Peter Holmes Investments Pty Ltd v S&C Nicola Pty Ltd

Construction

1. In de L'Isle v Knight [2021] NSWSC 809 ("de L'Isle v Knight"), Gleeson J discussed the principles governing the construction of commercial contracts as follows: [74] …An objective approach is to be adopted in determining the rights and liabilities of parties to a contract. The contract is to be construed by what a reasonable businessperson would understand it to mean. That requires consideration of the language used by the parties, the surrounding circumstances known to them, and the commercial purpose or objects to be secured by the contract: Electricity Generation Corporation v Woodside Energy Ltd (2014) 251 CLR 640; [2014] HCA 7 at [35]; see also Mount Bruce Mining Pty Ltd v Wright Prospecting Pty Ltd (2015) 256 CLR 104; [2015] HCA 37 at [46]-[52]; Victoria v Tatts Group Ltd [2016] HCA 5; (2016) 90 ALJR 392 at [51]; Simic v New South Wales Land and Housing Corporation (2016) 260 CLR 85; [2016] HCA 47 at [18] and [78]. [75] Regard can be had to the surrounding circumstances objectively known to the parties: Codelfa at 352 (Mason J). However, care must be exercised in considering evidence of negotiations between the parties. Evidence of negotiations is inadmissible for the purpose of construction insofar as it is no more than evidence of what the individual parties were subjectively trying to do when they negotiated the language of their agreement. Negotiations may be considered only to the extent that they identify mutually known facts which form part of the background to the transaction: Codelfa at 354. As Heydon and Crennan JJ said in Byrnes v Kendle (2011) 243 CLR 253; [2011] HCA 26 at [98]: … evidence of pre-contractual negotiations between the parties is inadmissible for the purpose of drawing inferences about what the contract meant unless it demonstrates knowledge of "surrounding circumstances". (Citation omitted.)

Recitals

1. Traditionally, a different approach might be thought to exist in interpreting recitals in deeds as opposed to contracts which has been stated by Lord Esher MS in Ex parte Dawes; In re Moon (1886) 17 QBD 275 at 286: If the recitals are clear and the operative part is ambiguous, the recitals govern the construction. If the recitals are ambiguous, and the operative part is clear, the operative part must prevail. If both the recitals and the operative part are clear, but they are inconsistent with each other, the operative part is to be preferred.
2. More recently, in de L'Isle v Knight, Gleeson J summarised the proper approach to recitals, which his Honour noted: [103]…is explained in Schwartz v Hadid [2013] NSWCA 89, where Meagher JA said at [80], referring to the analysis of Campbell JA in Franklins Pty Ltd v Metcash Trading Ltd (2009) 76 NSWLR 603; [2009] NSWCA 407 at [379]-[380]: As Campbell JA observes in Franklins Pty Ltd v Metcash Trading Ltd [2009] NSWCA 407; 76 NSWLR 603 at [379]-[380], although there is a common and longstanding practice of including recitals in an agreement, those recitals can be of various kinds including "statements of the factual background to the transaction, statements of the intention or object of the parties in entering the transaction, or statements that the parties (or one or other of them) have agreed to do or will do certain acts". Because that is so and because the task of a court is to interpret the particular document in dispute, statements that recitals should always be treated in some particular way when construing an agreement must "be treated with caution, and as subject to the context in which they were uttered". [104] Subsequently, in Lachlan v HP Mercantile Pty Ltd (2015) 89 NSWLR 198; [2015] NSWCA 130, the Court of Appeal (Bathurst CJ, Beazley P and McColl JA) said at [52]-[53]: [52] A recital is part of a deed or agreement, usually set out as a statement or series of statements prior to the operative part of the deed or agreement. It can serve a variety of functions, including providing the factual background to the transaction and stating the parties' intentions or object in entering into the transaction: Franklins Pty Ltd v Metcash Trading Ltd [2009] NSWCA 407; 76 NSWLR 603. In that case, Campbell JA, in a detailed review of the authorities, examined the manner in which recitals may be used for the purposes of the construction of the deed or agreement in which they appeared. [53] As his Honour pointed out, at [380], although not part of the operative provisions of the deed or agreement, a recital may be used as an aid to construction. There is well-established authority that a recital can be used to construe a provision of a deed or agreement that is ambiguous. Relevantly for present purposes, his Honour further observed, at 380, that recent authorities supported the proposition: [380(4)]…that recitals can provide a means of proving background facts that are themselves legitimate aids to construction. They can be at the least an admission by the party to the deed of the truth of the matter stated, under the general law concerning evidence. (Citations omitted.) [105] If the language of a release is broader than indicated by a recital, then it should not be read down: Crossman v Sheahan [2016] NSWCA 200 at [235]-[236] (Ward JA, Payne JA agreeing); Chacmol Holdings Pty Ltd v Handberg [2005] FCAFC 40 at [91]-[92]; Karam v ANZ Banking Group Ltd [2001] NSWSC 709 at [406] (appeal allowed on other issues: Australia and New Zealand Banking Group Ltd v Karam (2005) 64 NSWLR 149; [2005] NSWCA 344).

Absurdities or inconsistencies

1. An inconsistency arises where there are conflicting or contradictory provisions within the one instrument with the result that it is not possible to give effect to both (Forbes v Git [1922] 1 AC 256 at 259).
2. There are multiple approaches that may be taken to reconcile such provisions (see J D Heydon, Heydon on Contract (Thomson Reuters, 2019) ("Heydon on Contract") (at [8.640]). First, as courts must construct contracts as a whole, where these inconsistencies arise, they are to be resolved, if possible, on the basis that one provision qualifies the other and they both have the same meaning and effect (Re Media Entertainment & Arts Alliance; Ex parte Hoyts Corp Pty Ltd (No 1) (1993) 178 CLR 379; [1993] HCA 40 ("Re Media") at 396-7). A second method is to read one provision down so that it does not deal with the field in which the second provision operates in apparent conflict (Re Media at 387). A third is to determine which the "initial and dominant" provision is and treat the other as giving way to it (Australian Guarantee Corp Ltd v Balding (1930) 43 CLR 140; [1930] HCA 10 at 151-152 per Isaacs J). Finally, a court may give effect to the provisions which best fit the construction of the contract as a whole and ignore the others (Taylor v Dexta Corp Ltd (2006) 14 ANZ Insurance Cases 61-712; [2006] NSWCA 310 at [1], [66] and [89]).
3. Additionally, I note that in certain circumstances multiple presumptions may be called in aid to reconcile inconsistencies, however, these are not applicable in the current case (see Heydon on Contract at [8.640]; Herzfeld and Prince, Interpretation (2nd ed, Thomson Reuters, 2020) at [22.110]).

Submissions of the Parties

1. The plaintiff submitted the Partnership Agreement must be construed as a whole and that any inconsistencies should be resolved on the basis that one provision qualifies another so that if at all possible both have meaning and to give effect to the intention of the parties as reflected in the language they have used.
2. Further, PHL contributed all of the capital (cl.6(a)) notwithstanding cl.6(c) and despite the inferences from Recitals D and E.
3. From the express terms of the agreement PHL is entitled to 5% on "all capital expenditure" because PHL agreed to fund the whole of the capital and therefore it is submitted before any net profits are distributable to each of PHL or S&C, PHL must first be repaid the whole of the capital or monies invested in the project and also is entitled to 5% on the whole PHL's capital or monies invested into the project and again "before any profits are distributed". The consequence is that S&C pays 5% interest on the whole of capital or monies invested in the project. This is because S&C contributed no capital to the project.
4. In further reply the plaintiff submitted that to deny PHL of 5% interest on all capital or monies invested solely by it would undermine the obvious commercial logic underpinning the Partnership Agreement.
5. The defendant submitted that there are a number of drafting problems with the agreement. For example, Recital D and the fact that cl.4(a) contemplates a step still to be taken by the partnership which Recital D appears to record having been undertaken by PHL. And there are other apparent inconsistencies. However the parties intentions it is submitted can still be discerned.
6. The defendant accepts that PHL was and was to be the sole financier of what was a substantial development. It also accepted that if the partnership had funded the project externally there would have been repayment obligations. But the parties could not have intended PHL to make a windfall gain. It is submitted that the parties would have wanted notwithstanding PHL providing the capital that the two parties would want to be on an equal footing.
7. Recital D should be seen as an inelegant attempt to recognise the notion of an equal footing. The Recital recognises the joint liability of the partners. That is also consistent with the parties' intention elsewhere expressed that they would share profits and losses equally.
8. Curiously, cl.6(c), does not like Recital E provide for the reimbursement of PHI's capital merely interest on capital. Clause 6(c) should it is submitted be read consistently with Recital E as creating a distribution waterfall in which reimbursement of the capital expenditure and the payment of interest on the capital both sit at the same level with each other above the distribution of profit in the hierarchy.
9. A regime that imposes an interest solely upon S&C would contradict the apparent intention that all costs and expenses would be borne equally. Further it could not have been intended that S&C would be jointly liable for all losses and in addition was liable for the cost of finance provided to the partnership.
10. In its reply submission the defendant submits that the words "costs of the development" in Recital D should be understood as a reference to costs which had been paid or would be paid solely by PHL and the indemnity obligation is then discharged by the operative provision under cl.6(c). The interest should be seen as an expense which S&C would in the future pay as a member of the partnership. And the recital so it is submitted does not say that PHL alone would pay the interest.
11. It is submitted that the source of the repayment of the capital and the interest is to be from the proceeds of sale and not from one party's profit share. This is an entirely different fund than S&C's profit share which only comes into existence once all costs including costs such as sales commission, advertising and GST are allocated.
12. It is also submitted that Recitals D and E describe a distribution waterfall which is implemented by the operative provision in cl.6(c). The sum total of the Recitals D,E and cl.6(c) achieve the result that the project costs, including PHL's capital costs and interest are ultimately paid by the partnership and the balance being the profit (if any) is distributed equally.
13. It is therefore submitted that the reference be carried out in respect of the project by the referee treating the interest payable to PHL in respect of its capital expenditure as an expense of the partnership which is to be deducted from partnership income prior to the determination of either partner's share of profits.

Consideration

1. The Partnership Agreement is a relatively short document but to observe that it is not well drafted is an understatement. To start there are no definitions (except arguably of the word "Capital" in Recital B). Some of the clauses are clumsy and lacking in clarity.
2. However in my view this is a contract where the Recitals play a very significant role. First, they depict the object of the agreement, namely the development of the named properties in Dee Why in Recital A.
3. Secondly, Recitals B - F are arguably not only operative but set out the fundamental rights and obligations of the parties. Apart from cl.6, they set the relevant contractual parameters.
4. What is significant as an overview of the contract as a whole is the unsurprising primacy which is given to PHL. The obvious reason for that is that it has agreed to fund "all of the costs and expenses for the Development". This is in effect the definition of the "Capital", although the word does not always appear capitalised in other places.
5. Those expenses would include usually, the purchase price, agents commission if any, stamp duty, legal fees, and those of architects, engineers, certifiers and Council. There are construction costs and PHL's borrowing costs (again if any), to identify the more obvious. It is to be noted that a beneficiary of the construction costs and associated profit, is of course Manotik Pty Ltd, an entity related to S&C, (see cl.2(d) and cl.4(c)).
6. Recitals D and E are in my view, a clear recognition of the primacy financially to be accorded to PHL and importantly as to the timing of its recoupment of the costs and expenses it has agreed to incur for the purpose of the project. This is the unifying theme in this agreement.
7. Recital D requires S&C to "support" PHL. The support as such is not defined but it is a term used in the context of S&C also agreeing to "indemnify [PHL] from [sic] half of the costs of the development". In addition to that obligation, S&C has agreed to "pay [PHL] 5% interest per annum on all monies spent on the project by [PHL]". Leaving aside the inelegance of the wording it bears some parallel to S&C's obligations in cl.6(a), being its liability for 50% of the losses incurred by the project. I accept, however, Recital D is not entirely clear as to precisely what the indemnity is intended to involve.
8. Recital E makes it plain, however in my view, that all units are to be sold and that from the "proceeds", PHL is "first" to be paid a "return of the capital invested…then toward 5% interest" on that "Capital". From a timing perspective the Recital, importantly in my view, states "…and finally distributed equally between the Partnership parties".
9. I am satisfied the better view of yet another inelegant clause is that PHL is to be immediately (first) paid its capital expended plus interest on that "Capital" calculated on a monthly basis, at a rate of 5%, before (finally) there is any distribution of what will be profits, if any.
10. In my view that unifying theme as it were is continued into cl.6 of the agreement. I accept that cl.6(a) on one view makes no sense in the light of Recital B in particular, except perhaps in a notional sense.
11. In any event it has to be read in the context of cl.6(c) which commences with the words "[d]espite (a) and (b) above [PHL] has agreed to fund the whole capital…..until completion". The clause then expressly states that as a result it (PHL) is "entitled to be the sole owner of the project". More to the point it is also according to the clause "entitled to 5% interest on all capital expenditure to be repaid before any profits are distributed" (emphasis added).
12. Clause 6(c) determines the timing and method of PHL's recoupment if its outlay and the sole ownership of the real estate is not only the legal but the commercial level of control PHL is intended to have over the timing and method of recoupment.
13. In my view although not entirely beyond argument I consider the plaintiff has the better case on the construction of the agreement and I would find accordingly.

DISCLAIMER - Every effort has been made to comply with suppression orders or statutory provisions prohibiting publication that may apply to this judgment or decision. The onus remains on any person using material in the judgment or decision to ensure that the intended use of that material does not breach any such order or provision. Further enquiries may be directed to the Registry of the Court or Tribunal in which it was generated. Decision last updated: 15 September 2021