In Dr. Michael Emon Dentistry Professional Corporation v. Alexander Sevo Dentistry Professional Corporation, the Ontario Superior Court (OSCJ) addresses the application of the duty of good-faith in the context of a letter of intent (the LOI) relating to the proposed sale of a dental practice. The court implied that the duty of good faith may apply to parties to an LOI that is for the most part non-binding, but confirmed that where an LOI grants a purchaser “sole and absolute discretion” over due diligence and conditions precedent, courts will give meaningful effect to that language to allow a party to terminate it.
This decision is a useful reminder that good faith does not rewrite contracts, and that commercial actors may protect their own economic interests, even if it results in terminating a deal after months of negotiations.
The deal that never closed
The parties entered into an LOI for the sale of an endodontic practice in Windsor. The LOI was explicit: it was not binding (except for certain provisions), and any transaction was subject to conditions precedent, including:
- a new lease on terms satisfactory to the purchaser,
- financing on terms satisfactory to the purchaser, and
- completion of due diligence to the purchaser’s sole and absolute discretion.
Negotiations progressed for several months. Lawyers exchanged draft agreements; a lease consultant was retained; and the potential buyer did due diligence.
However, the potential purchaser ultimately terminated the LOI for two reasons:
- there was no progress on the required new lease: the landlord had not agreed to key terms, and evidence suggested it may never do so; and
- there were material changes in the practice: two key employees intended to depart the practice on closing.
The vendor sued alleging bad faith, dishonest performance and unreasonable exercise of contractual discretion.
No breach of good faith: The purchaser’s discretion was real and properly exercised
In deciding on the matter, the court reviewed the modern good-faith principles:
- parties must exercise contractual discretion honestly and in good faith,
- discretion is in breach of the duty of good faith only when exercised unreasonably, meaning in a manner unconnected to the purpose of the discretion,
- good faith does not require a party to put the counterparty’s interests ahead of its own, and
- the duty of honest performance prohibits lying or knowingly misleading but does not impose a duty to volunteer information or to disclose an intention to terminate.
Lease negotiations: Slow progress is not bad faith
The vendor argued that the purchaser dragged his feet on the lease and hired a lease consultant as a tactic to delay closing. The court disagreed.
The LOI expressly required a new lease on terms satisfactory to the purchaser. The purchaser was entitled to negotiate terms he considered reasonable and to retain expert assistance. The court also held that the purchaser worked consistently and was responsive during the process. However, it was reasonable for the purchaser to conclude that a satisfactory lease was unlikely to materialize based on the landlord’s refusal to move off certain positions.
Material changes to the practice: A reasonable due diligence concern
The LOI required that the practice continue in the ordinary course, with no material adverse changes.
Two key employees announced planned departures shortly before closing. Given that the purchaser expected to acquire a turnkey practice, the court found this to be a legitimate due diligence concern and a valid basis for termination.
Honest performance: No misleading conduct
There was no evidence that the purchaser misled the vendor, withheld a known decision to terminate or encouraged the vendor to continue performing in reliance on false impressions.
Once the purchaser decided not to proceed, he promptly informed the vendor and instructed his advisors to stop work.
The court ultimately dismissed the action.
Key takeaways for commercial parties
- Language in an LOI matters: courts will respect language giving a purchaser discretion over due diligence and conditions precedent. If an LOI says “sole and absolute discretion,” that gives the purchase wide discretion and is meaningful.
- Duty of good faith may apply: parties may have a duty to act in good faith in the context of an LOI even if many of its terms are not binding.
- Good faith does not equal “fairness” in hindsight: good faith does not require a party to ignore red flags, accept unfavourable terms, or proceed with a deal that no longer makes business sense.
- The duty of honest performance has limits: the duty of honesty prohibits active deception, not silence, not the failure to disclose concerns and not the failure to signal an evolving change of heart.
- Vendors should actively manage risk during due diligence: the court viewed the employee resignations as material. LOIs that require a practice or business to be maintained in the “ordinary course” can be fragile documents when staff departures occur.
This decision reinforces that good faith is not a tool to revive deals that parties agreed could die, and that carefully drafted LOIs, particularly those governing due diligence and conditions precedent, will be enforced as written.
For more information, please contact the authors, Chloe Snider and Camila Maldi.
