22 July 2015 #Dispute Resolution
Two recent cases, one in Supreme Court and the other in the High Court give an interesting illustration of the approach taken to interpret a contract. Although in each case the court applied the same legal test, it reached the opposite result.
The Supreme Court in Arnold –v- Britton had to consider the interpretation of a service charge clause in a 99 year Lease for a chalet in a holiday park. The lease, entered into in 1972, fixed in advance the value of the service charge to be paid every year for the entire term. A typical example of such a clause was:
“To pay to the Lessor without any deduction in addition to the said rent a proportionate part of the expenses and outgoings incurred by the Lessor in the repair, maintenance, renewal and the provision of services hereinafter set out the yearly sum of ninety pounds and value added tax (if any) for the first year of the term hereby granted increasing thereafter by ten pounds per hundred for every subsequent year or part thereof.”
The tenant argued that the literal interpretation of these words (an initial annual service charge of £90 increased at a compound rate of 10% every year) could not possibly be correct because by the final year of the term (2072) the annual service charge would be £550,000.
However, the Supreme Court (by a majority of 4:1) did not agree that this was a reason to depart from the clear wording of the contract. In upholding the landlord’s claim, the Court summarised the appropriate legal test:
In this case, the clear wording of the lease could not be trumped by commercial factors, notwithstanding the disastrous consequences for the tenant. Moreover, commercial common sense cannot be applied retrospectively. The court noted that the rate of inflation in 1972 was far higher than it has been in recent years. Indeed, when entering into the lease the landlord took a risk that inflation would not, on average, exceed 10% over the term of the lease. The court cannot relieve the tenant from what has subsequently proven to be a bad bargain.
The High Court decision of Ace Paper Limited –v- Fry & others, handed down a week later, concerned the same legal issues. The parties were in complete agreement as to the law (as summarised above) but argued for an opposite application of it.
The facts of the case are quite complicated. In short, it concerned an invoice discounting agreement and certain correspondence concerning its cancellation.
The court had to consider the meaning of the words ‘such claims’, which appear twice in the following passage:
“RBSIF has no existing or prospective claims against Ace or against Paperun (the Guarantor) either arising under or incidental to the agreement and insofar as any such claims against Ace or any third party do exist or may exist in the future, such claims are hereby waived and released and transferred/retransferred to Ace.”
In particular, the court had to decide whether ‘such claims’ covered just claims against Ace and Paperun (Ace’s case) or extended to claims against third parties (RBSIF’s case). RBSIF’s alternative argument was that, at least, the wording was capable of more than one interpretation, which permitted business common sense to be taken into account.
The court accepted that the passage as a whole was ambiguous. As RBSIF’s interpretation made the most commercial sense, it was the one that the court would uphold.
Both cases highlight the need for clear commercial drafting and an appreciation of the commercial consequences of what is being signed up to. Whilst the court can intervene in limited circumstances, there is a risk that careless drafting can lead to an outcome that one or both parties didn’t intend.