Back to basics... Contractual interpretation

It often seems to be the case that contractual wording which seemed crystal clear during negotiations somehow becomes much less clear by the time it has to be looked at again… often at a point in time when the parties are on less friendly terms than they once were.

If the parties dispute the meaning of a contractual provision how will the courts interpret it?

Intentions assessed objectively

When construing a contract the court will try to identify what the parties intended the contractual language to mean.

The court will assess this objectively, ignoring any subjective evidence about either party’s intentions. Instead it will focus on what a hypothetical reasonable person, with all the background knowledge available to the parties at the time of the contract, would have understood by the language used. So whilst one party may subjectively have intended the words to mean something different from the actual words used, the court will not be interested in trying to deduce what his subjective intentions were. The focus will be on what the parties have written, not what they intended to write.

Whilst the court is entitled to look at all the relevant circumstances surrounding the transaction (including the objective commercial purpose of the contract, the genesis of the transaction, its context and the market in which the parties are operating) it won’t look at prior negotiations or earlier drafts of a contract to help decide what the final written version of the contract means. This is because such evidence doesn’t really help. During the course of negotiations the parties’ positions will be continuously shifting as they decide what terms they are going to insist on and what they are prepared to concede. Whilst they may be moving towards a consensus, their positions are divergent until they have actually reached consensus in the final written contract.

Evidence of what was said or done during the course of negotiations may however be used for other purposes, for example, to establish that the parties knew a relevant background fact or to support a claim for rectification or estoppel by convention.

Importance of language used

The court will consider the natural and ordinary meaning of the words in dispute. It won’t depart from the natural meaning of the language just because the agreement has worked out badly for a party or a particular term seems imprudent. The clearer the natural meaning of the words, the more difficult it will be to persuade the court to depart from that natural meaning.

Context

The court won’t limit itself to considering the dictionary meaning of the words in isolation. Instead it will consider the context and background to the agreement.

To that end the court will consider:

• the natural and ordinary meaning of the clause;
• any other relevant provisions of the contract;
• the overall purpose of the clause and the contract;
• the facts and circumstances known or assumed by the parties at the time that the document was executed; and
• commercial common sense.

Whilst commercial common sense may have a part to play, it shouldn’t undervalue the importance of the language of the provision. Commercial common sense should not be invoked retrospectively to help bail out a party which has made a bad bargain.

Ambiguity

Where the language used is ambiguous, in the sense that is capable of bearing more than one ordinary and natural meaning, the court is entitled to prefer the construction which is most consistent with business common sense.

If the ambiguity arises in a provision which is part of the operative part of the contract the court may look to the recitals or other parts of the document to help fix the appropriate meaning of those words.

In cases of ambiguity, the contra proferentem rule may come into play. Broadly speaking this rule means that where there is doubt about meaning of words they will be strictly construed against the person who puts them forward.

In practice, where the disputed contractual provision is the product of joint drafting there will be little or no room for the contra proferentem rule to apply, but where the drafting has been left to one party, for example a supplier of goods and services who has used their own standard terms, the rule could come into play if that party sought to rely on a provision such as an exclusion clause. In those circumstances the exclusion clause would be construed strictly against the supplier.

Conflicting provisions

Where there is tension between different provisions within contractual documents, the court will check each of the rival meanings against the other provisions of the documents and investigate the commercial consequences. It will also consider the hierarchy of the contractual documents and which provisions should take precedence.

In this context greater weight will be given to individually negotiated terms than to standard terms. Detailed or precise provisions will be given preference over looser, wider provisions.

Where possible all parts of a contract should be given effect and no part should be treated as inoperative or surplus. Sometimes the courts seem to go to great lengths to achieve this, holding that clauses which seem quite inconsistent on their face are capable of being read together.

Lists and sweep-ups

Where one or more specific items are mentioned in a list without any general description following, this will generally be regarded as excluding other items. So if a clause makes specific reference to "cars and motorcycles", "tractors" will not be included.

If a clause lists specific items and then a general sweep up phrase, the sweep up phrase will be interpreted as being limited to examples of the same type. So, for example, a clause which refers to "cars, lorries, tractors, motorcycles" and later to other "motor-powered vehicles" will not include "airplanes". This rule can be displaced if you include the words "including but not limited to" or "including, without limitation".

Practical tips

• Pay particular attention to provisions which are for your benefit or protection and make sure there is no ambiguity. 
• Keep sentences short and use simple words.
• If appropriate, define the meaning of important words within a definitions section.
• Be clear about dates and expressions of time. Avoid using "from", "to" and "until" as these terms can cause confusion if it is not very clear whether the dates referred to are included. "On or before" or "commencing on" are more certain alternatives.
• Consider whether there is any risk of conflict between different provisions. This is particularly important where the contract comprises different documents. Where there is tension between different provisions there are likely to be ambiguities and inconsistencies. State clearly which provisions should take precedence.
• A well drafted recital which sets out the background to the contract and the parties’ intentions could help influence a court to favour one party’s interpretation over another’s if there is ambiguity in the contract.
• Where your contract includes a formula for calculating sums to be paid, consider including a worked example to illustrate how the contract is supposed to work. 
• Reviewing something you have written yourself can be difficult. Ask someone to review the contract with a fresh pair of eyes and identify any grey areas. It may be worth getting someone from the business who would be affected if things were to go wrong to carry out a review for you.
• If a provision is to be mandatory, use "shall" or "must" rather than "may".
• Consider "what if" scenarios to help identify potential issues. If things go wrong, who in the business would need to get involved and what will they do?