Letters of Intent and the Risks of a "Non-Binding Agreement to Negotiate"

Since 1978, Canadian courts have recognized an implied obligation on the parties to a contract to act in good faith in carrying out the contractual terms, including unilateral conditions precedent to an agreement such as property inspections, lawyer approval of a contract and obtaining mortgage financing. The “good faith” obligation requires each party to exercise his/her rights under the agreement “honestly, fairly and in good faith”.

However, what happens in the case of pre-contractual negotiations where no contract has been entered into yet? The general position is that Canadian courts have been very reluctant to recognize an implied duty of good faith during the bargaining. That position may have moved a little as a result of a decision of the Ontario Superior Court in July, 2011 in the Carttera case which did not expressly deal with a “good faith” obligation but did prevent a party from terminating a non-binding Letter of Intent.

In Carttera, the parties signed a letter of intent (“LOI”) for the purchase of a hotel in Toronto and carried out negotiations for a formal purchase and sale agreement (“APS”). The LOI provided for negotiations in “good faith” to finalize the APS. Before signing the APS, the Seller received information indicating it could realize a higher price than under the LOI and tried to terminate the negotiations with the Buyer. The Buyer applied for a certificate of pending litigation to tie up the property and prevent a sale pending a trial of the Buyer’s claim for specific performance i.e. completion of the sale on the terms of a finalized APS and essentially “signed” by virtue of email correspondence.

The LOI contained the material terms, such as price, deposit amounts, closing date, mortgage terms and other matters but also provided that it was “not contractual” (except for Confidentiality and Non-Solicitation of other offers during APS negotiations), and no binding agreement existed until the parties were satisfied with all terms and conditions and an APS “had been executed”.

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