Contractual Construction: Surrounding Circumstances and the Ambiguity Gateway

The Hon Justice Kenneth Martin of the Supreme Court of Western Australia  presented the following paper at the Thomsons Contract Law Seminar on 20 June 2013 in Perth.

In Codelfa Construction Pty Ltd v State Rail Authority (NSW) (1982) 149 CLR 337 at 352, Sir Anthony Mason (with whom Stephen and Wilson JJ agreed upon the issue of ad hoc implied terms) stated (for Australia) his now famous ‘true rule’ governing the admission of evidence of surrounding circumstances in an exercise of contractual interpretation for a written instrument.  At 149 CLR 352 Sir Anthony observed:

The true rule is that evidence of surrounding circumstances is admissible to assist in the interpretation of the contract if the language is ambiguous or susceptible of more than one meaning.  But it is not admissible to contradict the language of the contract when it has a plain meaning.  Generally speaking facts existing when the contract was made will not be receivable as part of the surrounding circumstances as an aid to construction, unless they were known to both parties, although, as we have seen, if the facts are notorious knowledge of them will be presumed.

Overview

As preliminary remarks, may I observe about Codelfa that:

This was a dual‑aspect appeal.  Codelfa was a construction company that attempted to show the existence in its favour of an implied term as a matter of business efficacy; but Codelfa also contended, in the alternative, that the inner‑city construction contract it had entered into with the State Rail Authority of New South Wales had been frustrated by supervening events limiting permissible working shift hours, hence the contract was ended.  Upon the appeal the ad hoc implied term arguments failed.  The frustration argument, however, succeeded.

Sir Anthony Mason’s classical observations upon contractual construction in Codelfa emerged in the course of his evaluating the ultimately unsuccessful implied term argument.  In assessing the existence of the alleged implied term, said to be necessary to give business efficacy for that particular construction contract (called an ad hoc implied term) Sir Anthony said the court was again embarking upon an exercise in interpretation of the language of a contract, ‘… though not an orthodox instance’:  Codelfa at pages 345 and 353.

A very careful terminological distinction was used by Mason J in Codelfa , as between ‘extrinsic evidence’ and ‘surrounding circumstances’.   The term ‘surrounding circumstances’ appears only to embrace facts.  The term ‘extrinsic evidence’ (see 2.7 below) obviously was of a wider import, capable of embracing concepts beyond mere facts, such as the parties’ subjective intentions, or their communicated verbal negotiations.

A universally accepted principle of contract law in Australia offers something of a safe harbour in what is otherwise an ‘ocean of litigious controversy’, to re‑use Sir Anthony’s metaphor from Codelfa.  This is the objective theory of contract.  The objective theory applies in assessing both the existence and formation of, and then the interpretation of, a contract under Australian law.  In Wilson v Anderson (2002) 213 CLR 401 at 418 [8], Gleeson CJ explained this objectivity principle in reference to commercial contracts:

The law of contract seeks to give effect to the common intention of the parties to a contract.  But the test is objective and impersonal.  The common intention is to be ascertained by reference to what a reasonable person would understand by the language used by the parties to express their agreement.  If the contract is in the form of a document, then it is the meaning that the document would convey to a reasonable person that matters.  The reason for this appears most clearly in the case of commercial contracts.  Many such contracts pass through a succession of hands in the course of trade, and the rights and liabilities of parties other than the original contracting parties are governed by them …  It is only the document that can speak to the third person.

Affirming the objective theory of contract applied under Australian law, see, amongst others, Taylor v Johnson (1983) 151 CLR 422 at 428 ‑ 432; Ermogenous v Greek Orthodox Community of SA Inc (2002) 209 CLR 95 at 105 [25]; Equuscorp Pty Ltd v Glengallan Investments Pty Ltd (2004) 218 CLR 471 at 483 [34]; Pacific Carriers Ltd v BNP Paribas (2004) 218 CLR 451 at 461 [22] and Toll (FGCT) Pty Ltd v Alphapharm Pty Ltd (2004) 219 CLR 165 at 179 [40] ‑ [46].

In Codelfa, Sir Anthony Mason, in that exercise of contractual construction as regards finding implied terms, applied the objective theory.  At CLR 352 he referred to an ‘objective framework of facts within which the contract came into existence, and the parties’ presumed intentions in this setting’.  He explained the objective theory of contract in the following terms:

We do not take into account the actual intentions of the parties and for the very good reason that an investigation of those matters would not only be time consuming but it would also be unrewarding as it would tend to give too much weight to these factors at the expense of the actual language of the written contract.

Codelfa displays the use of an objective approach to contractual construction.  The presumed common intention of parties is ascertained objectively by reference to what ‘reasonable persons’ in the parties’ situations would have intended to convey by the words used.  The objective approach is applicable not only in the orthodox task of contractual interpretation, but also to situations (like Codelfa) where the assessment to be made is as to the existence or otherwise of asserted ad hoc implied terms.

As of 1982, a delimiting ‘parol evidence rule’, applicable to written contracts, was apparently in a better state of health.  In Codelfa at CLR 347, Mason J (before stating the ‘true rule’ of construction five pages later at CLR 352), said:

The broad purpose of the parol evidence rule is to exclude extrinsic evidence (except as to surrounding circumstances), including direct statements of intention (except in cases of latent ambiguity) and antecedent negotiations, to subtract from, add to, vary or contradict the language of a written instrument (Goss v Lord Nugent (1833) 5 B & Ad 58 at 64‑5; 110 ER 713 at 716).  Although the traditional expositions of the rule did not in terms deny resort to extrinsic evidence for the purpose of interpreting the written instrument, it has often been regarded as prohibiting the use of extrinsic evidence for this purpose.  No doubt this was due to the theory which came to prevail in English legal thinking in the first half of [the 20th] century that the words of a contract are ordinarily to be given their plain and ordinary meaning.  Recourse to extrinsic evidence is then superfluous.  At best it confirms what has been definitely established by other means; at worst it tends ineffectively to modify what has been so established.

(my emphasis in bold)

In a recent scholarly article, ‘Contractual interpretation:  A comparative perspective’ (2011) 85 Australian Law Journal 412, the Hon J J Spigelman AC, former Chief Justice of New South Wales, explained the parol evidence rule (at pages 414 and 417), in a contemporary context.  He noted that a number of academic commentators now suggested the parol evidence rule was dead. Expressed views as to the rule’s morbidity seemed to be based on a premise that in going about the work of contractual interpretation, modern courts had moved their emphasis from ‘text to context’, now favouring ‘accuracy and fairness’ over ‘certainty’, and that today a more ‘liberal’ or enlightened ‘modern approach’ to contractual interpretation is applied.

Spigelman explained the parol evidence rule at page 414 in this article in the following way:

The rule has been stated in different ways, but the core principle is that, when parties have reduced their contract to writing, a court should only look to the writing to determine any issue of interpretation.

What remains intriguing about Sir Anthony Mason’s ‘true rule’ as stated in Codelfa at 149 CLR 352, is that there manifests in his reasons something of an irresistible internal inconsistency, as between this rule and his earlier embrace of a number of House of Lords or Privy Council decisions, in which Lord Wilberforce had participated.  Yet in none of the Wilberforce reasons is there any discernible reference by him to the true rule’s stated pre‑requisite of ambiguity ‑ in order for a court to have regard to ‘relevant’ surrounding circumstances which may bear upon the exercise in contractual construction.  Nevertheless, Sir Anthony’s formulation of the ‘true rule’ at 352 clearly stipulates that pre‑requisite.  How he reached that point as to the need for ambiguity is not really made apparent, at least explicitly, prior to page 352.

We now know, of course, from Sir Anthony’s writings after he retired from the High Court, that he regarded his Codelfa ‘true rule’ formulation as having been expressed somewhat ‘imperfectly’.  My colleague Justice James Edelman in recent reasons in Mineralogy Pty Ltd v Sino Iron Pty Ltd [2013] WASC 194, quotes Sir Anthony’s address found in 2009 (25 JCL 1 at page 3), at [121]:

Although the meaning of the words used by Mason J in Codelfa is a matter for posterity, it is noteworthy that Sir Anthony Mason subsequently said that the ‘idea I was endeavouring to express in Codelfa , albeit imperfectly’ was that ‘the extrinsic materials are receivable as an aid to construction, even if, as may well be the case, the extrinsic materials are not enough to displace the clear and strong words of the contract.  Sir Anthony considered that subsequent decisions of the High Court of Australia, including the decision of Toll (FGCT) Pty Ltd v Alphapharm Pty Ltd [2004] HCA 52; (2004) 219 CLR 165, 179 [40], had taken this broad approach …

By The Hon Justice Kenneth Martin, Supreme Court of Western Australia

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