The use of extrinsic evidence in aid of construction of a contract, a practical guide

Introduction

In Australian jurisprudence, the objective theory of contract commands the field.

Under that theory the meaning of a contract is to be decided in accordance with what the terms of the contract would convey to a reasonable person in the position of the parties, rather than by reference to the subjective intentions of one, or even both, parties to the contract.

When working out what the terms of the contract would convey to the reasonable person in the position of the parties, it is obviously appropriate to look first to the language by which the parties have chosen to express their bargain. But the question often arises as to the extent to which it is also permissible to have regard to evidence of matters which are extrinsic to the language of the parties’ agreement.

Traditionally the starting point to answering that question has been a consideration of the operation of the parol evidence rule. Where the revealed contractual intention is that the whole of the parties’ agreement is contained in an executed contract document, the parol evidence rule applies to exclude the use of extrinsic evidence in determining the meaning or legal effect of words used in the executed contract document.2

There has always been a pragmatic policy basis for this rule. The House of Lords, for example, has specifically acknowledged3 that “the rule may well mean that parties are sometimes held bound by a contract in terms which, upon a full investigation of the course of negotiations, a reasonable observer would not have taken them to have intended. But a system which sometimes allows this to happen may be justified in the more general interest of economy and predictability in obtaining advice and adjudicating disputes.”

The notion here is that it is unlikely to be an acceptable use of either the parties’ or the Court’s resources for every single dispute which involves some degree of contractual interpretation to devolve into a consideration of the entire course of the negotiations which led up to the execution of the contract. Experience suggests it will usually be the case that the Court would be no better informed at the end of such a process, and the dispute could be justly resolved by reference only to the wording of the contract. The risk of potential injustice in some cases is something which our system of jurisprudence has thus far been prepared to accept.

Nevertheless, Courts have long since recognized that there is more to the task of construction than simply working out the plain and ordinary meaning of the words of the contract. The strict operation of the parol evidence rule has been the subject of a number of exceptions, the principal amongst which was Sir Anthony Mason’s classic statement of principle in Codelfa Construction Pty Ltd v State Rail Authority (NSW) that extrinsic evidence to establish objective background facts which were known to both parties was admissible if the language of the contract was “ambiguous or susceptive of more than one meaning” but not admissible to contradict the language of the contract where it had a plain meaning.

The rule that extrinsic evidence might be admissible only if the language of the contract is ambiguous or susceptive of more than one meaning operates as an initial barrier to the admissibility of extrinsic evidence.

That barrier may well be weakening. As will appear, there are a number of recent decisions in intermediate Courts of Appeal which conclude that ambiguity is no longer a pre-requisite to admissibility of extrinsic evidence. These decisions suggest that the question of what a reasonable person would have understood contractual terms to mean would normally require consideration not only of the text, but also of the surrounding circumstances known to the parties, and the purpose and object of the transaction. And they suggest that this must be so whether or not the text is ambiguous or susceptive of more than one meaning.

If this view becomes established in Australian jurisprudence then the prevalence of attempts to tender extrinsic evidence in aid of construction of contracts may increase.

The goals of this paper are twofold. First, the paper seeks to plot the course of the development of the current controversy and then proceeds briefly to summarize the principal rules governing the reception and use of extrinsic evidence in aid of construction of written contracts. Second, it seeks to point out some procedural courses which can be used to improve the efficient management of the reception and use of such evidence in cases in which its use is proposed.

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Footnotes

1. Paper delivered by John Bond QC to the Bar Association of Queensland Annual Conference, 7 March 2015
2. State Rail Authority of New South Wales v Heath Outdoor Pty Ltd  (1986) 7 NSWLR 170 at 191 per McHugh JA and Nemeth v Bayswater Road Pty Ltd  [1988] 2 Qd R 406 at 413 per McPherson J.
3. Chartbrook Ltd v Persimmons Homes Ltd  [2009] 1 AC 1101 at 1120 [41] per Lord Hoffmann with whom Lord Hope of Craighead, Lord Rodger of Earlsferry and Baroness Hale of Richmond agreed. See also Gladstone Area Water Board v AJ Lucas Operations Pty Ltd  [2014] QSC 311 per Jackson J at [158] quoted at [24] below.