developed and applied with the degree of flexibility necessary to give proper effect to the underlying policy factors” (para 53).  He also recognised the unusual nature of cases of this type:

“In some parts of the law of contract it is necessary in the interests of commercial certainty to have fixed rules, sometimes with exceptions.  But in the area of illegality, experience has shown that it is better to recognise that there may be conflicting considerations and that the rules need to be developed and applied in a way which enables the court to balance them fairly” (para 54). 

In applying the law to the facts of the case, Lord Justice Toulson referred to the seminal case on illegality in performance of a contract, namely St John Shipping Corporation v Joseph Rank Ltd ([1957] 1 QB 267).  A distinction drawn in that case which Lord Justice Toulson supported was between, on the one hand, a party who deliberately sets out to break the law in performance of a contract and, on the other, a person who breaks the law without meaning to do so or in a minor way (para 61).  He quoted Devlin J:

“Persons who deliberately set out to break the law cannot expect to be aided in a court of justice, but it is a different matter when the law is unwittingly broken.  To nullify a bargain in such circumstances frequently means that in a case – perhaps of such triviality no authority would have felt it worthwhile to prosecute – a seller, because he cannot enforce his civil rights, may forfeit a sum vastly in excess of any penalty that a criminal court would impose…” ([1957] 1 QB 267 at 288).

He indicated that Lord Devlin’s decision certainly did not suggest that any element of minor illegality in performance would render a contract unenforceable, the position argued by counsel for S (para 63-64). 

Lord Justice Toulson then proceeded to consider the case under the following headings: object and intent of the claimant; centrality of the illegality; and nature of the illegality.  In relation to the first, he noted that the judge at first instance had decided that P did not have a fixed intention to use letter 3, nor did P appreciate its legally objectionable aspects (para 68).  In relation to the second, he referred again to Devlin J’s decision, in which he had suggested that the a contract might be found unenforceable only where what was prohibited was a contract which had at its centre the prohibited act ([1957] 1 QB 267 at 289, quoted by Lord Justice Toulson at para 70).  By contrast the most important part of the service supplied by P was the installation of the system in 17 car parks, a service which was perfectly lawful.  The misrepresentation in letter 3 was “hardly central to the performance of the contract” (para (71).  Finally, in relation to the nature of the illegality, the only form of illegality at issue here was in tort.  Nor was commission of a tort the object of the contract (para 73).  Given that P had no fixed intention of acting unlawfully and that the illegality was incidental to part of the performance of the contract rather than central to it, Lord Justice Toulson concluded that S’s illegality defence ought to be rejected. 

This case usefully illustrates the fact that illegality arguments can be raised where the conduct is minor, and not even criminal in nature.  Here the most serious allegations were the commission of a tort.  “Illegality” does not always mean a breach of the criminal law.  Lesser degrees of culpability can, in theory, have an impact on the availability of normal contract remedies.      

It is questionable whether the first instance judge’s approach of applying a “discount” to damages awarded is a useful one.  It is true that the calculation of damages is an art rather than a science and that the court often has access to different methods of calculation (for example a reliance as opposed to an expectation measure).  Nevertheless, this “discounting” approach has little to commend it.  It might involve the courts having to grade degrees of illegal conduct, something courts have tended to avoid in the past. 

The Court of Appeal is to be commended for its close analysis of and adherence to the approach advocated by the Law Commission.  This is as it should be: recommendations were made by the Law Commission after painstaking scrutiny of this area of the law.  It is heartening to see those recommendations being given such weight. Nevertheless, Lord Justice Toulson, having noted the five policies that the Law Commission had suggested underlie the defence, did not seem to apply them to the facts of the case.  Rather, he adopted three different headings (object and intent; centrality of the illegality and nature of the illegality).  Again, confusion reigns.    

Sir Robin Jacob’s “disproportionality” test deserves further comment.  Is it accurate to describe it as such? To recap, he stated “Proportionality…involves the assessment of how far refusal of the remedy furthers one or more of the specific policies underlying the defence of illegality.”  This is surely less about proportionality, and more simply a policy-based approach.  South African law is a good example of a legal system which adopts a policy based approach: only where non-enforcement of the contract furthers an important policy should the court refuse to enforce the contract (see, for example, Jajbhay v Cassim 1939 AD 537).  To create a new proportionality test only populates this already busy area with one more test.

More broadly the Court of Appeal decision is to be welcomed.  It reminds us of the importance of policy in this area.  It moves us father from a “knee-jerk” response which might dictate, as counsel for S appears to have suggested, that any degree of illegality should lead to non-enforcement of the contract.  This is clearly not correct, and certainly not in a case such as this where the conduct involved was relatively minor.  The fact that this case went as far as the Court of Appeal suggests that parties continue to consider it worth trying to use the illegality defence even where the conduct in question is minor in nature.  Perhaps the clear statements made by the judges might act as a disincentive to such an approach in the future.  Finally, the  case reminds us how many factors are potentially relevant in a case of illegality.  In such a “knotty” area, simplification seems unlikely.