Contractual interpretation

In Investors Compensation Scheme Ltd v West Bromwich Building Society ([1998] 1 W.L.R. 896, HL) investors had borrowed money at high rates of interest and bought equity-linked bonds. They found themselves in difficulty when interest rates rose and stock markets fell. They received compensation from the Investors Compensation Scheme (‘ICS’). As part of the process of obtaining compensation they signed forms that transferred their rights against the financial advisers that advised them to make the investment  and, the ICS claimed, their rights against the building societies that made the mortgage loans. There was no doubt that the assignment covered the investors’ rights as against the financial advisers. There was a dispute as to whether all rights to bring proceedings as against the building societies  had also been assigned to the ICS. The House of Lords (Lord Lloyd of Berwick dissenting) held that they had.

This question turned on the construction of the ICS claim form signed by the investors who obtained compensation. Lord Hoffmann gave the main judgment and, in the course of it, he laid down the following “common sense” principles  concerning the process of contractual interpretation:

‘(1) Interpretation is the ascertainment of the meaning which the document would convey to a reasonable person having all the background knowledge which would reasonably have been available to the parties in the situation in which they were at the time of the contract.
(2) The background …  Subject to the requirement that it should have been reasonably available to the parties and to the exception to be mentioned next .. includes absolutely anything which would have affected the way in which the language of the document would have been understood by a reasonable man.
(3) The law excludes from the admissible background the previous negotiations of the parties and their declarations of subjective intent. They are admissible only in an action for rectification …
(4) The meaning which a document (or any other utterance) would convey to a reasonable man is not the same thing as the meaning of its words. The meaning of words is a matter of dictionaries and grammars; the meaning of the document is what the parties using those words against the relevant background would reasonably have been understood to mean. The background may not merely enable the reasonable man to choose between the possible meanings of words which are ambiguous but even (as occasionally happens in ordinary life) to conclude that the parties must, for whatever reason, have used the wrong words or syntax: see Mannai Investments Co. Ltd. v. Eagle Star Life Assurance Co. Ltd. [1997] A.C. 749 .
(5) The “rule¨ that words should be given their “natural and ordinary meaning¨ reflects the common sense proposition that we do not easily accept that people have made linguistic mistakes, particularly in formal documents. On the other hand, if one would nevertheless conclude from the background that something must have gone wrong with the language, the law does not require judges to attribute to the parties an intention which they plainly could not have had.” (at 912 – 913)


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