The Court of Appeal has found minimum performance level examples and key performance indicators (KPIs) in a service level agreement with a housing association to be contractually binding. Karl Anders and Ben Sheppard review the decision.
Since the 2015 case of Arnold v Britton  UKSC 36, Supreme Court authority on contractual interpretation has been clear:
- The starting point is the wording of the contract itself.
- Whilst consideration of commercial common sense can, in the right circumstances, be taken into account, it is not a criterion of contractual interpretation that should undermine the importance of the clear language of a clause.
- Similarly, whilst commercial common sense can be a consideration, it cannot be invoked ‘after the fact’ (it is only relevant to ascertaining how matters would or could have been perceived when the contract was made).
- Where necessary, an objective test – that of what the reasonable business person would understand the clause to mean – is applied to ascertain the parties’ intention at the time the contract was entered into.
- In a case where there are two or more tenable interpretations, the most commercially sensible option will be preferred.
- Crucially, it is not for the court to depart from clear contractual wording even where that represents a bad bargain for any party.
“Curious” case and Court of Appeal decision
In Sutton Housing v Rydon Maintenance  EWCA Civ 359 the parties entered into a five-year contract pursuant to which Rydon would maintain and repair Sutton’s housing stock. It was common ground between the parties that they had agreed that Sutton would be able to terminate the contract on notice if minimum acceptable performance levels (MAPs) were not met and that if the MAPs were exceeded, Rydon would receive bonuses.
When Sutton subsequently alleged that the MAPs had not been met and served notice to terminate the contract, it became clear that there were problems with the drafting of the relevant provisions. The contract defined the MAPs by reference to a KPI framework, but the KPI framework contained MAPs figures which were referred to as “examples”. Rydon argued that the contract did not specify contractually binding MAPs – instead, it only specified examples. The Court of Appeal was asked to construe the contract.
The Court of Appeal found for Sutton Housing, deciding that MAPs “examples” were binding. The court was careful to note that it reached its decision with the Arnold v Britton authority in mind and it focused on the fact that it was clear that the parties’ intention was, and the intention of “any reasonable or indeed unreasonable person standing in the shoes of either party” would be, for the contract to specify MAPs.
In addition, whilst the drafting clearly referred to MAPs “examples”, Jackson LJ considered that the wording within the KPI framework itself was clear that the figures were examples, but that the arithmetical consequences of the relevant provisions were specified, and were therefore binding in the manner that the parties had intended.
The Court referred to the drafting as “curious” and took into account commercial common sense when noting that, if the MAPs were not binding so as to preclude Sutton’s termination option, then Rydon’s bonus option would also be precluded. It therefore concluded that the only rational interpretation was that the MAPs were contractually binding.
The use of KPIs, minimum performance standards and worked examples or illustrations is common in many commercial and service level agreements – including those falling within the housing/real estate portfolio management context. It is possible that drafting similarly loose or confusing to that in Sutton Housing v Rydon may have been applied in very many other cases, not least because it is common practice for minimum performance requirements, KPI schedules and the like to be put together by commercial or operations managers and then simply copied and pasted into contractual schedules, with little or no legal input or analysis.
It is anticipated that this case may be relied upon in future by those looking to the courts for guidance on confusing contractual provisions to ensure enforceability of performance standards. However, while the Court of Appeal reached what was clearly a common sense outcome on the particular facts of this case, it is easy to see that, as contractual wording is paramount to the contractual construction exercise, a different case could go a different way.
It is clearly important for the parties to these types of service level contracts to ensure that all relevant provisions are drafted precisely and correctly in accordance with their intentions. Where contracts have already been completed, businesses should review very carefully the service level clauses, key performance calculations and any related definitions or other operative provisions to assess whether they are likely to be binding and work in exactly the way they were intended to.
In the event of any dispute over the interpretation and operation of any such arrangements:
- Consider carefully the wording in the clause/contract itself. If there is real uncertainty, then commercial common sense can be taken into account and may assist.
- Also consider whether there is any scope for settlement? It is rare for any contractual interpretation dispute to be clear cut. There will almost inevitably be an element of ‘litigation risk’ for both parties, which can assist in negotiations to encourage a commercial compromise.
- In any event, it is good to talk. Interpretation disputes often arise by virtue of the fact that there is an ongoing contractual relationship between the parties. It can be in the interests of all concerned for the parties to behave in a reasonable and commercially sensible manner.
- Ascertain whether the contract properly reflects the parties’ intentions at the time the contract was entered into? If it does not, is there scope for the contract to be rectified?
- Alternatively, were the disputed provisions entered into in reliance on any misrepresentations? If so, investigate whether the contract could be set aside and financial compensation could be payable.
- Finally, consider whether you were properly advised when the contract was completed. It is possible that any losses could be recouped via a professional negligence claim.