Considerations when negotiating and enforcing commercial contracts
15 Jun 2021
The role of public policy considerations, norms of fairness and constitutional values such as Ubuntu in the law of contract, have long caused legal uncertainty. However, a recent decision in the Constitutional Court has now put an end to this.
Beadica 231 CC and Others v Trustees for the time being of the Oregon Trust and Others has also eliminated the perceived divergence of approaches between the High Court, Supreme Court of Appeal and Constitutional Court in applying these norms when enforcing contractual terms.
The case explained
The applicants in this case were close corporations which had entered into franchise agreements with the first respondent, Sale’s Hire. The close corporations also entered into lease agreements with the second respondent, Oregon Trust, in respect of premises from which the franchise businesses would be conducted. The lease agreements were for a period of five years with an option to renew for a further five years, provided the lessee gave written notice at least six months prior to expiry of the initial period of its intention to renew the lease. The franchise agreements entered into by the applicants gave Sale’s Hire the option to terminate the franchise agreement should the corresponding lease agreement terminate for any reason.
The applicants failed to timeously exercise their options to renew the leases and only purported to do so after the date stipulated. Oregon Trust, as lessor, consequently took the stance that the lease agreements had terminated and demanded that the applicants vacate the premises. The applicants filed an urgent application in the High Court seeking an order declaring their purported renewal of the leases to have been validly exercised. The applicants argued that South African contract law had become “infused” with notions of fairness and Ubuntu and that the court should not permit their eviction on the basis that to do so would run contrary to considerations of public policy.
The High Court found in favour of the applicants and took the view that, because termination of the lease agreements would potentially result in the applicants losing their businesses under the franchise arrangement, it would constitute a disproportionate sanction for their failure to exercise their lease renewal option timeously.
The matter thereafter proceeded on appeal to the Supreme Court of Appeal which adopted a more conservative approach. The Supreme Court of Appeal held that while South African courts may decline to enforce contractual terms considered as running contrary to public policy, this power should be exercised “sparingly and only in the clearest of cases”. The appeal was upheld and the matter was ultimately brought before the Constitutional Court.
In the majority judgment of the Constitutional Court, it was held that parties to a contract cannot escape the terms of the contract solely on the basis that the enforcement of these terms would be disproportionate or unfair. The dictum made it clear that abstract values such as good faith, fairness, reasonableness and, in the South African context the concept of Ubuntu, have not through the Constitution been given the status of stand-alone contractual requirements. These values, though constitutionally enshrined, do not constitute a free-standing basis upon which a court may interfere in contractual relationships. Rather, they form important considerations to be taken into account when a court is required to determine whether the enforcement of a term is contrary to public policy.
The Constitutional Court has now effectively enunciated a two-pronged enquiry:
- Whether the provision itself is on the face of it unfair, unjust and contrary to public policy.
- Whether the enforcement of the provision in the specific circumstances, having regard to the factual context and circumstances of the parties, would be contrary to public policy considerations.
The ruling in Baedica has thus provided legal certainty as to the role of public policy considerations in relation to the enforcement of contractual provisions. What it has not done is to entirely remove the element of subjectivity – the application of these guiding norms by a specific court remains inescapably subjective. This is apparent from the very fact that one of the dissenting judgments in Baedica came to a different conclusion on the facts of the case in so far as it related to the question of enforcing the contractual provision in the specific circumstances.
Distinction between consumer and commercial contracts
A clear distinction should be drawn between consumer contracts on the one hand and commercial contracts on the other. In consumer contracts an imbalance of power is effectively assumed and hence such contracts are often governed by specific consumer protective legislation such as the National Credit Act and the Consumer Protection Act. Where commercial contracts are concerned, there has traditionally been the view that our courts will adopt a hands-off approach, sanctity of contract will trump other considerations and the courts will not interfere in arrangements specifically enunciated in a commercial contract, unless these arrangements run contrary to public policy.
In view of the decision in Baedica, it will be important for parties to a commercial contract to consider the rationality, fairness and proportionality of the clauses they choose to capture in such contract. It will also be of critical importance to have regard to the balance of power between the contracting parties. Where there is a clear imbalance of power between the parties at the time of conclusion of the contract, for example a company contracting with a relatively unsophisticated individual in relation to the acquisition of that individual’s business, a court will undoubtedly consider this imbalance of power and the ability of that party to fully appreciate the impact of any particularly onerous provisions.
It will be prudent for lawyers and their clients to consider the way they deal with certain clauses that have historically been standard and relatively uncontroversial in commercial contracts, such as:
- Clauses conferring a sole discretion on one party. It will be important to consider whether such a sole discretion is warranted in the circumstances and should be coupled with an express injunction to the party exercising such right to act reasonably. In seeking to enforce such a provision, the party doing so will need to show it did indeed act reasonably in the circumstances.
- Clauses providing disproportionately harsh remedies in relation to the actual harm suffered because of a breach committed by one of the parties.
- Clauses permitting any form of self-help without due process having been followed. Clauses providing for automatic forfeiture of goods purchased if not paid for timeously, the right to repossess goods without a court order etc. have long been held to be unenforceable in many consumer contracts, but the same principles will find application in commercial contracts.
- Clauses stating that a party to the contract acknowledges that it has had access to independent legal advice and fully understands the meaning and consequences of the provisions of the contract when this is not factually the case.
It will further be important for attorneys to exercise prudence at the stage a client seeks to enforce a clause which, while not unreasonable on the face of it, may possibly be viewed as unconscionable to enforce in the circumstances.
See also:(This article is provided for informational purposes only and not for the purpose of providing legal advice. For more information on the topic, please contact the author/s or the relevant provider.)