Michael S. Fischman, Partner Phillips Nizer LLP
In many states, such as New York, a covenant of good faith and fair dealing is implied in every contract and prevents the trademark owner from (ab)using the right of sole discretion in a manner that would deny the manufacturer the benefits of the contract. An example of the interplay of the covenant of good faith and “sole discretion” rights can be found in a 2017 case involving a dispute between Elie Tahari Ltd. (“Tahari”) and one of its licensees, Parigi Group Ltd. (“Parigi”).[1] As reported in public filings, Tahari and Parigi were parties to a license agreement by which Parigi was to produce and sell a line of children’s clothing under the ELIE TAHARI trademark, commencing with the spring/summer 2015 season. Pursuant to the detailed procedures of the license agreement, Tahari gave Parigi its approval, in writing, for styles that it accepted for the first collection and those styles were placed into production.
Thereafter, during a visit to the Parigi showroom, the head of Tahari and its chief designer, Elie Tahari, announced that he was revoking Tahari’s approval of each and every style that was previously approved by the Tahari personnel. Tahari, the company, claimed that it had the right to force Parigi to pull the entire collection from the showroom (just as it was to be offered for sale to retailers) under a provision of the license agreement that allowed it to “revoke its approval of Licensed Products in the event that Licensor [Tahari] determines, in its sole discretion, that any such prior approved item has become outdated or the durability or design of such prior approved item no longer meets the highest standards of style, appearance, distinctiveness and quality as to conform to the standards and specifications established by Licensor” (emphasis suppled).
The parties each claimed that the other breached the license agreement. Parigi refused to produce further products under the Tahari license and risk losing its investment in yet another collection. Tahari claimed that Parigi was obligated to continue under the license agreement, design new product and pay the minimum royalties regardless of whether Tahari would approve it unconditionally or not. Tahari ultimately commenced an action against Parigi alleging that licensee’s repudiation of the agreement constituted a material breach and that it was owed $1,000,000 for royalty payments and guarantees. Parigi filed its own claim alleging that Tahari materially breached the agreement and its duty of good faith and fair dealing.
The panel of three arbitrators hearing the dispute concluded that, notwithstanding the broad approval rights of Tahari under the contract, including Tahari’s right in its “sole discretion” to revoke prior approval of product, “the Agreement’s fundamental purpose was entirely frustrated by Tahari’s conduct, and therefore … Parigi was entitled to terminate based on Tahari’s material breach of the Agreement.”[2] The panel concluded that Tahari could not collect minimum royalties because it had prevented Parigi from making any sales against which royalties could be earned. In other words, Tahari had breached the covenant of good faith and fair dealing that is implicit in every contract.
The covenant of good faith and fair dealing “encompasses any promises which a reasonable person … would be justified in understanding was included in the parties’ agreement.” [3] A party breaches its duty of good faith and fair dealing when it “acts in a manner that, although not expressly forbidden by any contractual provision, would deprive the other party of the right to receive the benefits under their agreement.”[4] Tahari breached the implied covenant of good faith and fair dealing by revoking its explicit approval of each and every product in an entire seasonal collection, all of which products it had approved months earlier.
Although an extreme case in the suddenness and timing of Tahari’s announcement of its decision to revoke its earlier approval and in the consequences of doing so, the Tahari-Parigi dispute underscores the importance of considering the impact of “sole discretion” decisions. There is nothing really “sole” about a contract with another party.
[1] See In The Matter Of The Arbitration Of Certain Controversies Between Parigi Group Ltd. v. Elie Tahari, Ltd. (656041/2017). Parigi was represented in the matter by Alan Behr and Michael Fischman of Phillips Nizer LLP.
[2] Id.
[3] ARB Upstate Commc’ns LLC v. R.J. Reuter, L.L.C., 93 A.D.3d 929, 934 (3d Dep’t 2012) (internal quotation marks omitted) (citation omitted).
[4] Id. (citation omitted). See also, Jaffe v. Paramount Commc’ns, 222 A.D.2d 17, 22-23 (1st Dep’t 1996) (“[the] covenant of good faith and fair dealing … is breached when a party to a contract acts in a manner that, although not expressly forbidden by any contractual provision, would deprive the other party of the right to receive the benefits under their agreement.”); Legend Autorama, Ltd. v. Audi of Am., Inc., 100 A.D.3d 714, 716 (2d Dep’t 2012) (“The covenant embraces a pledge that ‘neither party shall do anything which will have the effect of destroying or injuring the right of the other party to receive the fruits of the contract.’”)(quoting, Dalton v. Educ. Testing Serv., 87 N.Y.2d 384, 389 (1995)); Richbell Info. Servs. v. Jupiter Partners, 309 A.D.2d 288, 302 (1st Dep’t 2003)(even an explicitly discretionary contract right may not be exercised in bad faith so as to frustrate the other party’s right to the benefit under the agreement).
