In an ideal world, the wording of contracts would be clear, easy to read and unambiguous. Ambiguity in contracts leads to disputes about the intended meaning or interpretation where one or both parties assert that more than one interpretation is possible. It is an unfortunate fact, however, that despite the efforts of even the best contract drafter, no contract will be perfectly clear, and every contract will contain some ambiguity.
Chief Justice Knox of the High Court of Australia has described this by saying that "experience shows that the words of many, if not most, documents are capable... of more than one meaning." Accordingly, it is essential that ambiguity is managed effectively. For example, special provisions may be inserted into a contract to ensure that in interpreting ambiguous clauses, the meaning which best favours one or other of the contractual parties is the one which is ultimately adopted. This article provides guidance as to how the courts resolve ambiguity and how parties may best manage ambiguity in contracts.
Golden rule
When the courts adjudicate disputes about the meaning of an ambiguous provision, they generally apply the so-called "golden rule".
This rule requires the court to take the following steps:
- Determine the ordinary and natural meaning of the words used in the provision
- Consider the context of the contract, which includes matters such as the purpose of the contract, any "recitals" or "background" clauses, and any other relevant provisions of the contract
- If the ordinary and natural meaning is inconsistent with the context of the contract, or if it gives rise to any absurdities, modify the meaning as appropriate.
The meaning derived by this method, in the vast majority of cases, will be adopted by the courts.
Contra proferentem rule
In a minority of cases, however, the courts will consider that the ambiguity is so great that it cannot be resolved by the above method. In these cases, the courts may resort to the so called "contra proferentem rule". This rule states that the ambiguity should be interpreted against:
- The party who prepared the contract (eg for standard form contracts, which are usually offered on a "take it or leave it"' basis); or
- The party who seeks to rely on the ambiguous provision (eg the beneficiary of a guarantee, indemnity, limitation or exclusion provision).
To illustrate, the head contractor (Contractor X) of construction works might indemnify the principal who commissioned the works (Principal Y) with respect to "any damage" incurred by Principal Y in connection with the carrying out of the building works. Assume that a wall collapsed on a passer by, who sued Principal Y and received an award of damages for personal injury. Principal Y may seek to rely on the indemnity given by Contractor X. Contractor X may dispute that "damage", as opposed to "damages", referred to property damage rather than court-awarded damages. If this dispute were determined by a court, it is likely that Contractor X's interpretation would be adopted. This is because the formulation of the contra proferentem rule requires the word "damage" to be interpreted against the interests of Principal Y, the party seeking to rely on the indemnity.
Contracting out of the contra proferentem rule
In the example given above, a different outcome may have been reached if the contract contained the following provision, or similar:
"In the interpretation of this contract or any part of it, no rule of construction shall apply to the disadvantage of any party on the basis that that party:
- Prepared this contract or any part of it; or
- Seeks to rely on this contract or any part of it."
Such a provision was considered by the Court of Appeal of New South Wales in the case of GL Nederland (Asia) Pty Limited v Expertise Events Pty Limited (1999) NSWCA 62. In that case, a wholesale distributor of jewellery was exhibiting its jewellery at Darling Harbour, Sydney when one of its suitcases containing jewellery was stolen. The distributor sued the organiser of the exhibition (with whom it had a contract) for negligence. The organiser attempted to rely upon a clause in the contract excluding all "responsibility or liability whatsoever for damages to exhibits". (The suitcase of jewellery was found to be an "exhibit".)
The Court of Appeal considered that the meaning of the exclusion clause, although not easy to determine, was unambiguous. Accordingly, there was no scope for the contra proferentem rule to apply. However, Giles JA (Spigelman CJ and Beazley JA agreeing) noted that even if the clause was ambiguous, "I see no reason why the parties should not have agreed, as they did in cl1(e), upon appropriate rules for construction of their contract, including negating the contra proferentem rule." In other words, in this case the judges determined that the parties were free to contract out of the rule by using clauses such as that set out above.
Of course, parties must determine whether or not contracting out of the contra proferentem rule best serves their interests. In the example given above, Contractor X would be well advised to resist any contracting out, because the rule could only work in its favour. Conversely, Principal Y, who seeks to rely on the indemnity, would be advised to negotiate for contracting out of the rule. Similarly, parties who put forward standard form contracts on a "take it or leave it" basis (eg banks, insurers and other large service providers) should, in most cases, seek to contract out of the rule.
Approach in other jurisdictions
The approach taken by the Court of Appeal in the GL Nederland case is consistent with the approach taken by the courts in overseas jurisdictions. In the case of Re Coward; Coward v Larkman (1887) 57 LT 285, Fry LJ of the English Court of Appeal stated that rules of interpretation (including the contra proferentem rule) "point out what a Court shall do in the absence of express or implied intention to the contrary". Bowen LJ in that same case stated that rules of interpretation are mere presumptions which "disappear at once if a contrary intention appears" in the contract. The decisions of their Lordships have been applied by the High Court of Australia (in Nicol v Chant (1909) 7 CLR 569 at 591) and by the Court of Appeal of New Zealand (in Re Lowry's Trust; Logan v Lowry (1948) NZLR 738 at 755).
Conclusion
Parties who prepare contracts or who seek to rely on contractual provisions such as guarantees, indemnities, limitations or exclusions may wish to consider contracting out of the contra proferentem rule. Case authority in Australia, New Zealand and England suggests that such contracting out is possible. Conversely, parties who have not had a large part in preparing a contract, or who grant an indemnity or guarantee under the contract, may wish to resist any such contracting out.
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