"Pay now, argue later" - the Supreme Court considers the correct interpretation of a service charge clause

In Sara & Hossein Asset Holding Ltd v Blacks Outdoor Retail Ltd, the Supreme Court considered the correct interpretation of a service charge clause in a commercial lease. The decision:

1. is unlikely to be welcomed by either landlords or tenants; and

2. is of broad interest, as an indication of how the Supreme Court considered the general rules of contractual interpretation should be applied.

The clause in dispute stated that:

“The landlord shall on each occasion furnish to the tenant as soon as practicable after such total cost and the sum payable by the tenant shall have been ascertained a certificate as to the amount of the total cost and the sum payable by the tenant and in the absence of manifest or mathematical error or fraud such certificate shall be conclusive”.

Competing interpretations

The landlord’s interpretation was that its certification of the total costs incurred and the sum payable by the tenant was conclusive, subject only to “manifest or mathematical error or fraud” (which the Supreme Court described as “the permitted defences”).

The tenant’s interpretation was narrower – namely, that the landlord’s certificate was conclusive as to what costs the landlord had incurred (save for the permitted defences) but was not conclusive as to the amount that the tenant was required to pay. 

The Supreme Court’s approach

Ultimately, the Supreme Court did not agree with either party.

The Supreme Court began its analysis by confirming the relevant principles that apply to contractual interpretation, summarising them as follows:

• the contract must be interpreted objectively by asking what a reasonable person, with all the background knowledge which would reasonably have been available to the parties when they entered into the contract, would have understood the language of the contract to mean;
• the court must consider the contract as a whole and, depending on the nature, formality and quality of its drafting, give more or less weight to elements of the wider context in reaching its view as to its objective meaning; and
• interpretation is a unitary exercise which involves an iterative process by which each suggested interpretation is checked against the provisions of the contract and its implications and consequences are investigated.

Applying these principles, the Supreme Court identified a number of other provisions of the lease that needed to be taken into account when interpreting the service charge clause.  These included: (a) the landlord’s repair covenant; (b) a detailed dispute resolution mechanism in relation to the proportion of the total service charge chargeable to the tenant; and (c) the tenant’s rights to inspect documents evidencing the landlord’s costs relating to the service charge.

In addition, the Supreme Court highlighted the fact that, where landlords have an obligation to incur costs under a repair covenant, cash flow for the landlord will be an important consideration.  A landlord has an evident interest in recovering promptly sums it has spent, and with minimum fuss.

The Supreme Court’s interpretation

Taking these points into account, a majority of the Supreme Court decided that the correct interpretation of the clause was that it was conclusive as to the total costs incurred and the sum payable by the tenant (i.e. the landlord’s position), but it was not as to the tenant’s underlying liability for the service charge. In other words, the tenant was first required to pay the sum certified by the landlord, but the tenant could then dispute its liability for any costs which it contended had been improperly charged.  In effect, the service charge clause was a “pay now, argue later” provision. 

The Supreme Court stressed that this interpretation:

• was (unlike those proposed by the parties) consistent with all the related terms of the lease; and
• avoided potentially uncommercial consequences.

Comment

The starting point in interpreting a contract clause will always be to give it its natural and ordinary meaning.

However, where the apparently natural and ordinary meaning of a clause is inconsistent with related provisions of the contract, and/or would cut across the commercial basis of an agreement, the rules of interpretation may lead to a different result.  As the Supreme Court said in this case, a court will always aim for an interpretation that allows all of the relevant provisions of a contract to be interpreted consistently, and that also avoids an uncommercial outcome.

This judgment is also an important reminder that the courts take an objective approach to contractual interpretation: the parties’ views on what a clause means or how it should be interpreted are not always determinative.