Interpreting Commercial Contracts

Further to our blog earlier on this month in relation to L.Batley Pet Products Ltd v North Lanarkshire Council ( another important decision on contractual construction in Scotland has been issued. It is worth noting for anyone involved in interpreting Scottish contracts or , for reasons explained below, advising on commercial leases in Scotland.

Lord Drummond Young delivered the decision of the Inner House of the Court of Session in this case, Grove Investments Ltd v Cape Building Products Ltd, on 13th May 2014.

The case concerned how dilapidations provisions should be interpreted in a commercial lease. In very simple terms, landlords had produced a schedule of dilapidations at the conclusion of a lease and asked the tenants to make payment. The tenants contended that they were only liable to make payment of actual losses incurred by the landlord, as opposed to the valuation of the dilapidations. As Lord Drummond Young pointed out “it is obvious that this [the schedule of dilapidations] might not represent the Landlord’s actual loss. For example, if they were to let the premises to another Tenant who required very substantial alternations, most of the reinstatement work might not be carried out, thus reducing the Landlords loss”.

The key part of the commercial lease provided:-

“the tenants bind themselves …… to repair any damage …. and to pay to the Landlords the total value of the Schedule of Dilapidations …..”

At first instance, the Sheriff was not prepared to entertain the tenants’ position going to an evidential hearing. So far as he was concerned the common law position that a person suffering a breach of contract may claim damages, had been varied by the wording of the clause in the lease referred to above. Instead, here, the landlord could claim the total value of the schedule whether suffering the loss or not. Lord Drummond Young summaries the Sheriff’s opinion as: “the word “value” denoted the cost or price of remedying the defects contained in the schedule. Whether those works were carried out was immaterial….. the Sheriff did not consider that such construction flaunted business common sense.”

The Sheriff Principal refused an appeal.

Leaving the background behind, the decision provides very helpful general guidance about construing contracts. Lord Drummond -Young began that discussion by quoting from the UK Supreme Court’s decision in Rainey Sky SA v Cookmin Bank, which he indicated was now the settled law of Scotland:

“the ultimate aim of interpreting the provision of a contract, especially a commercial contract, is to determine what the parties meant by the language used, which involves ascertaining what a reasonable person would have understood the parties to have meant….. the relevant reasonable person is the one who has all the background knowledge which would reasonably have been available to the parties in the situation which they were in at the time of the contract.”

It is therefore the law of Scotland that as well as what is written in the page, when any doubt exists about a term of the contract, the context has to be borne in mind too, to some extent. As Lord Drummond Young pointed out, it may be the case if there is more than one meaning; “the Court should adopt the meaning that best accords with commercial common sense…. This is an important point in the construction of all commercial contracts….”

This does not mean that sloppy drafting is to be encouraged. As the Court said in this case:

“…it is important to recognise that an unfortunate result for one party may simply be the result of a bad bargain, and apparent anomalies maybe the result of trade offs made during the negotiation of the contract. The Court cannot correct a bad bargain….”

However, notwithstanding that, the Court’s decision is clear that if there are potentially two meanings to a clause in a contract, then “normally the commercial sensible meaning” will be the preferred option for the Court.

In this present case the Court concluded that “value” could be read in the ways that both parties wanted to do so. Neither was unreasonable. On that basis, the Court‘s view was that it had to decide which construction best accorded with “commercial common sense.” The tenants’ construction was preferred on the basis that the landlord would be fully compensated for any loss actually suffered. The appeal was therefore allowed.

As well as the general discussion of Scots Contract Law, this decision is obviously of particular interest to the property sector. It may well be that leases require to be looked at if landlords were previously working on the basis in leases with similar wording, that simply a schedule had to be presented, and payment could be enforced. On the other hand, tenants should look at leases very carefully and take advice before simply paying amounts demanded in relation to dilapidations.

It will be interesting to see if an email is noted to the Supreme Court!