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The principles of contract law regarding the interpretation of ambiguous agreements and the limited role of extrinsic evidence in proving the parties' intentions. It covers cases such as Wickman Tools, Investors Compensation Scheme, and Bank of New Zealand v Simpson, and emphasizes the importance of business common sense and the background of the transaction in understanding the parties' intentions.
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A Paper for the PLA Conference 2010 Friday, 16 April 2010
Guy Fetherstonhaugh QC
Introduction
Context and matrix: an overview
“...The question to be answered always is ‘What is the meaning of what the parties have said?’ not ‘what did the parties mean to say?’, it being a presumption … that the parties intended to say that which they have said.”
“When one speaks of the intentions of the parties to the contract, one is speaking objectively - the parties cannot themselves give direct evidence of what their intention was
speaking of aim, or object, or commercial purpose, one is speaking objectively of what reasonable persons would have in mind in the situation of the parties.”
“It is of course always open to a party to claim rectification of an instrument which has failed to express the common intention of the parties; but so long as the instrument remains unrectified, the rule of construction is as stated by Norton. It is, indeed, the only workable rule.”
“It may be said that previous documents may be looked at to explain the aims of the parties. In a limited sense this is true: the commercial, or business object, of the transaction, objectively ascertained, may be a surrounding fact ... And if it can be shown that one interpretation completely frustrates that object, to the extent of rendering the contract futile, that may be a strong argument for an alternative interpretation, if that can reasonably be found.”
“No contracts are made in a vacuum: there is always a setting in which they have to be placed. The nature of what is legitimate to have regard to is usually described as ‘the surrounding circumstances’ but this phrase is imprecise: it can be illustrated but hardly defined. In a commercial contract it is certainly right that the court should know the commercial purpose of the contract and this in turn presupposes knowledge of the genesis of the transaction, the background, the context, the market in which the parties are operating.”
The (in)admissibility of negotiations
“In my opinion, then, evidence of negotiations, or of the parties’ intentions, and a fortiori of [one party’s] intentions, ought not to be received, and evidence should be restricted to evidence of the factual background known to the parties at or before the date of the contract, including evidence of the ‘genesis’ and objectively the ‘aim’ of the transaction.”
“The reason for not admitting evidence of these exchanges is not a technical one or even mainly one of convenience, (though the attempt to admit it did greatly prolong the case and add to its expense). It is simply that such evidence is unhelpful. By the nature of things, where negotiations are difficult, the parties' positions, with each passing letter, are changing and until the final agreement, though converging, still divergent. It is only the final document which records a consensus. If the previous documents use different expressions, how does construction of those expressions, itself a doubtful process, help on the construction of the contractual words? If the same expressions are used, nothing is gained by looking back; indeed something may be lost since the relevant surrounding circumstances may be different. And at this stage there is no consensus of the parties to appeal to.”
“For many years the accepted wisdom has been that evidence of the actual intention of the parties is not admissible on the interpretation of a written agreement, although such evidence is admissible for other purposes, for example, on a claim for rectification. In Investors Compensation Scheme ..., my noble and learned friend Lord Hoffmann pointed out that the exclusion from evidence of the previous negotiations of the parties and their declarations of subjective intent is for reasons of practical policy. He added that the boundaries of this exception are in some respects unclear. Whether these reasons of practical policy still hold good today in all circumstances has become increasingly the subject of debate in recent years. The debate is still continuing ... This is not the moment
to pursue this topic, important though it is, because the point does not arise on this appeal. I desire, however, to keep the point open for careful consideration on a future occasion.”
“[ 33 .] I do however accept that it would not be inconsistent with the English objective theory of contractual interpretation to admit evidence of previous communications between the parties as part of the background which may throw light upon what they meant by the language they used. The general rule, as I said in Bank of Credit and Commerce International SA v Ali [2002] 1 AC 251, 269, is that there are no conceptual limits to what can properly be regarded as background. Prima facie, therefore, the negotiations are potentially relevant background. They may be inadmissible simply because they are irrelevant to the question which the court has to decide, namely, what the parties would reasonably be taken to have meant by the language which they finally adopted to express their agreement. For the reasons given by Lord Wilberforce, that will usually be the case. But not always. In exceptional cases, as Lord Nicholls has forcibly argued, a rule that prior negotiations are always inadmissible will prevent the court from giving effect to what a reasonable man in the position of the parties would have taken them to have meant. Of course judges may disagree over whether in a particular case such evidence is helpful or not. … As I have said, there is nothing unusual or surprising about such differences of opinion. In principle, however, I would accept that previous negotiations may be relevant.”
Ambiguity
be avoided in the interpretation of contracts. The reason for this was explained thus by Lord Reid in Schuler AG v Wickman Machine Tool Sales Ltd [1974] AC 235:
“No doubt some words used by lawyers do have a rigid inflexible meaning. But we must remember that we are seeking to discover intention as disclosed by the contract as a whole. ... The fact that a particular construction leads to a very unreasonable result must be a relevant consideration. The more unreasonable the result, the more unlikely it is that the parties can have intended it, and if they do intend it the more necessary it is that they shall make that intention abundantly clear.”
“... if detailed semantic and syntactical analysis of words in a commercial contract is going to lead to a conclusion that flouts business common sense, it must be made to yield to business common sense.”
“This robust declaration does not, however, mean that one can rewrite the language which the parties have used in order to make the contract conform to business common sense. But language is a very flexible instrument and, if it is capable of more than one construction, one chooses that which seems more likely to give effect to the commercial purpose of the agreement”.
“The fact that the words are capable of a literal application is no obstacle to evidence which demonstrates what a reasonable person with knowledge of the background would have understood the parties to mean, even if this compels one to say that they used the wrong words. In this area, we no longer confuse the meaning of words with the question of what meaning the use of the words was intended to convey.”
“Interpretation is the ascertainment of the meaning which the document would convey to a reasonable person having all the background knowledge which would reasonably have been available to the parties in the situation in which they were at the time of the contract ... “The meaning which a document (or any other utterance) would convey to a reasonable man is not the same thing as the meaning of its words. The meaning of words is a matter of dictionaries and grammars; the meaning of the document is what the parties using those words against the relevant background would reasonably have been understood to mean. The background may not merely enable the reasonable man to choose between the possible meanings of words which are ambiguous but even (as occasionally happens in ordinary life) to conclude that the parties must, for whatever reason, have used the wrong words or syntax. (See Mannai Investments Co Ltd v Eagle Star Life Assurance Co Ltd [1997] 2 WLR 945). The ‘rule’ that words should be given their ‘natural and ordinary meaning’ reflects the common sense proposition that we do not easily accept that people have made linguistic mistakes, particularly in formal documents. On the other hand, if one would nevertheless conclude from the background that something must have gone wrong with the language, the law does not require judges to attribute to the parties an intention which they plainly could not have had.”
“In my respectful opinion, the Judge’s approach was far too narrow and literal. The construction of a document is not a game with words. It is an attempt to discover what a reasonable person would have understood the parties to mean. And this involves having regard, not merely to the individual words they have used, but to the agreement as a whole, the factual and legal background against which it was concluded and the practical objects which it was intended to achieve. Quite often this exercise will lead to the conclusion that although there is no reasonable doubt about what the parties meant, they have not expressed themselves very well. Their language may sometimes be careless and they may have said things which, if taken literally, means something different from what they obviously intended. In ordinary life people often express themselves infelicitously without
decades before by Lord Blackburn in River Wear Comrs v Adamson (1877) 2 App Cas 743:
“… I shall … state, as precisely as I can, what I understand from the decided cases to be the principles on which the Courts of Law act in construing instruments in writing …. In all cases the object is to see what is the intention expressed by the words used. But, from the imperfection of language, it is impossible to know what that intention is without inquiring farther, and seeing what the circumstances were with reference to which the words were used, and what was the object, appearing from those circumstances, which the person using them had in view; for the meaning of words varies according to the circumstances with respect to which they were used.”
Correctable mistakes
The approach to construction
“[50] … Both in the judgment, and in the arguments before us, there was a tendency to deal separately with correction of mistakes and construing the paragraph “as it stands”, as though they were distinct exercises. In my view, they are simply aspects of the single task of interpreting the agreement in its context, in order to get as close as possible to the meaning which the parties intended.”
Correction (1): The correction of mistakes by construction
“Two conditions must be satisfied: first there must be a clear mistake on the face of the instrument; secondly it must be clear what correction ought to be made in order to cure the mistake. If those conditions are satisfied, then the correction is made as a matter of construction. If they are not satisfied then either the claimant must pursue an action for rectification or he must leave it to a court of construction to reach what answer it can on the basis that the uncorrected wording represents the manner in which the parties decided to express the manner in which the parties decided to express their intention.”
“I take it to be clear in principle that the court should not interpolate words into a written instrument, of whatever nature, unless it is clear both that words have been omitted and what those omitted words were …”
“[ 64 .] … I think it would be wrong to apply too literally Lord Bingham’s reference to the need for clarity both as to the omission of words and “what those relevant words were”. As Lord Millett said, it is sufficient if the court is able to ascertain “the gist” of what has been omitted. I would go further. Once the court has identified an obvious omission, and has found in admissible background materials an obvious precedent for filling it, it should not
“If the Tenants shall be desirous of determining the said term hereby granted at any time after the expiration of the third thirteenth and twenty third years of the said term and of such desire shall give to the Landlords not less than six calendar months’ notice in writing (such notice to expire on any quarter day and to be given within a period of six months following the determination of the reviewed rent to be payable from the expiration of the first eleventh and twenty-first years respectively of the said term [] and thereafter during the year immediately preceding the eleventh and twenty-first years respectively of the said term) then on the expiration of such notice as aforesaid the said term shall cease and determine but without prejudice to the rights and remedies of either party against the other in respect of any antecedent claim or breach of covenant.” ([] supplied).
“but in the event only that such reviewed rent exceeds the yearly rent payable during the first year of the said term”
[1982] 2 EGLR 111, it failed. In that case, a lease created a term of 21 years from August 1, 1972. The rent was payable by equal quarterly payments in advance on August 14, November 1, February 1 and May 1 in each year. There was a rent review on the expiration of the seventh year, namely, August 1, 1979. The review clause provided that the review was to be initiated by a landlord’s notice served “at any time before the beginning of a clear period of two quarters of a year (commencing on one of the usual quarter days hereinbefore mentioned) immediately preceding the review date …”. Time was of the essence of this provision. The landlord’s notice was served on January 26, 1979, which was five days before the quarter commencing February 1, 1979. The tenant contended that it was not posted before a clear period of two quarters before August 1, 1979, because the first quarter after the date of posting began on February 1, 1979 and the second ran from May 1, 1979 to August 14, 1979 so straddling the review date.
Correction (2): Implication
“[ 47 .] I am not at all sure, despite the way it has been argued, that this case is about an implied term in the material agreement. I think it is about the meaning and effect of its express terms. The distinction between the two things is in many respects chimaeral … but not in all respects. The implication of a term sets a series of hurdles obviousness, business efficacy, reasonableness, necessity which are absent from the ordinary process of interpretation.”
(a) A term will not be implied unless it is “reasonable and equitable”; (b) A term will not be implied into a contract if the contract is effective without the term;
Correction (3): Rectification for mutual mistake
“‘Where matters in issue are facts the standard of proof required in non-criminal proceedings is the preponderance of probability, usually referred to as the balance of probability’. “But, as Lord Nicholls went on to point out there was ‘[b]uilt into the preponderance of probability standard … a generous degree of flexibility in respect of the seriousness of the allegation’. Lord Nicholls said: ‘This approach also provides a means by which the balance of probability standard can accommodate one’s instinctive feeling that even in civil proceedings a court should be more sure before finding serious allegations proved than when deciding less serious or trivial matters.’”
(^1) The differences are analysed in the scholarly Jonathan Brock Memorial Lecture “If it ain’t broke
don’t fix it: Rectification and the Boundaries of Interpretation”, given by Sir Kim Lewison to the London Common Law and Commercial Bar Association on 21 May 2008. (^2) “strong irrefragable evidence”, to use the description given by the Lord Chancellor in Countess of
Shelburne v Earl of Inchiquin (1784) 1 Bro CC 338.
(a) that the parties had a common continuing intention, whether or not amounting to an agreement, in respect of a particular matter in the instrument to be rectified; (b) that there was an outward expression of this common intention; (c) that this common intention continued up to and including the time when the contract was executed; (d) that by mistake the contract as executed failed to give effect to that common intention; (e) that the contract as executed can be rectified so as to give effect to the common intention; (f) that there is no discretionary reason why rectification should be refused.
“[ 24 .] If a party is served with a witness statement which it considers may contain material which is inadmissible on a question of interpretation, it should seek to establish from the other party the basis on which the evidence is said to be admissible. If he is dissatisfied with the answer, he may in appropriate circumstances make an application to exclude the evidence before replying to it. Another course would be to issue an application to be heard at trial, but this may lead to increased costs and a diversion of the time available for trial to this subsidiary issue. Yet another course would be for the court at the case management conference to direct the parties to identify in writing the precise point which they say the evidence establishes and why they say that that evidence is admissible. This may shorten the time spent at trial on any application to exclude it.”
“Although the judge considered the issues of construction first, I find it more logical to reverse the order. The purpose of rectification for mutual mistake is to ensure that the terms of the written document accurately reflect the state of agreement between the parties. If rectification is ordered, it is the document as so rectified that has to be construed.”
Hoffmann commented, with regard to the fact that the judge at first instance and two judges in the Court of Appeal had decided the case in a contrary way:
“It is, I am afraid, not unusual that an interpretation which does not strike one person as sufficiently irrational to justify a conclusion that there has been a linguistic mistake will seem commercially absurd to another …. The subtleties of language are such that no judicial guidelines or statements of principle can prevent it from sometimes happening.”
Conclusion
(a) carry on digging: judges are clever, and like to be resourceful, and to tease out an interpretation that neither party will have thought of, and that will make any form of inventive interpretation, implication or rectification quite unnecessary. It is the lawyer’s responsibility to try and get there before the judge does, and to avoid the litigation in the first place; (b) send for help: ask for and explore all the evidence that might possibly explain the mistake; (c) use all your tools: explore (a) correction of error by construction; (b) implication; and (c) rectification; (d) combine your tools: even if any one of them seems weak, bear in mind the value that the use of one (evidence of negotiations in rectification) may have to another (construction or implication).
Falcon Chambers GUY FETHERSTONHAUGH QC
Falcon Court
London EC4Y 1AA 16 April 2010