11 Construction of the Contract: Terms and Conditions
Learning objectives
By the end of this Chapter, you should be able to:
- Identify terms in a contract and distinguish them from a representation.
- Discuss the parol evidence rule and the number of qualifications subject to it.
- Identify a collateral contract and explain the significance of its contractual effect.
- Recognise the importance of different terms, and identify conditions, warranties and statutory consumer guarantees.
- Explain the types of terms implied into a contract.
- Describe exclusion clauses, the approaches to their interpretation and the statutory protection available to consumers.
Key Terms
You will notice these key terms, which are mentioned throughout the chapter, to help you to better understand and remember the material:
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- Condition: a stipulation going to the root of the contract, allowing the injured party the right to rescind and/or claim damages
- Condition precedent: a term in an agreement that delays the vesting of the right until the happening of the event
- Condition subsequent: a term in a contract that destroys the right on the happening of the event
- Exclusion clause: a contractual term that attempts to limit or exclude the liability of the person inserting the term into a contract
- Intermediate or innominate terms: contractual terms, the remedy for the breach of which depends on the seriousness of the breach rather than on the classification of the term as a condition or a warranty
- Parol evidence rule: A rule of evidence which states that additional oral evidence is not considered by the courts to contradict, vary, add to or subtract from its terms when a contract is complete on its face
- Standard form contracts: contracts that incorporate terms of a standard nature, often in fairly wide terms, applicable to all persons making a particular type of contract
- Warranty: a term of lesser importance to the main purpose of the contract which, if breached, only allows the injured party to claim for damages
Introduction
Congratulations on getting to this point. You now have an idea how a contract is created and how we find out if what we have created is valid or not. But what is it you have agreed to in your contract? This is what this chapter is about, that is, what are the terms of the contract or to put it another way, what is the extent of the rights and obligations that you and the other party have entered into? These ‘terms’ can be expressed (as a condition, warranty, innominate term, condition precedent or condition subsequent; and qualified by, for example, an exclusion clause, or unqualified) or implied (or express and implied), or meaningless.
Believe it or not, it can sometimes be unclear from what the parties have said, written or done, what it is that they have actually agreed to. For example, they may disagree about the meaning of words in their agreement that relates to what the exact goods or services to be supplied are, what their condition is, where the goods might be delivered to, who is responsible for any damage, when payment is to take place, the start date, the completion date and so on.
The answer to what the parties have agreed can be found only by deciding what the terms of the contract are, and then you need to determine what their relative meaning and importance is. This often has to be done in the context of whether the terms that have been agreed to have been qualified or limited by the inclusion of an exclusion or exemption clause.
Examples
Ever wondered what an Employment Agreement might look like? To date you have just looked at the creation of the contract and what to look for to ensure its validity. In this chapter, we are looking at the terms you and the other party have agreed to.
The Wonder Legal Australia website has an Australian Employment Agreement complete with all its terms and conditions for you to look at as an example of a finished contract (short of signing of course).
There is a also a link to a Sale of Goods Contract used in New South Wales, Australia. Take a look and see what terms and conditions it contains.
While both examples are Australian, PNG contracts contain similar terms and conditions.
What are representations?
In brief
The possibilities for a statement
In summary, the possibilities are that a statement could be one of the following:
- a term: in which case the statement will create contractual obligations between the parties, breach of which will result in the injured party being able to sue
- a collateral contract: that is, a preliminary contract on which the main contract is entered into, breach of which will result in the injured party being able to sue
- a representation: that induces an offeree to enter into the contract but that is not part of the contract and so is not actionable in contract law; or
- a sales puff: that is not intended to have any legal effect, in which case no remedy is available.
A ‘no representation / no reliance’ clause can also form part of another type of boilerplate clause called an entire agreement clause. This type of clause provides that the contract constitutes the entire agreement and understanding between the parties. It supersedes any previous agreements and understandings that might have been made between them.
The promissory nature of a statement, and whether it is a representation or a term, depends on the intention of the parties. The courts apply an objective test of a reasonable bystander, taking into account the conduct of the parties, and their words and behaviour, to try to distinguish between the two.
Why do the courts use objective tests?
In trying to ascertain the intentions of the parties from the particular facts before it and whether a statement is a representation or term, the court takes into account:
- How much time has lapsed between the making of the statement and the final agreement? The longer the lapse of time between the making of the statement and the final agreement, the more likely it is to be treated as an inducement and not intended to form part of the agreement.
- Where an oral statement precedes a written contract, then the terms of the contract tend to be contained in the written document, and all oral statements tend to be pre-contractual. However, it is important to look carefully at the time the oral statement is made in relation to the time the parties enter into a contract. If it is immediately before the contract is entered into, and subject to the importance of the statements and whether the person making it had special knowledge, a statement may form part of the contract.
- Was the innocent party asked to check or verify the statement? Here the statement is more likely to be an inducement – for example, a mechanic’s report on a car.
- Was the statement made with the intention of preventing the other party from finding any defects, and did it succeed? If you as a buyer, on the basis of the statement by the seller just prior to your purchase that ‘The car is in excellent condition, you don’t need to look it over’, and you then don’t bother to look it over, then the statement would most likely be an inducement or a misrepresentation, but just note it is important to look also at the context in which the statement was made.
- A vital factor in determining intention is whether the representation had been made at or immediately before the time of sale and the way in which it was made. If it is clear that it was intended to convince the other party not to bother checking and it could be shown that it was intended by the parties to be relied on, then the courts are prepared to find that the representation formed part of the contract and that there was a warranty. If the statement was made after the sale, then it was a representation and unenforceable, as the contract had already been finalised.
- What importance did the parties attach to the statement? If the parties placed considerable importance on the statement, the courts would be more willing to treat it as a term and not as a mere representation. If a party did not rely on the statement, it would be a representation – for example, where approval of a third party was necessary before the written agreement would become binding.
- Did one of the parties have special skills or knowledge? Where one of the parties had some special skill or knowledge not possessed by the other party with regard to the subject matter of the contract, then a statement would more likely be treated as a term. In the English case of Oscar Chess v Williams [1957] 1 All ER 325, Oscar Chess, a car dealer, in 1955 bought what he thought was a 1948 model car (confirmed by the registration papers) when in fact it was a 1939 model. Some 8 months after the sale the dealer discovered the registration papers had been altered and the car was worth substantially less than what he had paid for it. The court held that the statement as to the age of the car was a mere representation that did not give rise to any liability for breach of contract. The dealer had special expertise as a motor vehicle dealer and should have taken steps to verify the age of the vehicle.
The statement could also have been construed as an innocent misrepresentation but what would have been the point as damages are not awarded for an innocent misrepresentation? Oscar Chess could have had the contract set aside in equity if he had acted promptly but it was 8 months before he did anything!
In trying to ascertain whether or not a statement is a term, the relative knowledge of the parties should be considered. Which of the 2 parties is in the best position to know or determine the truth about the statement? In Oscar Chess above, the majority view was that Williams was in no better position than the dealer (Oscar Chess) to assess the age of the car. Williams honestly believed, on reasonable grounds, that the statement as to age was true.
Compare the decision in Oscar Chess with that in Dick Bentley Productions Ltd v Harold Smith (Motors) Ltd [1965] 1 WLR 623, where a dealer sold a luxury car to the appellant (Dick Bentley Productions) and stated that the car had done only 20,000 miles since a new motor had been fitted. In fact, the car had travelled just under 100,000 miles. Here, the court held that the statement was of a promissory nature, as the seller was in a much better position to know the mileage, and so the representations amounted to a warranty rather than a mere representation.
Where the person making the statement is in a better position than the other party to assess the accuracy of the statement, it is probably a term. This is determined by trying to establish the intention of the parties, objectively assessed on the basis of what an intelligent bystander would infer from their words and conduct.
What is the parol (oral) evidence rule?
In the case of an oral contract, exactly what the parties said must be found as a matter of fact, and to this end the courts will admit as evidence all facts known to the parties, including both actions and words of the parties. Problems arise when the evidence is conflicting. Each party may have a different view of what was agreed to, and the meaning of what was said. This can raise difficult and costly problems of proof for you if you are the plaintiff.
What is a written contract?
Where the contract is completely in writing, the courts assume that all the terms agreed to by the parties are contained in the contract. However, problems may still arise in the interpretation of particular terms that the court may need to resolve – for example, where there is ambiguity.
In the case of a written contract, the court generally will not admit evidence of acts or words of the parties before the execution of the document if it has the effect of adding to, varying or contradicting the written agreement. This is because the courts assume that the parties’ intention is contained within the ‘four corners’ (the text) of the contract, known as the parol evidence rule. However, this rule is subject to a number of qualifications to try to avoid hardship or injustice.
Business tip
To reduce exposure to litigation expenses, ensure that all of the relevant terms are contained in the document, and that there are no ambiguities. Another option is to include a ‘no representation/no reliance clause’ or an ‘entire agreement’ clause into the contract.
What has to be established for the parol evidence rule?
This is a rule of evidence which states that additional oral evidence is not considered by the courts to contradict, vary, add to or subtract from its terms when a contract is complete on its face unless it results in hardship or injustice, in which case the oral evidence can be heard:
- to prove a trade custom or usage
- to show that the contract has not yet become effective
- where the court is of the opinion that the written document contains only part of the agreement
- to clarify any ambiguous language used in the contract
- where, due to a mistake of the parties, their agreement was not accurately expressed in the written contract
- to demonstrate that a description is false; or
- to determine how important the truth of the statement was.
Whether a warranty is intended depends on the conduct of the parties: on their words and behaviour, rather than their thoughts. Thus, while a seller’s statement may not be expressly designated as a term of the contract between the parties – that is, either as a condition or warranty – it can be intended by the parties to form a condition subject to which the contract was entered into – that is, it was a collateral warranty, and was of sufficient weight to overcome the parol evidence rule.
What are the remedies for breach of a pre-contractual representation?
Where pre-contractual representations are concerned, there are a number of remedies available to an injured party at both common law and statute, as long as there is not a ‘no representation/no reliance’ or ‘entire agreement’ clause in the contract of course, and these can include:
- recission for misrepresentation
- negligence
- unconscionability at common law; and
- the Fairness of Transactions Act 1993.
Reflection questions
Time for another break. Have a look at the following questions and test your understanding of what you have just read.
- Does it make any difference whether a statement is a representation or a term?
- Explain the purpose of the parol evidence rule and how it is applied by the courts.
- In trying to ascertain the promissory nature of a statement, and whether it is a representation or a term, what matters will the courts take into account in trying to ascertain the intention of the parties? Discuss.
PROBLEM
FACTS: Before signing a contract for the purchase of a house, you asked the seller whether there were any termites in the house. The seller told you there were none, and you immediately proceeded to sign the contract to buy the house. Some months later, you discovered extensive termite activity throughout the house which, according to an expert, showed that the termites had been in the house for at least 12 months. There was no reference in the written contract of the oral question relating to termites.
ISSUE: Could you rely on the oral statement made by the seller immediately before entering into the contract that there were no termites, even though it was not a written term in the contract?
DECISION: What have you decided?
CASE REFLECTION: Could you have argued that the vendor had fraudulently misrepresented the true position of the house when stating that it did not have termites since any reasonable inspection would have revealed their presence and the extent of the damage caused by them? Do you think that the seller’s statement was made with the knowledge that it was false or recklessly, without caring whether it was true or false?
What are collateral contracts?
A statement which is not a term of the contract can sometimes be regarded as a collateral or a preliminary contract if it can be shown that the main contract would not have been entered into in the absence of an earlier statement (look back at the problem question you have just done). In such a case the courts may be prepared to enforce the promises made by the parties before they entered into the main contract. The consideration to support the defendant’s promise in the collateral contract is the making of the main contract.
In order to establish a collateral contract regarding a statement of fact it is necessary to show that:
- the person making the statement intended it to be relied on; and
- the maker of the statement guaranteed its truth; and
- there was reliance by the person alleging the existence of the collateral contract.
Once a collateral contract is established, it is valid and enforceable if you are the plaintiff and can establish each of the following:
- the statement relied on is promissory (and not descriptive or representational)
- it is not supported by past consideration (the promise is agreed before the statement is made; and
- it is consistent with the main contract.
In brief
The significance of the collateral contract
Where a pre-contractual statement is not a term of the main contract, it may still have contractual effect as a collateral contract, thus providing the injured party with a remedy. Such a contract has an independent existence to the main contract and may be enforced by an action for breach of a promise. More importantly, the collateral contract is not caught by the parol evidence rule because it is oral.
If an inconsistency comes from the operation of an exclusion clause in the main contract, the collateral contract or promise will override the exclusion clause because it is the very thing that induces the injured party to contract. For example, the promise to you by a parking attendant to park and lock your vehicle when an exclusion clause on the ticket stated ‘all care and responsibility by the car park’ could be viewed as a collateral promise or contract that would be meaningless if the exclusion clause was allowed to prevail. The parking attendant’s statement that the car would be locked as soon as it was moved was the very thing that induced you to enter into the contract. This was really a case about principal and agent, and the ability of an agent to bind their principal. While the attendant’s promise was not within his actual authority, it was within his ostensible authority – that is, the principal had, either by words or conduct, led a third party to reasonably believe that the agent had authority to contract on the principal’s behalf when this in fact was not the case (we will cover this in more detail in Chapter 14).
Just note that a collateral contract is a contract in its own right and separate from the main contract. This means that if for some reason the main contract is illegal and unenforceable, the collateral contract may still be enforced. A collateral contract may also be enforced if the main contract is one that is required to be in writing or evidenced in writing and the collateral contract is not.
Reflection questions
Time to take a break. Have look at the questions below and see what you think.
- Once a collateral contract is established, what does the plaintiff need to show for it to be valid and enforceable?
- Does a collateral contract or promise override an exclusion clause?
PROBLEM 1
FACTS: You entered into a contract with the defendants for the purchase of a boat. During the course of negotiations, you sought the written advice of the defendants as to what would be a suitable engine for the boat. They commented on three types and recommended one in a letter that included the statement that the boat would have an estimated speed of 23 knots. You accepted this recommendation, but the contract specification and quotation contained no reference to speed. After the motor was fitted, the boat failed to reach the speed estimated by the defendants and you wanted to reject the contract.
ISSUE: Was the recommendation of the speed of the boat important?
DECISION: What do you think? Which of the following three hints below do you pick and why?
HINT: You have three things to consider here:
- You could have made the attainment of speed a condition in the contract, but you didn’t.
- You could have made the defendants promise that the boat was capable of achieving 23 km/h, but you didn’t. The statement must be promissory, not representational, if it is to be actionable.
- You could have used your own judgment based on what the defendants had said, which is what you did, and that statement was not promissory.
PROBLEM 2
FACTS: You leased a cinema which you decided to sublease to Cineplex for a period of 4 years. The written sublease contained a proviso that you could terminate the agreement at any time by giving 4 weeks’ notice in writing to Cineplex. After 2 years you decided to terminate the sublease, which was before the end of the 4 year term. Cineplex then claimed damages for breach of a verbal promise given by you, before the sublease was signed, that you would terminate the lease only if you had been served with a similar notice by the head lessor which you hadn’t been.
ISSUE: Can you terminate the sublease? Can you terminate the sublease when the head lessor has not served you with a similar notice?
DECISION: What do you think?
COMMENT: In this case an assurance was given about how a particular clause was to operate. By reneging on the promise, are our actions unconscionable?
How important is the term?
When you enter into a contract you need to understand that a contract can contain both express and implied terms:
- Express terms are terms that are incorporated into the contract in writing, orally, partly written and partly oral, or by a sign displaying the terms (such as at a car park). If the contract is important, better to have the terms in writing.
- Implied terms are incorporated into a contract by implication and intended to give effect to the presumed intentions of the parties when a contract’s express terms have not fully covered the matter (see ‘What are implied terms’ further down).
It is also important that that you can recognise the different type of terms, and identify whether they are a condition, warranty, an innominate term, a condition precedent or condition subsequent, as well as statutory consumer guarantees that form part of a contract. The remedies available to the injured party differ according to the type of term you are dealing with.
What types of terms are there?
In brief
Features of terms
| TERM | DESCRIPTION | EFFECT |
|---|---|---|
| Condition | A stipulation or term that is vital to the contract and must be fulfilled by one or both parties and which can be express or implied. | Breach entitles the injured party to terminate (but any rights accrued up to that time remain outstanding) or affirm and/or sue for damages. |
| Warranty | A minor or non-essential term and collateral to the main purpose of the contract. It is not the same as a warranty for goods. | Damages only. Failure to comply is generally considered non-essential and not grounds to terminate unless the term is essential, such as ‘time is of the essence’. |
| Innominate/ intermediate term | A term that sits between a condition and a warranty. The court focuses on the seriousness of the effects of the breach. | If the breach has a serious effect, the plaintiff can elect to affirm or rescind. Damages are available in either case. |
| Condition precedent | A term that must be satisfied before a contract can come into existence. | No enforceable contract exists. No remedy, as no breach. |
| Condition subsequent | A term in an existing contract which provides that the contract will terminate on the happening of a particular event. | Terminates existing contract. No remedy, as contract validly terminated. |
What is a condition in a contract?
A condition is a term that is vital to the contract. The parties consider it so important that its non-performance may be considered by the injured party as amounting to substantial failure to honour the contract at all and may be regarded as grounds for terminating the contract (but note that any obligations still outstanding at the date of termination continue) and/or suing for damages.
What is a warranty?
The parties consider a warranty to be a term of lesser importance to the main purpose of the contract. If it is breached, injured parties must still perform their part of the contract, but they only have the right to sue for damages for any loss that they may suffer as a result of the breach.
How do you tell the difference between a condition and a warranty?
Whether a term is a condition or a warranty depends on the intention of the parties, looking at the contract as a whole. A problem is that the parties rarely indicate whether a term is a condition or a warranty, or something else. And even if they do, there is no guarantee that the courts will accept what they say.
In some cases, a party may expressly provide that a particular promise is essential to the contract – for example, by a stipulation that it is the basis or the essence of the contract. However, in the absence of an express provision the question is one of construction for the court, once the terms of contract have been ascertained. In trying to decide on the importance of a term, the courts may:
- look at what effect the breach had on the contract – if the breach has had a serious effect, it could be treated as a condition; or
- apply an objective test, looking at the case as a whole and considering the importance of the broken stipulation as an inducement to the plaintiff to enter into the contract. Is the stipulation essential to the contract? If the answer is ‘yes’, then it is a condition and if ‘no’, then it is a warranty.
Business tip
Parties who wish to have a degree of certainty that a breach of a particular term will terminate an agreement should spell out the effect of such breach in their agreement, and the court will then give effect to their intention. If the parties rely on expressions such as ‘condition’ and ‘warranty’, whether a term is a condition, a warranty or an innominate term will ultimately depend on how the courts interpret the term.
Note it can be difficult in determining whether a term is a condition or a warranty. In each case, the court looks at the contract as a whole and considers whether the promise was so important to the promisee that they would not have entered into the contract unless there had been an assurance of a strict or substantial performance of the promise, and this was apparent to the person making the promise at the time. If the breach does not have a serious effect on the contract, then it will be treated by the courts as a warranty and the injured party will be entitled only to damages.
What are intermediate or innominate terms?
It may happen that a term cannot be classified as a condition or a warranty until after a breach of contract has occurred. The courts have identified a further class of terms that fall between conditions and warranties called intermediate or innominate terms.
Here the court focuses on how serious the effects of the breach are on the contract, rather than attempting to classify the term as a condition or a warranty. The question to consider here is whether the breach has deprived the innocent party of substantially the whole benefit that they should have derived from the contract?
Labelling a term as a condition or warranty does not necessarily determine its legal effect. In an English case called Hong Kong Fir Shipping Co Ltd v Kawasaki Kisen Kaisha Ltd [1962] 2 QB 26, Hong Kong Fir owned a ship, which it chartered to Kawasaki for 2 years. The contract required Hong Kong Fir to provide a vessel, but Kawasaki forgot to include a term in the contract providing the ship should be seaworthy. When the ship arrived, it was unseaworthy and took 15 weeks to get it ready to sail, depriving Kawasaki of a substantial part of the benefit of the contract. The court held that Kawasaki could not repudiate the contract, as seaworthiness had not been included as a condition of the contract. Nor were the delays – 15 weeks of a 2 year contract for service – considered so great as to frustrate the commercial purpose of the charter. The defendant should have sought damages.
As Hong Kong Fir Shipping illustrates, nothing less than a serious breach entitles the innocent party to treat the contract as at an end.
What is a condition precedent?
There are two possible meanings that can be given to the term condition precedent:
- As a condition precedent to the formation or existence of a contract – for example, acceptance ‘subject to finance’ or, ‘subject to the approval of a third party’. In this case, unless and until the condition is fulfilled – that is, the finance or approval are forthcoming, there are no enforceable rights between the parties.
- Was the term a condition precedent to the performance of a party’s obligations under a contract? For example, was there an obligation on the buyer not only to do all that was reasonably necessary to fulfil the condition but also to complete within a reasonable time?
Non-fulfilment entitles the party not in breach to terminate. For example, in the case of a sale of a property, you will often find the potential buyer including in the contract a term stating that the sale is subject to the buyer completing the sale of their existing property or getting finance approval in a reasonable time. In this case there is a binding contract, but performance depends on the fulfilment of the condition precedent.
What is a condition subsequent?
A condition subsequent is a term in a contract that must be complied with after the contract is made or the other party can terminate the contract for non-compliance – for example, the death of one of the parties, or the seller of a vehicle tells the buyer that if they are not completely satisfied to return the car in 30 days and get their money back.
What are implied terms?
In addition to its express terms, a contract may contain a number of terms that the parties or the courts may ‘read’ into the contract. These are called ‘implied terms’ and to be implied into a contract, the term must satisfy 5 conditions set down by the Privy Council in BP Refinery (Westernport) Pty Ltd v President, Councillors and Ratepayers of the Shire of Hastings (1978) 52 ALJR 20:
- reasonable and equitable; and
- necessary to give business efficacy to the contract, so that no term will be implied if the contract is effective without it; and
- so obvious that ‘it goes without saying’; and
- capable of clear expression; and
- not in contradiction of any express term of the contract.
In brief
Types of implied terms
| TERM | DESCRIPTION |
|---|---|
| Custom or usage | Where there is an established custom or practice, and it could be assumed that the parties must have contracted with that term in mind. |
| Statute | Certain statutes may imply terms into contracts. |
| By the courts | Terms may be implied by the courts to cure obvious omissions or to give the contract ‘business efficacy’. |
| Uncertain | Where the parties have had prior dealings, the courts may fill in the gaps to give the contract ‘business efficacy’. |
| Meaningless | Terms for which the meaning cannot be ascertained and which the court will sever if possible. |
Can terms be implied by trade custom or usage?
Where there is no express provision to the contrary in a contract, and the trade custom or usage relied on is so well known by everyone in that business they would have assumed it to have been included as a term in the contract, then it may be implied by the courts by considering:
- Whether there is the existence of a custom or usage – a question of fact.
- Evidence that everyone in the trade would reasonably be assumed to have imported that term into the contract.
- A term will not be implied on the basis of custom if there is an express term to the contrary; and
- That the term is of such notoriety in the trade that it was reasonable to assume that all persons dealing in the trade could easily ascertain knowledge of the custom.
Can terms be implied by statute?
A number of statutes imply terms into a contract. When considering the operation of such terms, it is necessary to consider to what extent the parties may be able to modify or exclude them. For example, look at the Fairness of Transactions Act 1993 and the Goods Act 1951.
When will the courts imply terms?
In some cases, the intention of the parties is plain but, owing to an oversight on the part of the parties, the contract may not give effect to what the parties wanted or understood. Where this occurs, the judge may imply terms into the contract in order to overcome this omission and give effect to the intention of the parties – to give ‘business efficacy’ to the contract.
What happens where the terms are uncertain or unclear?
If there have already been dealings between the parties, or there are expert witnesses who can give evidence to fill in missing pieces in the contract in order to interpret the parties’ intentions, the courts may be prepared to enforce the contract. For example, if there have been prior dealings between the parties, and the fact that reference could be made to what was normal business practice, the contract may be enforceable as the courts accept that there is sufficient intention present to bind the parties.
If there are no past dealings and no expert witnesses to assist the court in trying to determine the intention of the parties, the court will have little alternative but to strike the contract down as void for lack of certainty.
The court will imply a term by reference to the imputed intention of the parties only if it can be seen that such a term is necessary for the reasonable or effective operation of the contract. Otherwise, it will strike down ‘the contract’ on the basis that there is no real agreement between the parties.
What are meaningless terms?
Unlike an uncertain term, where there is no real agreement, with a meaningless term the parties have agreed on something but it is unclear what it means. The difficulty is that the terms may be worded in such a way that a reasonable person would be unable to determine their meaning. In such a case, the validity of the contract will depend on whether these terms can be severed from the rest of the contract and still leave it valid. This is a matter of the construction of the whole contract.
If the courts cannot sever the term from the contract, then the contract will be found to be void for uncertainty. However, it should be noted that if goods or services have already been provided, the law of restitution provides that they must be paid for at a reasonable price.
Business tip
Guide to construing the words of a contract
When construing the words of a contract, regard should be had to the following principles:
- The meaning of the word/s is to be determined in the context of the contract as a whole
- With the interpretation of commercial contracts, a common-sense approach should be adopted
- It is presumed that the parties did not intend the terms of their contract to operate in an unreasonable way
- In determining the meaning of words, consider the legal effect of the term
What happens if the terms are ambiguous?
In the case of an ambiguous term that could have two primary meanings, each of which could be adopted without distortion of the language, it does not necessarily mean the contract is void for uncertainty. The court will pay regard to direct evidence of the intentions of the parties, including evidence of the circumstances surrounding the making of the contract and the admission of extrinsic evidence to resolve an ambiguity.
The extrinsic (including parol) evidence supplements or explains the written instrument and may include direct evidence of the intention of the parties, including evidence of negotiations between the parties, previous dealing between them, and direct evidence as to what was in their minds at the time.
Reflection questions
Time for a break. Before you do, scribble down your thoughts to the questions below.
- Explain why it is important to know what type of term/s are contained in a contract?
- How do the courts decide on the importance of a term?
- What is the difference between a condition precedent and a condition subsequent in a contract? Explain, giving an example of each.
PROBLEM 1
FACTS: Poussard was engaged to play a leading role in an opera which was to last about three months. Owing to delays on the part of the composer, final rehearsals did not take place until the week when the first performance was to take place. In the final few days before the first performance, Poussard fell seriously ill and it was not clear how long she might be sick for. A substitute singer had to be found or the show faced financial ruin. Poussard was unable to take part in the show until a week after the season had commenced. The producers, who had been forced to find a substitute, then refused her services.
ISSUE: Was Poussard’s failure to attend the opening night sufficiently serious to entitle the producers to sack her? Was this a breach of condition or a warranty?
DECISION: Would you sack her?
HINT: Do you think the failure on Poussard’s part to perform on the opening night went to the root of the contract and permitted the producers to fire her.
FACTS: Bettini, an experienced opera singer, entered into a contract with Gye to sing in his opera. As part of the agreement, he agreed to arrive 6 days before the start of the opera for rehearsals two days in advance. Gye attempted to use the non-attendance as an excuse to terminate the contract.
ISSUE: Was the late arrival a sufficiently serious event to warrant terminating the contract? Again, was it a breach of a condition or a warranty?
DECISION: What would your answer be here? The same as question 4 above?
HINT:The effect on the contract was only partial.
What are exclusion clauses or terms?
It is not unusual in business to find a party attempting to limit or exclude their liability in certain situations by including an exception, exemption or exclusion clause (also known as a ‘limitation of liability’ clause) in the contract. Such clauses are frequently found in ‘standard form’ contracts. These are contracts that incorporate terms of a standard nature, often in fairly wide terms, applicable to all persons making a particular type of contract – for example, when making a booking contract with an airline, a bus company or the railway for a holiday, or parking your car in a car park. Their purpose is to limit the liability of the person inserting the clause.
It is a matter of some practical importance to know whether or not these terms or clauses form part of the contract. If they do, they bind the person entering into the contract, even if that person does not understand the terms or has not even read them.
At common law, a party is bound to exercise reasonable care over the person or property of another that has been entrusted to them under a contract. Failure to exercise reasonable care may leave the entrusted person open to a claim for damages, and it is this type of action that an exemption clause seeks to prevent. Its purpose is to relieve one of the contracting parties from liability that they would otherwise have.
The courts look at exclusion clauses very critically. Often the parties are in unequal bargaining positions, and this is particularly the case where consumers are concerned. There is often very little opportunity for a consumer to negotiate the terms or to read (or understand) the ‘fine print’ on the document they receive or sign.
In the case of commercial contracts, the courts are more likely to assume that the parties were in equal bargaining positions and able to seek legal assistance. However, in either case the effectiveness of an exclusion clause is a matter of construction of the contract as a whole, taking into account the bargaining position of the parties.
In addition to the position at common law, consideration also needs to be given to the impact that the Fairness of Transactions Act 1993 may have on the inclusion of exclusion terms in consumer contracts, given its emphasis on fairness in ss 1 and 4.
What is the legal position where there is a signed document?
It has to be established at the outset that the particular document relied on as containing the exclusion clause, which is often a ticket or receipt, is an essential part of the contract and not a mere acknowledgment of payment for a contract already made.
If the document is found to be an integral part of the contract, much then depends on whether or not it was signed by the acceptor. If you have to sign a document, do you read it carefully before you sign it? Let’s say you buy a washing machine from Graucob. You have it delivered and you are now running late for work, so you sign a document headed ‘Sales Agreement’ without first reading it. It contained the following clause:
When the machine failed to work properly, you brought an action against Graucob. As there was no fraud or misrepresentation, at common law you are bound, irrespective of whether you had read the document or not. You might have statutory remedies under the Goods Act 1951 and the Fairness of Transactions Act 1993 but what a pity you didn’t read the Sales Agreement first.
Just remember that a party signing a document knowing that it might have contractual terms is generally bound by those terms, whether they have read the document or not. It is worth noting, however, that this type of exclusion clause today may contravene s 4 of the Fairness of Transactions Act 1993.
What if there is evidence of fraud or misrepresentation?
If fraud or misrepresentation can be established, the person signing will not be bound. If you are asked to sign a receipt, always ask ‘what is the purpose of me signing this document?’ In a consumer transaction it will often be intended to exempt the seller from liability in which case you had better hope that the Fairness of Transactions Act 1993 can help.
What if is there is no evidence of fraud or misrepresentation?
If you sign a document containing an exclusion clause you may not be bound if you had reasonable grounds for believing that the document was not contractual. In the case of contractual documents that contain onerous terms, if such terms are to be effective then they must be brought to your notice if you are the party against whom they are to be enforced. This must be done before or at the time the contract is created.
However, where there is no disparity in knowledge or bargaining power, and no misrepresentation, fraud or duress, your signature is a very strong indication of intention to be bound because of the importance the court places on you signing a document. It is difficult to argue unfairness to trigger the Fairness of Transactions Act 1993.
What happens with unsigned documents?
Where the document is unsigned, the question is whether you, if you are the ‘customer’, knew of and consented to the exclusion clause. If they did not, would a reasonable person have regarded the document as one that would contain contractual terms and not represent a mere receipt or acknowledgment?
Have reasonable steps been taken to give sufficient notice of the term?
Where the document is neither a receipt nor an acknowledgment – for example, tickets for rail, sea or air journeys – should the customer have constructive notice of onerous clauses in the document? Has the defendant taken reasonable steps to give sufficient notice of the term to this class of persons? This is a question of fact in each case.
Reflection questions
Time for another break. Before you do, have a read of these 2 questions and see whether you think the exclusion clause is effective. It could be you one day dropping off your laptop or going on cruise.
- FACTS: You left your laptop with Browne Computer Services for repairs to the hard drive. When you came to collect the laptop, you noticed the screen was cracked. You claimed damages for breach of contract, and the business relied on provisions printed on a docket, handed to you when you left the laptop, which read: ‘No responsibility is accepted for loss or damage to laptops through any cause whatsoever’.
ISSUES: What would be reasonably understood as being the purpose of the docket? Did Browne Computing make you aware that the docket might contain conditions?
DECISION: What do you think? Would your answer be any different if you had to sign the docket?
HINT: In this case, would you have a remedy under the Fairness of Transactions Act 1993?
- FACTS: The Baltic Shipping Company owned the cruise ship Mikhail Lermontov which, eight days into her cruise, sank in New Zealand waters due to the negligence of the pilot. As a result of the ship sinking, you lost all your luggage and suffered personal injury. The booking form had stated that the contract for carriage for travel would be made at the time of the issuing of tickets. Some six weeks after payment for the cruise and two weeks before departure, a ticket containing conditions limiting the defendant’s liability for loss of baggage or personal injury was issued to you.
ISSUE: Could the shipping company rely on the limitation clause in the ticket to limit their liability?
DECISION: What do you think?
HINT: Was there a total failure of consideration? Why is that important? And what was the object of the voyage?
Business tip
If the condition is particularly onerous or unusual, and one that would not be generally known to the customer, the party seeking to enforce the condition must show that it had been fairly and reasonably brought to the customer’s attention – for example, by displaying a large sign in a prominent position or by marking the condition in red on a contract.
As a general rule, a party will be bound by displayed terms if they have either knowledge or reasonable notice of the terms, regardless of whether they have read them or not. If you go to park your car in a car park and you get a ticket from the machine, do you read the ticket or do you just check the time on it? Should the car park give reasonable notice that a ticket contains an exclusion clause? What is reasonable notice? Printing the clause in red ink with a red hand pointing to it?
If there are unusual conditions, these must be brought to the customer’s notice or they may be struck down as being unconscionable. A good example is an unreasonable clause.
Business tip
Where onerous or unusual terms form part of the contract, special notice should be drawn to them. It is not sufficient to incorporate an onerous condition on a delivery note without first discussing with, or drawing to the attention of, the customer the fact that a heavy penalty will be imposed for a breach of the term. The crucial test is whether reasonable notice of the term has been given on or before the contract was created.
Where the contract has been made, any subsequent introduction of an exclusion clause will be ineffective and the exclusion clause will not operate as the terms must be introduced while the contract is being formed so that the other contracting party has the opportunity of accepting or rejecting them.
Business tip
Always be conscious of dates and note carefully when a contract appears to have been made and the date when the exclusion clause first appeared in the contract. Was it before or after the formation of the contract? If it is at the pre-contractual stage, has reasonable notice of the term been given (as it may still not be effective)? But if it is post-contractual, the clause will not operate.
How do you interpret an exclusion clause?
Assuming that the exclusion clause has been properly incorporated into the contract, three possible approaches to interpretation can be identified:
- Strict construction against the party relying on the clause or term. Where the exclusion clause has been correctly incorporated into the contract it will be strictly construed against the party who attempts to rely on it. This is known as the contra proferentem rule. The clause will be ‘read down’ by the court unless it specifies the type of liability to be covered and any ambiguity will be resolved in favour of the injured party.
- The ‘four corners’ rule. The ‘four corners’ rule of interpretation states that exclusion clauses do not apply to actions outside the contract. They will not apply to situations involving deliberate breach, or for conduct that is outside the objects of the contract.
- Interpretation according to the express agreement. the effectiveness of an exclusion clause is purely a question of construction of the contract as a whole in each case. Is the term or clause wide enough to exclude an action for the alleged breach?
What is the position with commercial contracts?
Commercial contracts may be allowed to stand because of the equality of bargaining positions that can exist between the parties (although the presumption of equality of bargaining positions in commercial contracts is a rule of construction based on the presumed intention of the contracting parties in each case).
How are indemnity clauses and guarantees dealt with?
They are to be construed strictly in the context of the contract as a whole. If the indemnity clause or guarantee contains any ambiguity, it will be construed in favour of the party providing the indemnity.
Reflection questions
Take another break. Before you do, have a read of these three problem questions and see whether you think the exclusion clause is effective. Each one is based on an actual case.
PROBLEM
FACTS: Visiting Sydney, you decide to take a ferry from Circular Quay to Manly. The ferry company operated a service between Circular Quay and Manly in Sydney. Entry to the ferry is through a set of turnstiles, operated by payment by cash (K7) or card at a vending machine next to the turnstiles at Circular Quay. Above the turnstiles was a sign stating: ‘A fare of K7 must be paid on entering or leaving the wharf. No exception will be made to this rule whether the passenger has travelled by ferry or not’. You paid K7 to gain admission and, finding that you had just missed the ferry, attempted to leave without paying another K7. You were stopped and forced to pay by the attendants.
ISSUE: As this is your first time to Sydney, could knowledge of the terms and conditions of travel be implied? Would your answer be different if you had used the service on a number of occasions while in Sydney?
DECISION: What do you think?
PROBELM
FACTS: You hired a bike from John Warwick & Co. The contract contained a clause stating: ‘Nothing in this agreement shall render the owners liable for any personal injury to the riders of the machines hired’. The bike was supplied with a defective seat, which caused you to fall off and injure yourself. You sued John Warwick in contract for breach of warranty on the basis that the bike was not fit for the purpose for which it was hired, and in tort for negligence in supplying a defective bicycle.
ISSUE: Did the exemption clause operate to protect the defendants in both contract and negligence? If the clause had read: ‘Nothing in this agreement shall render the owners liable for any personal injury to the riders in negligence or contract of the machines hired’, would that make any difference to your answer?
DECISION: What do you think?
NOTE: In this case you could argue John Warwick owed concurrent duties in contract and tort (negligence) to you. Read the exemption clause carefully and think about what it covers.
PROBLEM
FACTS: Before you parked your car at Eazi Car Park, you were issued with a ticket that contained on the back of it the following clause: ‘Eazi Car Park the Council does not accept any responsibility for the loss or damage to any vehicle . . . however such loss . . . may arise or be caused’. It also stated: ‘This ticket must be presented for time stamping and payment before taking delivery of the car’.
A car park attendant allowed a thief to driveaway in your car after the thief claimed that he had lost his original ticket and presented another ticket on which was written a different registration number from that of your car. You sued for breach of contract and in the tort of detinue (this is a common law action available to a person claiming either the return of the goods wrongfully kept by another or their value).
ISSUE: Was the car park attendant, in allowing a thief to take the car, acting outside the terms of the contract so that the exclusion clause didn’t operate?
DECISION: What do you think?
HINT: The validity of the exclusion clause is a matter of construction. Exactly what were the terms of the contract.
NOTE: This was actually a bailment case where the bailee (Eazi Car Park) was seeking to rely on an exclusion clause
Can you delete unreasonable terms?
Where the court is faced with a wholly unreasonable term, the position of the common law appears to be that the court has no power to delete that term. Sections 4 and 5 of the Fairness of Transactions Act 1993 attempt to remedy what was an unsatisfactory common law situation by enabling a court to review an unfair contract.
Business tip
A precisely drafted exclusion clause in a business contract may protect a party relying on it as long as it can be shown on a proper construction of the contract that the parties intended not to be liable on the happening of the events envisaged in the contract. But note that the clause generally will not operate:
- if there is any deviation from the contract
- if the conduct of the party relying on the clause falls outside the scope of their obligations under the contract
- if it is an unfair term of a consumer or small-business contract and caught by s 4 of the Fairness of Transactions Act 1993.
What is the standing of third parties?
Third parties will be protected because they are not a party to the contract unless it is clear in the contract that they are to be covered.
A third-party exemption clause (known as a ‘Himalaya clause’, from the name of a ship) can provide protection to a third party who is not a party to the contract and is widely used in transportation contracts. For example:
‘The company will not be responsible for and shall be exempt from all liability in respect of any injury to the person of any passenger’.
For a third party to gain the protection of an exclusion clause (remember that a third party is not a party to the contract), they must satisfy the 4 conditions:
- the contract makes it clear that it was intended to benefit third parties; and
- it was clear that the defendant was contracting for itself and third parties; and
- the defendant had the authority of the third party to make the contract on their behalf – as this is an agency relationship, ratification can take place after the contract has been made; and
- consideration has moved from the third party – the performance of an existing duty is good consideration if it is owed to a third party.
Reflection questions
Take a break and have a look at these 3 questions and think about how you would answer them.
- Explain the operation of the contra proferentem rule. Is such a rule defensible today?
- In order for a party to rely on an exclusion clause, what must they show?
- In the case of a signed contract, can the party signing limit their liability in both contract and tort?
Key points
An understanding of the following points will help you to better revise material in this chapter.
- What is the difference between a representation and a term? A representation is a statement of fact, made by one party before or at the time of the making the contract, which leads the other party to enter into the contract. The representation is pre-contractual and does not form part of the contract, and is not intended to be legally binding. Thus, they are not actionable in contract law.
- A term, on the other hand, is a statement of fact that is intended to be legally binding and is part of the contract.
- What is the importance of a collateral contract? Where a pre-contractual statement is not a term of the main contract, it may still have contractual effect as a collateral contract, thus providing the injured party with a remedy. Such a contract has an independent existence from the main contract and may be enforced by an action for breach of a promise. More importantly, the collateral contract is not caught by the parol evidence rule because it is oral.
- What types of terms are found in a contract? Terms found in a contract will either be express or implied. An express term is either oral or written, while implied terms are those terms ‘read’ into the contract by the parties or the courts.
- What is the difference between a conditions warranty and innominate term? A condition is a term that is essential to the contract, breach of which allows the injured party to rescind or seek damages (or both). A warranty is a term of lesser importance and allows the injured party only to recover damages. An innominate term is an intermediate term that falls between a condition and a warranty and may allow the injured party to terminate the contract.
- When are terms implied into a contract, and what is their effect? Five conditions must be satisfied for a term to be implied into a contract:
- the term must be reasonable and equitable
- necessary to give business efficacy to the contract – that is, produce the result that the parties intended, so that no term will be implied if the contract is effective without it
- so obvious that ‘it goes without saying’
- capable of clear expression; and
- not in contradiction of any express term of the contract. Note: Implied terms are intended to give business efficacy to the contract and may be implied from custom or usage, by statute, previous dealings or by the courts.
- What is an exclusion clause, and what is its effect on a contract? An exclusion clause, also known as an ‘exemption clause’, ‘exception clause’ or ‘limitation of liability clause’, attempts to limit or exclude the liability of the person inserting it. In the case of signed documents, unless fraud or misrepresentation can be established or there is statutory protection available, the signor is bound. In the case of unsigned documents, would a reasonable person have expected to find such a clause in that type of document? Have reasonable steps been taken to give sufficient notice of the term and, if not, can they be implied by trade usage or custom trade? If the clause has been properly incorporated into the contract, the courts will construe the clause contra proferentem (strictly against the party relying on it). Generally, a third party is not protected by an exemption clause unless there is express intention by the contracting parties to cover third parties. If an exemption clause excludes liability for all terms in a contract, there is nothing left in the contract and it will be struck down by the courts.
