Pre-contract negotiations don't change meaning of defined term, says Court of Appeal

Courts refuse to consider evidence from contract negotiations except in rare circumstances and the Court of Appeal has underlined that stance in the case of property development company Persimmon Homes.

Persimmon was developing flats under a deal it cut with the owner of the land on which the flats would sit, Chartbrook.

Persimmon disputed the meaning of a term which was defined in a schedule to the contract between it and Chartbrook. The High Court and then the Court of Appeal both ruled that Persimmon should not be allowed to rely on evidence from the negotiating process to support its re-definition of the term.

"[The term] is clear, certain and unambiguous and its arithmetic is straightforward," said Lord Justice Rimer, one of the three judges in the case. "The phrases which are elsewhere defined are accepted as meaning what their definitions provide, and no other word or phrase is said to bear any meaning other than its ordinary one."

"I can see no basis for re-writing the agreement as invited by Persimmon," he said. "I would reject any suggestion that this is a case in which it is legitimate, as part of the construction exercise, to have recourse to the pre-contract negotiations. The basic rule is that they are out of bounds."

The ruling held even though one of the three Appeals Court judges found that if the evidence had been used, it would have strongly supported Persimmon's case about what the parties intended the disputed term in the contract to mean.

The stakes in the case were high. Persimmon argued that under the disputed clause it owed Chartbrook £900,000. Chartbrook's interpretation of the clause, which gave a formula defining how the profits from flat sales were to be divided between the two companies, meant that it was owed £4.6 million.

The term in dispute was defined in a schedule to the contract. This meant that it was not possible to use the "private dictionary principle" as an exemption to the rule of inadmissibility of pre-contract negotiations.

This is an exemption designed to take account of the fact that parties to a contract might have agreed that a word or phrase has a certain meaning but have not defined it within the contract. That was not possible here because the term had been defined, the judges ruled.

One of the three judges, though, said that the literal meaning of the clause did not make as much sense as the meaning which Persimmon wanted to put on it. Lord Justice Lawrence Collins said that Persimmon's view ought to prevail.

"In my judgment this is a case where a syntactical analysis must yield to business common sense," he wrote in his judgment. His view was not adopted by the Court because the other two judges disagreed.

David Woods, a litigation specialist with Pinsent Masons, the law firm behind OUT-LAW.COM, said that the case emphasised the unwillingness of courts to admit as evidence negotiations leading up to a contract.

"When construing contracts, the courts seek to avoid commercial uncertainty arising from allowing reference to pre-contract negotiations, and this case follows that line," he said. "The courts take the view that it is important to have certainty, and generally this means looking at the words contained in a concluded contract and treating them as the agreed conclusion of the parties negotiations. Only in limited circumstances will the courts look out with the words of the contract."

"One example used by the court in this case was of the potential risks to a third party if a contract was assigned to it and it was not able to look at the contract and interpret it from the words on the page, and instead needed to make additional reference to negotiations between the original parties. The court's view was therefore that for the reason, and for other policy related reasons, the general rule had to be followed," said Woods.