In the following case, the House of Lords addressed the issue of the construction of contracts, and in particular the exclusionary rule (ie. that pre-contractual negotiations are inadmissible when considering the proper construction of a contract). The Court of Appeal decision in this case was covered in our May 2008 updater.
Chartbrook Limited v Persimmon Homes Limited and others  UKHL 38
Chartbrook (the Owner) was the owner of a development site, and entered into a development agreement with Persimmon (the Developer) pursuant to which Persimmon was to obtain planning permission in respect of the development site, construct a mixed commercial and residential development, and then sell the properties on long leases. The Developer would then pay the Owner pursuant to a specific formula set out in the development agreement.
The Developer accordingly built and sold the commercial/residential development. However, when it came to paying Chartbrook in accordance with the development agreement, the parties disputed the proper interpretation of the formula. The Developer argued that the Owner’s interpretation of the formula would result in the Owner receiving a windfall, and that it was entirely improbable that the parties would have made such bargain (i.e. it made no commercial sense). The Developer also argued that the pre-contractual material (ie. the various correspondence and documentation between the parties prior to signing the contract) showed that the “windfall” interpretation was clearly not what the parties had commercially intended.
The Court of Appeal decision
The Court of Appeal found in favour of the Owner (albeit with one dissenting judgment). The Court’s view was that the formula in the development agreement was “clear, certain and unambiguous and its arithmetic is straightforward”. The Court also found that no exception to the exclusionary rule applied, and thus the pre-contractual material/negotiations were not admissible.
The House of Lords’ decision
The Developer appealed the Court of Appeal’s decision, and the House of Lords unanimously upheld that appeal. They did so on the basis that the Court of Appeal’s interpretation of the formula (being in accordance with the Owner’s interpretation) made no commercial sense and made the structure and language of the various provisions of the development agreement appear arbitrary and irrational, where it was possible for the concepts employed by the parties in the development agreement to be combined in a rational way. The House of Lords “profoundly disagreed” that the drafting of the formula was “clear, certain and unambiguous” and held instead that the definition was “obviously defective as a piece of drafting”. Crucially, Lord Hoffman held that “when the language used in an instrument gives rise to difficulties of construction, the process of interpretation…..is to decide what a reasonable person would have understood the parties to have meant by using the language which they did. The fact that the court might have to express that meaning in language quite different from that used by the parties….is no reason for not giving effect to what they appear to have meant.” In other words, where it is clear that something has gone wrong with the language in a contract, the proper construction to be applied is that which a reasonable person would have understood the parties to have meant.
As such, the House of Lords found for the Developer on the construction of the key formula. Usefully, the Law Lords also considered the question of the exclusionary principle. They gave fairly short shrift to the Developer’s argument that the current case should qualify as an exception to the exclusionary rule. In various passages of the judgments, their Lordships held that “to allow evidence of pre-contractual negotiations would require the House to depart from a long and consistent line of authority, the binding force of which has frequently been acknowledged” and that the exclusionary rule “could scarcely be more firmly embedded in our law”.
The House of Lords’ decision was a firm reaffirmation that departure from the exclusionary rule will only be considered in very few, exceptional cases (specifically, where the rule can be considered to be impeding the proper development of the law or contrary to public policy).