High Court interprets meaning of indemnity for damage caused "prior to completion"
In a recent decision, the High Court has interpreted an indemnity for damage caused to assets "prior to completion" to be limited to damage caused in the period between signing and completion. This blog examines the reasoning for the court's decision, and the lessons that can be learned for transactional lawyers.
In Gwynt y Mor OFTO PLC v. Gwynt y Mor Wind Farm Limited and others  EWHC 850 (Comm), the High Court was asked to interpret an indemnity in a sale and purchase agreement which read:
"If any of the Assets are destroyed or damaged prior to Completion, then…the [seller] shall indemnify the [buyer] against the full cost of reinstatement…".
The assets in question were subsea electrical cables which connected an offshore wind farm with the mainland. These cables were sold by the seller to the buyer pursuant to sale and purchase agreement (the SPA). Unknown to the parties at the time the SPA was entered into, the cables had been damaged prior to signing the SPA - this damage caused the cables to stop working after completion, necessitating expensive repairs. The buyer sought to recover the cost of repairs from the seller under the indemnity quoted above.
Lord Justice Phillips, sitting in the High Court, determined that the indemnity only applied to damage caused in the period between signing and completion of the SPA, even though that was only a period of six days. He rejected the buyer's argument that the words "prior to completion" meant any time prior to completion, including the period prior to signing.
Factors influencing the decision
- Lord Justice Phillips determined that it is necessary to consider the tense used in the drafting, and that the "natural and ordinary meaning" of the phrase "If any of the Assets are destroyed or damaged prior to Completion…" is that it applies to damage or destruction that occurs after the contract is entered into. He accepted that the interpretation may have been different if the wording had been "If any of the assets have been destroyed or damaged".
- Lord Justice Phillips was influenced by the position of the indemnity within the SPA. The indemnity was placed at clause 8.2, in between clause 8 which dealt with signing and clause 9 which dealt with completion. He therefore reasoned that the indemnity relates to damage occurring between signing and completion. He reached this view even though the SPA included the common provision that headings in the SPA do not affect its interpretation.
- Lord Justice Phillips was also influenced by the fact that the subject matter of the indemnity was also covered by a fully negotiated warranty, such warranty being subject to temporal and financial limitations commonly applied to warranties. He reasoned that the parties would not have negotiated a carefully worded warranty had they intended it to be rendered pointless by a general indemnity.
- Lord Justice Philips expressly stated that in reaching his decision on contractual interpretation, he was not influenced by evidence of pre-contractual negotiations. This evidence was submitted by the seller in relation to its alternative argument on contractual rectification. Such evidence appeared to show a common intention that the indemnity should be limited to the period between signing and completion and Lord Justice Philips opined, obiter, that such rectification would have been available had the seller's argument on interpretation been unsuccessful. Lord Justice Philipps was "careful to exclude all the evidence of pre-contractual negotiations from [his] consideration of the proper interpretation of the SPA".
Lessons to be learned for transactional lawyers
- Precision - this decision is another reminder of the importance of the precise wording of each contractual provision. In this case, many millions of pounds turned on whether a 12 word phrase was drafted in the present tense or the past tense.
- Clarify – one of the beauties of the English language is it capacity for multiple interpretations and subtleties of meaning. Whilst this is a boon for a novelist, it is a hazard for a transactional lawyer looking to draft a clear contract. So if a clause leaves any room for doubt, add extra words to clarify. "For the avoidance of doubt" provisions are often resisted as being unnecessary, but had the buyer included the words "(including prior to the date of this Agreement)" then the outcome of the case would have been different. Had the seller used the words "in the period between the date of this Agreement and Completion" then all of the costs and uncertainty of litigation would have been avoided.
- Every word counts – during the negation of the SPA, the buyer provided a draft of the indemnity which read "if any of the assets are defective, destroyed or damaged prior to Completion…". In a subsequent mark-up the seller removed the word "defective" but left the indemnity otherwise unchanged. The buyer accepted that change, as is so often the case with seemingly minor drafting changes toward the end of long-running negotiations. But if that word had been retained, the decision on interpretation would likely have been different.
- Be wary of overlapping protections – in relation to potential damage to the cables, the buyer had the benefit of both a warranty and an indemnity. Such a "belt and braces" approach might be thought of as providing extra protection and security for the buyer. But in this case, it influenced the court to interpret the all important indemnity more narrowly. It is very common for indemnities and warranties to cover the same issues. Therefore, it may be helpful for a buyer to set out on the face of the contract the rationale for including both indemnity and warranty protection.
- Tell a story – perhaps the most surprising aspect of the decision is that Lord Justice Philips was influenced by the position the indemnity was placed within the SPA. This shows the importance of the flow of a contract, and whether a third party (with no background knowledge or involvement in the negotiations) can follow a rationale for the provisions included. In other words, a contract should tell a story.