Lord Sumption has called for a return to a more straightforward approach to how judges construct contracts that focuses on the words rather than trying to work out what the parties intended by looking at the surrounding circumstances.
He said the Supreme Court has recently begun to move towards that, which he described as “a more defensible position”.
“Judges are fond of speculating about the motives and practices of businessmen in drafting contracts,” Lord Sumption said at the start of the Harris Society Annual Lecture, Keble College, Oxford. “It is a luxurious occupation.”
The lecture, entitled ‘A question of taste: The Supreme Court and the interpretation of contracts’, explained that while “one would think that the language that the parties have agreed provided the one sure foundation for a hypothetical reconstruction of their intentions”, over the past 30 years the House of Lords has “embarked upon an ambitious attempt to free the construction of contracts from the shackles of language and replace them with some broader notion of intention”.
He added: “The House of Lords’ flight from language depended on two closely related concepts. One was the ‘surrounding circumstances’. The other was ‘commercial common sense’.”
Lord Sumption identified the ruling of “the towering figure of Lord Hoffmann” in Investors Compensation Scheme Ltd v West Bromwich Building Society  1 WLR 896 as where the highest court took a decisive shift towards this more flexible interpretation.
“Language, he suggested, was a mere matter of dictionaries and grammar. Meaning was something different, namely what the document would convey to a reasonable person against the relevant background…
“The background may not only enable one to choose between possible meanings of the words, but to select impossible ones instead… If the background suggests that something has gone wrong with the words, the law may attribute a different intention to them.”
Lord Sumption argued: “It is, I think, time to reassert the flexibility of language in the interpretation of contracts.
“It is true that language is a flexible instrument. But let us not overstate its flexibility. Language, properly used, should speak for itself and it usually does. The more precise the words used and the more elaborate the drafting, the less likely it is that the surrounding circumstances will add anything useful.
“I do not therefore accept that the flexibility of language is a proper basis for treating the surrounding circumstances as an independent source from which to discover the parties’ objective intentions.
“The surrounding circumstances may well enable us to discover what the objective was, but not how far it has been achieved. In a negotiation, the parties’ objectives are likely to be different.”
The judge said that one major problem with using the surrounding circumstances to modify the effect of language is that the law “rigorously excludes the use of pre-contractual negotiations as evidence of intention”.
Further: “Judges are not necessarily well placed to determine what commercial common sense requires.”
He explained: “Judges start from the answer and work backwards. They come to the question of construction after the dispute has arisen, when the parties are at loggerheads. They understandably focus on what has gone wrong, and look to the contract to put it right.
“Their instincts about what the parties must have intended is therefore likely to be quite different from that of the parties at the time that the contract was originally agreed, when they did not have the eventual catastrophe in mind.
“Moreover, judges’ notions of common sense tend to be moulded by their idea of fairness. But fairness has nothing to do with commercial contracts.”
Lord Sumption said the Supreme Court had rowed back to some extent, in the 2015 cases of Arnold v Britton and (in the Privy Council) Krys v KBC Partners.
“But if the Supreme Court has sounded the retreat, it has, I must admit, sounded it in rather muffled tones. It has not actually admitted that earlier decisions went too far. Neither of these cases overruled or even criticised the decisions in Investors Compensation Scheme or [2011 case] Rainy Sky.
“Moreover, both were majority decisions reached in the face of powerful dissents, by Lord Carnwath in the first case and Lord Mance in the second. They felt that the majority view attached too much weight to the language of the contract and not enough to unreasonableness of the result.”
While he conceded that it was “not entirely clear” how the Supreme Court would ultimately resolve these differences, “some indication of the new direction of travel” could be seen from the recent judgment of a unanimous court in Wood v Capita Insurance Services  UKSC 24.
In that case, Lord Hodge, delivering the leading judgment, found that “business common sense” was useful but added that “in the tug o’ war of commercial negotiation, business common sense can rarely assist the court in ascertaining on which side of the line the centre line marking on the tug o’ war rope lay, when the negotiations ended”.
So he went on to examine the language of the contract, which led to a harsh result, but Lord Sumption said “there were reasons apparent from other provisions of the contract why the parties could rationally have intended it”.
He concluded: “Just as ICS changed the judicial mood about language and tended to encourage the view that it was basically unimportant, so the more recent cases may in due course be seen to have changed it back again, at least to some degree.
“Experience has suggested that the loose approach to the construction of commercial documents, which reached its highest point in Rainy Sky, may have done a disservice to commercial parties by depriving them of the only effective means of making their intentions known.”