In the recent case of Blackwater Services Ltd and others v West Bromwich Commercial Ltd [2016] EWHC 3083 (CH), the High Court dismissed an appeal brought by the group of borrowers against a decision giving summary judgment in favour of West Bromwich Commercial Ltd.

The Court agreed with the Deputy Master that the Bank had properly applied the clause in its mortgage conditions which allowed it to charge a new interest rate when conditions in the financial markets were such that LIBOR did not accurately reflect its own costs of lending.

The Court emphasised that, where there is a dispute over the interpretation of contractual terms, the “commercially sensible” interpretation should be preferred.

Background

The dispute related to the amount of interest the Claimants were liable to pay to the Bank for a loan. Clause 5 of the agreement provided that interest would be payable on the basis of LIBOR and an agreed margin. However, the key term in relation to the dispute between the parties was Clause 11, which provided for an alternative level of interest in times of ‘market disruption’. It stated:

“If at any time the Lender cannot determine or ascertain LIBOR or the Lender is of the opinion that its costs of funding would be in excess of LIBOR, then the Lender (acting reasonably) may determine and certify an alternative basis for calculating the interest rate for the Loan and will notify the borrower before the next Payment Date.”

On 19 June 2009, the Bank wrote to the Claimants and stated that, due to the current conditions of the financial market, they were of the opinion that their cost of funding would be in excess of LIBOR. Therefore, they stated: “at the end of the current Interest Period, your Loan will bear interest based onthe Society’s costs of funds plus your agreed margin detailed in paragraph 5 of the Facility Letter….”

In December 2011, the Bank wrote again to the Claimants, stating that, given the LIBOR rate still did not reflect its costs of funding, it had taken the decision “to pass on 1.30% of the difference between our average weighted rate of liabilities and LIBOR, referred to as our cost of funds”. From then on, the interest payments were stated to be “based on the Society’s cost of funds, plus LIBOR, plus your agreed margin.” The Claim

There was no dispute between the parties that for the period between 19 June 2009 and 31 July 2012, when the Loan was repaid in full, conditions in the financial markets were such that LIBOR did not accurately reflect the Bank’s costs of lending and, therefore, that Clause 11 applied. The issue between the parties related to the proper interpretation of that Clause and whether it was properly applied.

The Claimants argued that the Deputy Master had been wrong to reject their interpretation of three elements of the clause:

1. Notification

The Claimants argued that the Bank had not validly notified them of the increase in its own cost of funds because the letters which gave notification only referred to the cost of funds of “the Society”, its parent company.

2. “Certify”

The Claimants argued that the words “and certify” in Clause 11 imposed an obligation on the Bank to certify that it had determined an alternative basis for calculating the interest rate formally, otherwise there would be room for uncertainty, and the Bank had not done so.

3. “Alternative basis”

The Claimants argued that the term “basis” is, in the banking context, a “term of art”. As such, to determine an alternative “basis” rather than simply an alternative “margin” the Bank had to provide an alternative method of calculating the interest rate by reference to some publicly available objective standard and was not entitled simply to charge an additional sum.

Judgment

The judgment was dismissive of all of the Claimant’s assertions.

1. Notification

The Court stated that the relevant clause only required the Bank to notify the Claimants of the alternative basis being adopted for calculating the interest rate. It did not include a requirement to notify the Claimants of the Bank’s own cost of funds. However, the Court said that, even if the requirement to notify did extend that far, the notifications contained in the letters satisfied that requirement. The Court accepted the Bank’s argument that it was “obvious” that the references to “the Society” encompassed the Bank.

2. “Certify”

The High Court also rejected the Claimants’ submission that formal certification was required. The judge stated that “the notifications contained in the letters made clear the alternative basis being adopted by the [Bank] and a formal certification to the same effect would not have made any difference to the Claimants’ state of knowledge of that alternative basis.”

The Court applied the principle of construction laid down by Lord Sumption in Fairfield Sentry Ltd v Migani [2014] UKPC 9 that “There is no reason to think that a document must satisfy any further formal requirements, unless its purpose or legal context plainly requires them.” It concluded that no procedure for any formal certification was set down in Clause 11 and that “Neither the purpose nor the legal context of the requirement called for anything additional to be done…the Claimants’ approach would introduce an unnecessary formal obligation for which there is no proper justification.”

3. “Alternative basis”

The Court rejected the Claimants’ argument that the word “basis” is, in the banking context, a “term of art”, requiring the Bank to calculate the interest rate by reference to some publicly available objective standard. The judge stated that “There is no evidence before the court that the word is, in that context, a term of art and, in my judgment, it is to be given its ordinary and natural meaning of, essentially, an alternative foundation for calculating the interest rate on the facility.” Indeed, the Bank’s actual cost of funding was “a legitimate and reasonable alternative basis to have been adopted for calculating the interest rate for the facility.”

Accordingly, the appeal was dismissed.

Commentary

This case underlines the importance of providing contractual documentation which is clear and unambiguous, in order to avoid such disputes arising. The judge in this case did comment that the clause at the heart of this dispute, Clause 11, was “not in all respects clearly drafted” and this is what ultimately provided the Claimants with the opportunity to commence their claim. Although the Court firmly upheld the view of the Bank in this case, the dangers of unclear and inconsistent drafting can be seen in the recent case of Alexander v West Bromwich Mortgage Co Ltd [2016] EWCA Civ 496, which also concerned the variation of interest rates.

In Alexander v West Bromwich, clause 5 of the mortgage conditions, which provided for variation of the interest rate, was found to be inconsistent with a statement in the offer documentation, which provided that the rates would vary in accordance with the Bank of England base rate but not otherwise. In a similar fashion to this case, the Court in Alexander v West Bromwich stated that contractual interpretation should be carried out with regard to reasonableness and business common sense. Clause 5 was, therefore, deemed not to be incorporated in the mortgage contract due to its inconsistency with the offer documentation.

There is comfort to be drawn from the emphasis in this judgment that where a contractual term is ambiguous, the most commercially sensible interpretation should prevail. However, banks should ultimately be aware of the dangers of using clauses or phrases which may be open to interpretation at all.

Co-authored by Elizabeth Pouget, trainee solicitor.