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CHAPTER 7: CONTRACT
INTERPRETATION
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Chapter 7: Contract Interpretation
Learning Outcomes
• Describe the goal of contract interpretation.
• Distinguish among representations, terms, conditions, and
warranties.
• Explain the parol evidence rule.
• Understand the legal rules relating to exclusion and
penalty clauses.
• Explain the concept of frustration as it relates to contracts,
and distinguish between frustration and impossibility.
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The Goal of Interpretation: Making the
Contract Work
• Contract cases come before the courts because
Parties disagree about the meaning of a term, or
2. A party wants to escape the consequences of a contract
1.
• Courts have developed rules for contract interpretation
• Primary aim in contract interpretation is to give effect to
the intention of the parties
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The Goal of Interpretation: Making the
Contract Work
• Major concepts used by courts in interpreting contracts
include:
• Classifying contract provisions
• Assessing evidence to prove the meaning of a provision
• Interpreting exclusion and penalty provisions
• Determining frustration
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Contract Provisions: Representations,
Terms, Conditions and Warranties
• A representation is a statement made to induce
someone to enter a contract
• It is NOT a part of the contract
• Misrepresentation of a material fact that induces a party to enter a
contract may render the contract void or voidable
• Note: disclaimer clauses limiting liability for pre-contract
representations must be brought to the attention of the contracting
party
• See for example, Hirsh v. duBrule, [2006] A.J. No 1712 (Prov. Ct.)
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Contract Provisions: Representations,
Terms, Conditions and Warranties (cont’d)
• A term is a provision of a contract. Terms fall into two
categories:
1.
2.
Condition: an essential term of a contract, the breach of which
denies the innocent party the benefit of the contract, or defeats
the purpose of the contract
Warranty: a minor term of a contract, the breach of which does
not defeat the contract’s purpose
• Whether the term is a condition or a warranty will affect if
the contract is breached
• It is not always obvious whether a term is a condition or warranty
• See for example, Herron v. Hunting Chase Inc., 2001 ABQB 1134
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The Search for Certainty: The Parol
Evidence Rule, Its Exceptions and
Rectification
• Parol evidence rule: if a contract is in writing and is clear,
no other written or oral evidence is admissible to
contradict, vary, or interpret the agreement
• Where wording is clear, the court will interpret the
agreement without looking at outside evidence
• Where wording is ambiguous, the court may use outside
evidence to interpret the contract (these are exceptions to
the parol evidence rule)
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The Search for Certainty: The Parol
Evidence Rule, Its Exceptions and
Rectification (cont’d)
• Exceptions to the parol evidence rule include:
• Ambiguous contract language
• Essential collateral agreements
• Essential implied term
• Condition precedent existing outside the contract
• Rectification
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The Search for Certainty: The Parol
Evidence Rule, Its Exceptions and
Rectification (cont’d)
AMBIGUOUS CONTRACT LANGUAGE
• If the term is unclear or uncertain, external evidence may
be used to interpret the agreement
• For example, Certus Developments Inc. v. Strategic Equity Corp.,
[2006] AJ No 1104
ESSENTIAL COLLATERAL AGREEMENT
• If a separate contract to the contract being considered affects
how the contract being considered should be interpreted, the
separate contract can be considered
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The Search for Certainty: The Parol
Evidence Rule, Its Exceptions and
Rectification
ESSENTIAL IMPLIED TERM
• If a contract by custom or convention contains a term that has
been inadvertently left out, a party may produce outside
evidence of customs and conventions to show that its omission
was a mistake
CONDITION PRECEDENT EXISTING OUTSIDE THE
CONTRACT
• If the parties agree to a condition precedent, the a party may
adduce external evidence of the condition precedent
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The Search for Certainty: The Parol
Evidence Rule, Its Exceptions and
Rectification (cont’d)
RECTIFICATION
• If the term agreed to in negotiations is inadvertently omitted
from the written document, a party may ask to have that term
included by way of rectification or correction of the document
provided:
• A mistake has been made in recording the intentions of the parties
• There is evidence of common intention
• There is clear and cogent evidence of the mistake
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Exclusion and Penalty Clauses
EXCLUSION (EXEMPTION) CLAUSES
• An exclusion/exemption clause is a clause in a contract that
limits the liability for negligence in performing the contractual
obligations or from failing to carry them out
• Fraud by the party relying on the exclusion clause will not be
excluded, regardless of the wording of the clause
• In general, for an exclusion clause to be effective the party
relying on the exclusion clause must provide notice to the
other party of the clause before the contract is entered into
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Exclusion and Penalty Clauses (cont’d)
EXCLUSION (EXEMPTION) CLAUSES (cont’d)
• Contra proferentum rule is a rule of contract
interpretation used when dealing with ambiguous terms
according to which a court will choose the interpretation
that favours the party who did not draft the contract
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Exclusion and Penalty Clauses (cont’d)
EXCLUSION (EXEMPTION) CLAUSES (cont’d)
• Canadian law no longer uses the notion of fundamental breach
in determining whether a party can rely on an exclusion clause
• In Tercon Contractors Ltd. v. British Columbia, [2010] 1 SCR
69, the Supreme Court developed a 3-part analytical scheme to
determine if an exclusionary clause is enforceable:
1.
2.
3.
Does the exclusion clause apply to the circumstances of the
case?
If the clause applies, was it unconscionable?
Should the clause be enforced on the basis of public policy?
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Exclusion and Penalty Clauses (con’t)
PENALTY CLAUSES
• A penalty clause is a term in a contract that imposes a
penalty for default or breach
• Three forms of penalty clauses are:
1. Clauses that provide for low compensation for specific
harm done
2. Clauses that prohibit suing for breach of contract and
allows substitution of other goods and repairs
3. Liquidated damages clauses
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Frustration
• The doctrine of frustration of contract permits
parties to a contract to be relieved of the contractual
obligations because of the occurrence of an event
beyond their control that makes it impossible for them
to perform the contract
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Frustration (cont’d)
FACTORS AFFECTING FRUSTRATION OF CONTRACTS
• Situations that can lead to a contract being frustrated:
• An impossibility arising from an act of a third party
• An impossibility arising from a natural force (i.e., fire or flood)
• An impossibility arising from the party who is arguing that the
contract is frustrated
• An impossibility arising from a change in the law that was not
contemplated by the parties
• An impossibility arising from a serious delay that was not
caused or contemplated by the parties, etc.
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Frustration (cont’d)
• The courts use two approaches to develop the law of
frustration of contract:
The assumption of an implied term of the contract
permitting termination, and
2. The construction of the purpose of the contract to decide
whether the contract could be terminated because its
purpose could not be fulfilled
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Frustration (cont’d)
FRUSTRATION BASED ON IMPLIED TERM THEORY
• Based on the idea that the contract the parties agreed to,
by its nature, must have implied certain things in order for
the contract to be performed
• If the contract cannot be performed because some
intervening event makes it impossible then the contract
may be frustrated
• Objective test
• See, for example, Kerrigan v. Harrison, (1921), 62 SCR
374
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Frustration (cont’d)
FRUSTRATION BASED ON CONSTRUCTION THEORY
• The contract may become impossible to perform because
the very purpose of the contract ceased to exist
• The courts will attempt to determine what the common
objective of the agreement was
• If intervening events make the fulfillment of the
contractual purpose impossible, then the contract has
been frustrated
• Test is subjective
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Frustration (cont’d)
DISTINGUISHING BETWEEN IMPOSSIBILITY AND
FRUSTRATION
• Impossibility refers to situations where performance is
physically or legally impossible
• Frustration includes situations where performance is
physically or legally possible, but results would be very
different from the purpose of the contract contemplated by
the parties
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Frustration (cont’d)
COMMON LAW REMEDIES FOR FRUSTRATION
• At common law, when a contract is frustrated, the
positions of the parties “crystallize”
• The courts generally decline to provide remedies for
frustrated contract
• However, in some cases because of unfairness the courts
have intervened
• For example, Fibrosa Spolka Akcyjna v. Fairbairn Combe Barbour Ltd.,
[1942] 2 All E.R. 122
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Frustration (cont’d)
LEGISLATION GOVERNING FRUSTRATION OF
CONTRACTS
• Today, most provinces deal with the inadequacy of
common law frustration remedies through statutes such
as the Ontario Frustrated Contracts Act
• Acts do not provide rules to decide when a contract has
been frustrated, but provide remedies for frustration