Supreme Court clarifies contract interpretation and implied terms

The long settled rule against the use of extrinsic evidence, what is known as the parol evidence rule, was summarised by Lord Morris in 1897 in Bank of Australasia v Palmer in the following terms:

"... parol testimony cannot be received to contradict, vary, add to or subtract from the terms of a written contract, or the terms in which the parties have deliberately agreed to record any part of their contract."

That position has perceived to have changed somewhat, notably in the Investors Compensation decision of Lord Hoffman in 1998, and subsequently in New Zealand with the decisions of the Supreme Court in Gibbons Holdings in 2007Vector Gas in 2010, and Firm PI 1 in 2014. Like many developments in the law, those positions have been hard to reconcile.

In a unanimous decision of the Supreme Court of Bathurst Resources Ltd v Buller Coal Ltd & L&M Coal Holdings Ltd [2021] NZSC 85, the Supreme Court sought to clarify what appeared to be contradictory positions.


The dispute arose out of the sale of coal exploration rights in the Buller region of the South Island (Te Wai Pounamu).  Bathurst had purchased the rights from L&M by purchasing the shares in Buller Coal.  The price was to be paid in a number of instalments, dependent in some respects on the qualities of coal extracted from the mines.  In a supplementary deed, Bathurst's obligation to pay the first instalment could be deferred, in which event a higher royalty on coal sales would be payable.  Based on anticipated investment and tonnage of coal extracted, the higher royalties would act as an incentive to Bathurst to pay the performance instalment without undue delay.

The price of coal collapsed, and Bathurst suspended mining and refused to pay the performance payments due under the contract on the basis that the coal had not been "shipped", as required in the contract, but sold domestically without the need for shipping, and that as no coal was being mined, no royalties were payable either.  The dispute turned on (1) whether or not the obligation to pay the first tranche of US$40 million was triggered by the expression "shipped from the Permit Areas"; and (2) if that payment was triggered, whether Bathurst was entitled to defer that payment.  Evidence of pre-contractual negotiations, intention, surrounding circumstances, before and after the contract was signed, and evidence of post-contract conduct, was adduced.  

The High Court and the Court of Appeal both found for L&M, holding that the first payment had been triggered and that there was no basis for deferring its payment.  Their approaches to the admissibility of extrinsic evidence, however, differed.

Use of extrinsic Evidence

Identifying three classes of extrinsic evidence - (1) commercial context and purpose of the contract; (2) prior negotiations; and (3) subsequent conduct - the Supreme Court started with Lord Hoffman's test in Investors Compensation, that interpretation is ascertaining the meaning which a document would convey to a reasonable person having all the background knowledge reasonably available to the parties at the time of contract.  Lord Hoffman did add the rider that the words do not have a dictionary or semantic meaning, but what the parties understood them to mean in the context of commercial commonsense (citing Mannai Investments and Antonios Company Naviera).

The Supreme Court then went on to say that its decision in Firm PI can be regarded as settling the general approach to contract interpretation, namely the objective approach outlined by Lord Hoffman, adding "Accordingly, the context provided by the contract as a whole and any relevant background informs the meaning."  The context, therefore, must be taken into account in settling the meaning of the contract terms, and is not restricted to situations of ambiguity.  Ordinary and natural meaning will be a powerful, but not conclusive indicator of what the parties meant.

In relation to commercial absurdity or commonsense, the Court issued a word of warning that a court should not conclude that a contract does not mean what it says simply because that interpretation would be unduly favourable to one party, acknowledging in passing that the courts are not well placed to assess industry-specific considerations.  Contract interpretation must take an objective approach to ascertaining the parties' true intentions.

In relation to pre-contractual negotiations, the Court held "... it is fair to admit evidence tending to objectively prove what parties intended the words to mean to assist with interpretation of the text of the contract - fair because it is the approach most consistent with holding the parties to their true bargain."   Conversely, evidence which is subjective, ie not available to other contracting parties, is to be excluded.

Post-contractual conduct fell into the same consideration of relevance to the interpretation of the intended meaning of the contract at the time it was entered into.

 Implied terms

The accepted position in relation to implied terms was outlined in 1977 by Lord Simon in the BP Refinery case:

"... for a term to be implied, the following conditions (which may overlap) must be satisfied: (1) it must be reasonable and equitable; (2) it must be necessary to give business efficacy to the contract, so that no terms will be implied if the contract is effective without it; (3) it must be so obvious that "it goes without saying"; (4) it must be capable of clear expression; (5) it must not contradict an express term of the contract."

That position was thrown into some uncertainty, again by Lord Hoffman, in the Belize Telecom case, by observing that the implication of a term was an exercise in the construction of the contract as a whole, and that where a contract does not say what is to happen then the court may imply a term to fill the gap.  The implication of the new term is not, in that sense, an addition to the contract, "It only spells out what the instrument means", placing the test for implied terms on the same footing as contract interpretation.

The Court affirmed the position in BP Refinery, noting that in Belize, Lord Hoffman was not departing from the underlying principles.  He was simply noting that there is considerable overlap in the five conditions outlined in BP Refinery.

In summary, the Court outlined six principle points:

(a) the test for implication is one of strict necessity, which is a high hurdle;

(b) the starting point is the words of the contract;

(c) implication is part of the construction of the contract as a whole;

(d) this is an objective enquiry, ie by a reasonable person with the knowledge of the parties;

(e) implication does not depend on proof of the parties' actual intention, or on the court speculating as to the intention of the parties; and

(f) the BP refinery conditions are useful to determine the necessity of the implied term to understand the meaning of the contract, with knowledge of the relevant background.


On the core question, of whether "shipping" meant export to an overseas market, or simply transported from the mine, the Court considered all related contracts, and the context in which the contract was entered into, and subsequent conduct through the lens of what was expressly agreed and what made commercial sense.  "Shipped" was held to mean transported.

On the issue of implied terms, the Court was split, the majority finding for Bathurst, that an implied term was not required, and the minority for L&M, that the suspension of mining triggered the obligation to pay the performance instalment.

The decision is helpful, in clarifying the rules around contract interpretation and affirming the rules in BP Refinery on implied terms, while approving, at least in part, Lord Hoffman's gloss in Belize.  Yet, having agreed unanimously on both issues, the Court could not agree on the application of those restated rules in relation to implied terms.  This, perhaps, suggests that while those rules have been helpfully restated, their application remains unclear.