A common sense approach to 'business common sense'

The borrower in this case entered into a USD 500 million loan facility with various lenders to finance iron ore development in Sierra Leone. Under clause 8 of the facility terms, the loan could be pre-paid in certain circumstances and had to be pre-paid in others. The outcome of this appeal turned on the construction of clause 8, particularly sub-clauses 8.3 (mandatory pre-payment), 8.5 (voluntary pre-payment) and 8.8(d) (the pre-payment fee).

Shortly before the first anniversary of the facility, the borrower announced there would be a refinancing. The borrower wrote to the facility agent saying that it intended to repay the loan in full as it was obliged to do under clause 8.3. The facility agent replied stating that if the pre-payment was before the anniversary of the closing date a pre-payment fee of 6% (equating to USD 17.466 million) was due under clause 8.5 and clause 8.8(d). When the borrower did not pay this amount, the lenders started proceedings claiming the pre-payment fee. The borrower cross-applied for summary judgment to dismiss the claim on the basis that pre-payment was mandatory and determined by clause 8.3 rather than voluntary and determined by clause 8.5. The borrower argued that these two provisions were mutually exclusive.
At first instance Eder J held that the pre-payment fell within clause 8.3. Accordingly, in the judge’s view, no pre-payment fee was due. The lenders appealed.

The arguments before the Court of Appeal

The lenders reminded the court that Eder J had thought that the arguments on construction were finely balanced. They said that there were two possible interpretations of the clause in question and in this case the judge should have paid more attention to the construction that was consistent with "business common sense". The lenders said that the purpose of the pre-payment fee was to compensate the lenders for the high rate of return on interest payments that would be lost if the loan were pre-paid in the first year of the facility. The borrower should not be able to circumvent the pre-payment fee by refinancing. It cannot have been right that the pre-payment fee was only due if the borrower used its own funds. The borrower’s argument was, in essence, that "business common sense" does not mean "good business sense" from the perspective of one of the parties (in this case the lenders).

The analysis of the Court of Appeal

Aikens LJ gave the leading judgment and referred to the "considerable judicial exposition" by the House of Lords and the Supreme Court in recent years on the interpretation of a commercial document; specifically the decisions in Chartbrook Ltd v Persimmon Homes Ltd [2009] 1 AC 1101, Re Sigma Finance Corp [2010] 1 All ER 571 and Rainy Sky SA v Kookmin Bank [2011] 1 WLR 2900. The starting point is the wording of the document itself. If there are two possible constructions of the document a court is entitled to prefer the construction that is more consistent with "business common sense". However, Aikens LJ held that he agreed with the statements of Briggs J, in Jackson v Dear [2012] EWHC 2060 at [40], "first, that "commercial common sense" is not to be elevated to an overriding criterion of construction and, secondly, that the parties should not be subjected to "… the individual judge’s own notions of what might have been the sensible solution to the parties’ conundrum"." Adding that, "still less should the issue of construction be determined by what seems like "commercial common sense" from the point of view of one of the parties to the contract."

Aikens LJ was at pains to point out that the negotiations of the facility took three months, resulted in legal fees of USD 1.9 million and an agreement that ran to 146 pages. To his mind, an examination of the structure of clause 8 overall and the wording of the individual sub-clauses indicated that the parties intended that each of the sub-clauses should deal with specific factual circumstances in which pre-payment might be made and the parties intended that those circumstances would be mutually exclusive. Accordingly, the judge was correct to conclude that the decision to refinance and the requirement to use the proceeds of that to pre-pay the loan in full were two separate matters. Just because the first decision was "voluntary" in the sense of being intentional did not mean that the pre-payment was therefore also "voluntary". If the act of refinancing and prepayment were separated out, then, Aikens LJ noted, the construction of clause 8 became much easier: "It is obvious that once the Borrower had obtained the Finance Proceeds from the Refinancing Facility, it was contractually obliged to use that sum to prepay the Loan pursuant to clause 8.3. To characterise the prepayment as "voluntary" in the face of that contractual obligation is, in my view, an abuse of language." If the parties wanted a pre-payment fee to be due on refinancing all they had to do was say so.
The appeal was therefore dismissed.

Comment
The message from the Court of Appeal is that parties cannot use the "business common sense" test from the Supreme Court decision in Rainy Sky to try to make a contract say what they wish it said. This is particularly so where the contract is heavily negotiated and has the benefit of legal advice. Accordingly, parties need to say what they mean and mean what they say. This approach has the benefit of affording certainty to contractual interpretation. Many facility agreements, such as LMA documentation, approach the question of pre-payment slightly differently: typically by making the borrower pay break costs in prescribed circumstances regardless of whether the pre-payment is mandatory or voluntary. This makes sense since whether a pre-payment is mandatory or voluntary relates to the credit risk of the borrower and the break costs are a factor of the timing of the pre-payment.

Further information

This case summary is part of the Allen & Overy Litigation Review, a monthly update on interesting new cases and legislation in commercial dispute resolution.  For more information please contact Sarah Garvey sarah.garvey@allenovery.com, or tel +44 (0)20 3088 3710.