The contract clause that cost a developer more than £3.5m

The need to make sure that contracts are completely watertight has been illustrated in a recent case where a dispute over the meaning of a single clause cost a property developer more than £3.5m.

The case involved Chartbrook Ltd and Persimmon Homes. The two companies agreed that Persimmon should build a mixed residential and commercial development on land owned by Chartbrook. Under their agreement, the amount paid by Persimmon for the land would include an additional residential payment which was defined as "23.4% of the price achieved for each residential unit in excess of the minimum guaranteed residential unit value less the costs and incentives."

The problem then arose as to what that phrase actually meant. Chartbrook interpreted it as meaning it was entitled to share in the net proceeds for each unit above the minimum guaranteed amount. Persimmon saw it differently and believed that Chartbrook should receive either 23.4% of the net sales revenue or the minimum guaranteed amount, whichever was the greater.

The stakes were enormous because the difference in cash terms between the two interpretations was more than £3.5m. The High Court ruled in Chartbrook's favour and that ruling has now been upheld by the Court of Appeal.

Persimmon submitted that evidence from the pre-contract negotiations between the two companies supported its definition of the phrase. However, both the High Court and Court of Appeal ruled this to be inadmissible and said that pre-contract negotiations should not be used to define terms in a contract.

Lord Justice Rimer said: "I would reject any suggestion that this is a case in which it is legitimate, as part of the construction exercise, to have recourse to the pre-contract negotiations. The basic rule is that they are out of bounds."

The courts ruled that the final wording of the contract was what really mattered and the final phrase contained in the contract clearly supported Chartbrook's interpretation. "There is nothing unclear, uncertain or ambiguous about that. It is clear, certain and unambiguous and its arithmetic is straightforward."

It is clear from this case that companies should ensure the wording in a contract correctly reflects the true nature of the agreement. If there is any dispute then it is unlikely, as in this case, that the courts will allow evidence from pre-contractual negotiations to be used.