In a recent post (What does it actually mean?) we reported on how certain clauses in a contract were interpreted and the specific steps which a party had to take to comply with those provisions. But what are the general rules on how a court will approach the interpretation of a contract?
The starting point
It may seem obvious but the starting point when considering the words used in a contract is to assume that the parties meant what they have in fact said. If the words used are clear and unambiguous then they will be given their natural meaning – even if that produces a result which may seem absurd.
So, in a recent case the court applied a literal interpretation to a clause in a lease which provided that a service charge of £90 would increase on a compound basis at 10% per annum. The lease was a 99 year lease of a holiday chalet under which the annual rent was only £10. But a literal interpretation of the service charge provision would mean that by the end of the lease the tenant would be paying over £500,000 under that provision. Was that really what the parties had agreed?
The court said yes: the words used were clear and capable of only one meaning. The court would not step in and rewrite the lease just because that meaning was ‘disastrous’ for the tenant.
What if it’s not clear?
If, despite the drafter’s best efforts, the language used in a contract does not produce a clear, unambiguous meaning, then some further interpretation will be required to establish what the parties actually meant when they signed that contract.
In another recent case, the words used in a letter which ended an invoice discounting agreement were ambiguous. According to the court, one interpretation produced a result which was ‘clearly absurd’ whilst another possible meaning also seemed ‘unlikely’. So how could the court choose between the two alternatives?
Business common sense
When faced with different possible interpretations of the language used in a contract, the court will prefer the meaning which is more consistent with ‘business common sense’.
So, in the invoice discounting case, the wording in the letter was interpreted as transferring back to a company all rights which the invoice-discounter had to pursue claims against debtors where the invoice-discounter had not already made payment to the company. The alternative interpretations were that no claims had been transferred back at all (clearly absurd) or that all claims had been transferred, including claims in respect of which the invoice-discounter had already made payment to the company. But that would have meant that the company could potentially recover more than the amount of its original debt, when the amount already received from the invoice-discounter was added to any amount subsequently received by the company directly from the debtor.
A number of other tests will be used by the courts when interpreting the words used in a contract, including:
- the objective intentions of the parties
- considering the contract as a whole
- the commercial purpose of a contract or a particular clause
- giving effect to specific provisions over general provisions
Clearly, it is preferable for the parties to ensure that the language used in a contract is clear and unambiguous, and accurately reflects their common intentions. This will give certainty to all parties and avoid any unintended consequences of asking a court ‘what does it mean’?
 Re Capital Print & Display Limited  EWHC 1647 (Ch)