Wastech Services Ltd. v. Greater Vancouver Sewerage and Drainage District: When does the exercise of contractual discretion go too far?

On February 5, 2021, the Supreme Court of Canada released its decision in Wastech Services Ltd. v. Greater Vancouver Sewerage and Drainage District.[^1] Wastech is another chapter in what we can call the "Good Faith Series" in Canadian law. Wastech was heard alongside C.M. Callow Inc. v. Tammy Zollinger, et al.^[2] in December 2019. See our earlier post on C.M. Callow.

Along with C.M. Callow, Wastech follows Bhasin v Hrynew,^[3] the 2014 decision in which the Supreme Court stated that good faith and honesty are central to contract law. In Bhasin the court stated that, "the organizing principle of good faith exemplifies the notion that, in carrying out his or her own performance of the contract, a contracting party should have appropriate regard to the legitimate contractual interests of the contracting partner."^[4] See our earlier post on Bhasin.

What about the contract that offers parties some amount of choice when they carry out their obligations of the contract (often called "discretionary power")? Perhaps a contractor is allowed to choose amongst a specified or unlimited number of subcontractors? Perhaps an option-contract allows an investor to choose when, and at what price, to give effect to that option?

Now consider why that amount of choice was included in the contract. To maximize efficiency? Cut costs?

In contracts that allow parties some amount of choice, parties must exercise their discretionary power in good faith. Wastech clarifies exactly what this means.

What does Wastech say about choice?

If a contract has some amount of choice involved, Wastech requires parties to, "exercise their discretion in a manner consistent with the purposes for which it was granted in the contract, or, in the terminology of the organizing principle in Bhasin, to exercise their discretion reasonably".^[5]

What does this mean? A party's decision must be connected to the reason it was given the power to make that decision in the first place. Where the decision made is unconnected to the reasons the power to make that decision was granted, the decision will be considered unreasonable – the party will be found to have breached their duty to exercise their decision-making power in good faith.

What a court considers unreasonable depends, in large part, on the context and intention of the parties as disclosed by their contract.^[6] A party is not required to subordinate their interests, nor are they required to confer benefits on the other party that was not contemplated in the contract.^[7] Further, in a break with the BC Court of Appeal decision, the Supreme Court said a party does not need to show the decision substantially "nullified" or "eviscerated" the benefit of the contract. The fact that an exercise of discretion might have substantially nullified or eviscerated the benefit of the contract could be evidence to show that discretion was exercised in a breach of good faith, but it is not determinative.^[8]

In Wastech the Supreme Court offered some general guidance on what kinds of discretionary power can be more readily scrutinized.^[9] For contracts in which the discretionary power is susceptible to objective measurement, the range of reasonable outcomes will be relatively smaller. The court offered examples of the kinds of matters to which such discretionary power could relate. These are:

• operative fitness;
• structural completion;
• mechanical utility; or
• marketability.

For contracts that grant discretionary power in which the matter to be decided or approved is not readily susceptible to objective measurement, the range of reasonable outcomes will be relatively larger. Again, the Supreme Court offered examples of the kinds of matters to which such discretionary power could relate. These are:

• taste;
• sensibility; or
• personal compatibility or judgment of the party.^[10]

What kind of choice was allowed in Wastech?

Wastech involved a contract between Wastech, a corporation (aptly named) which transported and disposed of waste, and Metro, a corporation that administered the waste disposal. Wastech and Metro's contract went back a number of years. Metro would decide where to allocate waste and Wastech would transport and remove the waste to three disposal facilities as per Metro's decision. Wastech was paid depending on which disposal facility was used; the farther away the facility, the more profitable it was. However, there were a number of adjustments. The contract had a target operating ratio which would give Wastech a certain operating profit. The contract also provided for various adjustments (up to a certain threshold) to protect Wastech's profits. The contract did not, however, guarantee what profit Wastech would achieve in any given year.

In 2011, Metro decided to direct Wastech to a facility that was closer. This decision resulted in Wastech's costs increasing to the point that it could not meet the operating ratio. The adjustment was provided, but only to a certain threshold. Ultimately, Wastech's profit fell short of its target.

Wastech sued. It alleged that there was a duty of good faith and Metro's decision breached this duty when it decided to allocate waste in a way that meant Wastech could not meet its target profit for 2011. Wastech wanted damages to compensate for its loss that year.

The Arbitral and British Columbia Supreme Court Decisions

The parties first went to arbitration to resolve the dispute. The arbitrator sided with Wastech, finding that, while Metro's decision to allocate Waste was perfectly reasonable, Metro should have compensated Wastech when Metro's decision meant that Wastech did not achieve its target.

Metro appealed the arbitrator's decision and won. The BC Supreme Court said that the contract allowed Metro to choose and as such, it would be wrong to "read in" a term in the contract requiring Metro to look out for Wastech's interest when it made decisions.

The British Columbia Court of Appeal Decision

Wastech appealed to the BC Court of Appeal and lost. The court found that Metro acted honestly and its decision was not intended to undermine Wastech's interests. The court concluded that, in order for Wastech to succeed in its claim that Metro breached the duty of honest performance, it would have had to show that:

• Metro's decision to allocate waste had the effect of, "nullifying or eviscerating all or substantially all" of the benefit of the contract; and
• that there was a subjective element of dishonesty or improper motive in Metro's decision.

The Supreme Court of Canada Decision

Wastech appealed to the Supreme Court of Canada and lost. However, it lost for different reasons than it did at the BC Court of Appeal. The Supreme Court did not agree with the BC Court of Appeal that Wastech had to prove that Metro's decision "eviscerated" or "nullified" the contract. The fact that Metro's decision might have caused Wastech to lose some or even all of its profit did not determine whether Metro's decision breached the duty of good faith.

Rather, Wastech needed to show that Metro's decision was unreasonable (defined as outside the range of choices connected to the purpose for which the parties granted the power to choose in the contract). Wastech was not able to show this.

Metro's decision to allocate waste a certain way was connected to the purpose that was provided for in the contract – the right to choose the location of waste disposal. The contract gave Metro the absolute discretion to determine how waste could be allocated. The purpose of this discretion was to allow Metro the flexibility necessary to maximize efficiency and minimize costs of the operation. Discretion was not put in the contract in order to provide Wastech with a certain level of profit. Incentives for Wastech were created elsewhere in the contract. Metro's decision was made to maximize efficiency and cost-effectiveness, preserve remaining facility capacity, and ultimately, further its own business objectives. It did further its own business interest, however, in a way that was within the bounds set for the exercise of discretion by the contract. The parties foresaw the risks of allowing Metro to exercise discretion and chose to leave the discretion in place.

What should you do in light of the Wastech decision?

1. You should consider carefully whether your contract provides for any sort of discretionary decision-making powers. There are certain risks in allowing discretion.
2. Where your contract does provide for discretionary power:
   1. You cannot avoid your duty to exercise that contractual discretion reasonably and in good faith.
   2. You can better protect yourself from being accused of making a decision in bad faith by clearly identifying the reasons a discretionary power is included in the contract.

In Wastech, the contract included recitals at the beginning that said the parties' intention was to, among other things, incentivize each other to "maximize efficiency and minimize costs", provide for the "maximization" of the capacity of one of the facilities, and to be "sensitive to significant changes in operating standards, services or system configuration".^[11] The contract allowed Metro the sole power to decide where to allocate waste. When Metro decided to direct Wastech to a facility that was closer, this decision was in line with the reasons why this discretion was granted in the first place. While Metro's decision furthered its own business interests and the unfortunate by-product was that Wastech's profits were substantially reduced, the decision was not ultimately a breach of the duty of good faith.