Contract interpretation update: Supreme Court considers relevance of pre-contractual negotiations

Friday 30 June 2017

Authors: Tim Fitzgerald, David Friar and Kirsty Dobbs

​​When can pre-contractual negotiations be taken into account when interpreting a contract? Does it make a difference if the contract appears clear on its face, or if it is a contract that third parties will join or rely on?

These are fundamental questions for contracting parties, but in New Zealand the answers are often unclear, and can be different to those of other Commonwealth countries.

The Supreme Court had the opportunity to consider each of these questions in yesterday's decision in Lakes International Golf Course Management Limited v Vincent​. While it did not provide many definitive answers, it did provide guidance which suggests a further evolution of the New Zealand approach.

The case

Lakes International concerned a covenant registered against the title of a residential property in the Lakes Resort in Pauanui. The covenant required the owner to join and meet all levies imposed by the "Golf Club". "Golf Club" was defined as:

​​"the golf club to be incorporated as an incorporated society to provide for playing rights on the golf course"

No incorporated society was ever formed. Instead, the developer incorporated a company. The company purported to be the "Golf Club" for the purposes of the covenant, and attempted to impose levies on the homeowners. They refused to pay on the basis that the company could not possibly have been the "Golf Club", because that Golf Club had to be an incorporated society.

The High Court sided with the company. The Court of Appeal sided with the homeowner. Ultimately, so did the Supreme Court. It held that the definition was clear on its face. The parties had agreed that only an incorporated society could be a "Golf Club" for the purposes of the covenant.

Can the Court take into account extrinsic material if the contract is otherwise clear?

The homeowners sought to bolster their position by reference to documents that the company had produced before entering into the contract which suggested that it had in fact intended for the Golf Club to be an incorporated society. The company disagreed, arguing that these documents were irrelevant to the meaning of the contract.

The Supreme Court held that it did not need to fully consider when extrinsic material is relevant, because "the meaning of the definition of "Golf Club" is crystal clear", and so there was no "genuine issue of interpretation".

Although the Supreme Court decided not to consider the issue in detail, its approach is itself is an evolution of the previous position. The trend in New Zealand since Vector Gas Limited v Bay of Plenty Energy Limited has been to interpret contracts by reference to all material reasonably available to the parties, regardless of whether the agreement appeared clear on its face. The Supreme Court's view that the "crystal clear" clause meant that extrinsic material was irrelevant appears to signal a departure from that approach.

What if third parties will rely on the contract?

The covenant in this case was not simply a clause in a contract – it was a covenant registered against the homeowners' title. That highlights a particularly difficult issue. Can the Court consider extrinsic material if the document will be relied on by third parties who could not reasonably have had access to that material? As well as registered instruments, this issue arises whenever a contract is likely to be assigned, or is formed by the acceptance of offers to the public, or is customarily relied on by third parties (e.g. bills of lading). On one hand, it is unfair to interpret a contract by reference to material that one party, or some future party, had no knowledge of. On the other hand, it is problematic to say that the Court should ignore otherwise relevant material in a dispute between the original parties, and even more problematic to say that the contract should mean different things depending on whether it has been assigned or made public.

The Supreme Court acknowledged these conceptual difficulties, but decided that it did not need to determine the issue in this case. However, it did confirm that, whatever the correct answer, extrinsic material cannot possibly be relevant in the circumstances of the case, which were (in summary):

  • It relates solely to one party's subjective intentions, and those intentions are of "no practical moment" to the other party,

  • The other party was not aware of the material at the time it entered into the contract, had no means of accessing the material, and had no reason to make inquiry into the relevance of such material.

The lessons

More than seven years after the Vector Gas case, the law on pre-contractual negotiations remains unsettled. Although the trend for much of that time has been towards including material reasonably available to both parties, overseas developments and some extra-judicial commentary have suggested that the stage might be set for a return to a more text-based approach. Although it would have been helpful to have a more definitive ruling, it appears that the Court's comments in Lakes International may signal a move in that direction.

The Lakes International case also provides a useful reinforcement of existing rules which are clear in principle, but which are not always consistently applied in practice. In particular:

  • Material which is relevant only to the subjective intention of one party ought not to be taken into account when interpreting a contract, and

  • Material which was not reasonably available to the other party at the time of contracting cannot to be taken into account.

This will usually mean that 'internal' emails which are not communicated to the other side are not relevant, even if they clearly indicate what the contracting party really meant.1


1 Although they may be relevant for other purposes – e.g. applications of “rectify” a written contract, or if there is an allegation of mistake.​


Disclaimer

This publication is necessarily brief and general in nature. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.

For more information
  • Tim Fitzgerald

    Partner Auckland
  • David Friar

    Partner Auckland
  • Kirsty Dobbs

    Senior Associate Wellington
Related areas of expertise
  • Litigation and dispute resolution