For better or worse, the Supreme Court of Canada’s Sattva decision (Sattva Capital Corp v Creston Moly Corp, 2014 SCC 53) changed contractual interpretation in Canada. In the wake of Sattva, courts have struggled with uniformly (and predictably) applying its considerations of surrounding evidence, parole evidence, and factual matrix evidence. The lines between these “types” of evidence have been blurred, often to the point of rendering the legal difference indistinguishable.
Contracting parties are increasingly faced with breach of contract claims premised on “gymnastic” interpretations of material terms and reliance on pre-contract communications. Since 2014, numerous Alberta contract interpretation cases have considered how drafts and pre-contract negotiations fit within a post-Sattva world.
The Alberta Court of Appeal’s recent decision in Alberta Union of Provincial Employees v Alberta Health Services, 2020 ABCA 4 provides clearer guidance on the application of Sattva generally, and the role of pre-contract negotiation evidence specifically.
In a per curiam judgment (Justices O’Ferrall, Khullar, and Feehan), the Court considered an Arbitrator’s decision on interpreting an addition to a collective agreement. The Arbitrator considered the agreement’s text, surrounding circumstances, and communications between the parties during the contract’s negotiation.
The Court held that it was improper for the Arbitrator to consider the parties’ pre-contract negotiation communications, as they were evidence of the parties’ subjective intent. As a result, the Court quashed the arbitrator’s decision and sent the issue back to the parties for further action. In reaching its decision, the Court provides useful clarifications and examples of frequently cited Sattva principles.
Clarification #1: When to consider “surrounding circumstances” and what to include?
The decision provides clearer guidance on when a court is to consider a contract’s surrounding circumstances, and what to include in that consideration.
First, the Court stated plainly that the “basic change made by Sattva” is to “always consider” a contract’s surrounding circumstances. To this end, the Court cites the landmark 1976 UK House of Lords decision, Reardon Smith Line Ltd v Hanesn-Tangen,  3 All ER 570 (which was itself cited in Sattva) wherein their Lordships held that courts must consider the “surrounding circumstances”, which, for commercial contracts, include the commercial purpose of contract, the genesis of the transaction, and the market in which the parties operate.
Second, the Court reiterated the Supreme Court of Canada’s limit on the import of surrounding circumstances to objective evidence of the background facts reasonably in both parties’ knowledge (or ought to be in their knowledge).
Third, the Court expressly confirmed that “[e]vidence of pre-contract negotiations, including prior drafts, is generally inadmissible as part of the surrounding circumstances [emphasis in the original]”.
Fourth, the Court noted that the surrounding circumstances cannot overwhelm the contractual language and that any evidence of the parties’ subjective intent is inadmissible. The Court provided that it is possible to interpret Sattva as “defining surrounding circumstances so broadly as to include all pre-contract negotiations, so long as evidence of subjective intentions is excluded.” However, the Court expressly states that it does not interpret Sattva this expansively for four reasons:
- Sattva itself does not go this far;
- Some dissenting Supreme Court Justices have said that this issue remains to be addressed;
- The Alberta Court of Appeal has previously held that if pre-contract negotiation is not (when considered in the commercial context) evidence of the objective surrounding circumstances, then it is admissible only where there is an ambiguity in the contract; and
- Considering extrinsic evidence requires “discipline” and the evidence cannot overwhelm the contract.
Clarification #2: What does “subjective intention” mean?
Importantly, the Court delves into the meaning of “subjective intention.” The Court observes that the phrase is “often mentioned” but that “few cases explain its meaning”. The Court assists in explaining the meaning by providing helpful examples:
- Direct evidence of what a party thought the contract said (e.g., “I think that the phrase means X” or “at the time we entered in to the contract, I thought that the provision meant Y”); and
- Indirect evidence of what a party thought the contract said (e.g., a party testifying that they proposed language in a draft agreement to resolve a specific problem, which it would only resolve if the language had a certain meaning).
Clarification #3: When is evidence of objective and subjective understanding of surrounding circumstances is admissible?
The Court further clarifies that it’s “a mistake of law for a court to ignore the surrounding circumstances just because the contract is not ambiguous.” The principle can be expressed as follows:
- Evidence of objective understanding of surrounding circumstances (factual matrix evidence) is always admissible and does not require an ambiguity;
- Evidence not pertaining to the objective understanding of surrounding circumstances (for example, past practices or post-contract conduct) is only admissible where there is an ambiguity; and
- Evidence of subjective understanding remains inadmissible even where there is an ambiguity.
Clarification #4: What does it look like for extrinsic evidence to “overwhelm” the text of the agreement?
The Court held that the arbitrator improperly allowed extrinsic evidence to overwhelm the text of the agreement. “Overwhelm the text of the agreement” is a phrase frequently used when courts run through the general principles of contract interpretation, but courts seldom elaborate as to what it means or looks like.
The Court highlighted that the arbitrator identified a point in time where the parties’ subjective intentions of the disputed phrase “coincided or overlapped.” In other words, the arbitrator determined when the parties agreed on a meaning. In doing so, the arbitrator found the point-in-time agreement to be the phrases’ objective meaning. The Court said was an example of extrinsic evidence improperly overwhelming the text of the agreement.
Overall, the Alberta Court of Appeal’s decision in Alberta Union of Provincial Employees v Alberta Health Services is a useful instance of recent case law clarifying the Sattva principles and applying them in the context of pre-contract negotiations.