Third Story Music, Inc. v. Waits
41 Cal.App.4th 798, 48 Cal. Rptr. 2d 747 (1995)
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Rule of Law:
The implied covenant of good faith and fair dealing does not apply to limit a party's discretion when the contract expressly grants that party the absolute right to refrain from performance, provided the contract is supported by other valid consideration that prevents it from being an illusory promise.
Facts:
- From 1972 to 1983, singer/songwriter Tom Waits had an exclusive recording agreement with Third Story Music, Inc. (TSM).
- TSM transferred its rights in Waits's music to Warner Communications, Inc. (Warner).
- The agreement gave Warner the worldwide right to manufacture, sell, distribute, and advertise records of Waits's music.
- The contract also explicitly stated that Warner 'may at our election refrain from any or all of the foregoing [marketing activities].'
- In exchange for the rights, Warner was required to pay TSM guaranteed minimum payments as advances on royalties, regardless of its marketing efforts.
- In 1993, a TSM affiliate sought a license from Warner to use four of Waits's songs for a compilation album.
- Warner stated it would not grant the license without Tom Waits's personal approval.
- Waits refused to give his consent, and as a result, the license was not issued.
Procedural Posture:
- Third Story Music, Inc. (TSM) filed a lawsuit against Warner Communications, Inc. in a California trial court.
- The complaint alleged, among other claims, breach of the implied covenant of good faith and fair dealing.
- Warner filed a demurrer to the complaint, arguing it had no good faith duty because the contract gave it absolute discretion.
- The trial court sustained Warner's demurrer, dismissing TSM's lawsuit.
- TSM, as the appellant, appealed the dismissal to the California Court of Appeal.
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Issue:
Does the implied covenant of good faith and fair dealing limit a party's contractual discretion to refrain from marketing a product when the contract expressly grants that party such discretion and is otherwise supported by adequate consideration?
Opinions:
Majority - Epstein, Acting P. J.
No. The implied covenant of good faith and fair dealing cannot be used to contradict or vary the express terms of a contract that grant a party absolute discretion, so long as the agreement is supported by valid consideration. The court reasoned that while the implied covenant is often used to save a contract that would otherwise be illusory, that was not the case here. Warner's promise to market the music was discretionary, but its promise to pay TSM guaranteed minimum amounts was not. This separate payment constituted adequate consideration, making the contract fully enforceable and non-illusory. Because the contract was not illusory, there was no legal necessity to imply a covenant that would obliterate Warner's expressly negotiated right to 'refrain' from marketing the music. The court emphasized that it will not rewrite a contract for parties who have made a bargain, even if it later appears unwise or operates harshly.
Analysis:
This decision clarifies the scope and limitations of the implied covenant of good faith and fair dealing in California contract law. It establishes that an express and unambiguous grant of absolute discretion is enforceable as written if the contract as a whole is supported by adequate consideration, thereby preventing it from being illusory. This ruling provides a clear framework for drafters, showing that a party can secure absolute control over its performance obligations by including an explicit 'right to refrain' clause, provided it gives some other form of non-illusory consideration, such as a guaranteed minimum payment. The case reinforces the primacy of express contractual terms over implied duties and limits judicial power to rewrite agreements that parties have freely entered into.
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