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What are you implying? The role of implied terms in contract interpretation

Recent cases, including the Court of Appeal’s judgment in Bou-Simon v BGC Brokers LP and the (as yet unreported) case of Harrow LBC v Engie Regeneration (Apollo) Ltd (2018) (TCC), provide a useful reminder of the strict constraints on implying terms into a commercial contract.

Courts can imply terms into a contract in order to fill a gap in the drafting, thereby ensuring that the contract reflects the contracting parties’ intentions. However, these recent decisions have reinforced the limitations and rules governing this power to imply terms.

Bou-Simon:  key considerations

In short, Bou-Simon reiterated that:

  • Express terms should be considered first, with implied terms being considered only if the review of the express terms suggests a need to imply terms.
  • The test is objective – what would a reasonable person have understood the parties’ intentions to be if they were in the contracting parties’ position at the time of entering into the contract?
  • The court should not intervene to imply terms for the purpose of business efficacy or fairness, or on the basis that the parties would have agreed it had it been suggested to them at the time the agreement was entered into. While these assist with providing context to implied terms, they are not in themselves reasons to imply terms.

The issue

Mr Bou-Simon was going to become a partner at BGC Brokers. A loan agreement between the two provided that Mr Bou-Simon would borrow £336,000, against which partnership distributions would be applied in repayment. If Mr Bou-Simon ceased to be a partner any unpaid amounts would be written off, provided he had served at least four years.

Mr Bou-Simon resigned within the four year period and BGC Brokers claimed the full amount of the loan. However, Mr Bou-Simon argued that the loan was not repayable as he had never technically been made a partner and there was no express term requiring him, as a mere “employee”, to repay the loan. The High Court disagreed, holding that a term should be implied into the contract requiring him to repay the loan.

Implied terms: the temptation of hindsight

The Court of Appeal overturned the first instance decision, stating that although the correct test for applying terms in contract interpretation had been applied (as set out in Marks & Spencer v BNP Paribas) it had been applied incorrectly.

It was wrong to imply a term to reflect the merits of the situation at the time of the trial. Hindsight should not be applied merely because it appeared fair, or the court considered that had such a term been suggested to the parties they would have agreed to it. Implied terms should be judged from the perspective of the reasonable reader of the agreement, knowing all of its provisions and the surrounding circumstances at the time it was made.

In addition, procedurally the express terms of the contract should be looked to before any implied terms are considered, rather than the two being dealt with simultaneously. In the Bou-Simon case, a reasonable reader, considering all the express terms, the circumstances at the time of contract execution and applying commercial common sense, would not have considered the proposed implied term so obvious that it would “go without saying”, or that its implication was necessary for business efficacy. Mr Bou-Simon was allowed to keep his money.

The correct test for implying terms: Marks & Spencer

The correct test for implying terms into a contract to aid interpretation (as confirmed in Marks & Spencer) is that a term may be implied if:

  • It is necessary to give business efficacy to the contract (or, put more simply, without it the contract would lack commercial or practical coherence) or that its need for inclusion is so obvious that it “goes without saying”.
  • It is capable of clear expression.
  • It does not contradict any express term of the contract.
  • Notional reasonable parties would have agreed the term was needed.
  • It passes the officious bystander test.

The Harrow decision:  no gap to be filled

Similarly, in Harrow LBC v Engie Regeneration (Apollo) Ltd, the court emphasised that a term should only be implied where the contract would otherwise be commercially or practically incoherent. In Harrow, one of the issues was whether an obligation to procure latent defects liability insurance could be implied into the contract.

Although the decision contains no new law, it confirms the need to look at the express terms of the contract in the context of the surrounding contractual arrangements. The court considered that it was apparent from the existing contractual terms that the provision of latent defects insurance was optional and without more specific detail, such as the amount, risks to be addressed and period of such insurance, the implication of an obligation to procure the insurance would be too uncertain to enforce.

Relevance of deleted terms

Interestingly, the Bou-Simon decision also considered the relevance of terms deleted from previous drafts of a contract to the interpretation of the final version. In a previous draft of the loan agreement BGC Brokers had proposed a term similar (though not identical) to the term implied by the High Court judge into the contract.

The court held that deleted words were only relevant to contractual interpretation where the express terms were ambiguous. When considering whether to imply terms, deleted terms were only admissible where they formed part of the surrounding circumstances, rather than part of the course of negotiations, although the court did not elaborate on this distinction.

Interestingly, the court noted that in the case of implied terms, unlike contractual interpretation, there is no threshold level of ambiguity which must be achieved before deleted words could be considered.

Conclusion:  interpretation v implication

The Bou-Simon decision reinforces the position that the test for implying terms is narrow and more complicated than it seems. Recognising that implying terms into a contract is potentially intrusive, the law imposes strict constraints. Although it is tempting to rely on the benefit of hindsight this must be resisted. The objective test of the “reasonable reader” must be preferred to the parties’ actual intentions.

Implication of terms is separate from the process of interpretation, and the two should be carried out sequentially. Implying terms by its very nature involves importing new words into a contract to address situations which the contract does not expressly deal with.

Terms may be implied to achieve business efficacy, but only where the terms are so obvious that without them the contract would lack commercial or practical coherence.

These cases reinforce the point that express terms are key to contractual interpretation. Don’t rely on terms being implied – if you want a contract to say something, say it and say it clearly.

Bryan Cave Leighton Paisner LLP Bethany Cradick

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