A meeting of the minds? When a lease doesn't reflect the heads of terms

A court can retrospectively change a contract if satisfied that it fails to accurately express the common intention of the parties when the agreement was made. This remedy is known as rectification.

In the recent case of Briggs of Burton Plc v. Doosan Babcock Limited [2020] CSOH 100, the Court of Session provides useful guidance on the relevance of prior non-binding agreements, such as heads of terms, when assessing the common intention of parties to a contract for the purposes of rectification.

What happened?

The case concerns the rectification of a sub-lease of commercial premises. The parties agreed non-binding heads of terms before entering negotiations over the detailed terms of the sub-lease. Over a period of several months, the parties' solicitors exchanged revised drafts of the offer missive and sublease. During this period, the head tenant changed its mind about two matters covered in the heads of terms: the timing of the subtenant's break option and liability for crane maintenance. These changes were reflected in the draft sub-lease exchanged between the parties and at least one of the changes was noticed by the subtenant's solicitors but not expressly drawn to the attention of the subtenant.

The terms of the sub-lease were eventually agreed, incorporating the changes to the break option and crane maintenance made by the head tenant. The sub-tenant subsequently became aware that the sub-lease conflicted with the heads of terms and sought rectification to bring the former into accord with the latter.

The dispute

The court had to decide if, in the circumstances, the sub-lease was “intended to express or to give effect” to the prior non-binding heads of terms. The answer to that question depended upon the approach to be adopted, as a matter of law, in ascertaining the parties’ intentions at the date the sub-lease was agreed.

The subtenant argued for an objective approach to this question. That involves considering what a reasonable person would think was the common intention when he or she looked at the prior non-binding agreement and communications between the parties.

The head tenant argued for a more subjective approach like that adopted by the English Court of Appeal in the recent case of FSHC Group Holdings Ltd v. GLAS Trust Corporation Ltd [2020] Ch 365. There, the Court of Appeal considered subjective evidence as to the actual intention of a given party at the time the contract was agreed.

The head tenant argued that significant time had elapsed between the heads of terms being agreed and the sub-lease and, as a matter of undisputed of fact, the head tenant had changed its intention in that time. This intention was clearly reflected in the terms of the sub-lease, which was communicated to and ultimately signed by the subtenant.

The decision

The Judge, Lord Tyre, agreed with the head tenant and the action for rectification failed. Lord Tyre's interpretation of the test for rectification was guided by the FSHC decision and he shared the Court of Appeal's concerns about objectively attributing a common continuing intention to parties where one of them has clearly changed its intention after it entered into an expressly non-binding agreement. It was, in Lord Tyre's opinion, decisive that the head tenant's subjective intention was accurately reflected in the formal binding documents which were communicated to the subtenant, without any intentional or unintentional concealment, during the period of drafting and negotiation.

The non-binding nature of the heads of terms was a relevant factor and Lord Tyre indicated that the court's approach would be different in situations where the prior agreement is binding.

The takeaway?

The decision makes rectification based on non-binding prior agreements more difficult and highlights the limits of heads of terms; they provide a useful framework for negotiation but if the subsequent binding contract is in conflict, the latter will not be rectified unless it can be shown that, subjectively, neither party has changed its intention. This is difficult to prove if the terms of the contract itself suggest otherwise.

Changes of intention still need to be communicated to the other party and the decision gives guidance to landlords and tenants as to how such changes are effectively signalled. Departures from non-binding prior agreements must be communicated without concealment, but unambiguous drafting in the terms of the contract itself will be sufficient – there is no need for changes to be explicitly highlighted.

It is worth noting that in situations where changes are made covertly in bad faith by one party in the knowledge that the other party would not otherwise agree to them, reduction of the contract could also be an available remedy.

If a landlord or tenant discovers that a lease conflicts with a heads of terms, they must assess when and how these departures were made and communicated. If both parties accept the conflict is an error in drafting that does not reflect their common intention as expressed in the heads of terms, then the parties can agree to alter the lease by consent through a joint variation. However, if the issue is contested, the party seeking rectification must consider whether, based on the wording of the contract and the way it was communicated, they can prove that neither party had changed its mind.