29 Jun 2020

Judicial Control over Unfair Contracts

by Dean Joubert de Villiers, Partner, Durban,
Practice Area(s): Litigation |

The recent decision of the constitutional court in the matter of Beadica 231 CC & others v Trustees for the time being of the Oregan Trust and others has synthesised the legal principles of interpreting contracts in the new constitutional dispensation of South Africa. This is a case that has been long awaited by practitioners, academics and business alike as there has been a growing need to develop our contract law in a manner that is consistent with the principles of the Constitution.

Previously, the legal principle of pacta sunt servanda was strictly observed by our courts when interpreting a contract. The principle states that agreements, freely and voluntarily concluded, must be honoured. This is a foundational principle of contract law that has only recently shown signs of being diluted in our law.

The problem with the strict and unwavering application of the principle of pacta sunt servanda is that it allows the party with the bargaining power to bully the other party into concluding a contract that is unfair. The result of a one-sided contract is the obvious unfair treatment of the vulnerable party.

This is a problem that the Constitutional Court wrestled with in the Beadica case. Briefly, the facts were that a franchise agreement was concluded between Sales Hire CC as franchisor and various Beadica CC’s as franchisees. Beadica had to operate the franchised business from premises approved by Sales Hire which practically meant that it had to lease from property owned by Oregon Trust. One of the members of Sales Hire CC was also a trustee of Oregan Trust. Beadica acquired the businesses though a black economic initiative financed by the National Empowerment Fund.

The franchise agreements between Sales Hire and Beadica were for a period of 10 years. The lease agreements between Beadica and the Trust were only for a period of 5 years with an option to renew for a further 5 years. Beadica failed to properly exercise its option to renew by giving timeous notice to the Trust and the Trust demanded that Beadica vacate their business premises.

The franchise agreements required that Beadica operate from approved business premises so with the termination of the lease agreements with the Trust, Sales Hire had the option to terminate the franchise agreements with Beadica. In essence then, Beadica’s failure to timeously exercise its right to renew its leases would likely be the end of its business operations.

In court, Beadica contended that the strict enforcement of the contractual terms governing renewal of the leases would be contrary to public policy. Sales Hire, on the other hand, contended that the court should only exercise its power not to enforce a contract on the basis of public policy sparingly and only in the clearest of cases.

The court proceeded to delve into our contractual jurisprudence, both pre and post the Constitution as well as considering various foreign jurisdictions. It confirmed the principles laid down in cases such as Briskley vs Drotsky, stating that contracts which infringe “on the fundamental values embodied in the Constitution, will be struck down as being offensive to public policy”.

In the later case of South African Forestry Co. Ltd vs York Timbers Ltd, the Supreme Court of Appeal held that abstract values such as fairness and good faith could not themselves be imposed on contractual terms. The court cautioned that the “notion that judges can refuse to enforce a contractual provision merely because it offends their fairness and equity, will give rise to legal and commercial uncertainty.”

The court in the present case confirmed the principles laid down in the above cases as well as many others. It went on to state that the principle of pacta sunt servanda is not a relic of our pre-constitutional common law and it continues to play a crucial role in the judicial control of contracts.

However, the court went on to state that pacta sunt servanda is not the only, nor the most important principle informing judicial control of contracts. There is no basis for privileging pacta sunt servanda over other constitutional rights and values. The court stressed that a careful balancing exercise is required to determine whether enforcement of the contractual terms would be contrary to public policy in the circumstances.

Ultimately the court found that Beadica did not demonstrate that the strict enforcement of the renewal clauses for their leases would be contrary to public policy in the context of the particular facts of the case. The persons behind Beadica claimed that they were not sophisticated business people and not fully appraised of their rights and obligations regarding their options to renew the leases but this argument was rejected.

Notwithstanding the particular outcome of this case, it has provided clarity on the court’s approach to judicial control over contracts and should be a warning for those who rely of the unfettered application of the pacta sunt servanda principle in their business dealings.