The In-House Lawyer

The Supreme Court has ruled that without prejudice material may be admissible as an aid to construing a settlement agreement. In doing so, it has created a new exception to the without prejudice principle and confirmed another in a judgment that will be of significant interest to practitioners involved in settlement negotiations.


The new ‘interpretation exemption’ allows certain communications made between parties to without prejudice negotiations to be admitted as evidence in court. It applies to communications of facts that:


1. are communicated between the parties in the course of without prejudice negotiations;

2. form part of the factual matrix or surrounding circumstances; and

3. would, but for the without prejudice principle, be admissible as an aid to the construction of a settlement agreement that results from the negotiations.


In addition, the Supreme Court confirmed that a party to without prejudice negotiations can rely on representations made in the course of those negotiations to show that a resulting settlement agreement should be rectified.


This article will examine the without prejudice principle (the principle) and its judicial development, the exceptions to the principle, and the potential impact of the Supreme Court’s ruling in Oceanbulk.


Without prejudice: basic principle 


The principle prevents statements made in a genuine attempt to settle a dispute, whether written or oral, from being put before the court as evidence of admissions against the interest of the party that made them. It is itself an exception to the general rule that, subject to hearsay, a party’s own admissions can be used against them.


There are two commonly cited bases for the principle. The first is contractual: there is an implied agreement between two parties communicating without prejudice that those communications will not be used in evidence by either party. The second basis is one of public policy: the principle is said to encourage litigants and prospective litigants to settle their disputes out of court by allowing them to speak freely without fear of any admission later being used against them in the underlying proceedings.


Historically, the principle has been construed broadly. ‘Admissions’, for example, is taken to have a wide meaning. An ‘admission’ may be ‘any statement which might at any stage be used to prove any facts against the maker of the statement’ and is ‘not limited to things which in the context of that dispute were against the maker of the statement’ (David J Instance Ltd & anor v Denny Bros Printing Ltd & anor [2001]). In Unilever plc v The Procter & Gamble Company [1999], which was considered at length by the Supreme Court in Oceanbulk, the court confirmed that ‘admissions’ included all matters discussed or disclosed in without prejudice communications, rather than just those that would ordinarily be understood to be admissions. The court’s rationale in Unilever was that carving out identifiable admissions and withholding protection from other statements made during settlement negotiations would create huge practical difficulties and would be contrary to the underlying objective of encouraging parties to speak freely in negotiations. Leggatt LJ commented in Muller & anor v Linsley & Mortimer [1994] that partial disclosure of the minutes of a settlement meeting, which contained both admission and non-admission as part of the process of negotiation, would be ‘a concept as implausible as the curate’s egg’.


The force of the principle was recently reasserted by the Supreme Court in Ofulue & anor v Bossert [2009], where it was held that the principle extends to negotiations that took place during earlier proceedings involving an issue that was still not resolved. The court considered that the principle should prevail in all but exceptional circumstances, and that it should not be restricted unless justice clearly demanded it. Lord Hope asserted that the principle was: 


‘Not to be defeated by other considerations of public policy which may emerge later, such as those suggested in this case, that would deny them [without prejudice] protection.’


Exceptions to the general without prejudice principle


The Supreme Court in Oceanbulk cited Unilever and, in particular, Robert Walker LJ’s oft-stated list of the most important exceptions to the principle. These are as follows:


1. Without prejudice communications are admissible for the purposes of determining whether a binding settlement has indeed been reached (Tomlin v Standard Telephones [1969]).

2. Evidence of without prejudice negotiations is admissible to show that an agreement apparently concluded between the parties during the negotiations should be set aside on the grounds of misrepresentation, fraud or undue influence (Underwood v Cox [1912]).

3. Even where there is no compromise agreement reached, a clear statement made by one party to without prejudice negotiations, and on which the other party is intended to act and does in fact act, is admissible as giving rise to an estoppel (Hodgkinson & Corby Ltd (t/a Raymar) & anor v Wards Mobility Services Ltd [1997]).

4. One party is permitted to give evidence of what the other said or wrote in without prejudice negotiations if the exclusion of the evidence would act as a cloak for perjury, blackmail or other ‘unambiguous impropriety’ (Unilever).

5. Evidence of without prejudice negotiations is admissible to explain delay or apparent acquiescence (Walker v Wilsher [1889]). In such circumstances it will normally only be the fact of the communications rather than their content that is admitted as evidence.

6. Where there is an issue as to whether a party has acted reasonably to mitigate its loss by agreeing a settlement, evidence of without prejudice negotiations is admissible for that purpose.

7. Evidence may be admitted by agreement of the parties. For example, the parties may agree that correspondence, which would otherwise be without prejudice, may be put before the courts on the question of costs by writing ‘without prejudice save as to costs’.

8. In matrimonial cases there is a distinct privilege covering communications received in confidence with a view to matrimonial conciliation.


Oceanbulk


The dispute between the parties related to several shipping agreements. Having failed to pay the monthly instalment due in May 2008, Oceanbulk sought time for payment and the parties entered into settlement negotiations that were expressed to be ‘without prejudice’. The negotiations were partly in writing but included two long meetings that were attended by the parties’ representatives and their solicitors. The discussions resulted in a written settlement agreement (the settlement agreement).


There was no issue between the parties as to the existence of the settlement agreement. The dispute concerned the meaning of the word ‘co-operate’ in the context of the settlement agreement. Oceanbulk’s counterparty (TMT) argued that Oceanbulk made representations during negotiations that were relevant to the meaning of the word ‘co-operate’ in the context of the settlement agreement. Oceanbulk argued that the alleged representations were made without prejudice and were therefore inadmissible as an aid to construction.


First instance


At first instance, Andrew Smith J held that as the representations would have been admissible to determine the existence of a term or terms of the settlement (under exception 1), there was no cogent, public policy or other reason that they should not be admissible as to the meaning of those terms. Smith J set out four arguments in favour of extending the existing list of exceptions to the principle as follows:


1. The fine distinction between identifying the terms of an agreement and interpreting them would often be difficult to apply.

2. There was authority for the existence of the exception in Admiral Management Services Ltd v Para-Protect Europe Ltd & ors [2002].

3. Given that evidence of without prejudice exchanges was admissible where rectification was pleaded, it would be illogical not to admit it for the purpose of construction.

4. If the court was deprived of this evidence, it would be less well-equipped to discern the parties’ intentions and less likely to construe the contract in accordance with those intentions.


Court of Appeal


On Oceanbulk’s appeal, the Court of Appeal held, by a majority of two to one (Ward LJ dissenting), that without prejudice material was not admissible as an aid to construing the settlement agreement.


Longmore LJ gave the leading judgment. He rebutted each of the four reasons given by Smith J in the following way: 


1. Interpretation and identification of contract terms were wholly different matters, and the distinction was not usually a fine one. 

2. It was rejected that Admiral Management applied in Oceanbulk as it was not a decision that created a new exception to the principle. Instead it was authorised that a settlement agreement, which referred to another written document that was without prejudice, could be explained by reference to that second document.

3. The distinction between rectification and interpretation was valid and did not represent an inconsistency of approach.

4. The policy of encouraging settlements in commercial disputes was not outweighed by the desirability of having all possible information available to the court.


In a spirited dissenting judgment, Ward LJ stated that ‘logic and justice’ were good enough reasons to remove the without prejudice protection in Oceanbulk. Ward LJ said:


‘If you can use the antecedent negotiations to prove the agreement, to rescind it, or to rectify it, why on earth can you not use the negotiations to establish the truth of what the concluded contract means? Not to do so would strike my mother as “barmy”. Perhaps I should simply say it strikes me as illogical.’


He further clarified that the exception should only apply in the limited circumstances in which the negotiating parties had achieved a compromise and thus ‘a new order’ between them had replaced the old: ‘Where compromise has been reached, the purpose [of the principle] has been served and the inhibitions fall away.’ This is an important point that was not addressed in the judgment handed down by the Supreme Court but is further commented on below.


Supreme Court


The Supreme Court unanimously overturned the Court of Appeal’s decision. Lord Clarke, delivering the leading judgment, began by examining the development of the principle. He observed that the principle had broadened significantly in scope over the years and that the modern incarnation of the principle was applicable not just to statements that might strictly be termed admissions, but also to other statements made during negotiations, such as the statements made on the instant facts.


However, in a note of caution, Lord Clarke also said that ‘because of the importance of the without prejudice principle, its boundaries should not be lightly eroded’. The judgment outlines the existing exceptions, and frames the central question as to whether there should be a further exception to the principle, allowing facts identified during without prejudice negotiations that lead to a settlement agreement to be admissible as evidence of how the settlement agreement should be construed. By finding in the affirmative, the Supreme Court endorsed a new exception to the principle, which Lord Clarke termed the ‘interpretation exception’.


In support of the ruling, Lord Clarke endorsed a contextual approach to the interpretation of contractual terms. He also highlighted the decision in Chartbrook Ltd v Persimmon Homes Ltd & ors [2009], which confirmed that material that formed part of the factual matrix or surrounding circumstances of a contract should be available to the court as an aid to construction (while stipulating that evidence of pre-contractual negotiations should not).


Lord Clarke said he could see: 


‘No reason why the ordinary principles governing the interpretation of a settlement agreement should be any different regardless of whether the negotiations which led to it were without prejudice. The language should be construed in the same way and the question… should be the same, namely what a reasonable person having all the background knowledge, which would have been available to the parties, would have understood them to be using the language in the contract to mean. That background knowledge may well include objective facts communicated by one party to the other in the course of the negotiations. As I see it, the process of interpretation should in principle be the same, whether the negotiations were without prejudice or not.’


On rectification, Lord Clarke noted that it was ‘not in dispute between the parties that another of the exceptions to the principle is rectification’. This was despite the absence of confirmation of the rectification from any formal judgment of any English court prior to Oceanbulk. Lord Clarke said that the exception was self evident in that it was scarcely distinguishable from exception 1:


‘No sensible line can be drawn between admitting without prejudice communications in order to resolve the issue of whether they have resulted in a concluded compromise agreement and admitting them in order to resolve the issue of what that agreement was.’


Lord Clarke also reasoned that the rectification exception was scarcely distinguishable from the proposed new exception: ‘There is also no sensible basis on which a line can be drawn between the rectification case and this type of case.’


Lord Clarke did not accept that this finding offended the underlying public policy element. Instead, he considered that admitting objective facts communicated between the parties during settlement negotiations was more likely to engender settlement, rather than the reverse, because parties at the negotiating stage would be encouraged by the thought that a court would, if it later became necessary, have regard to the parties true intentions at the time of formation. 


Comment


Several commentators have already expressed concern that this decision represents a dangerous erosion of the principle, that could dissuade parties from engaging wholeheartedly in settlement negotiations. There is arguably a shift in emphasis from the judgment of the House of Lords decision in Ofulue two years ago, when the sanctity of the principle was stressed.


However, it is possible that the practical effect of the ruling may be somewhat less significant than has been speculated. It is important to keep in mind that the application of the rule requires a specific set of circumstances, namely that communications of background information are made that are relevant to the construction of a settlement agreement, which is subsequently formed but then becomes the subject of a dispute as to interpretation. It is difficult to imagine that the spectre of this chain of events will have an appreciable impact on the openness of parties to without prejudice negotiations.


It should be stressed that the rectification and interpretation exceptions will only apply where a settlement agreement has been reached. Where no binding agreement is formed, construction and rectification will not be relevant. As such, the principle remains generous in its application under normal circumstances and it will continue to protect parties from statements made against their own interests, in the event that negotiations break down and a settlement cannot be reached. 


It is noteworthy that this distinction was not addressed in any detail by the Supreme Court. It was, however, fundamental to the reasoning of a dissenting Ward LJ in the Court of Appeal who spoke of the formation of a ‘new order’ between the parties once settlement is reached, whereby the pre-existing protection falls away. In fact, this interpretation of the principle’s effect is reminiscent of its formulation in the older authorities, prior to more recent judicial extensions of its scope. The practical effect is that a party’s statements against its own interest will only become admissible in court under this exception once the subject matter of the relevant proceedings has fundamentally changed. This distinction should certainly be a comfort to those who have expressed concern at the perceived erosion of the principle.


Nonetheless, it is important that those involved in without prejudice negotiations are familiar with the exceptions to the principle. At the very least, litigants partaking in settlement negotiations should be aware that if those negotiations are successful, but there is later a dispute as to the terms or construction of the resulting agreement, the court has various mechanisms by which it can examine without prejudice material from those negotiations. In particular, this may present issues relevant to confidentiality.


The decision underlines the importance of clear and unambiguous drafting of settlement agreements and comprehensive note-taking at meetings. In addition, Oceanbulk yet again demonstrates the courts’ continued willingness to look behind the written words of a contract to establish, and give effect to, the true intentions of the parties. Indeed, this approach has become the hallmark of modern contract law.


By Kevin Perry, partner, and Tom McKernan, trainee, Edwards Angell Palmer & Dodge UK LLP.


E-mail: kperry@eapdlaw.com;


tmckernan@eapdlaw.com.