The High Court Gives Guidance On The Exercise Of Contractual Discretion

A court can imply terms into contracts to fill gaps in drafting in order to reflect the parties' intentions when the contract was entered into. It is established law that where a contract provides that one party has a discretion to make decisions which affect both parties, the court will imply a term to the effect that such discretion must be exercised rationally, honestly and in good faith for the purposes for which it was conferred.

The facts

In Brogden et al v Investec Bank Plc1, the claimants were former employees of Investec whose employment contracts had provided for payment of a bonus calculated as 30% of the Economic Value Added ("EVA") generated by Investec's equity derivative business. EVA is a measure used within Investec to assess the performance of business units and their contribution to the overall profitability of the bank, in accordance with a basic formula.

For the financial year of 2010 to 2011, the bank calculated the available bonus pool as nil, with the result that no bonus was payable to the claimants. The claimants, on the other hand, believed that they should have been paid bonuses of £3.6 million and £2.7 million. They subsequently resigned and took legal action against the bank seeking damages for breach of contract for failure to pay bonuses that they said that the bank was obliged to pay under their respective employment contracts.

The arguments

A variety of arguments were put forward by the claimants, including that the method of bonus calculation had been agreed orally. But these were all rejected by the Court and the decision ultimately came down to the question of whether a term should be implied into the contract required the bank to exercise its discretion in calculating the bonus pool rationally and in good faith and, if so, then whether, on the facts, the bank had so exercised its discretion.

The claimants argued that the bank had exercised a contractual discretion in calculating the bonus pool available and that therefore, following established law, the contract included an implied term that such discretion be exercised rationally. According to the claimants, the bank had failed to comply with its obligations under this implied term by acting in bad faith to deliberately manipulate and adjust the inputs to the EVA calculation in order to reduce the claimants' bonuses.

The bank, on the other hand, argued that although the preparation of accounts such as were necessary for the calculation of the bonus...