Contractual interpretation: Getting what you bargained for1 September 2021

The approach to contractual construction under English law is now well established. In interpreting a contract, the court must consider both the language of the contract and the factual matrix. As noted in Wood v Capita², these are not conflicting paradigms, but rather tools which can both be used to ascertain the objective meaning of the language the parties have chosen to express their agreement. While some agreements can be successfully interpreted principally by textual analysis, the correct interpretation of others may require a greater emphasis on the context. In this case, the claimants “stared fixedly” at the words of the contract, while the defendant focussed on the factual matrix.

As the court noted, on the face of it the contracts in this case plainly provided for FOB delivery. Not only did they refer explicitly to FOB conditions, the FOB designation was also reflected in documents referred to in the contracts. The effect of an FOB designation is familiar to all those involved in the international sale and carriage of goods providing, as they do, for a seller to bear all cost and risks up to the point when the goods are placed on board a ship which has been nominated by the buyer. Accordingly, on their face the contracts suggested a standard supply agreement, requiring the defendant to deliver oil to the claimant.

The nearest thing in favour of the defendant’s position, that there was merely an entitlement to lift, was if one were to conflate the FOB delivery obligation with the regime for ascertaining the volumes of crude oil generated from the processing of the oil fields so that both parties knew how much oil was to be paid for and delivered. However, the court was unconvinced by this line of argument, noting that the delivery obligation and the provisions regarding the ascertainment of oil volumes were set out in entirely separate clauses with apparently separate purposes and nothing suggested that they were to be read together in this way.

As to the factual matrix, the defendants contended that the context was unique and referred to the claimant’s discretion to choose the contractual price. However, the court considered that the defendant’s submissions “oversold” the real position and that, as the claimant’s discretion in relation to the price was contractual, it would have to be exercised in good faith and rationally – it could not just pay what it wanted. Noting that this was a high-value “lawyered” commercial contract, which occurred in the context of a business where arrangements such as FOB contracts are commonplace, against a background of a previous FOB lifting, the defendant’s case on construction was dismissed by the court “without any hesitation“.

Failure of basis

It was common ground that the defendants failed to deliver the oil and had not repaid any sums to the claimant. The claimant therefore sought restitution of those sums on the ground that there had been a total failure of consideration, or a “failure of the basis” of the claimant’s payments. This remedy, which is recognised in section 54 of the Sale of Goods Act 1979, requires: (i) the claimant to have not received any consideration for the payments it has made and (ii) that the contracts have been terminated.

The defendants repeated their arguments that the contracts defined and allocated the parties’ mutual obligations such that the claimant was precluded from seeking reimbursement of the sums paid. However, holding that the approach to ascertaining the basis of payment was the same as the approach to construction, the court rejected this argument – the contracts were FOB sale contracts and, as such, the basis of the contracts had failed, which on the face of it satisfied the test for failure of basis.

The defendants also argued that the claimant had received a benefit by acquiring the right to lift oil, which they said could be traded without ever even having to lift any oil. Moreover, some oil had been delivered to the claimant under one of the contracts and so there was no failure of basis in any case. However, the court rejected these arguments as well. Although some oil had been delivered, the contracts were clearly divisible such that payments where no oil was delivered could be separated from earlier payments where some oil had been delivered. As for the alleged benefit for the entitlement to uplift, the court again found this to be a question of construction – the contracts were drafted with the view to buying goods with a right to have them delivered, not merely a tradable entitlement.

Comment

In volatile markets even relationships which have worked previously can go wrong. Where there are few alternatives remaining for the breaching parties, they can often seek to exploit non-standard contractual arrangements and use the history of a relationship in order to allege a particular factual matrix. Although it is perhaps unsurprising that where a party had failed to deliver over 200,000 barrels of oil for which its counterparty had paid US$17m, the court would order it to make full restitution, this case is another reminder of the importance of clear drafting. It is vital that a contract is as unambiguous as possible – particularly when it comes to key terms or the essence of the contract itself. In this case, the clear identification of the contracts as being on FOB terms meant that, notwithstanding the apparently novel nature of the arrangements, there was little room for argument.

[1] [2021] EWHC 1364 (Comm)
[2] [2017] UKSC 24