Bathurst appealed the Court of Appeal’s interpretation of a contract that specified when and how Bathurst was to pay royalties to L&M for the sale of mining permits.
The Supreme Court decided the extent to which external evidence about the meaning of a contract beyond its actual terms can be used to help with its interpretation. All five judges agreed on the law, but had different views on how specific clauses of the contract ought to be interpreted.
The parties had a contract for the sale of coal exploration permits over parts of the Denniston and Stockton Plateaus within the Buller Coalfield. As part of the agreement, Bathurst was to pay L & M Coal Holdings two lots of USD 40 million. The first when 25,000 tonnes of coal had been "shipped from the Permit Areas", and the second when 1 million tonnes had been shipped. Bathurst extracted different types of coal from the permit areas, including thermal coal and the more highly valued coking coal.
Later on when the international price of coking coal crashed, the parties agreed Bathurst could delay these performance payments, so long as it continued to pay royalties that were due under a related royalty deed.
Bathurst mined and trucked out more than 25,000 tonnes of coal from the permit areas, then stopped mining and stopped paying royalties. It hadn't paid the first performance payment but argued that since there was no mining no royalties were due. Therefore it was technically continuing to pay these royalties so it can continue to defer payment. L & M argued that this wasn't the proper way to interpret the contract.
Both parties offered extensive evidence to support their interpretation of the contract terms, including evidence of pre-contractual negotiations, what they thought the agreement meant, and surrounding circumstances. The High Court and Court of Appeal both found in favour of L & M, but took different views on the admissibility of this extrinsic evidence.
The contract included an 'entire agreement' clause stating the written agreement constituted the entire agreement between the parties, and superseded and extinguished all earlier negotiations, and written and oral understandings and agreements.
Is extrinsic evidence admissible?
Contracts are interpreted by "the meaning the document would convey to a reasonable person having all the background knowledge which would reasonably have been available to the parties in the situation in which they were at the time of the contract" (Firm PI 1 Ltd v Zurich Australian Insurance Ltd NZSC 147).
The Supreme Court unanimously found that evidence must relate to this test in order to be admissible. If evidence is not relevant to the test for contract interpretation, then it is not admissible. So evidence of one party’s thoughts and understandings that were not communicated to the other parties is not allowed. However, evidence of what they actually did and said to each other that could affect their shared interpretation of the contract was relevant and admissible.
All five judges concluded the same test should apply to the admissibility of evidence of conduct after the contract had been signed. If the party’s behaviour after the contract had been signed can serve as proof of how the parties understood the terms of the contract at the time it was made, then it is likely to be relevant and admissible.
The test for implying terms
Courts sometimes imply terms into contracts if these terms are needed to give effect to the parties ’‘presumed intentions’. The Supreme Court confirmed the five criteria in the UK case of BP Refinery (Westernport) Pty Ltd v President, Councillors and Ratepayers of the Shire of Hastings will continue to apply in New Zealand, subject to a few qualifications. The Court found the first three conditions BP Refinery (that the implied term must be reasonable and equitable; necessary for business efficacy; and so obvious it goes without saying) overlap and should be viewed as 'analytical tools' rather than cumulative requirements. The last two conditions (that the implied term must be capable of clear expression; and must not contradict any express terms of the contract) must be satisfied independently.
The Court ruled terms can only be implied after the express terms of the contract have been interpreted and a gap has been identified. Then the Court can determine whether it is necessary to add something to spell out what the contract must mean.
Terms will only be implied when they are strictly necessary. The words of the contract are the starting point and if the contract does not provide for an eventuality, the usual inference is that no provision was made for it. In this situation, a term can only be implied if the court finds that the term would spell out what the contract, read against the relevant background, must be objectively understood to mean. The Court doesn't have to speculate on what the parties would have wanted the contract to say had they considered the eventuality before signing.
Bathurst claimed that while the coal had been moved off the mine, it hadn't been "shipped" anywhere on a ship, so the royalties clause hadn't been triggered. Bathurst said the contract was focused on the export of coal overseas and this means performance of the contract requires shipment of coal overseas, particularly as this is where the commercial returns come from.
L&M supported the High Court and Court of Appeal findings that the clause refers to when coal is 'transported' off site and the contract was not focused exclusively on exports overseas.
Minority judgment - Winkelmann CJ & Ellen France J
The minority found the word 'shipped' today describes all means of transport of goods from one place to another, like 'shipment' of goods purchased online. This is also consistent with the inland location of the permit area - it is impossible to transport coal from the area by ship. It also matched the definition of coal, which was linked to the permit area and did not differentiate between coking coal and other types.
The minority found the export operation of coking coal was not the sole purpose of the contract. Bathurst had rights to mine all coal, including non-coking coal, and the royalty payment obligations did not depend on what kind of coal was extracted and sold. This was consistent with Bathurst’s acknowledgment that extraction and sale of thermal coal triggered the first performance payment in its financial statements.
The minority would have upheld the Court of Appeal's finding that the relevant royalty payments were those arising from the level of mining which triggered the performance payment. They also found the agreement to delay performance payment so long as royalties continued to be paid was a material change to the contract based on an assumption of continued mining and there was a legal obligation on Bathurst to continue mining.
Majority judgment – O’Regan, Glazebrook& Williams JJ
The majority found the contract did not create a legal obligation on Bathurst to develop and exploit the mine. There was a commercial incentive for it to do so, but no legal obligation. The amendment occurred before Bathurst defaulted on the first performance payment and was in L&M’s interests because it enabled Bathurst to continue mining to raise enough funds to pay USD 40 million at some point.
L&M always risked receiving no payment if the mine was never developed to the 25,000 ton capacity triggering the first performance payment. The amendment simply extended this risk beyond that milestone. The parties seemed to assume the operation would continue beyond the milestone and Bathurst's initial investment, but that assumption did not extend to a legal obligation.
The amendment did not impose a new obligation on Bathurst to make royalty payments, nor did it impose obligations on Bathurst to continue mining in the permit areas, rather than developing its other interests. L&M agreed to accept a form of payment that was tied to the extraction and sale of coal from the mine, which was entirely within Bathurst's control, and accepted the risks that went with this. Bathurst's decision to refocus its operations following the collapse of international coking coal prices cannot affect interpretation of the contract. It is not strictly necessary to imply any further terms to the contract.
The majority allowed the appeal and declined to imply a term to the agreement that Bathurst was obliged to continue mining and paying royalties at the same rate. Such a term was not necessary for business efficacy, nor was it so obvious that it went without saying, and it would contradict other express terms of the contract.
L&M was ordered to pay costs of $30,000 plus disbursements and costs in the lower courts now need to be reassessed in light of this judgment. The Supreme Court’s unanimous decision on the approach to extrinsic evidence clarified a previously contentious area of the law on contract interpretation.
If you would like further information on contract interpretation, please contact Director Rob Ogilvie.