Although businesses enter into commercial contracts on a regular basis
it is often common for one party to claim that the contract does not
adequately document the intention of the parties. The party in question
may apply to court to have the contract rectified.
The case law around this subject varies, particularly as to whether the
contract should be interpreted to reflect what the parties actually
wanted and agreed (the subjective test) or what a hypothetical
reasonable observer would have decided had been intended by the parties
(the objective test).
The Court of Appeal clarified the position in FSHC Holdings Ltd v Flas
Trust Corporation Ltd in which it was held that the subjective test was
to be used unless there is a prior binding agreement between the
parties.
In circumstances where there is no prior binding agreement the contract
may be rectified. An example of this would be a situation whereby
certain terms were agreed between the parties but the document executed
contains terms to the contrary. The subjective test applies here in that
ultimately the document should reflect what the parties had intended.
If however, there is an existing binding agreement in place, the
objective test will apply ie. how a reasonable observer would have
interpreted the terms based on what had previously been agreed. The
reason being is that the objective test would create more certainty for
an existing agreement and would prove difficult in other situations in
proving the parties' common intentions.
The decision in this case certainly adds clarity to the law and makes
it difficult to change formal agreements that have been entered into. It
also prevents those parties that feel that they have entered into a bad
bargain from going back on the agreement as they will need to prove
that the agreement incorrectly reflects what the parties had intended
rather that whether it is objectively wrong to enter into the terms of
that agreement.
This case enforces the need to keep clear records in relation to
contract negotiations showing the intention of the parties from the
outset, particularly if the contract is challenged at a later date.
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