Approaches for Interpreting Commercial Contracts in Courts of Law - Essay Example

?Introduction Lord Staughton identifies that the issue of interpreting written contract is one of the most popular conflicts and issues in the Law ofContract1. Since commercial contracts often have great worth, there are numerous forms of litigation that come with them which requires the court to examine the deeper meaning of the contract. In the Law of Contract, the literal approach seem to be the default position for courts in terms of interpreting contracts2. However, important changes in the English legal system has caused courts to move from the mere literal approach to a more critical purposive approach3. This paper examines two approaches for interpreting commercial contracts in courts of law. The paper assesses the literal and purposive approach to examining and interpreting contracts in courts of law. The paper will assess the advantages and disadvantages of the two approaches and come up with a conclusion on the subject and the evolution process. Literal Approach In commercial contracts, the parties come up with their own terms for the exchange of consideration between them. As such, they write down the terms and conditions for the exchange of consideration. According to Lord Staughton, where there is a dispute in such a contract, the court needs to detect the meaning of the terms and this is a question of law for the judge and not a question of fact for the jury4. Hence, the Judge presiding over the case needs to use an approach to ascertain the facts and what the parties in the contract meant in order to resolve the issue at hand. In the past, most courts used the literal approach, this is steeped in the objective approach to the interpretation of contracts5. This is based on the premise that “... the intentions in the heart of a person is not in man's ability to judge, but change caused by reason of the promise”6. Traditionally, the law of contract is based on negotiations and the promises that were exchanged during negotiations. Also, some of the core maxims of the law of contract made it difficult for the judges to use any other methodology than the literal approach. For instant, English law states that consideration must be sufficient and not adequate. This therefore means that the doctrine of “caveat emptor”, which requires the parties entering a contract to be careful, will act as an estoppel to prevent judges from interpreting the law in any system or structure that would support an attempt to assess intent. Strictly speaking, the objective approach should be the basis for the interpretation of contracts even if it causes serious hardships for one of the parties. In the case of Arcos Ltd V E. A. Romaasen and Sons7, it was held that any express term that is breached in contract renders it null and void. This is because the express terms often form conditions and these conditions must be discharged, otherwise the aggrieved party gets the right to back out of the contract. In Bunge Corporation V Tradax SA8, there was a contract for the mercantile supply of goods. Clause 7 of the contract gave one of the parties the right to terminate the contact if there was a delay. Lord Wilberforce held that time was of the essence in the contract and in the mercantile industry, time lapses were severe enough to merit a cancellation of an entire contract. Lord Scarman and Lord Roskill concurred. Some judges like Lord Staughton hold the view that the court needs to be very careful not to overlook the original terms of the contract to apply new interpretations9. This means that the literal approach is the default Common Law approach to cases relating to the law of contract. Purposive Approach In Codelfa V State Rail Authority10, Lord Brennan stated that “the symbols of language convey meaning according to the circumstances in which they were used”. This therefore means that words in itself are meaningless and the literal application of such words might be devoid of the bigger picture and have some limitations. As such, a Judge will need to use a purposive approach to integrate the context, contextual scene and integrate all the relevant materials to get the best interpretation amongst different competing solutions to the issue at hand. Since the Judiciary exists to promote justice and fairness, the Purposive Approach seems to be the best way of ensuring justice in some commercial contracts. This is because in some instances where there is ambiguity11 or some terms are missing or where the rigid interpretation will cause severe hardship to one party, a purposive approach is not only desirable but required12. Lord Steyn argues that clarity is the aim of drafting commercial contracts13. However, absolute clarity is not attainable since parties cannot foresee all the circumstances that a contract is exposed to. Hence, the court has to use a broad purposive approach which will integrate pre-contractual negotiations of the parties and subsequent conduct of the parties of the contract14. This is based on the central theme of the case of Prenn V Simmonds15. In some other circumstances, the reliance on the literal terms of the contract will render it meaningless. In the case of Chartbrook Ltd. V Persimmon Homes Ltd and another, it was held that the court had the right to interpret the contract in the best way if the literal terms were meaningless16. A classical example is the case of Rainy Sky SA and Other V Kookmin Bank17 where the contract had two conflicting paragraphs that gave different rights to the parties in the contract. The High Court applied a purposive approach but the aggrieved party took up the case to the Court of Appeal which applied a literal approach and overturned the decision of the High Court18. The matter was later referred to the House of Lords who stated that “...unless the meaning of the court produces results so extreme as to suggest the unintended, the court must give effect to that meaning”19 . Since the ruling of the House of Lords binds all courts, it can be inferred that the Court has the power, based on this precedent, to use a critical approach to interpret the intentions of the party based on the facts on the ground. This implies that the literal approach, which uses the strict approach to interpret contracts might not be appropriate. The court therefore has the power to use a purposive stance to provide meaning, unless it will be extremely absurd. So there is a question of what is absurd and what is not absurd. Lord Hoffman holds that a meaning is reasonable if it is acceptable to a reasonable person20 Another view of absurdity relates to the fact that the parties did not contemplate certain situations which later arose when they put together the contract, as such, the court might need to get a purposive approach to examine the intent of the parties21. In the words of Lord Diplock in The Antonios22 “… if detailed semantic and syntactical analysis of words in a commercial contract is going to lead to a conclusion that flouts the business common sense, it must be made to yield to business common sense”23. This means that the purposive approach might need to be called in to reinterpret contracts where necessary, to streamline it with the reality in the industry that the contract was made in with respect to circumstances that occurred after the contract came to force. In other situations, the issue might be with the need to look at the contract as a whole and not in part. This is known as the factual matrix which covers all reasonable parameters of the contract to bring out the commercial common sense of the contract24. In Schuler V Wickerman25 the plaintiff sought to terminate the contract based on a sub-clause which gave him the right to do so. However, when the purposive approach was used, it was identified that there were other terms that the defendant had adhered to which made it insufficient for the plaintiff to get the right to rescind the contract. Hence, the contract was valid under the majority ruling of the House of Lords. This position was affirmed by Pioneer Shipping V BTP Tioxide26 where it was held that the doctrine of the frustration of the contract cannot be invoked unnecessarily by either party to back out of the contract. As such, the purposive approach helps to honour the rights of both parties in the contract and promote justice and fairness. In other circumstances, there might be some technicalities that can best be addressed by the Judges. In such cases, a purposive critique will be the best way through which the case can be examined fairly to promote justice. In Transfield V Mercato27, there was a complication which required the House of Lords to resolve through a purposive approach. The technicality involved a question of whether a charter company was liable for losses a shipping company incurred in a new contract the shipping company made with a third party. The losses were because the charter company had delayed in returning a ship they hired from the shipping company. Clearly, this shifted from law of contract to the law of tort. A purposive approach provided a solution which indicated that the charter company could reasonably foresee a new contract. Hence, they were to pay just the penalties for delays. Another dimension of looking at the evolution of interpreting commercial contracts from the literal approach to the purposive approach lies in the fact that literalism has been changed by modifications in the UK legal system due to the shift from the Common Law position of interpreting contracts to a more teleological interpretation which seeks to protect the rights of individuals28. Hence, the essence of the purposive approach is to invoke the best interpretation based on the reality on the ground and promote justice and fairness29. Methodologies of the Purposive Approach McLeod gives four main pointers, which are to guide judges in the interpretation of contracts using the purposive approach30. First of all, the Judge will have to examine the Common Law position of the contract. Secondly, the judge will have to examine the potential mischief and issues that could come up with the inherent nature of the contract. Thirdly, the Judge will need to identify the remedies that the written commercial contract sought to bring to the parties. And fourthly, the Judge will need to examine the reasoning behind the terms and conditions of the written contract. Through this, the Judge can set up a framework for a critical and purposive interpretation of a given commercial contract that is brought to court. So basically, the four pointers of examining the common law position, identification of purpose, assessment of the loopholes the contract sought to close and the examination of the reasoning behind the terms gives the Judge a clear perspective31. However, Lord Hoffman states important circumstances like the quest for fairness and the supranational requirements of the European Community has led to a change in the interpretation of commercial contracts32. This is now known as the common sense approach. The main elements include the fact that it must make sense to the reasonable person and must be logical in nature33. Scope of the Purposive Approach The purposive approach brings some flexibility which also gives room for some degree of inconsistency. This therefore means that there is the need for some parameters to be set for the concept34. In Prenn V Simmonds35, it was established that the Judge needs to ascertain the common intention of the parties and since each party is likely to give evidence to suit the case, there is the need for the judge to find the common intention. However, there is some issue with the admissibility of pre-contractual negotiations in the purposive approach to contracts36. In the ICS Case37 the court failed to come clear on whether evidence on pre-contractual evidence is acceptable or not. Judges like Lord Staughton argue against the presentation of pre-contractual evidence since it could complicate the discussion and defeat the intent of the purposive approach38. However, a writer like McLauchlan supports the presentation of evidence to show pre-contractual position of things39 and this is supported by the Vector40 case, which could not be interpreted in the absence of pre-contractual evidence. In other cases, the Judge might need to consider custom or standard market practice in the industry in question41. This will give the Judge insight on what 'fairness' means in the case. This way, the decisions given can be more practical and relevant. Conclusion Common Law requires courts to invoke the literal approach and use an objective methodology to interpret commercial contracts. This is because the court is not in a position to change or modify the bargain of two contracting parties. The absence of the literal approach would cause inconsistencies in the legal system and people could unfairly abuse contracts by opting out on the least breach. Hence, the literal approach promotes consistency and certainty in the legal system. However, in the name of fairness and justice, there might be the need to reinterpret contracts using a purposive approach to prevent abuse of contracts. The literal approach comes with a limit of rigidity due to its laissez faire nature. The purposive approach enables Judges to use a critical approach to interpret contracts in the face of absurdity and ambiguity. Also, in some cases where there are technicalities like a blend of the law of tort and the law of contract, the court might need a purposive approach to resolve the technicalities based on its expertise. In order to promote fairness, the purposive approach integrates relevant factors in the bigger picture. Although there are issues about the admissibility of pre-contractual evidence, there are some cases that require the deliberate examination of pre-contractual evidence. This makes the purposive approach to contract interpretation necessary. However, the purposive approach gives room for the use of many different approaches that could lead to inconsistencies and affect fairness. Also, the common sense approach is much more demanding. It requires more time and effort by the Judges and this can be problematic and less cost effective. Bibliography Books E. Guild and A. Baldaccini, Terrorism and the Foreigner (2007, Amsterdam: Martinus Nijhoff Publishers, 2Edn) M. Hunt, Introduction to English Law (2004, London: Sweet and Maxwell) Journals Adam. Kramer, 'Common Sense Principles of Contract Interpretation' Vol 23 No 2 (2003) Oxford Journal of Legal Studies p173 Brian Cain 'Matter of Construction' (2012) 35 CSR 21 Company Secretary's Review 166 Chris Staughton, 'How Do the Courts Interpret Commercial Contracts' (1999) 58 (2) Cambridge Law Journal 303 311, 313 Christopher Saint Germain, 'Doctor and Student: Dialogues between a Doctor of Divinty and a Student in the Laws of England' 179 (1988 Legal Classics Library) David McLauchlan, 'Common Intention and Court Interpretation' Vol 2 Issue 1 2012 Victoria University of Wellington Legal Research Papersp43 David McLauchlan 'Contract Interpretation: What is it About?' Vol 31: 5 (2009) Sydney Law Review p5 David McLauchlan, 'Contract Interpretation in the Supreme Court – Easy Case, Hard Law' (2010) Victoria University of Wellington David Nicholls, 'My Kingdom for a Horse: The Meaning of Words' (2005) Law Quarterly Review Ernest Lim, 'Commercial Purpose and Business Common Sense in Contractual Interpretation' (2010) Kings Law Journal. Geoff R. Hall, 'Business Common Sense and the Interpretation of Commercial Contracts' McCarthy Tetrault Publication Nov. 2011 Ian McLeod, 'Literal and Purposive Techniques of Legislative Interpretation: Some European Economic Community and English Common Law Techniques' (2004) Brook J. International 2003 – 2004 Vol 2913 Janet O'Suillivan, 'Absurdity and Ambiguity: Making Sense of Contractual Construction' (2012) Cambridge Law Journal Johan Steyn, 'The Intractabe Problem of the Interpretation of Legal Texts' (2003) 25 Sydney Law Review 20 Joseph M. Perillo, 'The Origins of Objective Theory of Contract Formation and Interpretation' (2000) Fordham Law Review Vol. 69 Issue 2 Lord Garbiner, 'The Interactive Process of Contractual Interpretation' (2012) Law Quarterly Review Melissa Jane Hammer, 'Coming to a Consensus: Vector Gas and The Admissibility of Previous Negotiations in Contractual Interpretation' (2010) University of Otago. Sarah Routledge, 'Contractual Interpretation Principles Clarified by Lord Hoffmann' (2009) Marks and Clark Solicitors News Item S. C. Smith, 'Making Sense of Contracts' (1999) Scots Law Times Westlaw UK Cases Arcos Ltd V E. A. Romaasen and Sons [1933] AC 470 BCCI V Ali [2001] 2 WLR 1735 Bradford City Metropolitan Council V MacMahon [1994] 1 WLR 5 CA Bunge Corporation V Tradax SA [1981] 2 AII ER 513 Chartbrook Ltd V Persimmon Homes Ltd & Another [2009] AII ER (D) 12 Codelfa Construction Property Ltd V State Rail Authority (NSW) [1982] 149 CLR 337 at 401 Fisher V Bell [1961] 3 AII ER 731 HP Bulwer Ltd V J Bollinger, SA [1974] 3 WLR 202, 226 Investor Corporate Scheme V West Bromwich Building Society [1998] 1 WLR 896 L'Office Cheriffien Des Phosphates V Yamashta-Shinnihon SS Co. Ltd [1994] 1 AC 486 Pioneer Shipping V BTP Tioxide [1982] AC 724 Prenn V Simmonds [1971] 1 WLR 1381 Rainy Sky SA and Other V Kookmin Bank [2011] CKL 3105 Schuler AG V Wikerman Machine Tool Sales Ltd [1973] UK HL 2 Smith V Hughes [1960] 2 AII ER 809 The Antonios [1985] AC 191 Transfield Shipping Inc V Mercato Shipping Inc [2008] UKHL 48 Vector Gas Ltd V Bay of Plenty Energy Ltd [2010] NZSC 5 Read More