Should large charitable donations be taken into account when assessing remuneration based upon net profit when the written contract is silent on the point?

On 7 August 2020, in Adaz Nominees Pty Ltd v Castleway Pty Ltd [2020] VSCA 201, in a 2:1 decision (Whelan JA & Riordan AJA in a joint judgment and McLeish JA dissenting), the Victorian Supreme Court of Appeal said “No” in an interesting decision about the ambit of implied terms of co-operation in contracts.

The Respondent, Castleway had been contracted to provide on-going property development and management services to the Rado group of companies of which the Appellant, Adaz Nominees was a part. There was a personal and professional falling out between the parties, litigation ensued and then a series of court decisions. 

Castleway’s remuneration was entirely dependent upon the level of profit earned by the group out of the developments. In one year, prior to calculating profit, Adaz Nominees donated $20m of a potential profit of $40m, to an associated company, a recently formed charitable foundation. This reduced Castleway’s entitlement to remuneration by  $8m. The  group had made annual donations of around $25k but never $20m.

The implied duty of co-operation in contract

1. The common law has long accepted an implied duty of co-operation in contract.
2. In Australia, the law now recognizes both a general duty to do all things necessary to enable the other party to have the benefit of the contract and a negative covenant not to hinder or prevent the fulfillment of the purpose of the express promise made in the contract.
3. Where a term is implied by law, it is constrained by the criterion of necessity and must relate to bringing about something required by the contract.
4. The test is whether without the term “ ‘the enjoyment of the rights conferred by the contract would or could be rendered nugatory, worthless, or, perhaps, be seriously undermined’ or the contract would be ‘deprived of its substance, seriously undermined or drastically devalued’” [114].
5. It is not a general duty to act in the other party’s best interests and is constrained by the express terms of the contract. So, such a duty cannot turn a non-exclusive license into an exclusive one. Further the implied duty to co-operate is said to be ‘conditioned’ by the concept of reasonableness.

Differences between the Majority and Minority decisions

1. All three judges accepted that implied terms of co-operation can exist. Where they diverge was in their analysis of the notion of ‘the benefit of the contract’ and more indirectly on how they treated evidence regarding previous levels of charitable donation.
2. Further McLeish JA (dissenting) placed more weight upon the distinction between the notion of the ‘benefit of the contract’ and that of its ‘commercial purpose’ or ‘the intentions of the parties as manifested by the contract itself’. For McLeish JA, the critical issue was what had been promised. Necessity should not be replaced by desirability.
3. McLeish JA also noted that the law is unsettled regarding an implied term not to seriously undermine or drastically devalue the other party’s contractual benefit. Such a duty could exist but cannot be used to support a benefit “which the contract does not require to be provided” [290].
4. On the benefit of the contract, the majority placed weight on the fact that Castleway’s remuneration was entirely dependent upon Group profit. The donation “ ‘seriously undermined’ and ‘drastically devalued’ the benefit for which Castleway had contracted for”. Without the implied term, Castleway’s entitlement to remuneration would be rendered ‘nugatory’ or worthless’ and ‘deprive it of substance’[141].
5. In contrast, McLeish JA noted that as soon as it is accepted that the assessment of Group profit under Castleway’s contract includes non-project expenses, the implied term contended for falls away. This is because it requires implying underlying terms that the parties agreed to maximize Group profit and that they would work toward maximizing profit in project work. Such terms could not be implied because they were contrary to the express term that the Group retain sole authority to determine its own management, operations and policies.
6. McLeish JA also disagreed that the donation ‘seriously undermined’ or ‘drastically devalued’ the benefit Castleway had contracted for. Here the contractual benefit was that the remuneration formula be applied which took place and Castleway did earn remuneration in that year. The donation was simply an expense.
7. McLeish JA also noted the earlier donations and thought that the capacity to make such donations militated against an implied term to minimize project expenses.
8. In contrast, the majority noted the donation was unprecedented and extraordinary and later said; “At the risk of laboring the obvious, the express promises in the PDSA regulate a profit making venture. They do not regulate a charitable undertaking”[138].

Take Aways

1. To put matters beyond doubt, where earnings are assessed based upon net profit, it would be prudent to exclude charitable donations beyond a stated amount from allowable deductions.
2. These implied terms go only to what is necessary to enable a party to get the benefit of the contract with ‘benefit’ being considered in the context of what the parties agreed to do, not what their hopes or desires might have been. So turning a non-exclusive license into an exclusive one is not was what agreed but ensuring that remuneration is assessed by reference to the usual business deductions and not large charitable donations may be regarded as part of the contractual matrix.