Construction of contractual terms

THE USE OF DICTIONARIES
In ascertaining the meaning of words used in legal documents courts will often have recourse to dictionaries. However, in using dictionaries the following points need to be kept in mind. First, a dictionary definition of a word will often provide various shades of meaning to a word. Second, dictionaries published in different countries may give different meanings to words. To overcome this problem, courts will usually use a dictionary published in the country in which the document was made. In Australia, the ‘authorised’ dictionary is generally accepted to be the Macquarie Dictionary.¹³⁰ Third, ‘reference to dictionaries is no substitute for judicial determination of the meaning the parties have given a word or phrase. Dictionaries illustrate usage in general; but the parties’ contract will have its own context … The primary task of a court is to find, not the dictionary meaning, but the meaning as used by the parties in the context of their particular transaction’.¹³¹ Thus, in Southern Equity Pty Limited v Timevale Pty Limited¹³² Brereton J said:
[I]n construing the term in this contract, it must be remembered that one is ascertaining … what a reasonable person in the position of these parties would have understood the provisions of a contract to mean, taking into consideration the purpose and object of the transaction. This is not necessarily the same meaning as is attributed to the words used by dictionaries or by judicial pronouncements in other cases, although those sources will often inform the objective meaning of words used by parties.
In TAL Life Ltd v Shuetrim¹³³ Leeming JA said:
Dictionary definitions may assist in identifying the range of possible meanings a word may bear in various contexts, but will not assist in ascertaining the precise meaning the word bears in a particular context. As much was recognised by a unanimous High Court … in Thiess v Collector of Customs¹³⁴ when observing that a mature and developed jurisprudence does not ‘make a fortress out of the dictionary’. Although the distinction between the dictionary definition of a word and its legal meaning is not often well understood, it is clear that dictionaries are no substitute for the interpretative process.
Parties to transactions will often include within their legal documents ‘private’ dictionaries in the form of definitions of words used in the documentation. In relation to the interpretation of these ‘private’ dictionary definitions, in Perpetual Custodians Pty Ltd v IOOF Investment Management Ltd¹³⁵ Leeming JA (speaking for the Court of Appeal) said:
Lord Steyn has written extrajudicially that ‘[e]ven an agreed definition is of limited use: it takes no account of contextual requirements’.¹³⁶ … Professor McMeel¹³⁷ has written that ‘even defined terms must yield to wider context or contrary intention’. Professor Carter¹³⁸ has said that ‘the absence of [words to the effect “unless the context indicates otherwise”] does not mean that the definition necessarily applies to every usage of the term in the document’. That must in my opinion be correct in principle. The ordinary approach to construction insists on reading the contract as a whole and doing so harmoniously, so as to resolve or minimise internal inconsistency. Foreign to that approach would be a slavish rule that defined terms inevitably bear every aspect of their defined meaning. The contestable nub of the matter is what is sufficient to constitute a displacing context or contrary intention. Owen and Steytler JJ¹³⁹ have said that ‘the deliberate use of defined words is not to be lightly passed over, even where the definition leaves open the possibility of another meaning for a defined phrase’, a proposition whose force I acknowledge.
Similarly, in Black Box Control Pty Ltd v Terravision Pty Ltd¹⁴⁰ the Court of Appeal said that ‘[d]efinitions do not have substantive effect. A definition is not to be construed in isolation from the operative provision(s) in which the defined term is used. Rather, the operative provision is ordinarily to be read by inserting the definition into it’.
THE PAROL EVIDENCE RULE AND THE CONSTRUCTION OF CONTRACTS
The parol evidence rule contains two parts. The first part is concerned with the exclusion of extrinsic evidence that would add to, subtract from or vary or qualify the terms of a written contract. Our concern here is with the second part of the rule which deals with the exclusion of extrinsic evidence that would otherwise assist the court in construing the contract. In its operation relating to the construction of contracts, the parol evidence rule excludes extrinsic evidence of a number of matters that would otherwise be relevant in ascertaining the intention of the parties in relation to the meaning of a written agreement.
Prior negotiations
The parol evidence rule excludes extrinsic evidence of the prior negotiations of the parties.¹⁴¹ The justification for this approach was explained in Prenn v Simmonds¹⁴² where Lord Wilberforce said:
The reason for not admitting evidence of these exchanges is not a technical one or even mainly one of convenience … It is simply that such evidence is unhelpful. By the nature of things, where negotiations are difficult, the parties’ positions, with each passing letter, are changing and until the final document, though converging, are still divergent. It is only the final document that records a consensus … The words used may, and often do, represent a formula which means different things to each side, yet may be accepted because that is the only way to get ‘agreement’ and in the hope that disputes will not arise. The only course then can be to try to ascertain the ‘natural’ meaning. Far more, and indeed totally, dangerous is to admit evidence of one party’s objective — even if this is known to the other party. However strongly pursued this may be, the other party may only be willing to give it partial recognition, and in a world of give and take, men often have to be satisfied with less than what they want. So, again, it would be a matter of speculation how far the common intention was that the particular objective should be realised.
In Globe Motors, Inc v TRW Lucas Varity Electric Steering Ltd¹⁴³ Beatson LJ said that ‘[t]he rationale for the general rule is said to be practical policy and the public interest in economy and predictability in obtaining advice and adjudicating disputes’.
However, although the prior negotiations rule prevents the use of pre-contractual negotiations as evidence of the interpretation of contractual terms, it does not preclude the use of such evidence for the purpose of establishing relevant background facts that were known to the parties. In this respect, in Codelfa Construction Pty Ltd v State Rail Authority of New South Wales¹⁴⁴ Mason J said:
It is here that a difficulty arises with respect to the evidence of prior negotiations. Obviously the prior negotiations will tend to establish objective background facts which were known to both parties and the subject matter of the contract. To the extent to which they have this tendency they are admissible. But in so far as they consist of statements and actions of the parties which are reflective of their actual intentions and expectations they are not receivable. The point is that such statements and actions reveal the terms of the contract which the parties intended or hoped to make. They are superseded by, and merged in, the contract itself. The object of the parol evidence rule is to exclude them, the prior oral agreement of the parties being inadmissible in aid of construction.
The appropriateness of the prior negotiations rule has been recently debated. Writing extrajudicially, Lord Nicholls of Birkenhead¹⁴⁵ has suggested that it should be abolished on the grounds that such a move would: (i) introduce coherence into this area of the law, (ii) make the law more transparent, (iii) conform to current international trends, and (iv) overcome injustices that result from the application of the rule. However, a unanimous House of Lords in Chartbrook Ltd v Persimmon Homes Ltd¹⁴⁶ subsequently rejected these criticisms of the prior negotiations rule and confirmed the authority of Prenn v Simmonds.¹⁴⁷ In Byrnes v Kendle¹⁴⁸ Heydon & Crennan JJ also confirmed the prior negotiations rule.
Spigelman CJ,¹⁴⁹ also writing extrajudicially, has provided reasons for the continuation of the prior negotiations rule. First, its abolition would result in increased costs of conducting commercial activity. Second, the abolition of the rule would expose a third party to the contract who relies on its terms when dealing with one of its parties to increased risk, because he or she is not aware of the prior negotiations, and is thus unable to assess how such negotiations impact on the meaning of the words used. Accordingly, a third party’s understanding of the meaning of the contract is more likely to be at variance with the meaning that is determined with the assistance of evidence of prior negotiations. This would, in his Honour’s view, lead to increased commercial uncertainty and costly arbitration, or judicial proceedings to resolve the inevitable disputes that would arise.
However, in the New Zealand Supreme Court decision in Vector Gas Limited v Bay of Plenty Energy Limited,¹⁵⁰ Tipping and Wilson JJ were in favour of abandoning it, while Blanchard and Gault JJ were inclined to interpret the rule very liberally and to leave it open for later consideration as to whether the rule should be abandoned. McGrath J was the only judge in this case who was in favour of retaining the prior negotiations rule as it was currently understood and applied in Australia and the United Kingdom. In this context McGrath J¹⁵¹ observed
I see no point in New Zealand courts at this stage attempting to put a gloss on the general approach so recently stated by the House of Lords. It is better that the common law of New Zealand in this important field of commerce march in step with settled approaches overseas unless and until very good reasons for departure emerge.
Post-contract conduct
The question as to whether the parol evidence rule excludes evidence of the conduct of the parties subsequent to the entry into the contract has been one that has attracted a divergence of judicial and academic opinions. In Hide & Skin Trading Pty Ltd v Oceanic Meat Traders Ltd¹⁵² Kirby P canvassed various reasons in support of the conflicting views on the admissibility of the subsequent conduct of the contracting parties. In support of excluding evidence of subsequent conduct, his Honour noted that, if post-contract behaviour was taken into account, it could lead a party to tailor such behaviour in order to persuade the other party to accept his or her understanding of the contract or to provide supporting evidence in any subsequent court case between the parties. Furthermore, permitting such evidence would expand the field of enquiry undertaken by a court that would lead to an increase in the length and costs of litigation. On the other hand, the possibility of clear and mutual post-contract conduct that evidences the parties’ original intentions would tend to support the admissibility of such evidence.
In High Court cases such as Farmer v Honan¹⁵³ and Howard Smith & Co Ltd v Varawa¹⁵⁴ there are suggestions that post-contract conduct is admissible in determining the meaning of the contract. On the other hand, other High Court cases such as Maynard v Goode (1926) 37 CLR 529 at 538¹⁵⁵ and Administration of the Territory of Papua New Guinea v Daera Guba¹⁵⁶ suggest that evidence of post-contractual conduct is inadmissible.
More recently, but without any discussion of the issue, the latter approach was endorsed by a bare majority of the High Court in Agricultural and Rural Finance Ltd v Gardiner.¹⁵⁷ The High Court majority’s view is also supported by the Courts of Appeal in New South Wales, Victoria and Western Australia.¹⁵⁸
On the other hand, it can be noted that all members of the Supreme Court in New Zealand in Gibbons Holdings Limited v Wholesale Distributors Limited,¹⁵⁹ after consideration of the issue, supported the view that post-contractual conduct could be taken into account in construing a contract. Thus, Tipping J at 294¹⁶⁰ said:
As a matter of principle, the Court should not deprive itself of any material which may be helpful in ascertaining the parties’ jointly intended meaning, unless there are sufficiently strong policy reasons for the Court to limit itself in that way. I say that on the basis that any form of material extrinsic to the document should be admissible only if capable of shedding light on the meaning intended by both parties. Extrinsic material which bears only on the meaning intended or understood by one party should be excluded. The need for the extrinsic material to shed light on the shared intention of the parties applies to both pre-contract and post-contract evidence. Provided this point is kept firmly in mind, I consider the advantages of admitting evidence of post-contract conduct outweigh the disadvantages. The latter comprise primarily the potential for ex post facto subversion of earlier jointly shared intentions and the lengthening of interpretation disputes by encouraging the parties to produce evidence which is often only tenuously relevant at best.
Later in his judgment, Tipping J¹⁶¹ at 297, said:
If the court can be confident from their subsequent conduct what both parties intended their words to mean, and the words are capable of bearing that meaning, it would be inappropriate to presume that they meant something else.
Exceptions to the parol evidence rule
In the construction of a contract the impact of the parol evidence rule is qualified by a number of exceptions that enable extrinsic evidence to be admitted. The major exceptions to the rule permit the use of extrinsic evidence for the following purposes:
1. to identify the subject matter of the contract in circumstances where the description of the subject matter is uncertain or ambiguous.¹⁶² For example, in White v Australian and New Zealand Theatres Ltd¹⁶³ two theatrical artists were engaged to provide their ‘professional services’ for a theatre company. There was no definition of ‘professional services’ in the contract. Extrinsic evidence was admitted to establish that it included producing the performance, as well as acting in it. It is, however, probably more difficult to introduce extrinsic evidence if the ambiguity relates to the nature or character of the subject matter. Thus, in Hope v RCA Photophone of Australia Pty Ltd¹⁶⁴ extrinsic evidence was not admitted to establish that a lease of ‘electrical sound-reproduction’ equipment meant new, as opposed to second-hand equipment, on the basis that the description was clear to ‘all those who understand the terminology used for the purpose of describing sound-reproducing apparatus’.
2. to show the intention that both parties had in relation to the meaning of a particular ambiguous contractual term.¹⁶⁵ Such cases are sometimes referred to as ‘private dictionary’ cases because the parties have agreed that a word or expression in the express terms of the contract is to have, or not have, a particular meaning.¹⁶⁶
3. to identify the parties to the contract.¹⁶⁷ Thus, in Edwards v Edwards¹⁶⁸ a deed provided for the transfer of property to ‘John Edwards’. There was ambiguity as to whether that description of the transferee referred to the transferor’s father, brother or nephew, as they were all named John Edwards. Extrinsic evidence was admitted to establish that the transferee was the transferor’s brother. In relation to identifying contractual parties, in Lederberger v Mediterranean Olives Financial Pty Ltd¹⁶⁹ the Victorian Court of Appeal said:
Identification of the parties to a contract must be in accordance with the objective theory of contract. That is the intention that a reasonable person, with the knowledge of the words and actions of the parties communicated to each other, and the knowledge that the parties had of the surrounding circumstances, would conclude that the parties had. The process of construction requires consideration not only of the text of the documents, but also the surrounding circumstances known to the parties and the purpose and object of the transaction. This in turn presupposes knowledge of the genesis of the transaction, the background, and the context in which the parties are operating.
4. to establish whether a person’s post-contractual conduct, if it constitutes admissions adverse to his or her interests, shows that a contract, that he or she claims to exist, was formed.¹⁷⁰ In Fazio v Fazio¹⁷¹ Murphy JA said:
Where, however, an informal agreement (oral or inferred) is alleged to have been made on or by a certain date, the conduct of the parties, including conduct subsequent to the postulated date, may be considered in deciding whether a contract has been concluded. Such conduct may be considered for the purpose of inferring not only whether a binding agreement had been reached, but also its subject matter and the identification of its necessary terms.
5. to establish whether a document or clause in a document is a sham.¹⁷²
6. to establish whether a term was incorporated into a contract.¹⁷³ Thus, post-contractual conduct may be admissible as an admission by one party as to the terms of a contract.¹⁷⁴ Also if the contract is oral or party written and partly oral evidence of subsequent conduct can be admitted to establish the terms of the contract.¹⁷⁵
7. to establish whether the remedy of rectification is available.¹⁷⁶
8. post-contractual conduct is admissible ‘for the purpose of showing the meaning of words in ancient documents where the meaning of those words is now obscure’.¹⁷⁷
EXCLUSION CLAUSES AND EXTRINSIC EVIDENCE
In relation to the extent to which extrinsic evidence is admissible, either as an exception to the parol evidence rule or on the view that evidence of prior negotiations and/or post-contract conduct should generally be admissible on questions of the interpretation of contracts, an entire agreement clause is an effective way of preventing such evidence from being so used.¹⁷⁸ Spigelman CJ¹⁷⁹ has noted that ‘a strong argument can be made that such a clause precludes consideration of “surrounding circumstances” external to the document, on the basis that the parties have agreed to do just that’.
However, in Westpac Banking Corporation v Newey¹⁸⁰ Pembroke J said the following:
Nor does an entire agreement clause prevent the identification and resolution of an ambiguity. The usual purpose of such a clause is to prevent reliance on representations, collateral promises and implied terms. If an ambiguity exists, an entire agreement clause cannot rationally prevent resort to the context and mutually known surrounding circumstances to resolve it. I do not accept the view that the inclusion of an entire agreement clause is a means of ‘contracting out of contextualism’.
LEGAL DRAFTING AND THE CONSTRUCTION OF LEGAL DOCUMENTS
The importance of effective legal drafting in minimising the occurrence of cases in which the construction of legal documents is an issue cannot be overstated. In many cases poor legal drafting is the reason why the issue of construction arises for judicial determination. Judges have often commented on the poor quality of drafting.¹⁸¹ In this respect Butt¹⁸² has made the following observation:
Judges have not been reluctant to criticise poorly-drafted, traditionally styled, legal documents … Epithets have included: botched, cobbled-together, doublespeak, absurd, archaic, incomprehensible legal gobbledegook, singularly inelegant, and mind-numbing.
Poor drafting has its impact on the construction of the document. Thus, in Lord Bridge in Mitsu Construction Company Limited v The Attorney General of Hong Kong¹⁸³ Lord Bridge said:
[T]he poorer the quality of the drafting, the less willing the court should be to be driven by semantic niceties to attribute to the parties an improbable and unbusinesslike intention, if the language used, whatever it may lack in precision, is reasonably capable of an interpretation which attributes to the parties an intention to make provision for contingencies inherent in the work contracted for on a sensible and businesslike basis.
Similarly, in Cohen v Teseo Properties Ltd¹⁸⁴ Sales J said:
If the drafting of an agreement is generally poor, it will be harder to conclude on an objective approach that the parties really meant the literal meaning of the words they used to govern and override clear conflicting business common sense.
Much of today’s legal drafting is in a form which is difficult for non-lawyers to understand. In this respect, Butt¹⁸⁵ states:
Legal English … has traditionally been a special variety of English. Mysterious in form and expression, it is larded with law-Latin and Norman-French, heavily dependent on the past, and unashamedly archaic. Antiquated words flourish … Habitual jargon and stilted formalism conjure a spurious sense of precision.
However, some progress is being made towards the use of plain English in legal drafting. This is a trend that is favoured by an overwhelming majority of Australian judges¹⁸⁶ and legal practitioners.¹⁸⁷ A Discussion Paper issued by the Victorian Law Reform Commission¹⁸⁸ provides the following description of what is meant by ‘plain English’:
Plain English is language that is not artificially complicated, but is clear and effective for its intended audience. While it shuns the antiquated and inflated word and phrase, which can readily be either omitted altogether or replaced with a more useful substitute, it does not seek to rid documents of terms which express important distinctions. Nonetheless, plain language documents offer non-expert readers some assistance in coping with these technical terms. To a far larger extent, plain language is concerned with matters of sentence and paragraph structure, with organisation and design, where so many of the hindrances to clear expression originate.
Former High Court justice, Michael Kirby¹⁸⁹ propounds the following 10 commandments for plain language in law, the observance of which he suggest would greatly improve the clarity, vigour and directness of legal writing:

Butt¹⁹⁰ lists the following benefits of using plain English: (i) ease of understanding, (ii) increases in the ‘efficiency’ with which readers absorb and understand legal documents, (iii) the reduction of errors in drafting documents, (iv) the reduction of litigation in relation to the construction of documents, and (v) the reduction of complaints against lawyers.
It can also be noted that legislation may prescribe the use of plain language. For example, s 184 of the National Consumer Credit Protection Act 2009 (Cth) requires various consumer credit contracts to be ‘easily legible’ and ‘clearly expressed’. Furthermore, the consequences of not using plain English may have significant impact on the rights of parties under certain contracts. Thus, ‘whether a consumer was able to understand’ relevant documents is a factor that can be taken into account by a court in determining whether a transaction was unconscionable pursuant to the unconscionability provisions in ss 21 and 22 of the