CHAPTER 1

INTRODUCTION

1 | P a g e

The words of a law must be understood according

to their usual signification, unless it is certain that the

legislator intended them to be taken in another sense. When

the words are not ambiguous, they must not be twisted into

some far-fetched meaning. If the intention of the legislator

is known, the interpretation must be according to that, rather

than according to the words of a law, even though they seem to

have another sense, because the words are not nude, but

clothed with the will of the legislator.

When a law is in general terms, it is presumed that no

exception was intended. That is, where the law makes no

exception, interpreters are not allowed to distinguish. In all

interpretations, however, that meaning of the words is to be

preferred which favours equity rather than strict justice. An

argument can be drawn from the contrary sense of the words,

provided that nothing follows which is contradicted by another

law. The provisions of a previous statute are not presumed to

be changed beyond the express meaning of the words of a new

law.

2 | P a g e

When a law is penal, its words are to be taken in their

strictest sense and not to be extended to their cases beyond

those explicitly mentioned; but when a law concedes favours,

its words are to be interpreted according to their widest

sense. "In contracts, words are to be taken in their full

meaning, in last wills in a wider sense, and in grants of

favours in their widest interpretation"1. When there is a doubt

as to the meaning of the words, that sense is to be preferred

which does not cause any prejudice to the rights of a third

person.

The various standard or model forms of building contract and

sub-contract in use today are normally documents of long

standing and, having been revised over the years, should

contain few errors, inconsistencies and ambiguities. These

documents are however individually only one of the numbers

which together form the documentation on which a building

contract or sub-contract is based. The other documents are the

drawings, schedules, bills of quantities; specification etc.

and these are not standard documents but are prepared

1 http://en.wikipedia.org/wiki/Interpretation_(canon_law)-accessed on 1.9.12

3 | P a g e

specially for the particular contract. Problems frequently

arise when an ambiguity or vagueness or a question of the

interpretation of the true meaning of the contract has to be

decided and the parties are in dispute. The adjudication of

such a dispute often presents difficulties and the architect

or principal agent or ultimately an Arbitrator or Court is

faced with the task of determining what the parties had

agreed, either explicitly or impliedly, when they entered into

the contract and, if there has been a genuine

misunderstanding, which interpretation should prevail. Let us

see about interpretation of contracts in a detailed manner.

What is a Contract?

A contract is formed in any transaction in which one or both

parties make a legally enforceable promise. A promise is a

commitment or undertaking that a given event will or will not

occur in the future and may be expressed or implied from

conduct or language and conduct. A promise is legally

enforceable where it:

was made as part of a bargain for valid consideration;

4 | P a g e

reasonably induced the promisee to rely on the promise to

his detriment or

Is deemed enforceable by a statute despite the lack of

consideration.2

Types of Contracts

Contract may be of the following types:

1) Express – an agreement by words

2) Implied-in-fact – an agreement by conduct

3) Implied-in-law ("quasi-contract") – not a true contract

but an obligation imposed by a court despite the absence

of a promise in order to avoid an injustice

Sources of Contract Law3

1) Common Law – in most jurisdictions, contract law is not

codified, and thus the primary source of general contract

law is caselaw.

2 http://www.lexisnexis.com/lawschool/study/outlines/html/contracts/contracts01.htm- accessed on 1.9.123 http://www.scribd.com/doc/36258453/Contracts-Outline- accessed on 1.9.12

5 | P a g e

2) Restatement – written by the American Law Institute to

provide guidance to the bench and bar, the Restatement of

Contracts (currently in the second edition) has no legal

force but nevertheless provides highly persuasive

authority.

3) Uniform Commercial Code (UCC) – created under the

auspices of the American Law Institute and the National

Conference of Commissioners on Uniform State Laws, has

been adopted by every state except Louisiana. Proposed

revisions to Article 2, governing contracts for the sale

of goods, have been finalized and presented to the states

for enactment.

4) United Nations Convention on Contracts for the

International Sale of Goods (CISG) – ratified by many of

the leading trading nations including the United States

and China (but not the United Kingdom and Japan), it

governs many transactions for the sale of goods between

parties with places of business in different nations.

5) UNIDROIT Principles of International Commercial Contracts

– non-binding authoritative text similar to the

Restatement.

6 | P a g e

6) Uniform Computer Transactions Act (UCITA) – addresses

issues arising out of computer licensing but has only

been enacted in Virginia and Maryland.

7) Uniform Electronic Transactions Act (UETA) – adopted by

most states, this act does not affect basic contract

doctrine but governs the use of electronic

communications. It applies to "transactions," defined as

"the conduct of business, commercial or governmental

affairs." Thus, it does not govern contracts such as

those between family members or with non-profit

institutions.

8) Electronic Signatures in Global and National Commerce Act

(E-Sign) – this federal law allows states to pre-empt it

by enacting the UETA.

WHAT IS CONTRACT INTERPRETATION?

Contracts are interpreted as a whole, if possible, in order to

give effect to all parts of the contract. Also, a contract may

be interpreted within the context that it was made and with

recognition of the matters to which the contract relates. If

there is more than one contract relating to a matter, the

contracts may be considered together if they were entered into

7 | P a g e

by the same parties and can be viewed as relating to a single

overall transaction.

The court will not look outside the contract unless there is

ambiguity in a contract provision. Contract provisions may be

considered ambiguous if consideration of the plain meaning and

context of the provision can lead to two or more reasonable

constructions. To assist the court, parol (oral), written, or

other evidence from outside the contract may be reviewed to

resolve the ambiguity or to explain the contract and its

context. In resolving ambiguities, the court may construe the

ambiguity against the party to the contract causing the

ambiguity.

In light of the objective to determine the mutual intent of

the parties at the time the contract was entered into, a court

may disregard written provisions in the contract that through

fraud, mistake, or accident cause the contract to fail to

express the true mutual intention of the parties.

If it is contended that there has been a mutual mistake of the

parties, the court may consider extrinsic evidence and the

court may reform the contract. Such reformation, however, may

8 | P a g e

not go beyond implementing the mutual intent of the parties

and must avoid any prejudice to the interests of other persons

if such interests were acquired in good faith and in return

for consideration. A person who is not a party to the contract

and who has no rights under the contract that were acquired

for value or as an intended beneficiary of the contract may

not seek enforcement of the contract and may not complain

about reformation of the contract.

Contract Interpretation as the Process Agreed-To Rules .When

contract interpretation is legal or factual requires first

understanding what contract interpretation is. What are courts

doing when they interpret a contract?

A good place to start is the Restatement of Contracts, which

defines the interpretation of a contract as “the ascertainment

of its meaning. “Since contracts are expressed in words,

interpretation is the process by which we determine the

meaning of the words the parties agreed to.

Contract Interpretation Distinguished From Other Issues:

In discussing contract interpretation, it is important to

distinguish it from related issues that arise in contract

cases.

9 | P a g e

First one is contract formation. Contract formation asks

whether the parties intended to be contractually bound, and

may involve questions of historical fact involving offer,

acceptance, or consideration. Deciding whether parties bound

themselves to agreed-to rules is different from deciding what

those rules are. Another related issue is breach, which, in

its simplest form, asks whether a contract provision has been

complied with. Breach tends to be a compound question made up

of sub-questions of historical fact, evaluative

determinations, definition, application, and/or questions of

contract interpretation.

NOT ALL THE CONTRACTS ARE SAME:

To prove the premise that some contracts are interpreted

legally while others are interpreted by the finder of fact,

this Section will first summarize the two contract

interpretation traditions, and then discuss two hypothetical

cases, one in which interpretation clearly falls within one

tradition and a second in which it clearly falls within the

other. I have illustrated why contract interpretation is

sometimes legal and sometimes factual. Later, representative

cases are used to show how courts in fact treat different

10 | P a g e

kinds of contracts, and how they struggle to reconcile the two

traditions.

TWO VIEWS OF CONTRACT INTERPRETATION:

Under the “traditional” view of contract interpretation,

“the interpretation of written instruments properly belongs to

the Court, and not to the jury.”4This quote comes from an 1840

Supreme Court opinion written by Justice Story, and other

nineteenth-century opinions repeat the idea. As Farnsworth

notes the rule “may reflect a distrust of unsophisticated,

undereducated, and at one time illiterate jurors,”5 and it is

easy to see how such a rule developed during an era in which

the literacy gap was wide between jurors and the businessmen

who were writing contracts. Yet there was also a notion that

language generally was a lawyerly function.

The “modern” view holds that contract interpretation is to

determine what the parties intended, and that when there is a

reasonable dispute about what was intended (i.e., the contract

is ambiguous), extrinsic evidence may be needed to resolve the

dispute. Under this view, contract interpretation is a jury

question both because it involves evidence. According to a

4 Brown & Co. v. M’Gran, 39 U.S. (14 Pet.)479, 493 (1840)5 E.ALLAN FARNSWORTH, FARNSWORTH ON CONTRACTS § 7.14 at 338 (3d ed. 2004).

11 | P a g e

quote by Farnsworth “Since interpretation turns on the

meanings that the parties actually attached and reasonably

ought to have attached to the language of their agreement, it

is indisputably a matter of fact, not of law.”

Despite their names, the modern view is not so modern and

the traditional view is alive and well. There are cases from

the nineteenth century holding that juries decide the meaning

of a contract where it must be determined by looking at

extrinsic evidence and plenty of modern cases continue to rely

on the traditional view. Today, the two approaches co-exist,

courts sometimes relying on one and sometimes the other.

To illustrate, in a recent case involving a cattle-sharing

agreement, the Minnesota Court of Appeals wrote: “When

contract language is susceptible to more than one meaning, the

interpretation of the contract becomes a question of fact.”

Just a few months later, in a case involving a management

agreement, the Minnesota Supreme Court wrote: “Contract

interpretation is a question of law which we review de novo.”6

Two cases from the same jurisdiction, in the same year, one

quoting the traditional rule and the other quoting the modern

6 Travertine Corp. v. Lexington-Silverwood, 683 N.W.2d 267, 271 (Minn. 2004).

12 | P a g e

rule. Similar can be found in many jurisdictions. The fact

that courts continue to apply both doctrines suggests each

rule is appropriate in some circumstances. Let’s now look at

some of those circumstances.

THE MODERN RULE AND ORDINARY NEGOTIATED CONTRACTS:

The first hypothetical involves a business purchase contract

where by Jacob sells his catering business to Crystal for

$100,000. As they don’t want to spend money on lawyers, they

used a form purchase agreement they found on the Internet,

which calls for an “Exhibit A” listing all property included

in the sale. One of the items on Exhibit A is “a Ford

Econoline catering van and all related equipment.” It’s not a

great contract, but the annals of contract law are filled with

not-great contracts.7

On the day of closing, Jacob delivers the van to Crystal,

fully loaded with catering equipment. “So where’s the

trailer?” Crystal asks. Jacob responds that the trailer was

not part of the deal, as he only agreed to include the van.

Crystal points to Exhibit A, arguing that the trailer was part

7 http://vlbr.net/wp-content/uploads/2011/02/3-Warner.pdf-accessed on 1.9.12

13 | P a g e

of “all related equipment” since Jacob usually loaded the

trailer with catering supplies and towed it behind the van.

The ensuing lawsuit is a dispute about what “all related

equipment” means. Each party’s interpretation is reasonable,

so the term is ambiguous and each can introduce extrinsic

evidence to support his or her meaning. Such evidence might

include the parties’ testimony about their negotiations,

witness testimony about the extent to which the trailer was

used for the business, a balance sheet that listed the trailer

as an asset of the business, the title of the trailer showing

who owns it, or an Internet printout showing its value.

Because resolution of the dispute turns on what the parties

intended “all related equipment” to mean, and requires

weighing extrinsic evidence, this question of contract

interpretation will be a fact issue in virtually every

American court.

To further make the point, imagine the analysis if a court

treated the issue as a legal question. By what legal standard

could it decide what “all related equipment” means? Case law

is unlikely to be helpful, because what someone else in some

other circumstance intended “related equipment” to mean says

14 | P a g e

nothing about what the term meant to Jacob and Crystal. Nor

would look up definitions of “related” or “equipment” in case

law or dictionaries tell you what these parties understood the

terms to mean. No method of legal analysis would be of much

help in determining the meaning of this contract language,

which only has meaning in the context of these parties’

specific agreement.

CONTRACT INTERPRETATION LEGALLY AND FACTUALLY

The contract interpretation is sometimes a legal issue and

sometimes a factual issue depending on the nature of the

contract (or contract provision) at issue. What follows are

cases to illustrate the point. This is, of course, just a

sampling, but the examples below are representative and they

point to a reconciliation of the traditional rule and the

modern rule that is both workable and comports with courts’

intuition about when contract interpretation should be legal

and when factual.

It is often said that the objective of contract interpretation

is to determine what the parties intended. As will be

discussed below, the subjective intent of the contracting

parties is a doubtful criterion by which to determine the

15 | P a g e

meaning of one-way contracts like insurance policies and

credit card agreements. But for ordinary, negotiated

contracts, intent is rightly seen as the major issue of

contract interpretation. Contracting parties choose their

words for the purpose of calculating what they agreed to, so

the meaning of those words must be judged by what the parties

intended them to mean. In Hoover, Inc. v.McCullough Industries

Inc, determining the intent of contracting parties is

typically a task for the finder of fact.8 McCullough

Industries, a supplier of road aggregates for a state highway

project, contracted with Hoover to provide base stone. The

contract, which was drafted by the parties without lawyers,

specified the size of stone needed and required Hoover to

remove “byproducts” as necessary to meet state specifications.

During performance, a dispute arose over whether Hoover had to

meet state specifications as to size only, or whether its

obligation to remove byproducts included clay and mud

fragments. The trial court submitted this contract

interpretation issue to the jury, finding the contract

ambiguous. The appellate court affirmed, noting that if the

contract is ambiguous, its meaning is for the jury to8 380 F.2d 798 (5th Cir. 1967).

16 | P a g e

determine “by a consideration of the facts and circumstances

surrounding its making.”

Integrated Solutions International v. Central Transport

International 9 is another example.

That case involved a contract under which a transportation

company agreed to buy a quantity of “handheld units” each

month from a computer distributor. In the seller’s lawsuit for

breach, the parties disputed whether the term “handheld units”

only meant handheld computers or included related items. On

cross-motions for summary judgment, the court considered such

things as the seller’s testimony about what “handheld units”

means in the industry, the buyer’s testimony about what he

intended the term to mean, other provisions of the contract,

related documents, and evidence of the parties’ negotiations.

Term was ambiguous because a reasonable jury could interpret

it either way. Thus, the meaning of “handheld units” was a

fact issue for trial.

Briggs v. Briggs10 is also illustrative. At issue there

was a lease under which the tenant was obligated to pay the

landlord “25% of any and all net revenues generated” either by

9 2009 WL 579232 (M.D.N.C. 2009). 10 817 A.2d 112 (Conn. App. Ct. 2003).

17 | P a g e

his business operations or by subleasing the property. A

dispute arose concerning the meaning of the term “net

revenues” and the trial court found for the landlord after a

bench trial. Affirming, the appellate court found “no clear

interpretation of the term within our body of law or within

the stipulation itself,” and therefore concluded that

interpretation of the term was a question of fact.

There are common threads among these cases.

First, the contracts were negotiated, not adhesive.

Second, the disputed provisions were specific to the

parties, so case law involving similar provisions would

have been unhelpful, and hearing evidence of what the

parties intended that language to mean was necessary.

Third, the provisions were reasonably susceptible of both

parties’ meanings.

One can find countless cases that share these common threads

in which the issue of contract interpretation is held to be a

fact question. To further illustrate, imagine if the courts in

these cases had treated interpretation as a question of law.

In Integrated Solutions, for example, the court could have

reviewed the contract term “handheld units” and reached its

18 | P a g e

own legal conclusion about what “handheld units” means. But on

what basis would it make that determination? There is no case

law interpreting the term “handheld units” in similar

contracts. And while the court could make its own

determination based on the evidence of intent in the record,

weighing evidence is what juries do, not appellate courts.

Perhaps Briggs offers a better opportunity for treating

interpretation as a legal issue, since the term “net revenues”

is common enough that one might find analogous case law. But

case law would not tell you what these particular parties

meant the term to mean. A court might have policy reasons for

interpreting the term “net revenues” legally; if it thought,

for example, that a uniform interpretation would aid

contracting parties and prevent litigation. But if the goal is

to discern the intent of contracting parties, then contract

interpretation is a fact issue.

RULES FOR DETERMINING WHETHER CONTRACT INTERPRETATION IS LAW

OR FACT:

As we have seen, one common way courts separate when

contract interpretation is a legal question from when it is a

19 | P a g e

fact question is to distinguish between ambiguous and

unambiguous contracts. According to this approach, when a

contract is ambiguous and when it is reasonably susceptible to

more than one interpretation, its interpretation is a fact

question. When it is unambiguous and when reasonable people

would agree about what it means,its interpretation is a legal

question. The ambiguity rule is closely related to the parol

evidence rule, which holds that extrinsic evidence may be

admitted to aid in the interpretation of ambiguous contract

provisions. Extrinsic evidence could be anything from

correspondence between the contracting parties, to testimony

about customs and conduct, to a party’s recollection about

what was discussed during negotiations,simply one party’s

testimony about what he or she understood certain language to

mean. If a provision is ambiguous,such evidence may be

admitted and considered by the trier of fact to aid in

determining what the provision means. If it is unambiguous,

there is no need to admit parole evidence and no need to

submit the issue to the trier of fact.

This rule of ambiguity explains a certain class of cases:

those involving ordinary, negotiated contracts. But it does

20 | P a g e

not account for the many cases in which contracts are

interpreted legally irrespective of ambiguity. The only

explanation for these cases is that the courts believe,

whether they express it or not that the nature of the contract

or contract provision makes it ill-suited for fact-specific

interpretation by a jury.

As discussed earlier, the ambiguity rule is best understood

as a specific application of the summary judgment rule. In

those cases in which contract interpretation is a fact

question, the court can decide the question “as a matter of

law” if the language and/or extrinsic evidence is so clear

that a reasonable jury could only reach one conclusion

regarding the contract’s meaning.

Interpretation versus Construction

Another attempt to distinguish legal from factual treatment of

contracts distinguishes between “interpretation” and

“construction.” According to this view, interpretation is the

process of determining the meaning of words the parties agreed

to and is a fact question; construction involves determining

21 | P a g e

the legal effect or operation of those words and is a legal

matter. As Williston explains it11:

The word “interpretation” is used with respect to the

language chosen by the parties to manifest their intent;

it is the process of applying the appropriate standards

to words the parties have used in their agreement in

order to determine the meaning of the words.

“Construction,” on the other hand, involves the court

determining, as a matter of law, not the sense of the

words or symbols, but the legal meaning of the entire

contract; the word is rightly used whenever the import of

the writing is made to depend upon a special sense

imposed by law. In short, interpretation involves

ascertaining the meaning of contractual words, while

construction involves deciding their legal effect. Thus,

interpretation of the contractual language is the first

step towards proper contract construction—the process

which occurs when a court determines the legal effect an

agreement will have. As understood in this sense,

“construction” is necessarily a question of law, while

11http://www.lawlink.nsw.gov.au/lawlink/supreme_court/ll_sc.nsf/vwFiles/SpigelmanNew230311.pdf/$file/SpigelmanNew230311.pdf- accessed on 1.9.12

22 | P a g e

“interpretation” may be a question of law or fact

depending on whether the language of the contract is

ambiguous or otherwise requires resorting to extrinsic

evidence.

This description of “construction” is a bit unclear, but it

suggests the term encompasses various decisions a court may

make regarding contract language other than deciding what the

language means, which would be interpretation. For example,

when a court determines whether a provision is not reasonable

a determination that is typically a legal question, it is

doing something other than interpreting the provision. It may

have to interpret the provision first (it is hard to decide

whether a provision is unconscionable without knowing what it

means), but the subsequent determination of unconscionability

is a different task one might characterize as “construction.”

Similarly, when the court is called upon to engage in “gap-

filling” by supplying reasonable contract terms, some

authorities call that construction. For example, when the

parties to a supply agreement disagreed over whether the buyer

was obliged to order before the seller could determine the

price, or whether the seller had to determine the price before

23 | P a g e

the buyer could order, the court found the agreement silent on

the issue and filled in the missing term, holding that the

buyer had to go first.

If the term “construction” is restricted to these kinds of

non-interpretation decisions, then there meaningful

distinction between interpretation and construction, albeit

one that does not resolve the issue of when interpretation

should be treated as legal or factual. Some courts, however,

blur the distinction by calling it “construction” whenever the

court interprets contract language legally.

For example, in Burgeson v. Columbia Producers,12 parties to

a farm lease disputed which was responsible for repairs to

underground wells, pumps and pipelines. The contract made the

lessee responsible for maintaining and repairing “all of the

said premises, fences and irrigation equipment, and all other

improvements.” Following a bench trial, the court found that

the landlord was responsible for the repairs. On appeal, the

appellate court deemed the issue one of “construction” subject

to review, rather than one of interpretation. Having declared

the issue legal, however, the court examined not just the

language of the agreement, but all the extrinsic evidence12 803 P.2d 838 (Wash. Ct. App. 1991).

24 | P a g e

admitted at trial, concluding that “the wells, pumps, and

buried mainline fit the definition of improvement and Columbia

Producers is responsible for the maintenance.” It is hard to

understand how the court did in Burgeson is anything but

interpretation. It reviewed extrinsic evidence, reviewed the

contract language and reached a conclusion regarding the

meaning of the language. The court was not filling gaps; it

was interpreting the contract. But by labeling the issue

“construction,” the court treated it legally.

Many courts use the term “construction” when deciding the

meaning of insurance policy or indemnity language. Used in

this way, the distinction between interpretation and

construction is a useful way of characterizing the difference

between how juries decide the meaning of contracts i.e., by

considering extrinsic evidence and determining the parties’

subjective intent— and the way judges decide the meaning of

contracts—i.e., by looking to case law and considering how a

reasonable person would understand the language.

But this still begs the question of how we decide which

contracts are construed by courts and which ones are

interpreted by finders of fact. The distinction between

25 | P a g e

construction and interpretation does not answer this question.

Whether “construction” refers to the judicial process of

deciding what contract language means, or tasks other than

deciding what contract language means, a rule is still needed

to distinguish when the court determines a contract’s meaning

and when the jury does.

CONFLICT BETWEEN LITERALISM AND PURPOSIVENESS

Disputes about the meaning of contracts are one of the largest

sources of contractual litigation. Throughout the 20th century

the clash in such litigation was often between the literal and

purposive approach to the construction of contracts. The

literal approach held sway. Even when such an influential

figure such as Lord Wilberforce firmly placed himself in the

purposive school of interpretation the principles of

interpretation, which had prevailed since the middle of the

1800, retained a strong following.

It is perhaps surprising that literalism held sway for such a

long period. The truth is that no words have a fixed or

settled meaning. Language is inherently uncertain. The plain

meaning of writing can almost never be plain except in a

context. This point was graphically illustrated by Holmes J.

26 | P a g e

in Towne v Eisner where he stated that “A word is not a

crystal, transparent and unchained, it is the skin of the

living thought and may vary greatly in colour and content

according to the circumstances and time in which it is used”13.

In the last few years the ‘rules of construction of contract

have ... begun to experience seismic disturbances at the hands

of the House of Lords”. This ‘seismic disturbance’ has marked

a shift away from the ‘literalist approach’ to interpretation

to the ‘purposive’ approach.

LITERALISM

There are two examples of literalism

In the first example, The tyrant Temures promised the garrison

of Sebastia that no blood would be shed if they surrendered to

him. He shed no blood. He buried them alive

13 http://www.39essex.com/docs/articles/VN_seminar_Contracts_handout_310304_FINAL.pdf-accessed on 1.9.12

27 | P a g e

In the second one, Hankey v Clavering, under the terms of a

lease for 21 years from December 25, 1935 either party could

determine the lease at the end of seven years on giving six

months’ notice. The landlord gave the tenant a notice as from

June 21, 1941, purporting to determine the lease on December

21, 1941. In holding the notice invalid, Lord Greene M.R.

said: “The whole thing was obviously a slip on the landlord’s

part, and there is a natural temptation to put a strained

construction on language in aid of people who have been

unfortunate enough to make slips. That, however, is a

temptation which must be resisted, because documents are not

to be strained and principles of construction are not to be

outraged to do what may appear to be fair in individual cases”

and “It is perfectly true that in construing such a document

as in construing all documents, the court in a case of

ambiguity will lean in favour of reading the document in such

a way as to give it validity, but I dissent entirely from the

proposition that where a document is clear and specific, but

inaccurate on some matter, such as that of date, it is

possible to ignore the inaccuracy and substitute the correct

28 | P a g e

date or other particular because it appears that the error was

inserted by a slip”.

The meaning of a contract was to be found within its four

corners. This approach had its advantages. First, there was

certainty: the task of the court was to consider the contract

and the meaning of the words and adjudicate upon the meaning

of those words. Secondly, resolution of the dispute was quick

and inexpensive: extrinsic evidence was not permissible to

explain the meaning of the words. The dispute was resolved on

the basis of the contractual documents alone.

Approaches to Contract Interpretation

The approaches used to determine whether writing is

integration are also employed to determine what evidence may

be referred in the interpretation of a contract as a whole or

its individual terms.

1) "Plain meaning" rule – If a writing or term appears to be

unambiguous, it must be interpreted solely on the basis of

such writing. The majority of jurisdictions apply this rule,

despite growing criticism.

29 | P a g e

2) Williston's rules – If writing is integration, the meaning

given to it as a whole or any individual terms therein are

that of a reasonably intelligent person in the circumstances

that surrounded the making of the contract. If the writing is

not integration and is unambiguous, the terms are to be

interpreted by an objective test – the interpretations that a

reasonable person would give them. If the writing is not

integration and is ambiguous, subjective intent of the parties

is relevant.

3) "Reasonable expectations of the parties" approach – This

approach, espoused by Corbin and incorporated by the

Restatement and UCC allows all relevant extrinsic evidence to

assist in interpretation, including the subjective intent of

the parties.

Course of Performance, Course of Dealing, and Trade Usage

In both common law and goods contracts, course of performance,

course of dealing and trade usage may supply both additional

terms and aid in construction of existing terms.

"Course of performance" represents a pattern in the

performance of the contract. If a contract involves repeated

30 | P a g e

occasions for performance by either party, and the other party

knows of the nature of the performance and has an opportunity

to object to such performance, any course of performance

accepted or acquiesced to without objection is relevant to the

meaning of the agreement.

"Course of dealing" represents a sequence of previous conduct

between the parties to a particular transaction which

establishes a common basis of understanding for interpreting

their expressions and conduct.

"Usage of trade" represents a practice that is employed with

regularity in a place, vocation or trade, justifying an

expectation that the practice will be observed with respect to

the agreement in question.

Rules of Interpretation

The following rules have developed to aid courts in

interpretation:

1)Words and conduct of the parties are to be interpreted in

light of all circumstances, giving weight to the principal

purpose of the parties in making the contract, if such purpose

is ascertainable.

31 | P a g e

2) Writing is to be interpreted as a whole, and if multiple

writings pertain to the same transaction, all are to be

interpreted together.

3) Language is to be interpreted in accordance with its

general prevailing meaning, if any.

4) Technical terms and terms of art are to be given effect

when used in relevant transactions.

5) Wherever possible, the manifestations of the parties'

intentions are to be interpreted as consistent with each other

and with any relevant course of performance, course of dealing

or trade usage.

32 | P a g e

CHAPTER 2

OVERVIEW OF

CONTRACT

FORMATION33 | P a g e

Mutual Assent

Contract formation requires mutual assent to the same terms by

the parties, generally manifested by an offer and acceptance.

Current law favours an objective standard for determining a

party's intent to be contractually bound. Thus, in general,

communications are given the meaning that the recipient of the

communication should have reasonably understood. Nevertheless

subjective intent is relevant in determining whether the

parties intended to be bound. Without such subjective intent,

there is no contract. A validly formed contract must provide a

basis for determining the existence of a breach and for giving

an appropriate remedy. Non-goods contracts, according to the

Restatement, must include terms that are sufficiently definite

and certain; goods contracts, on the other hand, do "not fail

for indefiniteness even if one or more terms are left open if

the parties intended to make a contract and there is a

reasonably certain basis for giving an appropriate remedy."

Contract Formation by Electronic Agents

34 | P a g e

Proposed new UCC § 2-204(4) recognizes the legal effect of

contract formed by electronic agents resulting from:

(1) The interaction of electronic agents of the parties,

even in the absence of direct participation in such contract

by the parties (i.e., the programming of such electronic

agents suffices)

(2) The interaction of an individual with an electronic

agent, e.g., a website, where the individual has the option of

refusing or taking action or makes a statement that the

individual has reason to know will:

(a) Cause the electronic agent to complete the

transaction; or

(b) Indicate acceptance of an offer, regardless of

other expressions or actions by the individual to which

the electronic agent cannot react.

Receipt of Electronic Communications

A number of communications relevant to contract formation such

as an offer, revocation of offer, or rejection of offer are

effective upon receipt by the person for whom the

communication is intended. In contracts for the sale of35 | P a g e

goods, any legally effective communication sent by electronic

means has effect upon receipt by the intended recipient's

electronic system, e.g., e-mailbox, even if he is unaware of

such receipt.

OFFER

An offer is an intent to be contractually bound upon

acceptance by another party. An offer creates in the offeree

the power to form a contract by an appropriate acceptance.

The following types of communications, which do not manifest

intent to be contractually bound, do not constitute offers:

1) opinions about future results, including professional

opinions

2) statements of intention (including letters of intent

which merely memorialize negotiations)

3) invitations to submit a bid

4) Price estimates – However, where the estimate is deemed

to be a factual misrepresentation because it was made by

an expert, estoppel may be invoked if the offeree relied

to his detriment on the estimate.

36 | P a g e

5) advertisements, catalogues and mass mailings – Courts

have ruled that it is unreasonable for one to believe

that the merchant intends to be bound with all whom

receive or read such literature unless the power of

acceptance is clearly limited to the first person(s) that

fulfils the act for which the incentive is offered.

6) Auctions with reserve – An auction is "with reserve"

unless announced to the contrary. In an auction with

reserve, the auctioneer solicits offers in the form of

bids. However, if the auction is announced to be

"without reserve," the auctioneer's request for bids or

his statement that an item will go to the highest bidder

will be deemed an offer.

Effectiveness of offer

An offer is not valid until received by the offeree or his

agent.If the offer has a stated time within which the

acceptance must be made, any attempted acceptance after the

expiration of that time will fail and will merely constitute a

counter-offer by the offeree. If no specific time is stated

within which the offeree must accept, it is assumed that the

offeror intended to keep the offer open for a reasonable

37 | P a g e

period of time, to be determined based on the nature of the

proposed contract, trade usage, prior dealings and other

circumstances of which the offeree knows or should know.

Generally, the time for accepting an offer begins to run from

the time it is received by the offeree. If there was a delay

in delivery of the offer of which the offeree is aware, the

usual inference is that the time runs from the date on which

the offeree would have received the offer under ordinary

circumstances.

Generally, courts hold that in telephonic or face-to-face

communications in which an offer is made, the offer lapses

when the conversation terminates in the absence of a clear

indication that the offer remains open beyond the

conversation.

Revocation

With limited exceptions , an offer is generally revocable at

any time prior to acceptance.An offer may be revoked by any

words that communicate to the offeree that the offeror no

longer intends to be bound. An offer is also revoked by

action that is inconsistent with the intent to be bound once

38 | P a g e

the offeree learns of such inconsistent action.An offer is

irrevocable where:

1) there is an option contract in which the offeree gave

consideration for an irrevocable offer for some period of

time;

2) the offeree relied to his detriment upon an implied or

express promise by the offeror not to revoke if such

detrimental reliance was foreseeable by the offeror;

3) the offeree relied to his detriment upon the offer itself

if the such detrimental reliance was reasonably

foreseeable by the offeror

4) in the case of a unilateral contract, the offeree began

performance of the promised act to any extent – Upon

commencement of performance, the offeror must give the

offeree the amount of time specified in the offer (or, in

the absence of a specified time, a reasonable time) in

which to complete the bargained-for promise. However,

the offeree's mere preparation to perform does not

preclude the offeror from revoking.

5) in goods contracts, a merchant indicates in a signed

writing that an offer to buy or sell goods will be held

39 | P a g e

open for the stated time or a reasonable time if no time

is specified, not to exceed three months, if no

consideration if given

A revocation is effective upon receipt by the offeree.

However, a few jurisdictions (e.g., California, Montana, South

Dakota, North Dakota) provide by statute that revocations are

to be treated similar to acceptances; thus, courts might

interpret these statutes to make a revocation of an offer

effective when sent by the offeror.

Termination of the Offer

An offeree's power to accept an offer is terminated by:

the death or insanity of the offeror, even without notice

to the offeree of such occurrence

death or insanity of the offeree, unless an offer is

irrevocable, such as in the case of an option contract

death or destruction of a person or thing essential to

performance

the offeree's rejection of the offer, which cannot be

reinstated by the offeree's subsequent attempted

acceptance.

40 | P a g e

the offeree's counter-offer, which impliedly manifests a

rejection of the offer

revocation of the offer

expiration of the offer

Manner of Acceptance

Traditional Approach

Traditionally, the nature of the contract dictated whether the

offer could be accepted by a return promise or by actual

performance of the promised act.

In a unilateral contract, the offer empowers the offeree to

only accept by complete performance of the promise. The

offeree's failure to perform does not constitute a breach

since no contract is formed until the offeree renders full

performance.

In a bilateral contract, the offers empower the offeree to

only accept by return promise. Bilateral contracts are formed

upon the giving of the promise to perform an obligation in the

future, and failure to fulfill such promise results in breach.

Modern Approach41 | P a g e

Under the modern approach, an offer invites acceptance by any

means reasonable under the circumstances, unless otherwise

indicated by language or circumstances. This approach reflects

the fact that many offers do not specify whether acceptance is

to be by full performance or promise. A contract may be

formed even if an offer clearly indicates that acceptance is

to be by promise if:

1) the offeree begins to perform, in lieu of making the

required promise; and

2) The offeror learns of the commencement of performance and

acquiesces to such manner of acceptance.

The common law holds that one who receives goods with

knowledge or reason to know that they are being offered for a

price is bound by the terms of the offer if he exercises

dominion or control over such goods or engages in any other

act inconsistent with the offeror's ownership. If the act

wrongs the offeror, it is deemed a valid acceptance only if

ratified by the offeror. Similarly, one who receives benefits

from services that he knows or has reason to know are being

offered with the expectation of compensation, and where he has

42 | P a g e

a reasonable opportunity to reject them, is liable for the

reasonable value or stated value of such services.

Silence may not constitute an acceptance except where:

based on prior dealings between the parties, it is

reasonable that the offeree should notify the offeror if

he does not intend to accept; or

"where the offeror has stated or given the offeree reason

to understand that assent may be manifested by silence or

inaction, and the offeree in remaining silent and

inactive intends to accept the offer."

Medium of Acceptance

Unless the offeror indicates otherwise, the offeree may use

any medium that is reasonable under the circumstances or, in

non-goods contracts, the same medium as was used to

communicate the offer or any other medium "customary in

similar transactions at the time and place the offer is

received."

Notice of Acceptance

The offeror is entitled to notice of the acceptance. Thus,

even if the offeree accepts an offer and a contract formed,

43 | P a g e

failure by the offeree to notify the offeror of the acceptance

within a reasonable time may preclude the offerer from

enforcing the contract.

Notice of Acceptance by Performance

Under common law, where an offer invites acceptance by

performance, no notice is required to make the acceptance

effective, unless the offeror so specifies. However, if the

offeree has reason to know that the offeror has no adequate

means of learning of the performance with reasonable

promptness and certainty, the offeror's contractual duty will

be discharged unless:

the offeree exercises reasonable diligence to notify the

offeror of acceptance; or

the offeror learns of the performance within a reasonable

time; or

the offer indicates that notification of the acceptance

is not necessary

In transactions for the sale of goods, where commencement of

performance is a reasonable mode of acceptance, if the offeror

44 | P a g e

is not notified of acceptance within a reasonable time, he may

treat the offer as having lapsed prior to acceptance.

Notice of Acceptance by Return Promise

Where the offeree accepts by promise, the offeree must

exercise reasonable diligence to notify the offeror of the

acceptance or ensure that the offeror seasonably receives the

acceptance.

When an Acceptance Becomes Effective

An acceptance becomes effective according to the following

rules:

1) The offeror may specify when the acceptance will be

effective.

2) Absent such specification, an acceptance is effective

when sent, if sent by reasonable means, e.g., by an

authorized medium and with proper postage and correct

address.

3) If an acceptance is sent by means that are not

appropriate or reasonable under the circumstances or if

it is improperly dispatched, the acceptance will be

effective upon receipt. However, if the acceptance is

45 | P a g e

seasonably but improperly dispatched, it will still be

deemed effective when sent if it is received within the

time in which a properly dispatched acceptance would have

been received.

4) In the case of option contracts, an acceptance is not

operative until received by the offeror.

5) In transactions governed by the CISG, the acceptance

becomes effective when it reaches the offeror.

Late Acceptance

A number of approaches are applied to communications that are

intended as an acceptance but sent after the offer expires:

1) the communication may qualify as a counter-offer;

2) the offeror may waive the lateness and honor the

acceptance;

3) if the acceptance is nevertheless sent within a

reasonable time, albeit after the offer's stated

expiration, the acceptance is valid and results in the

formation of a contract if the offeror does not reject

it within a reasonable time;

4) in transactions governed by the CISG, if the acceptance

is late because of a delay in transmission that is

46 | P a g e

apparent from the circumstances, a contract is formed

unless the offeror informs the offeree that the

acceptance is too late.

Terms of Acceptance

Under the "mirror image" rule, applied in common law

transactions, an acceptance must conform to the terms set

forth in the offer. No contract is formed if the acceptance

contains terms that are different from or additional to those

set forth in the offer. Such communication merely constitutes

a counter-offer. The formation of a contract is generally

precluded even if the discrepancy is trivial, although courts

are now increasingly giving effect to an acceptance if the

additional or different terms relate to an immaterial detail.

A contract is formed if the offeree unequivocally accepts the

offeror's terms, despite a simultaneous suggestion of

alternative terms. Such circumstances merely represent an

attempt to modify the terms of an already formed contract

47 | P a g e

based on the original terms, as long as the acceptance is not

contingent on the offeror accepting the proposed changes.

The UCC rejects the mirror image rule. It give effect to a

definite and seasonable expression of acceptance even though

it contains additional or different terms from those offered,

unless the offeree expressly makes the acceptance conditional

on the offeror's assent to the different or additional terms.

In contracts where at least one party is a non-merchant, if

the offeree unambiguously accepts but states additional terms,

the terms are construed as mere proposals for modification and

the terms of the existing contract are those set forth in the

offer.

Where both parties are merchants, the additional terms become

part of the contract unless:

the offer expressly limits acceptance to the terms of the

offer;

they materially alter it; or

Notification of objection to them has already been given

or is given within a reasonable time after notice of them

is received.

48 | P a g e

Where an offer is communicated by an electronic program and

the offeree has reason to know that he is dealing with an

electronic agent not programmed to responds to additional

terms or queries, any additional or different terms stated in

the acceptance are ineffective.

Requirements and Output Contracts

A requirement contract is one in which the term of quantity to

be delivered is measured by the needs of the buyer. In such

contracts, the buyer is not permitted to buy from a third-

party supplier; the seller must deliver the required amount of

product to the buyer but any excess produced may be sold to

third parties.

An output contract measures the contract quantity by the

output of the seller. The seller is not permitted to sell any

of its products to a third party; the buyer must purchase all

of the seller's output but may purchase from third party

suppliers any excess it needs beyond the seller's output.

In transactions governed by the CISG, a trivial variation of

terms in an acceptance from those set forth in the offer does

49 | P a g e

not prevent the formation of a contract unless the offeror

objects. [CISG art. 19]

A contract is formed with agreed terms and any standard terms

that are not knocked out due to inconsistency. However, if

one party objects to the knocking out of any of its standard

terms, no contract is formed. [UNIDROIT art. 2.11]

Applying a similar approach to the common law "last shot"

rule, the UCITA provides that where a purchaser offers to

license software, if an acceptance by the software licensor

contains materially different terms, and the software is

delivered to the offeror, the terms of the acceptance govern.

[UCITA § 204(b)]

Rejection of Offer

A rejection of an offer by the offeree is effective when

received by the offeror. If an offeree dispatches more than

one response to an offer, regardless of whether the rejection

is sent before or after the acceptance, if the rejection is

received later than when the acceptance was dispatched, a

contract is formed since an acceptance is effective upon

50 | P a g e

dispatch but a rejection is effective upon receipt.

Nevertheless, estoppel may operate to bar enforcement of such

a contract where the offeror receives the rejection before the

acceptance, and acts in reliance on such rejection.

CONSIDERATION

With some exceptions, a promise must be supported by

consideration.Consideration requires a bargained exchange in

which each party incurs a legal detriment.

Consideration is a bargained-for performance or return promise

which is given by the promisee in exchange for the promisor's

promise. Consideration need not be furnished by or to the

parties themselves as long as it is part of the bargained

exchange.

Even if the promisor's promise induced performance or a return

promise by the promisee, if such inducement was not sought by

the promisor, there is no bargained exchange. In such

circumstances, the promise is merely an unenforceable gift.

A legal detriment exists where the party:

51 | P a g e

engages in an act that the party was not previously

obligated – whether statutorily or contractually – to

perform; or

refrains from exercising a legal right

Adequacy of consideration relates to whether the bargain

involves an exchange of equal value. Generally, however,

courts do not concern themselves with whether consideration is

adequate, honoring the concept of freedom of contract. On the

other hand, courts do require consideration to be

"sufficient", which relates to whether there is a legal

detriment incurred as part of a bargained exchange of promises

or performances.

If a bargain gives a party a choice of alternative

obligations, each alternative on its own must constitute

sufficient consideration for the return promise. If a promise

is void or voidable – e.g., due to the incapacity of the

promisor – the sufficiency of the consideration is not

necessarily negated.

Surrender of a validly disputed claim – one for which there is

a factual or legal uncertainty as to its merits – or the

release of a validly asserted defense is sufficient

52 | P a g e

consideration for a return promise. Forbearance of an invalid

claim or defense may also serve as consideration if the

proponent of such claim or defense had a good faith belief in

its validity and if there exists an objective uncertainty as

to its validity.

Generally, a promise to pay a lesser amount than is owed or to

partially perform a pre-existing obligation does not

constitute a legal detriment since the promisor is merely

doing that which he is already obligated to do. [Foakes v.

Beer, H.L. 1884] However, if the promisor undertakes a

greater obligation than is promised, such as paying or

performing before the obligation is due, he incurs a legal

detriment sufficient to form consideration for the discharge

of the obligation.

An illusory promise cannot serve as consideration. An illusory

promise may exist where a promise is subject to a condition

which is within the control of the promisor, especially where

such condition is related to the contract performance, or when

the promisor, at the time of the promise is made, knows that

such condition cannot occur.

53 | P a g e

Agreements for exclusive dealings may appear to be based on an

illusory promise since the promisor's performance is subject

to conditions within its control. Nevertheless, common law

and the UCC have recognized an implied promise to use best

efforts in an agreement for exclusive dealings, which

furnishes the necessary consideration. [ Wood v. Lucy, Lady

Duff-Gordon14, (involving an agreement by the defendant to give

the plaintiff the exclusive right to market its name and

designs);

Where there is a false recitation of consideration, the

agreement will not be enforced for lack of sufficient

consideration. Consideration must in fact be rendered. There

is some conflict as to whether a sham recital of consideration

in option contracts is sufficient to enforce the promise.

If nominal consideration is given as a mere formality in order

to create a binding contract rather than as a bargained

exchange, the consideration is insufficient. In option

contracts, a payment or promise to pay nominal consideration

is sufficient consideration to make enforceable a promise not

to revoke, provided the option time is relatively short (e.g.,

14 222 N.Y. 88 (1917)

54 | P a g e

10 days) and the price to be paid if the option is exercised

is a fair price.

The following types of promises are enforceable without

consideration:

1) promises that induce a foreseeable and detrimental change

of position by the promisee (promissory estoppel)

2) a new express or implied promise to pay a debt that has

become barred by the statute of limitations

3) a new express promise to perform all or part of a pre-

existing obligation that has become discharged in

bankruptcy

4) where an original promise is voidable due to the

promisor's incapacity, a new promise by such promisor

upon attaining capacity

5) where an original promise is voidable due to a valid

defense by the promisor such as mistake,

misrepresentation or undue influence, a subsequent

promise by such promisor

6) in contracts for the sale of goods, contract

modifications, release of a claim by a signed writing,

55 | P a g e

and a written promise by a merchant not to revoke an

offer

7) in some states, contract modifications in non-sale-of-

goods transactions.

MODIFICATION

Subsequent to the formation of a contract, the parties may, by

mutual assent, modify the contract. The modification must be

a product of good faith and fair dealing. A modification

resulting from an improper threat to breach the contract or to

refuse to do business with the party from whom the

modification is sought – referred to as "business compulsion",

"economic duress" or "extortion of a modification" – will be

held unenforceable.

A party to a contract for the sale of goods must have a

legitimate reason for seeking a modification. An example of a

legitimate commercial reason to seek a modification may exist

where a market shift would create a loss to the party seeking

relief even if such circumstances would not justify an excuse

of performance.

56 | P a g e

The law does not require modifications to be supported by

consideration.

(1) In non-sale-of-goods executory contracts, a modification

must be supported by new consideration except:

if the modification is fair and equitable in light of

circumstances not anticipated by the parties at the time

contract was made (the "unforeseen difficulties

exception"); or

To the extent that justice requires enforcement of the

modification due to a material change of position in

reliance on the modified promise.

Under common law, there is some disagreement as to whether a

contract that is subject to the statute of frauds may be

modified orally. Jurisdictions also differ as to whether the

parties may waive a contractual requirement that modifications

be in writing. Nevertheless, promissory estoppel may be

invoked to enforce an oral modification that is subject to the

statute of frauds if it would be unjust to reinstate the

original term(s) where a party materially changes position in

reliance on the agreement to modify.

57 | P a g e

The law requires modifications to be in writing where:

required by a signed agreement between the parties (in

order to give effect to any such requirement stated on a

form supplied by a merchant to a consumer, the consumer

must also sign the form)

the contract as modified falls within the statute of

frauds.

Under common law, an ineffective attempted modification that

is unenforceable due to noncompliance with the writing

requirement (and any consideration requirement under the

common law) may constitute a waiver of the original terms. A

waiver is only effective against an existing contractual right

and cannot create a new obligation. Waivers generally apply

to conditions in the contract, e.g., delivery or filing date

if time is not of the essence, but not essential parts of the

bargain, e.g., promise to render services or sell goods.

Unlike terms in the formation or modification of a contract,

waivers do not require mutual assent or consideration and do

not fall within statutory writing requirements. Waivers can

generally be retracted unless the other party has relied on

such waiver to his detriment.

58 | P a g e

CHAPTER 3

MAJOR RULES AND

CONCEPTS IN CONTRACT

INTERPRETATION

59 | P a g e

Following are certain important rules, principles and concepts

involved in the process of contract interpretation without

which the process will be more tough.

Party’s intention

When interpreting the language of a contract, courts routinely

begin with the universal rule of contract interpretation—

giving effect to the parties’ intent at the time that the

contract was drafted. Following are some cases relating to

this principle

Butler v. Mitchell-Hugeback15-describing the importance of

the rule

Robson v. United Pac. Ins. Co.,16 -The real intention of

the parties is the universal rule of construction.

The underlying policy directive of giving effect to the

parties’ intent when the parties formed the contract

applies even if the parties did not express the contract

with completeness and Precision. (Koehler v. Rowland17)

15 895 S.W.2d 15, 21 (Mo. banc 1995)16 391 S.W.2d 855, 861 (Mo. 1965)17 205 S.W. 217, 219 (Mo. 1918)

60 | P a g e

Greater regard is given the clear intention of the parties

than the particular words used in attempting to express it.

Veatch v. Black18

As long as the intention of the parties clearly appears in the

spirit and purpose of the agreement when viewed as a whole,

the contract will be given an interpretation in accordance

with that intention. But the corollary to this rule is that

the courts will not read the parties‘intention into the

agreement when no evidence of that intention exists on the

face of the contract.

A detailed examination of the facts of particular case is not

particularly illuminating because the rule to give effect to

the parties‘intent is so axiomatic as to underlie virtually

every case addressing the interpretation of a contract. That

said, counsel will be well served to bear this .cardinal rule.

In mind when reviewing a disputed contract and should, when

possible, express arguments in terms of the

parties‘intent.Because this is where a court will almost

certainly start its own analysis.

Contract Must Be Considered as a Whole

18 250 S.W.2d 501, 507 (Mo. 1952).

61 | P a g e

When determining the parties‘intent, courts look to the entire

agreement and consider it as a whole. In Brackett v. Easton

Boot & Shoe Co19,employees of a shoe company sued the company

under their collective bargaining agreement for vacation and

holiday time that the employees argued had accrued but was not

paid when the shoe company was shut down by its parent company

and the employees were laid off.The collective bargaining

agreement had specific language relating to when vacation time

accrued for certain employees, but it was silent on the

question of whether unused vacation pay was owed to employees

if they were terminated. The Court in Brackett noted, however,

that the parties‘agreement did provide for payment of unused

vacation pay to employees who were entitled to a pension or

who entered military service.The Court thus reasoned that

because the parties did include language specifically

providing for payment of unused vacation in certain

circumstances, the absence of similar language for all

employees must have been intentional.Thus, the court held that

the employees were not entitled to their unused vacation pay.

19 388 S.W.2d 842, 848 (Mo. 1965)

62 | P a g e

In Wright-Dalton-Bell-Anchor Store Co. v. Barron,20 the Supreme

Court of Missouri had to reconcile two apparently inconsistent

clauses in a commercial lease. The plaintiff had leased an

undeveloped lot of real estate in downtown from the defendant.

The parties contemplated that the plaintiff would then erect

an inexpensive building on the lot. The plaintiff argued

that, if the lease was not renewed, the defendant was required

to purchase the building from the plaintiff at the conclusion

of the lease.

The Court noted that the lease contained two apparently

inconsistent

Clauses paraphrased as follows:

1. At the termination of the lease, the building may be sold

to the defendant if the parties can agree on a price, or

the building may be removed by the plaintiff and sold to

a third party, or the parties may agree to renew the

lease on terms mutually agreeable.

2. If there is a dispute between the parties as to the

purchase price of the building, the dispute will be

referred to a panel of three arbitrators who will fix the

20 254 S.W. 1 (Mo. 1923),

63 | P a g e

price of the building. The decision of the arbitrators is

to be conclusive and binding on the parties, and the

parties both agree to abide by their decision as to all

matters submitted to the arbitrators.

Thus, on the one hand, the contract contained a clause stating

that the defendant could purchase the building if the parties

were able to reach an agreement on price. This clause seemed

to indicate that the purchase of the building was voluntary.

On the other hand, the contract contained a clause that

purported to refer a dispute over price to a panel of

arbitrators for a binding decision. This clause seemed to

indicate that the purchase of the building was mandatory. The

Supreme Court of Missouri reconciled this apparent

inconsistency in the contract by looking to the parties‘

intent as evidenced by the other language in the contract. The

Court noted that the language of the contract indicated that

the building would be inexpensive—in fact, the language of the

contract rather bluntly referred to it as a cheap building.

The Court noted that it was less likely that the parties

intended to require the defendant to purchase what they

described as a cheap building.

64 | P a g e

Additionally, language in a different section of the contract

contained the phrase. The Court noted that this language

seemed to indicate that the parties viewed the purchase of the

building as a contingency, not a certainty. Thus, after

considering the two apparently contradicting clauses in light

of the whole contract, the Court held that the purchase of the

building was not mandatory and that the arbitration agreement

was only applicable if both parties wanted to transfer

ownership of the building but could not agree on a price.

All Provisions of Contract Must Be Given Effect

Courts will adopt an interpretation of a contract that gives

effect to all of the contract‘s provisions when

possible. .Each provision is construed in harmony with the

others to give each provision a reasonable meaning and avoid

an interpretation that renders some provisions useless or

redundant.

In Wildflower Cmty. Ass’n, Inc. v. Rinderknecht,21, a homeowner

built a driveway that ran through his neighborhood‘s common

area.The community association filed suit, claiming that the21 25 S.W.3d 530, 534 (Mo. App. W.D. 2000).

65 | P a g e

homeowner did not have authority to build the driveway across

the common area without the association‘s consent.The

homeowner relied on language in the parties‘ Declaration of

Restrictions, Covenants, and Easements, which stated that

every member shall have a right and easement to use and

enjoyment in and to the common areas.The provision governing

the use of common areas did not contain language prohibiting a

homeowner from constructing a driveway.The court explained

that a restrictive covenant is a private agreement and is

subject to the same rules of interpretation as other

contracts.

In citing Kling v. Taylor-Morley22, The restrictive covenant at

issue defined the term associated structure to include among

other things, driveways and improvements built by homeowners

on common areas with the consent of the community association.

Though there was no specific language prohibiting

a homeowner from constructing a driveway on the neighborhood‘s

common area, the court reasoned that the language in the

definition of associated structure referring to improvements

on common areas with the consent of the community association.

22 929 S.W.2d 816, 819 (Mo. App. E.D. 1996)

66 | P a g e

Evidenced the intent of the parties to, in fact, require

consent(Nichols v. Pendley23)

Language of the contract

Courts may not look beyond the language of the contract to

interpret it unless that language is ambiguous (Swaringin v.

Allstate Ins. Co24.If the language is ambiguous, the court may

consider extraneous matters.Thus, if the language of a

contract is plain, straightforward, and Susceptible to only

one meaning that is, it is not ambiguous—the contract will be

enforced as written. (Krombach v. Mayflower Ins. Co25)

Ambiguity

Courts ascertain the intent of the parties to a contract by

first looking to the words of that contract and giving those

words their plain, ordinary and usual meaning(Vincent v.

Schneider26). Courts will only look outside the contract if it

is ambiguous. (Ethridge v. TierOne Bank27) But what does it

mean for a contract to be ambiguous?

23 331 S.W.2d 673, 676 (Mo. App. S.D. 1960)24 399 S.W.2d 131, 134 (Mo. App. E.D. 1966).25 827 S.W.2d 208, 210 (Mo. banc 1992).26 194 S.W.3d 853, 859–60 (Mo. banc 200627 226 S.W.3d 127, 131 (Mo. banc 2007).

67 | P a g e

A contract is ambiguous when its terms are duplicitous,

indistinct, or uncertain. Stated another way, the contract

must be reasonably open to different constructions.( Seeck v.

Geico Gen. Ins. Co28) That said, .A contract is not ambiguous

merely because the parties disagree as to its construction.

Rather, a contract is ambiguous if its terms are susceptible

to honest and fair differences.

In Ethridge case, the dispute arose after the grantor of a

deed of trust had died.The real estate at issue was owned by

both the decedent and his widow. The deed of trust securing a

loan on that real estate, however, was only in the name of the

decedent. The bank claimed that the widow was obligated to

continue payment in accordance with the deed of trust after

her husband‘s death. The Court held that the widow was not

obligated to pay under the deed of trust because the language

of the contract failed to list her as a borrower: The deed of

trust defines Borrower as David Ethridge notes that he is

married, but indicates that title is vested solely in him.

This is the only definition of borrower in the document and

the only description of the property‘s ownership. The deed of

28 212 S.W.3d 129, 132 (Mo. banc 2007).

68 | P a g e

trust indicates that another individual is also a borrower or

grantor. This definition is not open to different

constructions and cannot reasonably be construed to mean that

Mary Ethridge also is a borrower under the deed of trust.

Because the definition of .borrower. was not open to different

constructions, it was not ambiguous. Accordingly the plain

language controlled, and the widow was not liable under the

deed of trust.

In Bailey v. Federated Mutual Insurance Co29 the court

determined whether the term customer. as used in a car

dealership‘s insurance policy was ambiguous. The court noted

that the appropriate frame of reference for considering

whether contract language is ambiguous is the perspective of

an average reader: .In determining whether or not a word is

ambiguous, we examine the entire contract and apply meanings a

person of average intelligence and education would understand.

Words are not ambiguous merely because their meaning and

application confound the parties.The court looked to

dictionaries and a well-known treatise to determine that the

29 152 S.W.3d 355 (Mo. App. W.D. 2004),

69 | P a g e

word customer was not open to different meanings and therefore

was not ambiguous.

PAROL EVIDENCE RULE

The rule applies to Parol (oral) evidence, as well as

other extrinsic evidence (such as written correspondence that

does not form a separate contract) regarding a contract. If a

contract is in writing and final to at least one term

(integrated), Parol or extrinsic evidence will generally be

excluded. However, there are numerous exceptions to this

general rule, including for partially-integrated contracts,

agreements with separate consideration, to resolve

ambiguities, or to establish contract defenses.

To take an example, Carl agrees in writing to sell Betty

a car for $1,000. Betty argues that Carl told her that she

would only need to pay Carl $800. The Parol evidence rule

would generally prevent Betty from testifying to this

conversation because the testimony ($800) would directly

contradict the written contract's terms ($1,000).

In order for the rule to be effective, the contract in

question must first be a final integrated writing; it must, in

70 | P a g e

the judgment of the court, be the final agreement between the

parties (as opposed to a mere draft, for example).

A final integrated agreement is either a partial or

complete integration. If it contains some, but not all, of the

terms as to which the parties have agreed then it is a partial

integration. This means that the writing was a final agreement

between the parties (and not mere preliminary negotiations) as

to some terms, but not as to others. On the other hand, if the

writing were to contain all of the terms as to which the

parties agreed, then it would be a complete integration. One

way to ensure that the contract will be found to be a final

and complete integration is through the inclusion of a merger

clause, which recites that the contract is, in fact, the whole

agreement between the parties. However, many modern cases have

found merger clauses to be only a rebuttable presumption.

The importance of the distinction between partial and

complete integrations is relevant to what evidence is excluded

under the parol evidence rule. For both complete and partial

integrations, evidence contradicting the writing is excluded

under the parol evidence rule. However, for a partial

integration, terms that supplement the writing are admissible.

71 | P a g e

To put it mildly, this can be an extremely subtle (and

subjective) distinction.

There are a number of exceptions to the Parol evidence rule.

Extrinsic evidence can always be admitted for the following

purposes:

1. To aid in the interpretation of existing terms

2. To show that in light of all the circumstances

surrounding the making of the contract, the contract is

actually ambiguous, thus necessitating the use of

extrinsic evidence to determine its actual meaning

(California law).

3. To resolve an ambiguity in the contract.

4. To disprove the validity of the contract.

5. To show that an unambiguous term in the contract is in

fact a mistaken transcription of a prior valid agreement.

Such a claim must be established by clear and convincing

evidence, and not merely by the preponderance of the

evidence.

6. To correct mistakes.

72 | P a g e

7. To show wrongful conduct such as misrepresentation,

fraud, duress, unconscionability, or illegal purpose on

the part of one or both parties.

8. To show that consideration has not actually been paid.

For example, if the contract states that A has paid B

$1,000 in exchange for a painting, B can introduce

evidence that A had never actually conveyed the $1,000.

9. To identify the parties, especially if the parties have

changed names.

10. To imply or incorporate a term of the contract.

11. To make changes in the contract after the original

final contract has been agreed to. That is, oral

statements can be admitted unless they are barred by a

clause in the written contract.

In order for evidence to fall within this rule, it must

involve either

(1) a written or oral communication made prior to

execution of the written contract; or

(2) An oral communication made contemporaneous with

execution of the written contract.

73 | P a g e

Evidence of a later communication will not be barred by this

rule, as it is admissible to show a later modification of the

contract (although it might be inadmissible for some other

reason, such as the Statute of Frauds). Similarly, evidence of

a collateral agreement - one that would naturally and normally

be included in a separate writing - will not be barred. For

example, if A contracts with B to paint B's house for $1,000,

B can introduce extrinsic evidence to show that A also

contracted to paint B's storage shed for $100. The agreement

to paint the shed would logically be in a separate document

from the agreement to paint the house.

Though its name suggests that it is a procedural evidence

rule, the consensus of courts and commentators is that the

parol evidence rule constitutes substantive contract law.

The Parol evidence rule is a common trap for consumers. For

example,

Health club contracts:

You enroll in a health club, and the salesperson tells you

that the contract can be cancelled. You later decide you would

like to cancel, but the written contract provides that it is

non-cancellable. The oral promises of the salesperson are

74 | P a g e

generally non-enforceable. However, the salesperson in

misleading you into the terms of the contract constitutes a

misrepresentation and you may seek to rescind the contract.

Auto sales agreements:

You purchase a used car, and the salesperson tells you it is

"good as new". But the contract provides that the sale is as

is. Again, in most circumstances the written contract

controls. However, this may constitute misrepresentation if it

exceeds reasonably accepted "puffing" or "dealers' talk."

Timeshares:

While in certain jurisdictions, and in certain circumstances,

a consumer may have a right of rescission, some people attend

real estate sales presentations at which they may feel

pressured into immediately signing binding contracts. Evidence

that the contract was entered into under duress will not be

precluded by the parol evidence rule.

REASONABLE PERSON

The role of the reasonable person has expanded with the

advent of form contracts. The standardization of contracts

75 | P a g e

has removed the narrow focus of the reasonable person from the

four corners of the contract. The traditional focus held that

the act of signing a standard form was evidence that the

signer intended to accept all of its terms. This approach

became increasingly untenable when it became apparent that in

reality there was no such actual consent. The fact of the

matter was that at least one of the parties did not read or

understand the fine print of the pre-printed form. The role

of the reasonable person was thus expanded to determine what

reasonable terms would be included and what unreasonable terms

would be excluded. Professor Karl Llewllyn devised two roles

for the reasonable person standard in the area of standard

form contracts:

1. To interpret the meaning of the terms expressly

negotiated by the parties, and

2. To determine what non dickered terms are to be

reconstructed or expelled due to unreasonableness or

alternatively, what reasonable terms are to be implied to

fill in gaps in the contract.

76 | P a g e

For the purposes of determining reasonableness, the

reasonable person looks to the terms generally found in such

contracts. The reasonable person is used to conform the

boilerplate terms to the spirit of the contract as represented

by the dickered terms and the type of transaction being

undertaken.

Drafting contracts is essentially an exercise in

attempting to anticipate how a court or arbitration panel is

likely to interpret certain contractual language. The courts

traditionally view the contract from the perspective of the

reasonable person. The courts’ fabrication of the reasonable

person is done through an examination of the customs and usage

business implied into the contract through the knowledge and

skills of the contracting parties had brought to the

negotiating table. “The law of the contract reflects in an

imperfect way, the needs and values of a community it

serves30”. Savigny’s historical school saw law as a mirrored

reflection of community customs ‘as an expression of folk

spirit and it was the task of law to capture what had been

30 Richard E. Speidel, ‘Some Reflections Upon Commercial Context and the Judicial Process’, William Law Review (1967): 822.

77 | P a g e

exhibited in the freely developed customs of the community’31.

Contract law serves not only a general community, i.e.

society, but also a number of narrower communities, such as

trades or professions.

The Court in Larwin – Southern Cal Inc observed that

‘custom and usage within a trade may properly be used in

clarifying what, on the face of a contract, appears to be an

ambiguity32’. Section 1 – 205 of the UCC states that a ‘usage

of trade is any practice or method of dealing having such

regularity of observance in a place, vocation or trade as to

justify the expectation that it will be observed with respect

to the transaction in question33.’ Trade usage is a source

used by courts in clarifying an ambiguity of intent. ‘The

parties are considered, unless otherwise agreed, to have

impliedly made applicable to their contract a usage of which

the parties ought to have known and which in [international

trade] is widely known to, and regularly observed by, parties

to contracts of the type involved in the particular trade

concerned34’. Custom, usage, and practice can be seen as the31 Martin R Golding, ‘Jurisprudence and Legal Philosophy in Twentieth Century America – Major Themes and Developments’, Journal of Legal Education 36 (1986): 441, 446.32 Masterson v. Sine, 436 F.2d 561 (Cal. 1968)33 Uniform Commercial Code at 1 – 205 (2)34 CISG, Art. 9(2)

78 | P a g e

background or context of contractual obligation35. They are

used to clarify ambiguities in contracts. If clarity is not

forthcoming, then the courts must look to the default rules of

contract law for an answer.

The imprimatur of the reasonable person approach can be

seen throughout the Restatement (Second) of Contracts and the

UCC. It can be seen whenever reference is made to the fact

that a party had reason to know or should have known. There

is reason to know if a person ‘has information from which a

person of similar intelligence would infer that the fact in

question does or will exist’. The line between reason to know

and actual knowledge is often non-existent. In contrast,

should know is generally associated with a legal duty to know.

‘Should know imports a duty to ascertain the facts.36’ Thus,

should know is relative concerned with actual knowledge. The

determination of whether a party had reason to know is

accomplished through the ‘totality of the circumstances’

analysis. Reason to know is a factual determination based

upon the circumstances and information available to the

35 The Court in Lipschutz v. Gordon Jewelry Corp. noted that ‘a custom is a practice which by its universality has acquired the force and effect of law’. 373 F. Supp. 375, 387 (S.D. Tex. 1974)36 Restatement (Second) at Sec.19, Comment b.

79 | P a g e

parties. Should know is more a judicial reflection regarding

what is reasonable given the parties and the circumstances.

Reason to know is a party-specific objectivity; should know is

community focused objectivity; that is, what is a reasonable

interpretation or result as seen through the limitus test of

community standards37. Modern contract law has witnessed an

increasing pre-emption of this judicial reasonableness inquiry

by way of statutory intervention. The English Unfair Contract

Terms Act of 1977 adopts a presumption of unreasonableness for

indemnity clauses that ‘by reference to any contract term a

party is made to indemnify another party in respect of

liability for negligence or breach of contract38’. For

international sales contracts it voids any choice of law

clause whose purpose is the avoidance of the Act. These

immutable rules pre-empt the objective contract theory’s

search for contractual intent.

A study in microcosm of the relationship between custom

and the interpretation of contracts can be seen in section 41

of the Second Restatement. Section 41 deals with the lapse of

37 For example, ‘what is reasonable depends on the circumstances; it may be reasonable to hold a non merchant to mercantile standards if he is represented by a mercantile agent.’38 Unfair Contract Terms Act Sec.4(1) 1977

80 | P a g e

time as a common law way of automatically revoking an offer.

The general rule is that an offeror is the master of her

offer. Therefore, an offeror may revoke at her whim anytime

prior to acceptance by the offeree. The law, however, limits

the reach of the offer to a reasonable period of time. If the

offer remains outstanding beyond a reasonable period of time,

then a subsequent acceptance is converted into a new offer

which the original offeror is then free to accept of reject.

The issue is what is a reasonable period of time for an offer

to remain viable? Reasonableness is an objective

determination of fact based upon the totality of the

circumstances of each case. Section 41 lists a litany of

factors to be entered into the judicial analysis. These

factors include the nature of the contract, the purpose of the

parties, course of dealing, and trade usage and practice.

This raises a supplemental issue of whether custom is part and

parcel with the reasonable person. Does the fact that

something has risen to the level of custom place an imprimatur

of reasonableness upon it. The Second restatement advocates

the position that custom or trade usage does possess a strong

presumption of reasonableness. Commentary to section 222

81 | P a g e

states that ‘commercial acceptance by regular observance makes

out a prima facie case that a usage of trade is reasonable39’.

Customary law, as imputed into the reasonable person,

provides a stopgap that allows the judicial process to render

decisions which reflect objective or commercial reality. This

is likely to precede the reformulation of the formal rules to

reflect that reality. Custom and usage has often been the

vehicle which the common law has mended itself and amended its

rules to accommodate changing times. Justice Turley in the

1842 case of Jacob v. State convincingly states this

grassroots metamorphosis. ‘Common law sources are to be found

in the usage, habits, manners, and customs of a people. The

common law of a country will be modified, and extended by

analogy, construction and custom, so as to embrace new

relations, springing up from time to time, from an

amelioration or change of society40’. The relationship between

law and custom can be seen as reciprocal in nature. Custom is

a source of law and law impacts upon custom. Aristotle saw

law as a vehicle for inducing positive behavioural

modifications within the populace. ‘The foundation of law is

39 Sec.222, Comment h.40 22 Tenn. 493, 514 – 515 (1842)

82 | P a g e

to lay down sound and balanced principles of character

formation to accustom various kinds of people, each in

different ways, to refrain from greed41. The reasonable person

acts as a receptacle for customary practice. The courts can

also use the reasonable person standard more proactively to

discourage unconscionable practices and encourage the

development of judicially approved standards if

reasonableness. Karl Llewellyn asserted that trade practice

provides the interpretative background of contract. ‘The

background of trade practice gives a first indication; the

line of authority rejecting unreasonable practice offers the

needed corrective’. He speaks of a double barrelled

objectivity in which the words of a contract are to be read

through two lenses. The interpretation of words through the

lens of custom and practice provides a baseline. The courts

must also look through a second lens in order to determine

whether the parties attached a variant meaning. Words are to

interpreted ‘first in the light of trade usage, second in the

light of the common meaning to the hearer and the course of

dealing of the parties.’ In supplying a missing term, the

41 W. von Leyden, Aristotle on Equality and Justice (1985), 82

83 | P a g e

court can use trade practice or usage to imply what ‘a sane

man might reasonably expect to find in the contract’.

Trade usage often implies esoteric knowledge to which

only those in a particular trade or profession are privy. The

cases involving trade usage generally revolve around the

expert testimony offered by the respective parties regarding

the meaning of the contract. In Folk vs. Central Nat. Bank &

Trust Co., a series of experts were called to give testimony

pertaining to the quality of pavement work at a raceway

performed under a construction contract. The contractor was

suing for contract damages arguing that he had substantially

performed the contract. The owner’s defense was that the

defective installation resulted in a material breach. The

contractor called a consulting engineer who testified that the

asphalt installation testified that the new surface was ‘nice

and tight’ indicating a proper bonding. A number of race car

drivers were called to testify that the surface was acceptable

and ‘as good as or better than other tracks42.’ The defense

witnesses included a professional engineer who testified that

deviations on the surface far exceeded acceptable standards.

Another asphalt contractor testified for the defense stating42 567 N.E. 2d 1, 5 (III. App. 1990)

84 | P a g e

that the workmanship was of sub standard quality. Officials

of a national racers association testified that it removed its

certification of the raceway because of safety concerns

pertaining to the track’s surface. Two race drivers testified

that the new surface was dangerous. Finally, a report from an

engineer testing company provided measurements of variations

in the track’s surface. As illustrated by the wide variety of

testimony from expert witnesses, the determination of usage or

practice can be a harried one.

The jurisprudential issues in the above scenario revolve

around the complexity of fabricating the reasonable person in

the face of such conflicting testimony. The complexity of

such a fabrication is increased due to the high technical and

specialized nature of the evidence. Is a judge equipped to

handle the avalanche of evidentialry concerns pertaining to

such testimony? Should we expect a jury of ordinary citizens

to be able to decipher commercial and professional evidence

and the assorted technicalities in applying the reasonable

person standard? Karl Llewellyn was one who believed that the

judge and jury are not equipped to handle this extension of

the objectivity of interpretation of contracts. He believed

85 | P a g e

that the notion of reasonableness in a specific trade or

profession would best be served through the use of expert

arbitrators or the use of a merchant tribunal. The idea of a

merchant tribunal to assist the courts in making an informed

judgment of mercantile facts was never adopted. If our quest

in contract interpretation is to find the understanding of the

parties or to determine commercial reasonableness, then such

expert judging would seem to make a good deal of sense.

INTEGRATION CLAUSE

In contract law, an integration clause, or merger clause

(sometimes, particularly in the United Kingdom, referred to as

an entire agreement clause) is a term in the language of the

contract that declares it to be the complete and final

agreement between the parties. It is often placed at or

towards the end of the contract.

Effect:

In the United States, the existence of such a term

is normally not conclusive proof that no varied or

additional conditions exist with respect to the

performance of the contract beyond those that are in the

writing but instead is simply evidence of that fact.

86 | P a g e

A contract that has such a clause may be deemed an

integrated contract, and any previous negotiations in

which the parties to the contract had considered

different terms will be deemed superseded by the final

writing. However, many modern cases have found merger

clauses to be only a rebuttable presumption.

Sample clause:

"This Agreement, along with any exhibits,

appendices, addendums, schedules, and amendments hereto,

encompasses the entire agreement of the parties, and

supersedes all previous understandings and agreements

between the parties, whether oral or written. The parties

hereby acknowledge and represent, by affixing their hands

and seals hereto, that said parties have not relied on

any representation, assertion, guarantee, warranty,

collateral contract or other assurance, except those set

out in this Agreement, made by or on behalf of any other

party or any other person or entity whatsoever, prior to

the execution of this Agreement. The parties hereby waive

all rights and remedies, at law or in equity, arising or

which may arise as the result of a party’s reliance on

87 | P a g e

such representation, assertion, guarantee, warranty,

collateral contract or other assurance, provided that

nothing herein contained shall be construed as a

restriction or limitation of said party’s right to

remedies associated with the gross negligence, willful

misconduct or fraud of any person or party taking place

prior to, or contemporaneously with, the execution of

this Agreement."

CONTRACTS OF ADHESION

The concept of the contract of adhesion originated in

French civil law, but did not enter American jurisprudence

until the Harvard Law Review published an influential article

by Edwin W. Patterson in 1919. It was subsequently adopted by

the majority of American courts, especially after the Supreme

Court of California endorsed adhesion analysis in 196243.

For a contract to be treated as a contract of adhesion, it

must be presented on a standard form on a "take it or leave

it" basis, and give one party no ability to negotiate because

of their unequal bargaining position. The special scrutiny

43 See Steven v. Fidelity & Casualty Co., 58 Cal. 2d 862, 882 n.10 (1962) (explaining history of concept).

88 | P a g e

given to contracts of adhesion can be performed in a number of

ways:

If the term was outside of the reasonable expectations of

the person who did not write the contract, and if the

parties were contracting on an unequal basis, then it

will not be enforceable. The reasonable expectation is

assessed objectively, looking at the prominence of the

term, the purpose of the term and the circumstances

surrounding acceptance of the contract.

Section 211 of the American Law Institute's Restatement

(Second) of Contracts, which has persuasive though non-

binding force in courts, provides:

Where the other party has reason to believe that the

party manifesting such assent would not do so if he

knew that the writing contained a particular term,

the term is not part of the agreement

This is a subjective test focusing on the mind of the

seller and has been adopted by only a few state courts.

The doctrine of unconscionability is a fact-specific

doctrine arising from equitable principles.

Unconscionability in standard form contracts usually

89 | P a g e

arises where there is an "absence of meaningful choice on

the part of one party due to one-sided contract

provisions, together with terms which are so oppressive

that no reasonable person would make them and no fair and

honest person would accept them."

CONTRA PROFERENTEM

Contra proferentem is a rule of contractual

interpretation which provides that an ambiguous term will be

construed against the party that imposed its inclusion in the

contract – or, more accurately, against (the interests of) the

party who imposed it. The interpretation will therefore favor

the party that did not insist on its inclusion. The rule

applies only if, and to the extent that, the clause was

included at the unilateral insistence of one party without

having been subject to negotiation by the counter-party.

Additionally, the rule applies only if a court determines the

term to be ambiguous, which often forms the substance of a

contractual dispute.

It translates from the Latin literally to mean "against

(contra) the one bringing forth (the proferens)."

90 | P a g e

The reasoning behind this rule is to encourage the

drafter of a contract to be as clear and explicit as possible

and to take into account as many foreseeable situations as it

can.

Additionally, the rule reflects the court's inherent

dislike of standard-form take-it-or-leave-it contracts also

known as contracts of adhesion (e.g., standard form insurance

contracts for individual consumers, residential leases, etc.).

The court perceives such contracts to be the product of

bargaining between parties in unfair or uneven positions. To

mitigate this perceived unfairness, legal systems apply the

doctrine of contra proferentum; giving the benefit of any

doubt in favour of the party upon whom the contract was

foisted. Some courts when seeking a particular result will use

contra proferentum to take a strict approach against insurers

and other powerful contracting parties and go so far as to

interpret terms of the contract in favour of the other party,

even where the meaning of a term would appear clear and

unambiguous on its face, although this application is

disfavoured.

91 | P a g e

Contra proferentum also places the cost of losses on the

party who was in the best position to avoid the harm. This is

generally the person who drafted the contract. An example of

this is the insurance contract mentioned above, which is a

good example of an adhesion contract. There, the insurance

company is the party completely in control of the terms of the

contract and is generally in a better position to, for

example, avoid contractual forfeiture. This is a longstanding

principle: see, for example, California Civil Code §1654 (“In

cases of uncertainty ... the language of a contract should be

interpreted most strongly against the party who caused the

uncertainty to exist"), which was enacted in 1872. Numerous

other states have codified the rule as well.

FIVE PRINCIPLES

The law about interpretation of contracts may be summarized

in five principles as given by Lord Hoffman in his speech in

Investor’s Compensation Scheme vs. West Bromwich Building

Society44 in what he said,

1. Interpretation is the ascertainment of the meaning which

the document would convey to a reasonable person having

all the background knowledge which would reasonably have44 [1998] 1 W.L.R.896

92 | P a g e

been available to the parties in the situation in which

they were at the time of the contract.

2. The background was famously referred to by Lord

Wilberforce as the ‘matrix of fact’, but this phrase is,

if anything, an understated description of what the

background may include. Subject to the requirement that

it should have been reasonably available to the parties

and to the exception to be mentioned next, it includes

absolutely anything45 which would have affected the way in

which the language of the document would have been

understood by a reasonable man.

3. The law excludes from the admissible background the

previous negotiations of the parties and their

declarations of subjective intent. They are admissible

only in an action for rectification. The law makes this

distinction for reasons of practical policy and, in this

respect only, legal interpretation differs from the way

we would interpret utterances in ordinary life. The

boundaries of this exception are in some respects

unclear. But this is not the occasion on which to

explore them.45 BCCI v. Ali [2002] 1 A.C. 251 at 269

93 | P a g e

4. The meaning which a document (or any other utterance)

would convey to a reasonable man is not the same thing as

the meaning of its words. The meaning of words is a

matter of dictionaries and grammars; the meaning of the

document is what the parties using those words against

the relevant background would reasonably have been

understood to mean. The background may not merely enable

the reasonable man to choose between the possible

meanings of words which are ambiguous but even (as

occasionally happens in ordinary life) to conclude that

the parties must, for whatever reason, have used the

wrong words or syntax (Mannai Investment Co Ltd vs. Eagle

Star Life Assurance Co Ltd)46

5. The ‘rule’ that words should be given their ‘natural and

ordinary meaning’ reflects the common sense proposition

that we do not easily accept that people have made

linguistic mistakes, particularly in formal documents.

On the other hand, if one would nevertheless conclude

from the background that something must have gone wrong

with the language, the law does not require judges to

attribute to the parties an intention which they plainly46 [1997] A.C. 749

94 | P a g e

could not have had. Lord Diplock made this point more

vigorously when he said in Antaios Cia Naviera SA v Salen

Rederierna AB, (The Antaios)47

FRIGALIMENT CASE

A famous case of contract interpretation involved the

judicial attempt to define the word “chicken”. The

Frigaliment importing vs. BNS International48 case illustrates

how a court attempted to define terms in a contract through

its reading of a contract itself and its use of evidence of

prior dealings, course of performance and prayed usage. It

involved an action buyer of fresh, frozen chicken against a

seller for breach of warranty of two sales contracts. In

first contract, newer sale corporation confirmed the sale to

the plaintiff, a Swiss corporation of ‘US Fresh frozen

chicken, Grade A, Government Inspector, 2.5 – 3 lbs each, all

chickens individually wrapped, packed in secured fibre cartons

suitable for export’. The second contract was identical

except for the quantity term. When the initial shipment

arrived in Switzerland, plaintiff found that the birds were

not young chickens suitable for broiling and frying but,

47 [1985] A.C. 191 at 20148 190 F.Supp. 116 (S.D.N.Y. 1960)

95 | P a g e

stewing49 chickens or ‘fowl’. A protest ensued nevertheless; a

shipment of stewing chickens was made under a second contract.

The issue before the court was ‘what is a chicken?’ The

plaintiff argued that chicken means a young chicken suitable

for broiling and frying. The defendant argued that chicken

means any bird of the particular genus that met the contract

specifications on weight and quality including what is called

stewing chicken and the plaintiff pejoratively termed fowl.

Assuming that both parties were acting in a good faith, the

case nicely illustrates Oliver Wendel Holmes remark ‘that the

making of a contract depends not on the agreement of two minds

in one intention, but on the agreement of two sets of external

signs – not on the parties’ having meant the same thing but on

having said the same thing.

Since the word chicken standing alone is ambiguous, the

court turned to the contract first to see whether it offered

any aid to interpretation of the word chicken. The

plaintiff’s agent testified that when asked by the defendant’s

agents ‘what kinds of chickens were wanted’, he received the

answer “any kind of chickens”. The defendant argued that if

49 A long, slow method of cooking where food is cut into pieces and cooked in the minimum amount of liquid, water, stock or sauce. The food and the cooking liquid are served together.

96 | P a g e

the plaintiff were sincere in thinking it was entitled to

young chickens, the plaintiff would not allowed the shipment

under the second contract to go for it. The plaintiff’s next

contention was that there was definite trade usage that

‘chicken’ meant ‘young chicken’. The plaintiff endeavoured to

establish such a trade usage by the testimony of witnesses.

However, one witness stated that a careful businessperson

protected herself by using ‘broiler’ when that was what she

wanted and ‘fowl’ when she wished older birds. Defendant

provided a witness that said that in the trade ‘chicken’ would

encompass all the various classifications of chicken.

Defendant also provided a regulation of the Department of

Agriculture that defined ‘chickens’ as various classes

including ‘Broiler of fryer’ Roaster, Capon, Stag, Hen or

stewing chicken or fowl’. The court ultimately held in favour

of the defendant because the plaintiff failed to meet its

burden of showing that ‘chicken’ was used in the narrower

rather than in the broader sense.

THE IMPORTANCE OF THE FRIGALIMENT CASE

97 | P a g e

The Frigaliment case illustrates the hierarchy of tools

that courts use in interpreting contracts50. The first level

of analysis is to study the language of the contract in order

to determine its meaning. This is sometimes referred to as a

four corners analysis or the plain meaning rule. If the

language is unclear, the court proceeds to the next level of

analysis. It will analyse the relationship between and

actions of the contracting parties by looking at evidence of

‘course of performance’. For example, the post formation

conduct of the parties will be analysed to determine what the

parties believed that the contract meant. If the meaning is

still unclear, the court will study any prior contracts or

dealings between the parties to find a previously established

meaning. The final level of analysis is to imply a meaning

from an outside source such as a trade usage or custom. In

Frigaliment none of these levels of analysis provided a clear

meaning for the word ‘chicken’. The result was that the

plaintiff lost due to the failure to meet its burden of proof

regarding the meaning of the word.

50 For an analysis of the CISG’s gap filling role see, Mark N. Rosenberg, ‘The Vienna Convention: Uniformity in Interpretation for Gap filling – Analysis and Application’, Australia Business Law Rev. 20 (1992): 442.

98 | P a g e

The second and third levels of analysis are referred to

as a totality of the circumstances analysis. The courts often

look to circumstances surrounding the execution of a written

contract to find the parties’ intent. Lord Wilberforce in

Reardon Smith Line Ltd51 defined the totality of the

circumstances analysis as the need in ‘commercial contracts

for the court to know the commercial purpose of the contract

which pre-supposes knowledge of the genesis of the

transaction, background, context, and the market in which the

parties were operating’. The background and context includes

oral negotiations, prior dealing, trade usage and customs.

The common law has long used the reasonable person

standard as an aid in interpreting and enforcing contracts.

The reasonable person standard is a reflection of the totality

of the circumstances analysis because it is often constructed

using the trade usage, customs, and practices of

businesspersons in a particular trade or business. The role

of the reasonable person standard has become more important in

recent years because of the modern innovation of standard

forms. Most of the terms of standard forms are not the

product of negotiations and conscious agreement. The51 [1976] 1 W.L.R. 989.

99 | P a g e

reasonable person is used to interpret the so called fine

print or boiler plate terms – to see if the terms meet the

measure of commercial reasonableness.

Contract interpretation in insurance contracts

Contrast these cases with cases interpreting insurance

policies, which overwhelmingly treat interpretation as a legal

issue. Some of them say so expressly, and a few even

acknowledge the difference in treatment. Some cite the rules

of interpretation for ordinary contracts, but then treat

insurance policy interpretation as a legal issue. Some strain

to find language unambiguous in order to interpret it legally

rather than factually. In these cases, the court’s decision

process is more like statutory interpretation than a fact-

finding inquiry about intent. There are exceptions in which

interpretation of a policy provision is treated as a fact

question, but such cases are few and far between.

Bresee Homes v. Farmers Insurance Exchange52 is

illustrative. At issue there was whether a homebuilder’s

liability policy covered certain claims. The trial court

granted summary judgment for the insurer, ruling that coverage

was excluded under“products-completed operations” exclusion.52 69. 206 P.3d 1091 (Or. Ct. App. 2009).

100 | P a g e

Affirming, the court noted that insurance policy

interpretation is a legal issue and upheld the trial court’s

refusal to consider extrinsic evidence. “Despite ordinary

rules of contract interpretation,” it reasoned, “extrinsic

evidence of the parties’ intent is not part of the

interpretation of an insurance policy under Oregon law.”53

Instead, the court reached its conclusion based on a review of

the dispositive language, other related provisions in the

policy, and citation to Webster’s Dictionary to show the

terms’ ordinary meaning.

At issue in West American Insurance Co. v. Prewitt, 54 a

federal district court case, was whether a homeowner’s policy

covered the insured’s liability for damaging his friend’s

boat. The insured was steering the boat when it ran aground,

and the insurer argued that coverage was excluded for property

damage “to property rented to, occupied or used by or in the

care of the ‘insured.’” The court found no fact disputes;

thus, the question of coverage turned on the meaning of the

words “used by” and “in the care of” in the policy. The court

first looked to the language’s plain meaning, citing

5372. Id. at 1095 (quoting Employers Ins. of Wausau v. Tektronix, 156 P.3d 105, 117 (Or. Ct. App. 2007)). 54 74. 401 F. Supp. 2d 781 (E.D. Ky. 2005).

101 | P a g e

dictionary definitions, then reviewed cases interpreting

similar provisions. Concluding that the policy plainly

excluded coverage, the court granted summary judgment for the

insurer.

Aerojet-General Corp. v. Commercial Union Insurance Co.55

offers an example of a court purporting to apply “ordinary

rules of contractual interpretation,” but then using an

interpretive process that is much different from that for

ordinary contracts. The plaintiff in Aerojet settled

environmental litigation and sought coverage for the

settlement under various policies. The insurers denied

coverage, arguing that the policies only obligated them to pay

“damages,” not settlement payments. The trial court granted

summary judgment for the insurers and the appellate court

affirmed. The court began by stating that interpretation of an

insurance policy is a question of law. It further explained:

“While insurance contracts have special features, they are

still contracts to which the ordinary rules of contractual

interpretation apply. The fundamental goal of contractual

interpretation is to give effect to the mutual intention of

the parties.”55 155 Cal. App. 4th 132 (Cal. Ct. App. 2007).

102 | P a g e

Next, the court discussed what happens if insurance policy

language is ambiguous. “If an asserted ambiguity is not

eliminated by the language and context of the policy, courts

then invoke the principle that ambiguities are generally

construed against the party who caused the uncertainty to

exist (i.e., the insurer) in order to protect the insured’s

reasonable expectation of coverage.”56

Indeed, the court’s resolution of the issue is utterly unlike

ordinary contract interpretation. Rather than looking to

evidence such as testimony about what the parties intended,

the court looked to case law and the purpose of excess

liability policies. “There can be no dispute,” the court

concluded, “that the term ‘damages,’ as interpreted in

Powerine I and used in liability insurance indemnity

provisions, means only money ordered by a court to be paid.”

Thus, a contradiction. If the court were applying ordinary

contract interpretation rules, it would submit the

interpretation of ambiguous language to the jury, not construe

it as a matter of law. These cases are typical. When

interpreting insurance policies, courts do not look to

testimony about intent or evidence of negotiations. They56 Id. (quoting Powerine Oil Co., 118 P.3d at 598).

103 | P a g e

interpret insurance policy provisions much the way they

interpret statutes, in light of the language’s plain meaning,

its context and purpose, and case law.

Ambiguity in Insurance Policies

Perhaps the best evidence that courts treat insurance policies

differently from ordinary, negotiated contracts is the way

insurance cases deal with ambiguity. Under ordinary contract

principles, if contract language is ambiguous the parties may

introduce extrinsic evidence to aid in its interpretation, and

resolving the ambiguity is a fact question. But this rarely

happens in insurance cases. When an insurance policy provision

is deemed ambiguous, courts resolve the ambiguity themselves,

frequently by invoking the rule that construes insurance

policy provisions against the insurer. One recent case noted

this difference in treatment: “Unlike other contracts where

ambiguous language creates a fact question, insurance policies

are analyzed with a presumption in favor of coverage.”

Haworth v. Jantzen8557 is illustrative. At issue was whether a

farm and ranch policy provided liability coverage for an

accident the insured caused while driving his pickup, which

was insured under a separate auto policy. The trial court held57 85. 172 P.3d 193 (Okla. 2006).

104 | P a g e

that the policy unambiguously excluded coverage. The appellate

court, however, found the applicable language to be

“conflicting, confusing, and ambiguous.”

Emphasizing that the interpretation of an insurance policy is

a legal question, the court described how such a provision

must be interpreted:

When an insurance contract provision is ambiguous, words of

inclusion will be liberally construed in favor of the insured,

and words of exclusion will be strictly construed against the

insurer. In construing an ambiguity or uncertainty against the

insurer and in favor of the insured, Oklahoma looks to the

objectively reasonable expectations of the insured to fashion

remedy.

The court did not consider extrinsic evidence, nor ask what

the parties intended. Instead, it applied these principles and

held that coverage was not excluded under the policy.

This is how some courts deal with ambiguity in insurance

policies. Others, in an attempt to preserve the ordinary rule

of ambiguity in insurance cases, strain to find provisions

unambiguous. Ferguson v. Coregis Insurance Co.,58 for example,

involved a dispute over whether the liability limits under a58 527 F.3d 930 (9th Cir. 2008).

105 | P a g e

school’s policy were $2 million or $500,000. In several

places, the policy stated the “general liability limit” as $2

million, but an endorsement to the policy stated that the

liability limits indicated in Idaho Code section 6-924 would

apply, a reference to the $500,000 minimum limits required by

Idaho law. The district court ruled that the policy was

unambiguous, and therefore granted summary judgment for the

insurer. The Ninth Circuit ruled that if the provision were

ambiguous, its meaning would be a question of fact. It then

agreed with the district court that the provision was

unambiguous, but contrary to the district court held that it

unambiguously provided $2 million in coverage rather than

$500,000.

If a district court judge and a Ninth Circuit panel reach

opposite interpretations of the same policy language, can one

honestly call it “unambiguous,” especially where, as in this

case, there are good arguments for both interpretations?

Although disagreement about a provision’s meaning, even among

judges, does not necessarily make it ambiguous, courts appear

far more inclined to find insurance policy language

unambiguous than they do ordinary contract language.

106 | P a g e

They do so because they are trying to square rules of

interpretation designed for ordinary contracts with an

intuition that insurance policies should be interpreted by the

court.

Distinguishing Insurance Policy Interpretation from Other

Issues:

That insurance policy interpretation is a legal issue,

however, does not mean either that fact-finding has no place

in coverage disputes, or that all such disputes can be

resolved on summary judgment. Even when there is no dispute

about what the policy means, there may be jury questions about

its application. These could involve disputes of historical

fact or definition application issues.

For example, in Republic Insurance Co. v. Feilder 59the issue

was whether the intentional act exclusion in a homeowner’s

policy excluded coverage for an assault. The court first

applied case law to explain that the exclusion applies only if

the insured had a subjective, specific intent to injure the

victim. Thus, it interpreted the policy. It then held that

whether the insured intended to injure the victim is a fact

question, and therefore remanded the case for trial on that59 875 P.2d 187 (Ariz. Ct. App. 1994).

107 | P a g e

issue. The dispute over a dispositive historical fact—in this

instance, the mental fact of intent—precluded summary judgment

even though policy interpretation was a legal issue. Haydel v.

State Farm60 offers another example. The insurer there denied

coverage under a father’s umbrella policy for the death of his

son. The policy stated that it covered any relative living in

the insured’s household, and since the insured was divorced, a

question arose whether the son lived in his household.

Reversing summary judgment, the court ruled that whether a

person lives in the insured’s household is a fact question.

“The actual facts supporting the physical aspect of where

Jeremy lived,” it wrote, “are necessary to make a

determination regarding whether coverage exists under the

policy herein.”

The jury in Haydel would have to decide historical facts

involving such things as whether the child had his own room

and how often he stayed at his father’s home. But it also

would have to apply those facts to the term “lives in your

household” to determine whether coverage applies, which is a

question of definition application. The court in Haydel sets

forth a number of criteria to be considered in making that60 934 So. 2d 726 (La. Ct. App. 2006).

108 | P a g e

determination, and perhaps these would be included in a jury

instruction.

Another area where fact-finding intersects with insurance

policy interpretation is in the emerging doctrine of

reasonable expectations. That doctrine varies among

jurisdictions, but its basic premise is that because insurance

contracts are adhesive and rarely read or understood by

consumers, their terms cannot violate a consumer’s reasonable

expectations. But ultimately the application of those

historical facts to the policy language would be a jury

question.

First, there are cases in which a policy provision

violates a particular consumer’s reasonable expectations,

typically because they contradict what a company told the

consumer would be covered. For example, in the New Jersey case

of President v. Jenkins, Reasonable expectations cases fall

generally into three categories.101 a doctor sought coverage

under his malpractice policy for an incident the insurer said

was not covered. The doctor testified regarding his

conversations with the insurance agent, how he understood the

paperwork he received from the insurer, and what he thought

109 | P a g e

the policy meant. The court held that a fact issue as to the

insured’s reasonable expectations precluded summary judgment:

“If the fact finder determines that Dr. Jenkins’s reasonable

expectations were that his ‘claims made’ coverage would begin

on or before January 1, 1998, the Zurich policy must provide

coverage for plaintiffs’ claim that arose on January 3 and 4,

1998.”102 In this kind of case, reasonable expectations is a

jury question because it depends on the case-specific question

of whether the insured had a reasonable expectation contrary

to the policy language.103A second kind of reasonable

expectations case is one in which the court declares a

particular policy provision void because it violates the

reasonable expectations of consumers generally. In the Arizona

case of Philadelphia Indemnity Insurance Co. v. Barerra, Note,

however, that this is not insurance policy interpretation. The

rule of this case permits the insured’s specific expectations

to trump the language of the policy. 61for example, the court

held a driving-under-the-influence exclusion in a liability

policy void under the doctrine of reasonable expectations. Its

ruling was not based on anything particular about the insured

in that case. Rather, the court held that the exclusion was61 21 P.3d 395 (Ariz. 2001).

110 | P a g e

“contrary to the ordinary customer’s reasonable

expectations.”105 In cases such as this, the court makes a

legal determination regarding the validity of policy

language.106 Its ruling depends not on what a particular

consumer thought or was told, but on what the court perceives

reasonable consumers would expect their policies to cover.

In the third kind of case, reasonable expectations is

simply a rule of interpretation that, along with other such

rules (e.g., ambiguous provisions are construed against the

drafter, words are presumed to have their ordinary meaning,

etc.), help the court determine the meaning of a particular

provision.Thus, the rule is applied by the court in its

process of interpreting the policy legally. This brief

discussion only scratches the surface of the still-evolving

reasonable expectations doctrine, but it illustrates how easy

it is to confuse issues of contract interpretation with

related issues,and therefore how important it is to

distinguish them when asking which issues are legal and which

are for the jury.

Insurance Policies Treated Differently

111 | P a g e

The most obvious reason why insurance policies are treated

differently is that they are adhesive. As one court explained:

The rules for construction of ordinary contracts do not differ

from those to be applied to insurance contracts.The seemingly

different rules spring from the fact that the ordinary

contract is negotiated and thus in a sense prepared by both

contracting parties; whereas the insurance contract is not

negotiated and always prepared by the company. The terms of

insurance policies are not negotiated, and not even reasonably

expected to be read or understood by the consumer. Insurance

companies draft their policies with the purpose of covering

certain losses and not covering others, and customers buy the

whole package as a product rather than participating in

contract negotiations. Thus, rules of interpretation that

presume bargaining and assent to all terms do not fit well

with insurance policy interpretation.

A related reason for treating insurance policies differently

is that they are designed to apply in a standardized way to

thousands of consumers, so there is an interest in uniformity

of interpretation. This policy is found in Section 211(2) of

the Restatement, which states that standardized agreements

112 | P a g e

should be interpreted “wherever reasonable as treating alike

all those similarly situated, without regard to their

knowledge or understanding of the standard terms of the

writing. “The best way to promote like treatment for similarly

situated consumers is to treat interpretation as a legal

issue, and treat published decisions on interpretation as

precedent. These unique characteristics of adhesive, mass

contracts justify applying the traditional approach to them,

even though such contracts did not exist when the traditional

approach developed. Indeed, the use of the traditional

approach for adhesive contracts seems to have emerged at a

time when that approach otherwise is waning. But two other

characteristics of insurance policies are consistent with the

original purpose behind the traditional approach. These will

become important when we discuss contract provisions, such as

indemnity language, that are often interpreted legally even

when they are not adhesive.

One is that insurance policies are technical contracts, the

interpretation of which, it could be argued, should not be

left in the hands of untrained lay people. If the traditional

approach treated contract interpretation as a legal issue

113 | P a g e

because uneducated jurors could not be trusted to construe

legal language, and if jurors today are generally more

educated than in the eighteenth and nineteenth centuries, it

might nonetheless be true that some contracts are still too

technical to entrust to juries.

Second, because insurance policy provisions tend to recur—many

policies contain similar provisions—the interests of

predictability and efficiency may justify giving certain

language a consistent interpretation across contracts. As one

commentator explains:

One might justify an exception [to interpreting contracts

factually] for standard form contracts (SFKs), especially

insurance contracts, because these contracts are frequently

the subject of multiple cases, and for contract language that

appears in many contracts (e.g., “time is of the essence”). In

each circumstance the interpretation of contract language in

one case could influence the outcome of a subsequent case, and

so interpretation could be considered general. But in the

great number of contract cases in which the language to be

interpreted is idiosyncratic to the contract at issue, at the

114 | P a g e

level of principle the interpretation question should be

considered one of fact.

Providing a uniform interpretation of certain recurring

language may in some circumstances contravene the intent of

parties who wanted their language to mean something different

from what the case law says it means. But the trade-off is

that contracting parties—in particular, insurance companies

and others who draft adhesive contracts—can use particular

language in reliance on that language having the meaning

ascribed to it by the case law.

Indeed, because insurance policies are interpreted

legally in light of case law, rather than by juries on a

case-by-case basis, insurance companies and consumers

arguably have a reasonable expectation that they will

continue to be treated that way. In this sense, the legal

interpretation of insurance policies is a tautology: the

policies are drafted a certain way because they will be

interpreted legally, and interpreted legally because they

are drafted a certain way. But sound policy reasons

justify this result.

115 | P a g e

Contract Interpretation as Law

For the same reasons that insurance policies are interpreted

legally, other adhesive contracts like credit card agreements

are typically treated the same way.

Badie v. Bank of America62 is illustrative. At issue there

was the enforceability of an alternative dispute resolution

clause the bank sought to add to its standard agreement with

existing customers. The dispute, the court concluded, turned

on the meaning of the “change of terms” provision in the

original account agreements. Noting that the account

agreements were adhesion contracts, the court held that their

interpretation was a legal question, even if the provisions

were ambiguous. “When ambiguities in a standardized contract,

like the account agreement involved here, cannot be dispelled

by application .” of the other rules of contract

interpretation,” the court noted, “they are resolved against

the drafter Though treating interpretation as a legal issue,

the court still referred to its task as “ascertaining the

intent of the parties.” Yet it did not look to the subjective

intent of the parties in that case. Rather, it applied the

“canons of contract interpretation” to rule that “the parties62 113. 79 Cal. Rptr. 2d 273 (Cal. Ct. App. 1998).

116 | P a g e

did not intend that the change of terms provision should allow

the Bank to add completely new terms such as an ADR

[alternative dispute resolution] clause simply by sending out

a notice.” Caldwell v. KFC Corp. In making that ruling, the

court relied on both the words of the agreement and on case

law regarding what it takes to waive one’s right to a jury

trial. 63 illustrates this point in a dispute over the scope of

an arbitration clause in a restaurant employment agreement.

The court deemed the agreement to be a contract of adhesion

and noted that such contracts are construed “according to the

reasonable expectations of the adhering party.” Denying a

motion to compel arbitration, the court held that the

plaintiff/employee “would not have reasonably understood” that

the agreement he signed would require him to arbitrate a

future civil rights or retaliatory termination claim. Again,

there was no discussion about actual intent. Rather, the

question, which the court treated as a legal issue, turned on

what the employee would have reasonably understood.

Courts also frequently interpret indemnity agreements

legally, which is understandable given the similarities

between indemnity and insurance.But this cannot be justified63 117. 958 F. Supp. 962 (D.N.J. 1997).

117 | P a g e

on contract of adhesion grounds because many (if not most)

indemnity agreements are negotiated and applicable only to the

contracting parties. Rather, it is best understood as a

manifestation of the traditional approach, justified by the

complexity and recurring nature of indemnity provisions.

MT Builders, L.L.C. v. Fisher Roofing Inc.,64 a construction

defect case in which a general contractor sought indemnity

from a subcontractor, is illustrative. Affirming summary

judgment for the general contractor, the court first noted

that interpretation of the indemnity provision presented a

legal question. Further, if the provision’s meaning was

“uncertain after consideration of the parties’ intentions, as

reflected by their language in view of surrounding

circumstances, a secondary rule of construction requires the

provision to be construed against the drafter.” The court then

looked to the language of the provision, concluding that it

was a “narrow form” of indemnification that only covers losses

to the extent caused by the indemnitor or someone for whom the

indemnitor is responsible. As authority for that ruling, the

court did not rely on testimony about what the parties

understood their language to mean or other such factual64 197 P.3d 758 (Ariz. Ct. App. 2008).

118 | P a g e

matters. It relied instead on a hornbook and case law

construing identical language. Another example, Nunez v.

American Building Maintenance Co. West,65 involved an

indemnity provision in a janitorial service agreement. Despite

law in the same jurisdiction holding that the interpretation

of an ambiguous contract is a jury question, the court began

its analysis by declaring that “interpretation of contract

terms is a question of law” and “under the rules of

contractual construction, we resolve any ambiguity in the

indemnity clause against the drafter. “The court then analyzed

the indemnity provision at issue in light of a similar

provision in another case and affirmed summary judgment. The

analysis in these cases is like that in insurance cases, and

unlike the fact-based analysis for ordinary contracts. Why?

Courts rarely say so, but there are two reasons that explain

it, which we have already discussed in connection with

insurance policies. First, the courts may have a sense that

indemnity provisions are too technical for juries to

meaningfully understand and interpret. This reasoning harkens

back to the traditional rule.While it may no longer be

necessary (if it ever was) for judges to interpret all written65 190 P.3d 56 (Wash. Ct. App. 2008).

119 | P a g e

contracts, there may still be good reason for them to

interpret the Byzantine legalese of indemnity clauses.

A second reason is that predictability and efficiency are

promoted and litigation is avoided when there is a body of law

that says specific language has a specific legal effect.As one

commentator noted: “A standardized interpretation of

particular written words (e.g., ‘time is of the essence’)

creates a ‘channel’ by which the parties can achieve the

mutual goals, with little risk that intentions will be

frustrated by judicial or jury error.” To illustrate, take the

rule in some states that a general indemnity provision—that

is, one that does not address the effect of the indemnitee’s

negligence—provides indemnity for a loss resulting in part

from the indemnitee’s passive negligence but not its active

negligence. Without that rule, every time an indemnity

provision failed to address the effect of the indemnitee’s

negligence, the finder of fact would have to hear evidence

regarding what those particular parties intended. With it,

contracting parties know in advance how their language will be

interpreted.

120 | P a g e

Some cases do treat the interpretation of indemnity

provisions as a fact issue. But this means the effect of

indemnity language depends on a jury’s evaluation of extrinsic

evidence in any particular case. Thus, a lawyer could lift

indemnity language directly from the case law, use that exact

language in different contracts, and those provisions could

have different meanings in different lawsuits. Interpreting

such provisions legally prevents this result.

While indemnity clauses are probably the most common kind of

non-adhesive provision subject to legal interpretation, a

variety of others are frequently treated the same way.

Examples include rights of first refusal, force majeure

clauses, a “waiver of subrogation” provision,and a “notice and

opportunity to cure” provision. These provisions share the

characteristics of being both technical and recurring. Cases

interpreting them tend to compare the provision at issue to

similar provisions in other cases, rather than the kind of

evidence-based quest for intent one finds in other contract

disputes.

Glick v. Chocorua Forestlands L.P.,66 136 for example, involved

the interpretation of a right of first refusal provision.66 949 A.2d 693 (N.H. 2008).

121 | P a g e

Rather than focusing on what the parties to that particular

provision intended, the court analyzed the contract language

and context, and looked to case law interpreting similarly-

worded provisions. A different court approached a force

majeure provision in an oil and gas lease the same way in

Moore v. Jet Stream Investments.67 Noting that the clause “will

be interpreted based on the plain, ordinary, and generally

accepted meaning of the language,” the court interpreted the

provision legally, supporting its interpretation with

citations to other cases interpreting similar provisions.

The provisions like these “law-guided” because their drafting

and interpretation is guided by an existing body of law. The

policy reasons for interpreting such provisions legally,

though rarely articulated, are the same as those for indemnity

provisions: complexity and predictability. One court’s

explanation of its ruling in a subrogation case makes this

point:

The majority of jurisdictions have interpreted this clause as

a bar, finding the purpose of this waiver of subrogation

provision was, in conjunction with the other contractual

provisions, to allocate risks and costs among the parties to67 261 S.W.3d 412 (Tex. App. 2008)

122 | P a g e

the contract. This construction promotes certainty as to the

liability of the parties to these standard contracts, reduces

litigation, avoids work interruptions and protects the

contracting parties from loss by bringing all property damage

claims under the owner’s all-risk builder’s policy. The

argument against this approach is that it places what courts

think language should mean above what the parties to a

particular contract intended it to mean. The trade-off,

however, is predictability, and courts that interpret law-

guided provisions legally are in large part doing so to

promote that value.

Yet while it is fair to conclude that most courts treat the

interpretation of insurance policies and indemnity clauses as

a legal issue, there is no discernable pattern for law-guided

provisions. Ultimately, each jurisdiction has to determine

whether any such provision, when negotiated, should be treated

the same way as ordinary contracts and interpreted by the jury

when ambiguous, or whether policy reasons warrant treating

their interpretation legally.

I do not represent the foregoing to be a survey of all cases

or jurisdictions; far from it. But the cases cited are

123 | P a g e

representative enough to suggest that the answer to the

question “is contract interpretation a legal issue or a fact

issue?” is “sometimes one, sometimes the other.”

The challenge is to articulate the principle by which to

make this distinction. A rule that says “contract

interpretation is a question of law” is overbroad because it

does not account for the many cases in which the intended

meaning of ordinary, negotiated contracts is a fact question.

A rule that says “contract interpretation is a question of

fact” is overbroad because it ignores the many contract

provisions that are interpreted legally. There has to be a

rule to tell us when contracts are interpreted legally and

when factually.

The next Section takes a stab at articulating such a rule.

It first discusses two approaches courts have used to

distinguish when contracts are interpreted legally and when

factually, and concludes that neither is adequate. It then

proposes a rule that, consistent with the above discussion,

makes the choice between legal interpretation and factual

interpretation dependent on the nature of the contract or

provision at issue.

124 | P a g e

The correct rule should be clear by now. The

interpretation of ordinary, negotiated contracts is a

question for the trier of fact, the interpretation of

adhesion contracts is a legal question for the court, and

the interpretation of certain law-guided provisions is

also a legal question. Thus, who interprets a contract

depends on the nature of the contract or provision at

issue.

Under this rule, there are lots of easy cases.

Insurance policies and credit card agreements are always

interpreted legally because they are adhesive. Ordinary

contract provisions unique to the parties are interpreted

factually, unless the language is unambiguous, in which

case summary judgment or judgment as a matter of law

would be appropriate.

Law-guided provisions that are not adhesive present harder

cases.If a particular jurisdiction declares that “the

interpretation of an indemnity provision is a legal question

that we review de novo,” it has declared such provisions to be

law-guided and therefore always interpreted legally

irrespective of ambiguity. But if there is no such ruling as

125 | P a g e

to a particular provision—a right of first refusal, for

example—then the court has a decision to make. Does it want to

subject such provisions to the modern approach and submit

their interpretation to juries? Or does it believe

considerations of predictability or competence justify an

exception to the modern rule for such provisions?

Undoubtedly, some jurisdictions are more generous than others

in referring contract interpretation to juries. It is also

conceivable that some courts would find the modern approach

appropriate for even law-guided provisions and adhesion

contracts. But if a court is going to interpret some contracts

legally and others factually, and it is committed to

principled decision making, it should be able to articulate a

reasoned basis for the difference in treatment.

Interpretation of Interstate commerce contracts

When a contract has contacts with more than one state, it is a

contract in interstate commerce, and it is necessary to

determine which state’s law governs the contract.  The rules

that govern that decision are called the law of conflicts of

law.  The parties may specify the jurisdiction whose law is to

govern.  If that jurisdiction bears a reasonable

126 | P a g e

relationship to the contract, the choice will be given effect

by the Court.

Assuming there is no choice of law in the contract, the law of

the state where the contract is made determines whether or not

the contract is valid.  Matters regarding the performance of

the contract, for example, damages for nonperformance or

defenses for nonperformance, are generally governed by the law

of the state where the contract is to be performed.  An

example of performance would be where a contract was made in

Mississippi to sell cotton to a Tennessee merchant.  If the

contract provided that delivery was to be made in Tennessee

with payment made in Tennessee, the contract would be

performed in Tennessee.

The state in which the contract is made is determined by

finding the state in which the last act essential to the

formation of the contract was performed.  For example, if I

send a contract signed by me to someone in Tennessee with the

request that they sign the contract if the terms are

acceptable, the signing of the contract in Tennessee would be

the last act necessary for the formation of the contract and

would therefore be considered a Tennessee contract.

127 | P a g e

The modern trend, when no provision is stated in the contract

as to which state’s law will apply, is to apply the center of

gravity rule.  Under this rule, the court will choose to

follow the law of the state which has the most significant

relationship to the parties, the contract, and its

performance.  The courts consider the place where the contract

was made, where the negotiations occurred, where the

performance was made, the location of the subject matter of

the contract (e.g., land location), the residence of the

parties, and the states of incorporation and principal place

of business if a corporation is involved.

128 | P a g e

CHAPTER 4

LEGISLATIONS ON

CONTRACT

INTERPRETATION

129 | P a g e

There are lot of regional and international instruments on

contract interpretation. Some are directly speaks on

interpretation and some acts as a tool for interpretation. Let

us see about some national and international instruments on

contract interpretation.

INDIAN ACT

Section 2(h) of Indian Contract Act, 1872 under the

Interpretation clause defines the term ‘Contract’ as ‘an

agreement enforceable by law’. Section 10 of Indian Contract

Act, 1872 answers the question ‘What agreements are contracts’

as ‘All agreements are contracts if they are made by the free

consent of parties competent to contract, for a lawful

consideration and with a lawful object, and are not hereby

expressly declared to be void. Nothing herein contained shall

affect any law in force in India, and not hereby expressly

repealed, by which any contract is required to be made in

writing or in the presence of witnesses, or any law relating

to the registration of documents.

RULING IN INDIA REGARDING INTERPRATION OF CONTRACT

130 | P a g e

While interpreting a commercial contract, a broader

outlook has to be attempted and care should be taken to avoid

an artificial and unrealistic approach in the matter of the

understanding the meaning and purpose of such documents. In

such case, the Courts should occupy the chair of the

contracting parties and reasonably understand their minds and

intents. If after such an approach the instrument still

presents circumstances which the conscience of the reasonable

and prudent person cannot accept and if ex facie68 the terms

are so unconscionable, illegal and designed to avoid or evade

law, then only the doctrine of public policy will intervene,

and will not implement such bargains69.

UNITED NATIONS CONVENTION ON CONTRACTS FOR THE INTERNATIONAL

SALE OF GOODS, 1980

Article 7&8 of the aforementioned act defines interpretation

of contract in the following manner:

Article 7

(1) In the interpretation of this Convention, regard is

to be had to its international character and to the

68 On the face of it69 Kamala Sugar Mills Ltd., v. Ganga Bischen Bhajan Singh AIR 1978 Mad 178

131 | P a g e

need to promote uniformity in its application and the

observance of good faith in international trade.

(2) Questions concerning matters governed by this

Convention which are not expressly settled in it are to

be settled in conformity with the general principles on

which it is based or, in the absence of such

principles, in conformity with the law applicable by

virtue of the rules of private international law.

Article 8

(1) For the purposes of this Convention statements made

by and other conduct of a party are to be interpreted

according to his intent where the other party knew or

could not have been unaware what that intent was.

(2) If the preceding paragraph is not applicable,

statements made by and other conduct of a party are to

be interpreted according to the understanding that a

reasonable person of the same kind as the other party

would have had in the same circumstances.

(3) In determining the intent of a party or the

understanding a reasonable person would have had, due

consideration is to be given to all relevant

132 | P a g e

circumstances of the case including the negotiations,

any practices which the parties have established

between themselves, usages and any subsequent conduct

of the parties.

Article 8 of the Convention on Contracts for the International

Sale of Goods (CISG) furnishes the rules to be followed in

interpreting the meaning of any statement or other conduct of

a party which falls within the scope of application of the

Convention. This provision may serve as one of the most

important guidelines for the purpose of the future European

Civil Code. While drafting Art. 8 the UN Commission on

International Trade Law had to face and reconcile conflicting

theories about the fundamental nature of the process of

contracting (subjective or objective method of

interpretation). UNCITRAL built Art. 8 relying and the

subjective approach (Paragraph 1 – interpretation is to be

based on a speaker’s “intent”, but only “where the other party

knew or could not have been unaware” of that intent). Article

8 Paragraph 2 introduces objective method of interpretation

(“statements made by and other conduct of a party are to be

interpreted according to the understanding that a reasonable

133 | P a g e

person of the same kind as the other party would have had in

the same circumstances”). The latter provision is used only

when Paragraph 1 is not applicable.

Article 8 Paragraph 1 applies to two different situations.

First of all, it will determine the content of the agreement,

when one party clearly expresses his intent and the other

party is actually or supposedly aware of it (at the conclusion

of the agreement the intention of the former becomes the

common intention of both parties). Secondly, Art. 8(1) will

apply, when the acting party does not express his intent in an

unambiguous and clear way but the addressee is aware of the

real intent. Paragraph 1 has its roots in the approach taken by

the creators of BGB – “wirkliche Wille” of a communicating

party should be the main factor determining the meaning of the

wording of the agreement. The criterion of a “reasonable

person” in Article 8(2) is taken over from the common law

system. This provision protects the party who attributes a

reasonable understanding to the other party’s condition. It

also places an obligation on the parties to communicate in a

clear way because the doubts are to be resolved against the

one who prepares communication (the drafters of the CISG

134 | P a g e

adopted the contra proferentem rule). Even though, Paragraph 2

is created as the supplementary mean of interpretation (only

when Paragraph 1 is not applicable), the meaning of the

majority of contracts will be determined according to the

objective standard of interpretation (almost always when

parties are involved in controversy as to their common

intent).

The CISG does not specifically address the issue of extrinsic

evidence and the Parole Evidence Rule. However, Article 8

Paragraph 3 states that all relevant circumstances of the

case, including the negotiations, any practices the parties

have established between themselves, usages and subsequent

conduct of the parties can be taken into consideration when

assessing the intent of the parties. The leading case on the

Parole Evidence Rule in connection to Article 8 Paragraph 3 of

the CISG was decided by the United States Court of Appeals

(Eleventh Circuit). 70 In MCC-Marble v. Ceramica Nuova

D’Agostino the court underlined the major difference between

the standard of interpretation applied in the common law

system and the approach adopted in Art. 8 of the CISG

70 MCC-Marble Ceramic Center, Inc. v.Ceramica Nuova D’Agostino, S.P.A., 144 F.3d 1384 (1998).

135 | P a g e

(“Contrary to the result of the objective approach which is

familiar practice in United States courts, the CISG appears to

permit a substantial inquiry into the parties' subjective

intent, even if the parties did not engage in any objectively

ascertainable means of registering this intent.”). The court

concluded that under Art 8(3) parole evidence is admissible

and may have a crucial importance for the determination of the

common intention of the parties (“Moreover, article 8(3) of

the CISG expressly directs courts to give due consideration to

all relevant circumstances of the case including the

negotiations to determine the intent of the parties. article

8(3) is a clear instruction to admit and consider parol

evidence regarding the negotiations to the extent they reveal

the parties' subjective intent.”.

Article 8 of the CISG combines the elements of subjective and

objective methods of interpretation. The court is obliged to

start the process of interpretation by establishing the intent

of an individual party (Art. 8 does not refer to the common

intention of the parties). If there is no indication as to the

“real intention” of the party, the court has to use the

objective criterion of an understanding that a reasonable

136 | P a g e

person would attribute to the statements and conduct of the

party to the contract, in the equivalent circumstances.

Paragraph 3 lists the auxiliary means of interpretation and

(not directly) allows the use of the extrinsic evidence while

determining the meaning of a contract (parol evidence is

admissible)71.

UNIDROIT PRINCIPLES OF INTERNATIONAL COMMERCIAL CONTRACTS

Article 1.6 of the aforementioned the act states that,

(1) In the interpretation of the principles, regard is

to be had their international character and to their

purpose including the need to promote uniformity in their

application.

(2) The issues within the scope of these principles but

not expressly settled by them or as far as possible to be

settled in accordance with their underlying general

principles.

(3) It is also stated that in the preamble that these

principles may be used to interpret or supplement

international uniform law instruments.

71 http://www.elsa.org/fileadmin/user_upload/elsa_international/PDF/SPEL/SPEL04_1_MOSKWA.pdf-accessed on 1.9.12

137 | P a g e

Chapter 4 of UNIDROIT principles of international commercial

contracts specifically deals with Interpretation as follows

ARTICLE 4.1 – Intention of the parties

(1) A contract shall be interpreted according to

the intention of the parties.

(2) If such an intention cannot be established, the

contract shall be interpreted according to the

meaning that reasonable persons of the same kind as

the parties would give to it in the same

circumstances.

ARTICLE 4.2 – Interpretation of statements and other conduct

(1) The statements and other conduct shall be

interpreted according to that party’s intention if

the other party knew of that intention.

(2) If the preceding paragraph is not applicable,

such statements and other conduct shall be

interpreted according to the meaning that a

reasonable person of the same kind as the other

party would give to it in the same circumstances.

ARTICLE 4.3 – Relevant circumstances

138 | P a g e

In applying Articles 4.1 and 4.2, regard to

circumstances, including

(a) preliminary negotiations between the

parties;

(b) practices which the parties have

established between themselves;

(c) the conduct of the parties subsequent to

the conclusion of the contract;

(d) the nature and purpose of the contract;

(e) the meaning given to terms and expressions

in the trade concerned;

(f) usages.

ARTICLE 4.4 – Reference to contract or statement as a

whole

Terms and expressions shall be interpreted in the

light of the whole contract or statement in which they

appear.

ARTICLE 4.5 – All terms to be given effect

Contract terms shall be interpreted so as to give

effect to all the terms rather than to deprive some of

them of effect.

139 | P a g e

ARTICLE 4.6 – Contra proferentem rule

If contract terms supplied by one party are unclear,

an interpretation against that party is preferred.

ARTICLE 4.7 – Linguistic discrepancies

Where a contract is drawn up in two or more language

versions which are equally authoritative there is, in

case of discrepancy between the versions, a preference

for the interpretation according to a version in which

the contract was originally drawn up.

ARTICLE 4.8 – Supplying an omitted term

(1) Where the parties to a contract have not agreed

with respect to a term which is important for a

determination of their rights and duties, a term

which is appropriate in the circumstances shall be

supplied.

(2) In determining what is an appropriate term

regard shall be had, among other factors, to

(a) the intention of the parties;

(b) the nature and purpose of the contract;

(c) good faith and fair dealing;

(d) reasonableness

140 | P a g e

THE PRINCIPLES OF EUROPEAN CONTRACT LAW 1998

The following article deals with the Interpretation and

Supplementation concerning Contract Law,

Article 1.106 (ex art. 1.104)

(1) These Principles should be interpreted in accordance

with their purposes. In particular, regard should be

had to the need to promote good faith and fair

dealing, certainty in contractual relationships and

uniformity of application.

(2) Issues within the scope of these Principles but not

expressly settled by them are so far as possible to be

settled in accordance with the ideas underlying the

Principles. Failing this, the legal system applicable

by virtue of the rules of private international law is

to be applied.

The following article deals with the meaning of certain

terms relating to the contract which may be useful in

interpreting a contract.

Article 1.301 (ex art. 1.105) - Meaning of Terms

(1) In these Principles, except where the context

otherwise requires:

141 | P a g e

(1) 'act' includes omission;

(2) 'court' includes arbitral tribunal;

(3) an 'intentional' act includes an act done

recklessly;

(4) 'non-performance' denotes any failure to perform an

obligation under the contract,

(5) A matter is 'material' if it is one which a

reasonable person in the same situation as one party

ought to have known would influence the other party in

its decision whether to contract on the proposed terms

or to contract at all.

(6) 'Written' statements include communications made by

telegram, telex, telefax and electronic mail and other

means of communication capable of providing a readable

record of the statement on both sides

UNITED NATIONS CONVENTION ON THE USE OF ELECTRONIC

COMMUNICATIONS IN INTERNATIONAL CONTRACTS 2005

Article 5 of convention defines interpretation of contracts on

the use of electronic communication in International level.

1. In the interpretation of this Convention, regard is

to be had to its international character and to the

142 | P a g e

need to promote uniformity in its application and

the observance of good faith in international trade.

2. Questions concerning matters governed by this

Convention which are not expressly settled in it are

to be settled in conformity with the general

principles on which it is based or, in the absence

of such principles, in conformity with the law

applicable by virtue of the rules of private

international law.

INTERPRETATION IN ENGLISH LAW 72

Once it is established which terms are incorporated into an

agreement, their meaning must be determined. Since the

introduction of legislation regulating unfair terms, English

courts have become firmer in their general guiding principle

that agreements are construed to give effect to the intentions

of the parties from the standpoint of a reasonable person.

This changed significantly from the early 20th century, when

English courts had become enamoured with a literalist theory

72 en.wikipedia.org/wiki/English_contract_law

143 | P a g e

of interpretation, championed in part by Lord Halsbury73. As

greater concern grew around the mid-20th century over unfair

terms, and particularly exclusion clauses, the courts swung to

the opposite position, utilising heavily the doctrine of

contra proferentem. Ambiguities in clauses excluding or

limiting one party's liability would be construed against the

person relying on it. In the leading case, Canada Steamship

Lines Ltd v R74 the Crown's shed in Montreal harbour burnt

down, destroying goods owned by Canada Steamship lines. Lord

Morton held that a clause in the contract limiting the Crown's

excluding liability for "damage... to... goods... being... in

the said shed" was not enough to excuse it from liability for

negligence because the clause could also be construed as

referring to strict liability under another contract clause.

It would exclude that instead. Some judges, and in particular

Lord Denning wished to go further by introducing a rule of

"fundamental breach of contract" whereby no liability for very

serious breaches of contract could be excluded at all75. While

73 Lovell & Christmas Ltd v Wall (1911) 104 LT 85, Lord Cozens-Hardy MR stated, "itis the duty of the court… to construe the document according to the ordinary grammatical meaning of the words used therein."74

75 Curtis v Chemical Cleaning and Dyeing Co [1951] 1 KB 805, Harbutt’s Plasticine Ltd v Wayne Tank Pump Co Ltd [1970] 1 QB 47 and Photo Production Ltd v Securicor Transport Ltd [1980] AC 827

144 | P a g e

the rules remain ready for application where statute may not

help, such hostile approaches to interpretation76 were

generally felt to run contrary to the plain meaning of

language77. Reflecting the modern position since unfair terms

legislation was enacted78, the most quoted passage in English

courts on the canons of interpretation is found in Lord

Hoffmann's judgment in ICS Ltd v West Bromwich BS79. Lord

Hoffmann restated the law that a document's meaning is what it

would mean

(1) To a reasonable person

(2) With knowledge of the context, or the whole matrix of fact

(3) Except prior negotiations

(4) And meaning does not follow what the dictionary says but

meaning understood from its context

(5) And the meaning should not contradict common sense.

The objective is always to give effect to the intentions of

the parties80. While it remains the law for reasons of

litigation cost81, there is some contention over how far

76 Holier v Rambler Motors Ltd [1972] 2 QB 71,77 George Mitchell (Chesterhall) Ltd v Finney Lock Seeds Ltd [1983] QB 284, and also Ailsa Craig Fishing Co Ltd v Malvern Fishing Co Ltd [1981] UKHL 12 78 Lord Wilberforce in Rearden Smith Lines Ltd v Hansen Tangan [1976] 1 WLR 98979 [1998] 1 WLR 89680 HIH Casualty and General Insurance Ltd v Chase Manhattan Bank [2003] UKHL 681 Chartbrook Ltd v Persimmon Homes Ltd [2009] UKHL 38

145 | P a g e

evidence of prior negotiations should be excluded by the

courts. It appears increasingly clear that the courts may

adduce evidence of negotiations where it would clearly assist

in construing the meaning of an agreement82. This approach to

interpretation has some overlap with the right of the parties

to seek "rectification" of a document, or requesting from a

court to read a document not literally but with regard to what

the parties can otherwise show was really intended83.

INTERPRETATION OF CONTRACT IN NEWZEALAND:

The debate over the approach to the interpretation of

contracts seemed to have settled down somewhat and that the

New Zealand courts were following the established approach to

ascertaining the intention of the parties to the contract as

exemplified by the judgments in the Court of Appeal in Potter

v Potter84. In Wholesale Distributors v Gibbons Holdings

Limited,85  where the Court of Appeal reversed the High Court

(with Chambers J dissenting) on the construction of a covenant

given by an assigned to a lessor, the Supreme Court granted

leave and heard the appeal over a year ago.  In the Court of

82 Oceanbulk Shipping & Trading SA v TMT Asia Ltd [2010] UKSC 4483 Frederick E Rose (London) Ltd v William H Pim Jnr & Co Ltd [1953] 2 QB 45084 [2003] 3 NZLR 145; [2005] 2 NZLR 1(PC); [2004] UKPC 4185 For the Court of Appeal decision, see, [2006] 2 NZLR 27

146 | P a g e

Appeal the majority reached its construction of the covenant

by applying an approach which focused heavily on what they saw

as the purpose of the arrangements.  It would seem that the

Supreme Court is likely to make some observations in relation

to the principles governing the interpretation of contracts on

this appeal, and, in particular, in relation to the relevance

(if any) to questions of construction of the parties conduct

after the contract has been entered into.

 Lord Nicholls, a Law Lord, has said that pre-contract

negotiations expressing the intention of the contracting

parties should be admitted, where they assist in arriving at

the meaning of the agreement between the parties, and, that

conduct, subsequent to the contract, should also be admitted

to assist in construing a contract. This all suggests that we

do not appear to have seen the last of developments in this

area.  It seems inevitable that the very difficult of the task

of ascertaining meaning in any context means  that the Courts

will continue to consider how best to approach the question of

interpreting the intentions of parties to an agreement.

147 | P a g e

The decision of the Court of Appeal in Gulf Corporation

Ltd v Gulf Harbour Investments Ltd86 in which the Court of

Appeal held, by a majority, that a letter which purported to

accept an offer contained in an option, was not an acceptance

of the offer because it did not comply with the terms of the

offer.  All the judges applied the principle in Reporoa Stores

Ltd v Treloar87 that there had to be strict compliance with the

terms of the offer in the option for there to be a binding

contract.  McGrath J dissented on the outcome of the

application of the test and found that, construed in the

commercial context, the letter did amount to an unequivocal

acceptance of the offer. Leave was granted to appeal to the

Supreme Court but the appeal was subsequently abandoned.

INCOTERMS

INCOTERMS are a set of three-letter standard trade terms most

commonly used in international contracts for the sale of

goods. First published in 1936, INCOTERMS provide

internationally accepted definitions and rules of

interpretation for most common commercial terms. In the US,

86 [2006] 1 NZLR 21

87[1958] NZLR 177 (CA)

148 | P a g e

INCOTERMS are increasingly used in domestic sales contracts

rather than UCC shipment and delivery terms.

INCOTERMS inform the sales contract by defining the respective

obligations, costs and risks involved in the delivery of goods

from the Seller to the Buyer.

INCOTERMS by themselves DO NOT:

Constitute a contract;

Supersede the law governing the contract;

Define where title transfers; nor,

Address the price payable, currency or credit terms.

These items are defined by the express terms in the sales

contract and by the governing law.

INCOTERMS 2010 are grouped into two classes:

1. TERMS FOR ANY TRANSPORT MODE

EXW - EX WORKS (... named place of delivery)-The

Seller's only responsibility is to make the goods

available at the Seller's premises. The Buyer bears

full costs and risks of moving the goods from there to

destination.

149 | P a g e

FCA - FREE CARRIER (... named place of delivery)-The

Seller delivers the goods, cleared for export, to the

carrier selected by the Buyer. The Seller loads the

goods if the carrier pickup is at the Seller's

premises. From that point, the Buyer bears the costs

and risks of moving the goods to destination.

CPT - CARRIAGE PAID TO (... named place of

destination)-The Seller pays for moving the goods to

destination. From the time the goods are transferred to

the first carrier, the Buyer bears the risks of loss or

damage.

CIP - CARRIAGE AND INSURANCE PAID TO (... named place

of destination)-The Seller pays for moving the goods to

destination. From the time the goods are transferred to

the first carrier, the Buyer bears the risks of loss or

damage. The Seller, however, purchases the cargo

insurance.

DAT - DELIVERED AT TERMINAL (... named terminal at port

or place of destination)-The Seller delivers when the

goods, once unloaded from the arriving means of

transport, are placed at the Buyer's disposal at a

150 | P a g e

named terminal at the named port or place of

destination. "Terminal" includes any place, whether

covered or not, such as a quay, warehouse, container

yard or road, rail or air cargo terminal. The Seller

bears all risks involved in bringing the goods to and

unloading them at the terminal at the named port or

place of destination.

DAP - DELIVERED AT PLACE (... named place of

destination)-The Seller delivers when the goods are

placed at the Buyer's disposal on the arriving means of

transport ready for unloading at the names place of

destination. The Seller bears all risks involved in

bringing the goods to the named place.

DDP - DELIVERED DUTY PAID (... named place)-The Seller

delivers the goods -cleared for import - to the Buyer

at destination. The Seller bears all costs and risks of

moving the goods to destination, including the payment

of Customs duties and taxes.

151 | P a g e

2. MARITIME-ONLY TERMS

FAS - FREE ALONGSIDE SHIP (... named port of shipment)-

The Seller delivers the goods to the origin port. From

that point, the Buyer bears all costs and risks of loss

or damage.

FOB - FREE ON BOARD (... named port of shipment)-The

Seller delivers the goods on board the ship and clears

the goods for export. From that point, the Buyer bears

all costs and risks of loss or damage.

CFR - COST AND FREIGHT (... named port of destination)-

The Seller clears the goods for export and pays the costs

of moving the goods to destination. The Buyer bears all

risks of loss or damage.

CIF - COST INSURANCE AND FREIGHT (... named port of

destination)-The Seller clears the goods for export and

pays the costs of moving the goods to the port of

destination. The Buyer bears all risks of loss or damage.

The Seller, however, purchases the cargo insurance.

152 | P a g e

CHAPTER 5

CONCLUSION

153 | P a g e

THE PROBLEM OF WORDS

This is the most difficult area for most people. It is

difficult for three reasons:

When we start talking words in contracts we find

ourselves dealing, not just with law, but with lawyers.

Lawyers are very good at words. Just as accountants are

very good at sums, lawyers are good at writing things

down. Because they are good at words, they can scare

people.

It is all too easy to get the words wrong. As Winston

Churchill once said words are tricky little because’.

English is a very flexible language, with lots of words

that have two or more different meanings.

We are not very good at quality control when we deal with

words.

THINGS TO LOOK OUT FOR

1. The terms of the contract can be of different kinds –

conditions, warranties and innominate, or intermediate, terms.

The law here is rather confusing.

154 | P a g e

2. Words and grammar – it is all too easy to say something

different to what we wanted to say.

3. Organising the contract properly – to avoid unnecessary

mistakes.

THE ROLE OF TERMS

CONDITION

The word ‘condition’ can be used in contracts in two ways.

Firstly it can mean one of the terms of the contract, as

opposed, for example, to the specification. Secondly, in

lawyers’ view, it can mean a particular type of contract term.

This second meaning is what concerns us here. The condition is

a major promise, a significant term of the contract. If the

party that has made that promise fails to carry it out, the

other party is entitled either to claim damages for the

failure to comply, or to terminate the contract and claim the

damages as well. The damages claimable will be all of the

losses that the injured party can prove that he has suffered

as a direct result of the breach.

WARRANTY

The warranty (also lawyers’ jargon) is a less important

promise, a minor term of the contract. If the party that has

155 | P a g e

made that promise fails to carry it out, the injured party is

entitled to claim damages for the losses that he has suffered

as a result, but will not be allowed to terminate the

contract. He must live with the contract as performed.

INNOMINATE OR INTERMEDIATE TERM

An Innominate or Intermediate Term is neither a condition nor

a warranty, but has elements of both. In such a case a serious

breach of the term would entitle the injured party to

terminate and/or claim damages, whereas a minor breach would

permit only a claim for damages.

TERMS IN PRACTICE

As you can see already the only practical differences between

the three types of term is in the rights the injured party

will have against the other if there is breach of contract.

All three give the injured party the right to claim damages.

The problem is when a contract can be terminated.

Of course the usual commercial solution is to avoid argument

by simply including a ‘termination clause’ in the contract

conditions, allowing for termination of the contract in the

case of any breach of the terms of the contract which is not

remedied by the party at fault within a reasonable period.

156 | P a g e

Traditionally English law recognised only conditions and

warranties. This meant that whenever there was a dispute about

whether a contract had been properly terminated for breach or

not the judge always had to decide whether a contract clause

was a condition or a warranty.

There was, and is, no hard and fast rule. Whether any

particular term of the contract is a condition or a warranty

will depend upon the words used in the contract. Some promises

are almost automatically conditions, such as delivery date or

that the goods should comply with the specification. Then the

contract may make a particular clause a condition – ‘it is a

condition of this contract tha’ – and so on. Although this

applied to the majority of cases there are one or two cases in

which judges held that terms of the contract stated to be

conditions were not really conditions but merely warranties,

with no right of termination for breach. All of these cases

however concerned slightly unusual contracts. In the standard

purchase/procurement situation it is reasonably safe to say

that if a clause in the contract is stated to be a condition

then it will be.

157 | P a g e

Often when a judge decides a case he will say something like

‘Applying the well-known principle of interpretation that … it

is clear that the contract means ’ There are literally dozens

of principles of interpretation applied by the courts when

they interpret documents, and it is impossible to state or

discuss them all here. Some apply particularly to special

kinds of documents such as leases or legislation. Many however

apply to contracts.

Principles of interpretation are important because they

demonstrate how the judge/lawyer approaches a contract. The

judge will pick whichever principle suits his purpose, and use

it to justify his decision.88

You will see that there is a common theme running through

them, that the commercial company must live by the words that

it uses. Therefore it is vitally important for the commercial

company to get the words correct. In practice far too many

disputes turn upon the interpretation of ‘incorrect’ words

used in the contract. Some of the more important principles

are given here.

‘The construction of a contract is a matter of law. The

meaning of words is a matter of fact.’ In other words the88 www.eis.mdx.ac.uk/ncpm/Contract%20Interpretation.pdf

158 | P a g e

judge has the right to impose his meaning on the contract

words, using the factual meaning/definitions of those

words in grammatical and dictionary terms.

For the purpose of the construction of a contract the

parties mean the words they have used.’ If you say

something that is different to what you intended to say

you will have to live with the consequences, unless of

course both parties are agreed that the words should be

changed.

‘The words of the contract shall have their precise but

ordinary everyday meaning.’ ‘Bit’ means a piece part or

small quantity.

‘The words of the contract must be read in a way that

ensures the technical effectiveness of the contract.’

‘Bit’ means a drill bit and so on.

‘The words must be interpreted in the way they were

understood by the parties at the time they made the

contract.’ Colloquial meanings can apply.

The intentions of the parties must be ascertained from

the language they have used, considered in the light of

the surrounding circumstances and the object of the

159 | P a g e

contract, so far as that has been agreed or proved.’ You

have to live with what the contract actually says, not

what you wanted to say, but failed or forgot to say.

The court will generally adopt an objective approach. It

will consider what would have been the intention of

reasonable persons in the position of the parties to the

contract.’ This is because that is what the other party

has a right to expect

Where the words of a contract have a clear meaning that

meaning must apply.’

‘Preliminary contract drafts and preparatory negotiations

may not in general be used to interpret a contract. But a

previous agreement may be relied upon to interpret a

later contract made pursuant to it.’ Because we may

change our minds during negotiations.

‘Where a contract is made wholly in writing no other

terms can apply.’

In any case where a contract is based upon a model form

of contract the court is reluctant to disturb the

established interpretation.’ But the judge may interpret

160 | P a g e

modifications to the model terms against the party that

wrote them into the contract.

‘The words of the contract should be construed in their

grammatical and ordinary sense except to the extent that some

modification is necessary to avoid inconsistency or

absurdity.’

‘Words will always be given the meaning that they had at the

time that the contract was signed. If meanings change later on

that will not affect the meaning of the contract.’

‘It is permissible (and almost normal practice) to be

prepared to imply terms into a consumer contract. The

presumption however is against implying terms into written

contracts. The more complete and detailed the written contract

the harder it is to imply a term into that contract. If a term

is to be implied into a commercial contract, it has to be one

that is so obvious that neither party would have objected at

the time.’ Very few terms can be taken as read in commercial

contracts.

Then two principles of major importance:

‘The only term that is always implied into a written

commercial contract is that neither party shall prevent the

161 | P a g e

other party from performing its side of the contract and that

where performance of the contract cannot take place without

the cooperation of both parties, then cooperation shall be

forthcoming.’ Preventing the other side from carrying out its

work is breach of contract Where a contract does not expressly

or by necessary implication fix a time for the performance of

any contractual obligation the law implies that it shall be

performed within a reasonable time.’

The decision of the House of Lords ICS Ltd v West Bromwich

Building Society89 [1998] 1 WLR 896 , a new approach to

contract interpretation. No longer were Courts bound to uphold

interpretations of contracts which the parties could not have

intended. Instead, Courts were tasked to ascertain the meaning

a “document would convey to a reasonable person having all the

background knowledge which would reasonably have been

available to the parties …” (ICS at 912). The High Court of

Australia has since adopted the ICS approach to contract

interpretation: Pacific Carriers Ltd v BNP Paribas90 and Toll

(FGCT) Pty Ltd v Alphapharm Pty Ltd 91 

89 [1998] 1 WLR 89690 [2004] HCA 3591 [2004] HCA 52 at [40].

162 | P a g e

Since Lord Hoffmann’s restatement of the approach to

commercial interpretation in ICS, Australian Courts have

accepted that ambiguity is not required before a Court can

resort to background materials to discern the meaning that

parties to a contract intended.  In Franklins Pty Ltd v

Metcash Trading Ltd92, in referring to the decision in ICS,

Giles JA (with whom Campbell JA agreed at [305]), stated that:

“I agree that, as the law has developed, it is not necessary

to find ambiguity in the words of a written contract before

going to context and purpose in the construction of a

contract.”

 In the present instance, the Letter Agreement between Jireh

International and WES recorded the terms of an arrangement

with some informality. Particularly in cases where an

agreement has been recorded informally, a Court should avoid

seeking to apply a plain meaning rule to the construction of

an agreement. The observations of Moore Bick LJ in Ravennavi

SpA v New Century Shipbuilding Co Ltd93 are pertinent:

 Thus on considering various acts in the world, most of the

acts in the world have their own provisions regarding contract

92 [2009] NSWCA 40793 [2007] 2 Lloyds Rep 24 at [12]

163 | P a g e

interpretation including India; however it’s not vast as in

unidroid principles as well as English law. However we have an

interpretation clause in our act. Most of the acts gave much

important to the plain meaning. One of the judgments in India

is saying that a judge should feel himself like party to

contract and interpretate in that way. Thus every act is

saying that on interpretation intention is much important. The

only difference is that for statues intention of legislators

should be noted, but for contracts intention of parties should

be checked. That is the basic concept of contract

interpretation

In light of the objective to determine the mutual intent of

the parties at the time the contract was entered into, a court

may disregard written provisions in the contract that through

fraud, mistake, or accident cause the contract to fail to

express the true mutual intention of the parties. To avoid

ambiguity, contra proferentum rule should be applied. This

rule states that where two different meanings can equally well

be ascribed to certain words in the contract, the meaning to

be adopted is the one that is least favourable to him who

wrote the offending words. This was followed in many countries

164 | P a g e

in interpreting the contract. However in India we have much to

go in this field.

165 | P a g e

BIBLIOGRAPHY

PRIMARY SOURCES:

1. Indian contract act, 1872

2. English contract law

3. UN Convention on Contracts for International Sale of

Goods, 1980

4. UNIDROIT Principles of International Commercial Contracts

5. Principles of European Contract Law, 1988

6. UN Convention on the use of Electronic Communication 2005

7. The English Unfair Contract Terms Act of 1977

8. American Law Institute's Restatement (Second) of

Contracts

9. California Civil Code, 1872

SECONDARY SOURCES

1. Digest of cases on Law of Contract-Ashok Soni-Universal

Law Publishing Co. Pvt. Ltd

2. Law and Interpretation-Andrei Marmor-Clarendon Paperbacks

3. Contract & Specific Relief-Tenth Edition-Avatar Singh-

Eastern Book Company

166 | P a g e

4. Principles of European Contract Law-Reinhard Zimmerman-

Kluwer Law International

5. The Interpretation of Contracts-Kim Lewison-Sweet &

Maxwell Ltd

6. Law of international contracting-Diametto

WEBLIOGRAPHY

1. http://www.lexisnexis.com/lawschool/study/outlines/html/

contracts/contracts01.htm

2. http://www.scribd.com/doc/36258453/Contracts-Outline

3. http://vlbr.net/wp-content/uploads/2011/02/3-Warner.pdf

4. http://www.west.net/~smith/interpret.htm

5. http://contracts.lawyers.com/contracts/Contract-

Interpretation.html

6. http://www.craddock.com.au/Document/

The+modern+approach+to+contract+interpretation.aspx

7. https://www.msu.edu/~block/documents/

Week6ContractInterpretationandPastPractice.ppt?

iframe=true&width=95%&height=95%

8. www.elsa.org/fileadmin/user_upload/.../SPEL04_1_MOSKWA.pdf

9. www.contracts.uselegal.com/interpretation-of-contracts

167 | P a g e

10. www.contracts.lawyers.com/contracts/contracts-

interpretation.html

11. http://en.wikipedia.org/wiki/Interpretation_(canon_law)

168 | P a g e