Contract interpretation and legal culture

A drafter should be well aware of the contract interpretation or meaning that will be attributed to contract wording once it comes to court proceedings. International legal cultures as well as some contract interpretation guidelines will be discussed in the light of contract drafting and interpretation. The purpose of this chapter is to increase awareness of the background of different opinions and practices, styles and cultures of contract drafting.

Legal cultures and determinative interpretation factors #

Three main legal traditions. Three approaches to legal practice can be distinguished, each representing the characteristics of the legal culture behind it:

  • The Roman legal culture;
  • The Germanic legal tradition; and
  • most visibly impacting the size of a contract, the common law.

Other legal families. Also other cultures can be identified, such as the Scandinavian ‘family’, the (former) socialist countries, Arab (or Islamic) legal culture, the Hindu tradition and various mixtures: the Scottish and South African legal systems are somewhat of a mixture between common law and civil law; Japanese law has been influenced by both U.S. common law and German law; Turkish law by the Swiss codification of around 1900; Russian law by several European legal systems including the Dutch re-codification of 1992.

Roman and Germanic traditions. In both legal cultures, courts will come to their decisions by reverting to systematic codifications of the law (i.e. a civil or a commercial code), the meaning of which is elaborated on in parliamentary materials, doctrinal opinions and case law. These codifications have a rather abstract character, building on general principles such as ‘good faith’, ‘reasonable’, ‘fair dealing’, ‘justifiable’, ‘duty to co-operate’, which are familiar tools for each lawyer. These principles require that a party exercising its rights under a contract observes standards of proportionality and subsidiary.

In the Roman and Germanic legal traditions, courts are not strictly bound to their precedents and, exceptionally, even able to set aside unfair consequences of a law or regulation. Lawyers from common law jurisdictions would probably reject such source of uncertainty about explicit provisions, but the practical consequences are not as sweeping as it may seem. Remedies in case of breach of contract are not limited and will typically include specific performance or an otherwise effective remedy.

The two legal traditions are fundamentally different as regards contract interpretation (although the difference may seem to be of a philosophical, academic nature rather than of practical meaning). In the Roman legal culture, the rather subjective consensus between the parties is determinative for the scope and nature of the parties’ mutual obligations. This means that not the written contract but the mental, ‘common intentions’ are relevant and that a written agreement is rather a welcomed (but important) piece of evidence.

In the Germanic legal tradition, an objective approach prevails in the interpretation of contracts and legal acts: important is what, under the circumstances, a reasonable and informed person in the same position would deem reflects most accurately how the parties are bound. Also in this approach, the written contract is a good starting point.

Efforts to articulate a common core of European contract law resulted in the following general principle of contract interpretation (CFR):

II. – 8:101: General rules
(1)  A contract is to be interpreted according to the common intention of the parties even if this differs from the literal meaning of the words.
(2)  If one party intended the contract, or a term or expression used in it, to have a particular meaning, and at the time of the conclusion of the contract the other party was aware, or could reasonably be expected to have been aware, of the first party’s intention, the contract is to be interpreted in the way intended by the first party.
(3)  The contract is, however, to be interpreted according to the meaning which a reasonable person would give to it:
(a)  if an intention cannot be established under the preceding paragraphs; or
(b)  if the question arises with a person, not being a party to the contract or a person who by law has no better rights than such a party, who has reasonably and in good faith relied on the contract’s apparent meaning.

II. – 8:102: Relevant matters
(1)  In interpreting the contract, regard may be had, in particular, to:

(a)  the circumstances in which it was concluded, including the preliminary negotiations;
(b)  the conduct of the parties, even subsequent to the conclusion of the contract;
(c)   the interpretation which has already been given by the parties to terms or expressions which are the same as, or similar to, those used in the contract and the practices they have established between  themselves;
(d)  the meaning commonly given to such terms or expressions in the branch of activity concerned and the interpretation such terms or expressions may already have received;
(e)  the nature and purpose of the contract;
(f)   usages; and
(g)  good faith and fair dealing.

(2)  In a question with a person, not being a party to the contract or a person such as an assignee who by law has no better rights than such a party, who has reasonably and in good faith relied on the contract’s apparent meaning, regard may be had to the circumstances mentioned in sub-paragraphs (a) to (c) above only to the extent that those circumstances were known to, or could reasonably be expected to have been known to, that person.

The above CFR articles give a well-balanced principle of contract interpretation, which would even encompass English law. It is fair to say that each European jurisdiction is somehow represented in the expressed concepts and that none is contradicted. Note that the literal meaning of contractual words is not necessarily decisive.

Common law. In the common law systems, vast codifications of private law have never been developed or, at least, they never achieved an authority given to it on the European continent. For the U.S., for example, codifications have been made for corporate law, partnership law, various types of transactions in movable property (embodied in state codifications of the Uniform Commercial Code) and federal topics such as competition law, intellectual property law, arbitration, securities laws and regulations and bankruptcy law (‘Chapter 11′). Subject matters that are not covered by these codifications have often been developed in the common law (i.e. case law). Accordingly, legal concepts such as ‘mistake’ or ‘set-off’ are based on court precedents.

The influence of legal doctrine is, at least in the U.S. state laws, very limited if relevant at all. To state that legal concepts such as ‘good faith and fair dealing’ can be excluded contractually is exaggerated, but to say that the typical common law attorney is well able to appreciate its scope often contradicts practical experience.

Other than in the Roman and Germanic traditions, the default remedy in common law systems is payment (in cash) of damages. Whether or not an injunction or specific performance may be awarded may depend on the adjudicated court, except that parties can always contractually provide for remedies.

Although this is not the place to elaborate on differences between legal systems, it may be helpful to cite a few relevant provisions of the U.S. Restatement (Second) of Contracts, an academic reflection of the mainstream U.S. principles of contract law.

§ 201. Whose meaning prevails
(1)  Where the parties have attached the same meaning to a promise or agreement or a term thereof, it is interpreted in accordance with that meaning.
(2)  Where the parties have attached different meanings to a promise or agreement or a term thereof, it is interpreted in accordance with the meaning attached by one of them if at the time the agreement was made:
(a)  that party did not know of any different meaning attached by the other, and the other knew the meaning attached by the first party; or
(b)  that party had no reason to know of any different meaning at­tached by the other, and the other had reason to know the meaning attached by the first party.
(3)  Except as stated in this Section, neither party is bound by the meaning attached by the other, even though the result may be a failure of mutual assent.

§ 202. Rules in aid of interpretation
(1)  Words and other conduct are interpreted in the light of all the circum­stances, and if the principal purpose of the parties is ascertainable it is given great weight.
(2)  A writing is interpreted as a whole, and all writings that are part of the same transaction are interpreted together.
(3)  Unless a different intention is manifested:
(a)  where language has a generally prevailing meaning, it is interpret­ed in accordance with that meaning;
(b)  technical terms and words of art are given their technical meaning when used in a transaction within their technical field.
(4)  Where an agreement involves repeated occasions for performance by either party with knowledge of the nature of the performance and opportunity for objection to it by the other, any course of performance accepted or acquiesced in without objection is given great weight in the interpretation of the agreement.
(5)  Wherever reasonable, the manifestations of intention of the parties to a promise or agreement are interpreted as consistent with each other and with any relevant course of performance, course of dealing, or usage of trade.

Of course, U.S. state laws may deviate on details, but the key message here is that the differences with European contract laws are not as significant as it may seem.

Statutory guidelines on contract interpretation #

Lawyers like to provide certainty on how a contract must be (and will be) interpreted. For them, several legislatures have provided guidelines for interpreting contracts (or legal acts). Despite the broad consensus that such guidelines are not determinative for a case at hand and no more than some hints for a court, lawyers (and typically from other jurisdictions) have anticipated that the guidelines could nevertheless be detrimental and should therefore be excluded explicitly.

Contra proferentem. The CFR provides guidelines for contract interpretation. This is in particular consistent with the civil codes of France, Italy, Spain and Belgium[11], albeit that all EU member states apply such principles. The main interpretation principles have been stated in the previous paragraph; another well-known one is:

II. – 8:103: Interpretation against supplier of term or dominant party
(1)  Where there is doubt about the meaning of a term not individually negotiated, an interpretation of the term against the party who supplied it is to be preferred.
(2)  Where there is doubt about the meaning of any other term, and that term has been established under the dominant influence of one party, an interpretation of the term against that party is to be preferred.

Even though the authoritativeness may be questioned, the Restatement (Second) of Contracts explains that a similar principle applies in mainstream U.S. contract law:

§ 206. Interpretation against the draftsman
In choosing among the reasonable meanings of a promise or agreement or a term thereof, that meaning is generally preferred which operates against the party who supplies the words or from whom a writing otherwise proceeds.

The lead-in of the first paragraph of Art. II.8:103 (and Restatement § 206) typically refers to the interpretation of general conditions rather than to ordinary course contracts. The second paragraph of Art. II.8:103 emphasises this, where it introduces a preference in case any negotiations were mainly determined by an economically strong party (vis-à-vis a weak counterparty).

Despite this context specific application, the principle has invited many drafters to include a provision expressing that “the parties reviewed and negotiated the entire contract in all its respects” (and accordingly stating or implying that “no provision should be interpreted against the party who drafted it”). Such approach fails to address the real issue: the interpretation rule would first of all only apply to stipulations where there is a (reasonable) doubt about the actual meaning of them.

If there is no such doubt, the stipulation would be enforced. Whether such doubt could exist may well be measured against the main rule: for instance, the fact that the parties are business people and advised by professionals who would be keen to understand each oddly phrased provision. Secondly, the principle effectively says that where two interpretations compete, the party who created the ambiguity should not have the benefit. The phrase is to be preferred emphasises that the drafter may well explain why a certain meaning should prevail (and ´win’ the interpretation discussion).

Similar arguments can be made about a dominant party who drafted a contract provision: such party would insist on the inclusion of a particular provision, notably as regards disclaimers or limitation of liabilities. In those cases, there may also be a hint of abuse of power, which is not supported by the law. Art. II. 8:103 section (2) balances out this dominance: a dominant party should contractually express its impositions carefully. Moreover, the provision may well be seen as the complement of section (1), as it would likely apply to circumstances in which the dominant party even refused to talk about an issue.

Drafting technique: introduce mutuality. The interpretation rules suggest that a very one-sided contract may be highly susceptible of being interpreted against the drafter. A technique to diminish this is to improve the sense of mutuality of the contract provisions. The most obvious example is probably the confidentiality provision in most contracts: despite a clear one-party geared interest in continuing confidentiality, typically, this provision is drafted to apply mutually. Well-known other examples of mutuality are force majeure clauses: although the party that can be affected by an event of force majeure is foreseeably only one of the two, the text of the provision often suggests fairness for both.

Rules prioritising contract interpretation #

A few provisions of the CFR clarify that negotiation of a provision increases its enforceability. This is understandable because the more comprehensive discussions about the ins and outs of a provision were, all the more reluctant a court must be in attributing a meaning, which is not at once apparent. Another important interpretation rule (Art. II. 8:106) is that presumably a contract provision was given a meaning or intended effect. If a provision is ambiguous or contains errors, the mere reliance on such ambiguity or error without further merit should not be protected if another interpretation puts a meaning on it.

II. – 8:104: Preference for negotiated terms
Terms which have been individually negotiated take preference over those which have not.

II. – 8:105: Reference to contract as a whole
Terms and expressions are to be interpreted in the light of the whole contract in which they appear.

II. – 8:106: Preference for interpretation which gives terms effect
An interpretation which renders the terms of the contract lawful, or effective, is to be preferred to one which would not.

The Restatement (Second) of Contracts emphasises other aspects of contract interpretation. Interesting enough, the written terms are not necessarily determinative:

§ 203. Standards of preference in interpretation
In the interpretation of a promise or agreement or a term thereof, the following standards of preference are generally applicable:
(a)  an interpretation which gives a reasonable, lawful, and effective meaning to all the terms is preferred to an interpretation which leaves a part unreasonable, unlawful, or of no effect;
(b)  express terms are given greater weight than course of perfor­mance, course of dealing, and usage of trade, course of performance is given greater weight than course of dealing or usage of trade, and course of dealing is given greater weight than usage of trade;
(c)   specific terms and exact terms are given greater weight than general language;
(d)  separately negotiated or added terms are given greater weight than standardized terms or other terms not separately negotiated.

Altogether, the importance of one interpretation rule or another is yet a matter of judgement and is not inevitably part of the reasoning a court gives. Where the principles revert to different standards, their actual significance may well differ from country to country or even from judge to judge. Again, this probably also appeals to contracting styles: European versus U.S. style.

 

Note: this chapter is also included in the e-book Cross-border contracting – How to draft and negotiate international commercial contracts, written by Weagree-founder Willem Wiggers and published by the ITC (the joint agency of the U.N. and WTO) and downloadable free of charge.

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