This article is an excerpt from The Art of Tendering: A Global Due Diligence Guide, which is available for purchase.
In its May 2005 decision in Stratus Contracting Ltd. v. Abitibi Consolidated Inc., the British Columbia Supreme Court dealt with a contract interpretation dispute involving the application of an “annual rate review clause.” The case involved a contract for the transportation of logs. The plaintiff, Stratus Contracting Inc., had entered into a contract with Abitibi agreeing to transport logs to sawmill sites. The contract included an “annual rate review clause” that read as follows:
The parties shall review the rates set out in paragraph 1.0, above, on an annual basis, as soon as reasonably possible after the anniversary of the Commencement Date to ensure that Stratus maintains a minimum 12% net profit per annum. The parties agree to amend the rates at the end of their annual review to maintain a 12% annual net profit for Stratus. If the parties do not agree to a proposed amendment to the rates arising out of the annual review, either of the parties may request the disagreement be decided by arbitration as set out in Part 15 of this Contract.
A dispute arose over whether this clause was intended to apply from the second year onwards or whether it was intended to apply retroactively to adjust the first year of payments. Since Stratus Contracting did not achieve an annual profit of 12 percent in the first year, it argued that the clause should be applied retroactively to increase its first-year rates. Abitibi disagreed. It argued that there should be no rate adjustment for the first year, since the clause applied only to the second and subsequent years.
In considering the dispute, the Court noted that the meaning of a contract should be interpreted based on (i) the language of the agreement and (ii) the surrounding circumstances at the time that the agreement was formed. The Court noted that other factors should be considered only when there are two or more reasonable interpretations that can be drawn from the agreement itself:
The goal in interpreting an agreement is to discover, objectively, the parties’ intention at the time the contract was made. The most significant tool is the language of the agreement itself. This language must be read in the context of the surrounding circumstances prevalent at the time of contracting. Only when the words, viewed objectively, bear two or more reasonable interpretations, may the court consider other matters such as the post-contracting conduct of the parties.
Abitibi argued that there could be only one reasonable interpretation: that the annual rate adjustment clause was not intended to be retroactive. While the Court agreed that this was a reasonable interpretation, it did not accept that this was the only reasonable interpretation. The Court found that the clause, as drafted, could also be reasonably interpreted to apply retroactively.
Since there was more than one reasonable interpretation available, the Court determined that it was free to consider additional evidence to determine the true intentions of the parties when the contract was created:
I agree with the defendant’s arguments that the plain language of this clause itself does not suggest retroactive affect, there is no mention of retroactive payment and the phrase “cost plus” does not appear. However, the interpretation urged by the plaintiff does not require a distortion of the meaning of the words. Although one might certainly expect that the solicitor acting for Stratus that drafted the clause would have provided for a retroactive adjustment if that was intended, I cannot conclude that the meaning urged by the plaintiff is objectively unreasonable prior to a consideration of extrinsic evidence.
The Court then considered a lengthy series of discussions that had preceded the formation of the contract. It ultimately sided with Abitibi in determining that the clause should not apply retroactively.
As this case demonstrates, vaguely drafted provisions can have a significant adverse impact on the certainty of pricing under a contract. While Abitibi’s interpretation in this case prevailed, its only victory was the avoidance of fees that it never intended to pay in the first place. Success in litigation over a pricing dispute is no substitute for establishing certainty of terms at the outset of a contract. You should therefore proactively draft your pricing provisions with precision, since this can help prevent costly litigation.
