Practitioners drafting side letters will want to consider the decision in Whitehall Capital Ltd v Land South East Ltd [2022] EWHC 190 (Ch), which is a useful reminder of the need to ensure that the parties’ intentions are expressly set out, together with any mechanisms and processes required to provide certainty.
In July 2015, the defendant purchased for development a twin tower block known as St Johns House in Poole, Dorset, for £2.8m. In September 2018, the defendant agreed a refinancing of the property with the claimant. The defendant then defaulted under the loan agreement and a third party, Cynergy Bank, agreed to refinance most, but not all, of the loan due to the claimant: the shortfall was £155,000. Discussions followed for the claimant to take a second charge to secure the shortfall, but it then emerged that Cynergy was not prepared to agree a second charge. So, prior to the refinance proceeding, a side letter was agreed between the parties providing for the defendant to pay the claimant “a sum of £213,000 by way of preferred profit… from the proceeds in the event of a sale or refinance of… St Johns House… after repaying the 1st charge loan, legal fees and related transaction costs”.
In December 2020, terms for a sale of the property were agreed and the claimant sought payment of the £213,000. The defendant argued that there must be a profit from which the sum could be paid and that since the sale was likely to result in a loss, no sum was due.
When considering the construction of a contract, the overall process is a unitary exercise which involves not only a consideration of the words of the contract but also their consideration against the relevant background knowledge and the commercial consequences of competing constructions. The parties’ negotiations are generally inadmissible as an aid to construction of an agreement: Global Display Solutions Ltd v NCR Financial Solutions Group Ltd [2021] EWHC 1119 (Comm).
The court decided that the use of the words “preferred profit” was likely to have been to address Cynergy’s concerns and to remove any suggestion that a charge had been created: they were seeking to characterise what the payment was, not when it fell due or where it was to be sourced from. They did not limit the clear words of the clauses, which provided for the sum to be paid “from the proceeds in the event of a sale or refinance” and after the discharge of the loan and transaction costs.
If it was intended that the payment should only be made if and to the extent that the defendant made a profit on sale, in the sense of realised distributable profit under the Companies Act 2006, as the defendant claimed, then it needed to say so expressly. It was difficult to see how a profit might be made out of a refinancing, and the side letter contained no mechanism for any process to identify a profit.
Evidence of negotiations between the parties as to the meaning of “profit” immediately before the side letter was agreed were not admissible.
Louise Clark is a property law consultant and mediator
