Objective test applies if a prior concluded contract exists, but subjective test applies if there is a continuing common intention.

In the recent case of FSHC Group Holdings Limited v. GLAS Trust Corporation Ltd [2019] EWCA Civ 1361, the English Court of Appeal held that for rectification to be granted on the basis of common mistake, a claimant must establish that either:

  1. the disputed document does not give effect to a prior concluded contract (objectively determined); or
  2. at the time the disputed document was executed, there existed a common intention between the parties in relation to a particular matter (subjectively determined) which, by mistake, was not recorded in the final document as executed.

Rectification is a discretionary remedy that is available to the court in circumstances in which a written contract does not reflect the terms as agreed between the parties, i.e.,where there has been a mistake, not in the making, but in the recording, of a contract[i].

Facts

FSHC Group Holdings Limited (FSHC) is the parent holding company of the Four Seasons Health Care Group, a provider of elderly care services in the UK. Barclays Bank PLC (Barclays) acted (at the relevant time) as Security Agent and trustee in respect of a finance package provided in 2012 to entities within the FSHC Group, and was the named defendant at trial[ii] (judgment at [2018] EWHC 1558 (Ch)). During August 2016, FSHC and its lawyers could not locate a security document that was required to be in place, which raised the prospect of an Event of Default under the finance documents. As such, in short order, FSHC and Barclays entered into two accession deeds (the 2016 Accession Deeds) thereby filling the security gap and avoiding various consequential events of default that might otherwise have materialised. FSHC subsequently discovered that the 2016 Accession Deeds (as executed) incorporated (by reference to other security documents) certain additional and onerous obligations adverse to FSHC (the Additional Obligations), including (i) a covenant to pay the secured obligations on demand (a sum exceeding £500 million), (ii) a holding company restriction, and (iii) a primary obligation as a principal debtor for the secured obligations.

In light of this discovery, FSHC issued a claim in the English High Court against Barclays (as Security Agent) seeking rectification of the 2016 Accession Deeds, contending that the deeds as drafted did not reflect the common intention of the parties on 18 November 2016. In particular, FSHC argued that the parties did not intend for FSHC to undertake the Additional Obligations as set out in the 2016 Accession Deeds; rather, the common intention of the parties was to do no more and no less than fill the security gap that had been identified by FSHC during August 2016.

In his judgment handed down following trial in May 2018, Mr. Justice Carr followed what was previously the leading (albeit obiter) dicta of Lord Hoffman in Chartbrook v. Persimmon Homes Ltd [2009] UKHL 38; [2009] 1 AC 1101, namely that the court must carry out an objective assessment of the factual background known to both parties and communications “crossing the line” to ascertain a continuing common intention which, by mistake, is not reflected in the instrument in question.

However, having stated this position, Carr J clarified that the court is able (and willing) to identify a continuing common intention not only from what “crossed the line” (i.e., objective manifestation of the parties’ intention being communicated between themselves), but also from subjective understandings in relation to an existing arrangement between the parties that are “so obvious as to go without saying” ([33]-[35] of the trial judgment). He reasoned that on an objective analysis, the existing authorities support the proposition that “where an important change is made to an existing arrangement between the parties, the absence of any discussion of that change may itself be evidence that the parties did not intend it” ([47] of the trial judgment).

Noting that “[r]ectification cases are fact sensitive, and resolution of this dispute requires an intense focus on the facts” ([12] of the trial judgment), Carr J found that a continuing common intention existed between FSHC and Barclays, assessed “by reference to what an objective observer would have thought the intentions of the parties to be” ([183] of the trial judgment). Further, Carr J found that the “parties’ subjective intentions were the same as their common intention, objectively assessed” ([183] of the trial judgment). Carr J also held on the facts that, in his judgment, FSHC was unaware of the Additional Obligations and the mistake was therefore one as to the legal effect of FSHC’s accession to the existing security assignments by way of the 2016 Accession Deeds (and thus a mistake capable of rectification), rather than a misapprehension of the commercial consequences of the arrangement (not capable of rectification).

Judgment

Giving the leading judgment for the Court of Appeal, Lord Justice Leggatt (with whom Rose and Flaux LJJ agreed) upheld the trial judgment and agreed with the reasoning of Carr J. However, given the “uncertainty and dissatisfaction about the present state of the law” [10] following the obiter comments by Lord Hoffman in Chartbrook (which “have proved controversial and have been criticized by both academic commentators and judges” [8]), the Court of Appeal took this opportunity to provide a clear statement as to the correct test to be applied for common mistake rectification.

In summary, having conducted a detailed review of the prior authorities, the Court of Appeal identified two strands of rectification for common mistake:

(1) Prior concluded contract

If a prior concluded contract exists, the terms must be objectively determined in order to analyse whether the court ought to grant rectification of the disputed document.

This position is based on the fundamental principle of contract law that a court should give effect to those terms that the parties have contractually agreed to record in their document. Specifically, the Court of Appeal noted that “if parties make a binding agreement to execute a document containing particular terms but instead execute a document containing different terms, the court may specifically enforce the [prior] agreement by rectifying the [subsequent] agreement; and that, in such a case, the terms of the contract to which the subsequent document is made to conform must be objectively determined in the same way as any other contract” [141] (emphasis added in bold).

(2) Continuing common intention

If no prior concluded contract exists, the existence of a continuing common intention must be subjectively determined (to evidence that each party shared the same intention regarding the particular matter in issue). Further, a claimant must also establish an “outward expression of accord” [176] — in other words, that each party, by way of communications passing between them, understood the other to share that same intention. The shared understanding may be tacit and does not always need to be declared in express terms, but the Court of Appeal was clear that the power to rectify a contractual document “is not a power to make an agreement for the parties” [77].

In relation to this second strand of rectification, the Court of Appeal considered Lord Hoffman’s reasoning in Chartbrook to be incorrect. The Court of Appeal observed that Lord Hoffman’s analysis was based on the principle that “agreements must be kept”, but that “rectification to give effect to a ‘common continuing intention’ not amounting to a legally enforceable contract is justified, and is only capable of being justified, as an instance of the second form of rectification, based on an equitable principle of good faith” [142]. If the prior “agreement” is a non-binding expression of intent, rectification will not be granted if to do so “is against conscience because it is inconsistent with what both parties in fact intended (and mutually understood each other to intend) those terms to be when the document was executed. This basis for rectification is entirely concerned with the parties’ subjective states of mind” [146] (emphasis added in bold).

On the basis that findings of facts from trial were not in issue on appeal, the Court of Appeal upheld the trial judge’s finding that FSHC and Barclays held a common intention to do no more and no less than fill the security gap (that FSHC had identified during August 2016), which had been communicated to and understood by each party. It was therefore equitable in the circumstances to rectify the 2016 Accession Deeds to record the true common intention between the parties (by removal of the Additional Obligations), and leave the trial judgment undisturbed.

Comment

This is an important judgment, which (subject to any further appeal to the UK Supreme Court) brings much clarity to the complex and previously unsettled law of rectification. Whilst this clarity is welcome, practitioners should be aware that if no prior concluded contract exists, establishing that the wording of a disputed document is inconsistent with the parties’ actual common intention “is rightly a demanding test to satisfy and one which affords appropriate respect to the primacy of the final, agreed, written terms of a contract” [173]. The courts continue to treat rectification as a remedy to be granted sparingly, available only in circumstances in which there is strong and convincing evidence that a disputed document fails accurately to record the parties’ intention[iii]. In light of this, practitioners should continue to take great care in ensuring that execution-form documents accurately reflect the actual intention of the contracting parties.