Contracts are not simply about the words on the page, as their meanings can be ambiguous and cause incorrect assumptions to be made. These cases prove that …

Until a few years ago there were two schools for thought about how agreements should be interpreted. The first of these was known as the literal approach. An historical example of literalism was given recently by the House of Lords in a case involving the interpretation of an insurance settlement. A tyrant, Temures, promised the garrison of Sebastia that no blood would be shed if they surrendered to his forces. The garrison duly surrendered. He shed no blood. Instead, he buried them all alive. The history books do not say whether he took legal advice first.

A less grisly example of literalism arose in a 1942 landlord and tenant case. Here, the landlord gave six months’ notice to terminate. In his notice, he added the words: “This would mean that [the tenant] would have to give up the cottage on 21 December 1941”. This was evidently a mistake on the landlord’s part, as the six-month period from the date of the notice expired on 25 December, not 21 December. The court accepted the landlord had made a simple error, but nevertheless held that the notice was invalid.

The second approach is to try to ascertain what the parties meant. The words that they use are of course important, but not decisive. The background to a document then becomes important – though a court will still not look into the parties’ negotiations.

Since the 1997 decision of the House of Lords in Investors Corporation Scheme Limited vs West Bromwich Building Society, the second approach is now firmly established as the correct one. Lawyers and construction professionals involved in drafting must now be aware that courts will look at the whole contract, including the context, not just the words used in any particular clause. So a clause that appears in isolation to favour one party might, in context, favour the other.

A recent example of this came in Wiltshire County Council vs Crest Estates Limited, a case relating to the Chippenham western bypass.

Whenever a major road is built at least two types of claim may be made by adjacent landowners against the relevant Highway Authority (for example, the local council). One type is where the land is “injuriously affected”

The tyrant shed no blood, as promised – he buried them all alive. History does not say whether he took legal advice first

by the construction of the road, and where the acquiring authority has not agreed appropriate compensation. This claim is made via the Compulsory Purchase Act 1965. A second type is for loss of value of the land caused by the use of the road after construction. The loss of value must be caused by physical factors such as noise, vibration, fumes and smoke. That claim is made under the Land Compensation Act 1973.

In this case, a group of developers had agreed to indemnify the council against claims by landowners “arising in connection with or incidental to or in consequence of the carrying out of the Highway Works …”. The “works” being the construction of the road. The council argued that the phrase beginning “arising in connection with” was wide enough to give it an indemnity against claims arising not only from the construction of the road, but also from its later use. The judge accepted that, as a matter or pure linguistics, the wording was indeed wide enough for this purpose. So how was it that the developers were held liable to pay only for claims arising during the construction phase?

The judge said that, at the time when the contract was formed, the parties must have had both types of claim in mind. The reference to “the carrying out of the highway works” must have been intended to be a reference to the construction phase only. If the parties had meant the developers to pay for claims arising from the use of the highway later, that would have been made clear in the agreement. Therefore, although the words, interpreted literally, were wide enough to cover both types of claim, that was not what the parties had intended if one looked at the background. The lesson for those drafting construction agreements is: consider the context, not just the words.

Ian Yule is a partner in solicitor Wragge & Co