UK – Does an iterative approach mean less contractual certainty?

The English courts’ approach to contractual interpretation drifts gently between textual and contextual approaches.

The recent high-water mark for a more textual approach is Arnold v Britton [2015] UKSC 36 in which the Supreme Court favoured strict adherence to the words of the contract, even if the results are harsh. The “mere fact that a contractual arrangement, if interpreted according to its natural language, has worked out badly, or even disastrously, for one of the parties is not a reason for departing from the natural language”.

Since then, the tide has receded. The Supreme Court’s decision in Sara & Hossein v Blacks [2023] UKSC 2 is part of a general trend towards a more contextual approach. The court used an iterative approach to interpretation – working through alternative approaches to see which was best – and ultimately alighted on an interpretation neither party had put forward. This allowed a more “satisfactory” solution that avoided a “surprising” or “uncommercial” outcome.

This opens the way for more creative and commercial approaches to contractual interpretation but comes at the cost of contractual certainty. Further details are set out below.

A right to “conclusively” determine the service charge

The dispute related to a lease of commercial premises in Whitechapel and Liverpool. The lease was coming to an end but the landlord claimed £400,000 in service charges, which was a significantly higher amount than in the preceding or subsequent year. The tenant objected, claiming that the charge was excessive and included unnecessary items and expenses which fell outside the scope of the service charge provisions.

The landlord relied on the terms of the lease which, in relation to the service charge, allowed it to certify “the amount of the total cost and the sum payable by the tenant”. That amount would be “conclusive” in the absence of “manifest or mathematical error or fraud”.

The scope of the exemption for “manifest or mathematical error or fraud” is narrow. For example, a “manifest error” is “obvious or easily demonstrable without extensive investigation”. More generally, an “arguable error [in the certificate] will not suffice, however well founded the allegation of error may ultimately prove to be”.

Two unsatisfactory interpretations

There were two competing interpretations of the certification provision.

• The landlord argued that the certification provision should have its natural and ordinary meaning. It is clear and unambiguous and expressly states the certificate is conclusive of both the amount of the service charge and the sum payable by the tenant. This approach has sound commercial grounds. A landlord will incur substantial costs servicing its premises and should not have to litigate for months or years to recover those sums.
• In contrast, the tenant argued that the certificate is conclusive as to the landlord’s costs but not the tenant’s actual liability. To hold otherwise would mean the landlord is “judge in [their] own cause”. The service charge calculation involves a series of determinations (such as whether the repairs are “fair and proper”) and the landlord should not be left to determine these matters in its own interests. Moreover, the certificate was not always conclusive in practice as the tenant had an express right to refer part of the calculation (the proportion adjustment) to expert determination. Finally, the conclusive nature of the certificate was inconsistent with the rights the tenant had to inspect receipts, invoices and other evidence. What is the purpose of looking at these documents if arguable issues are precluded by the conclusive nature of the certificate?

The Supreme Court described both interpretations as “unsatisfactory”. One solution allows the landlord to be “judge in [their] own cause”. The other cuts across the natural and ordinary meaning of the certification provisions.

Iterative interpretation opens a third way

The solution comes from an iterative approach. As neither interpretation is satisfactory, the court came up with its own interpretation.

In this case, the Supreme Court concluded that the certification process imposed a “pay now, argue later” regime. The tenant must pay the certified amounts now (subject to manifest error or fraud) but is not prevented from subsequently disputing liability for that payment.

This approach is attractive but controversial. The courts are normally wary of inventing their own solutions. The risk of unforeseen consequences means those solutions might not be sensible or workable in practice. King Solomon was fortunate his wisdom led to a just result, but in other cases the baby might well end cut in two.

More fundamentally, this judicial creativity cuts against the grain of English contract law and undermines contractual certainty. Lord Briggs’ trenchant dissenting judgment notes the attractions of a “pay now, argue later” approach but concludes the service charge provisions are “irreconcilable” with that interpretation; the “court does not in such circumstances have carte blanche simply to make up a solution of its own. It must choose between genuinely available constructions, rather than mending the parties’ bargain”.

The Supreme Court was clearly perturbed by the implications of “conclusive evidence” clauses but might have been better served by limiting its judgment to those particular provisions, rather than raising broader questions about contractual certainty.

Practical drafting tips

The judgment highlights a number of important practical drafting tips.

• Words are important. There is no substitute for clear and precise drafting. Regardless of the general drift towards a more contextual approach, the words will always be the most important factor in determining a clause’s meaning. Do not expect contextual or iterative interpretation to come to your aid.
• Consider the whole contract. Ensure the contract forms a consistent whole. If different parts of the contract are inconsistent that could have unpredictable effects. In this case, the inconsistency between the conclusive nature of the certificate and the right to inspect the underlying documents helped unpick the landlord’s position.
• Recitals aren’t just boilerplate. The recitals can be a useful way to provide the background to the agreement and can reduce the scope for argument about the context in which it was executed. Use them.
• Unreasonable positions must be crystal clear. This judgment is a paradigm example of the need to ensure an unreasonable or surprising obligation is crystal clear as to its meaning and consequences. Weasel drafting is not always good practice and may not be effective.

 

The decision in Sara & Hossein Asset Holding Ltd v Blacks Outdoor Retail Ltd [2023] UKSC 2 is available here.