What are the Rules of Contract Interpretation?
Introduction
When two parties enter into a contract, they usually (but not always) know what they want to achieve and they tend to write their wishes down accurately. Most contracts will not give rise to a dispute, and so the need to interpret the wording of the contract will not arise.
Some contracts, however, give rise to disputes. Parties disagree over something that has been done (or should have been done) and they turn to the contract to help guide them as to who is right and who is wrong. This is when - particularly when lawyers become involved - the wording used in the contract that the parties had believed was clear and straightforward turns out to be more difficult, and open to interpretation.
The courts are therefore often asked by parties to decide what a particular clause in a contract means. One party will contend for one meaning, and the other for another. Both meanings (and potentially other meanings) will be possible based on the words used. In this situation, how does the court decide which meaning is correct?
The Rules of Interpretation - a Summary
The court will interpret the relevant wording in a contract in its context (both the context of the contract, and the relevant facts, and the commercial relationship of the parties). The court will look at:
the natural and ordinary meaning of the wording being interpretted;
any other relevant wording in the contract;
the overall purpose of the provision being construed, and the contract in which it is contained;
the facts and circumstances known or assumed by the parties at the time the document was executed; and
commercial common sense.
Objective, not Subjective
Importantly, the court with not look at the subjective evidence of a party's intentions. In other words, they will not look at evidence of what a party meant at the time. Instead, the assessment is objective: namely what would a (hypothetical) reasonable person have understood was intended.
The Rules of Assessment - the Detail
In carrying out the assessment, the court will consider all of the contract as a whole, and will not just look at the specific wording that is causing difficulty. This is because it may be apparent from a broader reading that the parties intended either a narrower or wider meaning than the literal meaning of the words used might suggest when read in isolation.
The court will only consider facts and circumstances known, or reasonably available, to both parties that existed at the time that the contract was made. That which was known to one party alone is not taken into account, and what wasreasonably available generally means what wasreadily available to all parties.
In arriving at the true meaning and effect of a contract, the starting point in most cases will be the language used by the parties because:
the parties have control over the language they use in the contract; and
the parties must have been specifically focused on the issue covered by the disputed wording when agreeing the wording of that provision.
Where the parties have used unambiguous language, the court will (indeed, it must) apply it. Where the language used by the parties is unclear, the court can properly depart from its natural meaning where the context suggests that an alternative meaning more accurately reflects what a reasonable person with the parties' actual and presumed knowledge would conclude the parties had meant by the language they used. However, that does not justify the court searching for, drafting infelicities in order to facilitate a departure from the natural meaning of the language used.
If there are two possible constructions, the court is should prefer the construction which is consistent with business common sense, and reject the others. However, commercial common sense is relevant only to the extent of how matters would have been perceived by reasonable people in the position of the parties at the date when the contract was made.
In finding the right balance between the indications given by the language and those arising contextually, the court will consider the quality of the drafting of the relevant wording and the agreement as a whole in which it appears. Sophisticated, complex agreements drafted by skilled professionals are likely to be interpreted principally by textual analysis unless a provision lacks clarity or is apparently illogical or incoherent. More basic, simple agreements drafted by lay men are likely to be interpretted with more focus on context.
The court will not reject the natural meaning of a word, phrase or clause simply because it would be a bad provision for one of the parties to have agreed. This is because:
hindsight is 20:20, and forms no part of the task of objectively assessing the meaning because the meaning is to be assessed as at the time the parties entered into the agreement and not subsequently; and
it is not the function of the court when interpreting an agreement to help a party escape from a bad deal that they freely agreed to.
Conclusion
In summary, the court will apply the above principles to answer the following overarching question: what would a reasonable person (with all the background knowledge which would have reasonably been available to the parties when they entered the contract) have understood the language used by the parties to mean?
If you need help with interpretting a contract, or are dealing with a counterparty this is interpretting a contract incorrectly, contact Hamshaw today.