In California, every contract includes an implied obligation not to do anything that prevents the other party from benefiting from the contract, and to cooperate if necessary for the other party. This is called the implied covenant of good faith and fair dealing. It does not create a new obligation but applies to those obligations which have been agreed on. The Restatement of Contracts comments provide that the bad faith may be overt or may consist of inaction, and fair dealing may require more than honesty. Sacramento Real Estate attorneys see the argument come up often in real estate contracts which end up falling out of escrow, and occasionally commercial leases in which the parties fail to cooperate. Courts generally allow parties to use unfettered discretion, without restriction of the covenant, if the contract provides for unfettered discretion, and there is adequate consideration (162 Cal App. 4th 1107, 1121). In a decision involving an office lease at 595 Market Street in San Francisco the tenant wanted to sublease the premises, and thought that the landlord breached the implied covenant by terminating the lease. But the lease provided that the landlord could do so, so the tenant had covenanted away its argument.
In Carma Developers (Cal) Inc. v. Marathon Development, Carma entered a lease of the 30th floor of the building for ten years. Carma’s business changed, its headquarters moved to Houston, and Carma submitted a proposal to the lessor to sublease a portion of the premises. The Lease had a provision (set out below) that in such a case the lessor had the right to terminate the lease. The Court first noted that it has been suggested the covenant requires the party holding such power to exercise it “for any purpose within the reasonable contemplation of the parties at the time of formation-to capture opportunities that were preserved upon entering the contract, interpreted objectively.” It repeated to principles that have emerged:
1, breach of a specific provision of the contract is not a necessary prerequisite, and
2, nor is it necessary that the party’s conduct be dishonest. Dishonesty presupposes subjective immorality; the covenant of good faith can be breached for objectively unreasonable conduct, regardless of the actor’s motive.
The scope of the conduct required is governed by the purpose and terms of the contract. The conduct may be expressly permitted, or at least not prohibited.
The tenant argued that the lessor could not in good faith terminate unless they had reasonable a reasonable objection to the proposed subtenant. But the court found that this was contrary to the clear terms of the Lease. “No obligation can be implied … which would result in the obliteration of a right expressly given under a written contract…” Here, the landlord terminated the lease to capture the increased rental value of the property. This was specifically permitted by the lease and was within the reasonable expectations of the parties. There was no breach of the covenant of good faith and fair dealing.
Paragraph 15(a) provided in part: “Tenant shall not, without the prior written consent of Landlord, which consent shall not be unreasonably withheld, assign this Lease or any interest herein or sublet the Premises or any part thereof, or permit the use or occupancy of the Premises by any person other than Tenant.”
Paragraph 15(b) provided: “Before entering into any assignment of this Lease or into a sublease of all or part of the Premises, Tenant shall give written notice to Landlord identifying the intended assignee or sublessee by name and address and specifying the terms of the intended assignment or sublease. For a period of thirty (30) days after such notice is given, Landlord shall have the right by written notice to Tenant to terminate this Lease as of a date specified in such notice, which date shall not be less than thirty (30) days nor more than sixty (60) days after the date such notice is given. If Landlord so terminates this Lease, Landlord may, if it elects, enter into a new lease covering the Premises with the intended assignee or sublessee on such terms as Landlord and such person may agree or enter into a new lease covering the Premises with any other person; in such event, Tenant shall not be entitled to any portion of the profit, if any, which Landlord may realize on account of such termination and reletting. From and after the date of such termination of this Lease, Tenant shall have no further obligation to Landlord hereunder, except for matters occurring or obligations arising hereunder prior to the date of such termination.”