Correcting contracts for mistake
DAVENTRY DISTRICT COUNCIL v DAVENTRY & DISTRICT HOUSING (CA) [2011]
The Court of Appeal (CA) ordered an outsourcing contract to be corrected where one party took advantage of the other’s failure to appreciate the meaning of one of the terms, even though the meaning from the drafting appears to have been pretty clear.
Facts:
- The contract related to the transfer of council housing, council staff and their pensions from Daventry District Council (C) to Daventry & District Housing (DDH). There would be a £2.4m deficit in the pension scheme as result which would have to be paid.
- The chief negotiator for DDH (R) knew that C expected DDH to pay this deficit. However, DDH (except R) believed C had agreed to fund the shortfall and the agreement provided for this. Although the parties had signed a ‘principles paper’, the provision dealing with the pension deficit was not entirely clear. R understood the difference between the commercial agreement and the wording of the final contract, but did not say anything. Both parties were represented by lawyers.
- The clause in the contract, which contained the provision which made C liable in very clear terms, was only included at an extremely late stage before signature. The inserted clause was clearly ‘marked’ as such but seemingly neither C nor its lawyers appreciated the impact of the clause.
- Once C understood what had happened, it sought a correction of the agreement on the basis that there had been a ‘mistake’ and that it was agreed that DDH would fund the deficit. DDH rejected this, maintaining that the signed contract reflected its actual intentions.
Decision:
- The CA, by a two to one majority, upheld C’s appeal from the High Court, which dismissed its original claim, and ordered rectification of the agreement so that DDH would have to pay the £2.4m, even though it would not have entered into the deal on that basis. R’s behaviour was a critical factor in this decision. If DDH had been completely unaware of C’s mistake in its understanding of the final agreement, and had never sought to rely on that mistake, the CA would have denied the appeal and not ordered for the contract to be corrected. However, DDH was deemed to have the knowledge and understanding of its chief negotiator.
- Interpreting the matter objectively, the CA held:
- DDH’s words and overall conduct, including R’s, would have led a reasonable observer to believe (as C apparently did) that DDH had agreed to make up the deficit in the pension fund; and
- the completely unambiguous words in the draft contract had to be interpreted against the context of the commercial terms that had previously been agreed in principle.
Points to Note:
- This decision seems to place a higher value on the commercial negotiations which preceded the contract than the final wording of the agreement. C and its advisers were very fortunate indeed to succeed in getting a correction when it misunderstood the contract it was entering into, especially given that it was represented by a firm of external lawyers.
- The case shows the Courts’ willingness to penalise ‘sharp practice’ by a negotiator. It is clearly dangerous to just rely on the strict wording of an agreement when you know the other side has a different interpretation/intention.
- Something more than new drafting may well be required to be on the safe side if a fundamental commercial principle is being altered.
- This case is quite exceptional as the Court focussed more on the conduct of DDH than on the lack of care on C’s part.
- Take care to understand what you are agreeing to and that there is a mutual understanding between those drafting the contract and their clients.
- Don’t use confusing three letter acronyms – DDC/DDH!