#11000 - The Process Of Contract Interpretation - Contracts

The Process of Contract Interpretation

A. The Parole Evidence Rule

1. When applicable, the parol evidence rule renders unenforceable oral agreements entered into prior to the adoption of a written contract.

2. Justifications for parol evidence rule

-Protects against fraud (parties can’t simply claim that an agreement existed even if it didn’t)

-If the clause wasn’t in the contract, parties must not have intended for it to survive

-Incentivizes parties to memorialize all agreements made during the negotiation process

-Parties won’t have to worry that everything said during the negotiation phase will be interpreted as a promise

3. Can parol evidence be admitted?

a. Is the contract integrated?

If no, the parol evidence rule does not apply. If yes, proceed to the next question.

b. Is the contract fully or partially integrated?

If fully integrated, parol evidence cannot be admitted unless it’s to prove fraud or to clarify the terms of a contract.

If partially integrated, parol evidence can be admitted, but only if it would have naturally been excluded from the written agreement (natural omission test). Under no circumstances can parol evidence contradict the substance of the written agreement.

4. Natural Omission Test

-Sophistication of the Parties

-Complexity of the Transaction

-History of prior dealings

-Thickness of the market

4. Cannot be Admitted: Mitchill v. Lath (1928) – Mitchill agreed to buy a farm from Lath on the condition that an ice house across the street be removed. Lath agreed, but the condition was never put into the written contract. Subsequently, Mitchill moved in and made lots of improvements on the land, but Lath never removed the ice house. The court ruled in Lath’s favor, holding that the contract appeared to show a full and complete agreement. If an agreement regarding the ice house was made, it is one that would have likely been included in the written agreement. It’s an issue so closely related to the written agreement that its lack of inclusion in said agreement makes it hard to enforce.

5. Can be Admitted: Masterson v. Sine (1968) – Dallas and Rebecca Masterson (P) owned a ranch as tenants in common which they conveyed by grant deed to Dallas’ sister and her husband (i.e. Sine, D). Masterson reserved an option to repurchase the ranch within ten years in exchange for the consideration paid by Sine, plus the depreciation value of any improvements. Dallas later went bankrupt. Rebecca and Dallas’ trustee in bankruptcy (P1) brought a declaratory judgment action to establish their right to exercise the option. At a bench trial the court determined that the parol evidence rule precluded admission of extrinsic evidence offered by Ds to show that the parties wanted the property kept in the Masterson family, and that the option was therefore personal to the grantors and could not be exercised by the trustee in bankruptcy. Essentially, the majority applied the “natural omission” test. The court believed that the sophistication of the parties involved, their relationship to each other, etc were directly relevant when determining whether or not a verbal agreement could have been naturally omitted. In this case, the court explicitly said that parol evidence can be admitted to prove the existence of a separate oral agreement as to any matter on which the document is silent and which is not inconsistent with its terms. The rigid structure of the deed helps to explain why the parties may not have been able to insert a collateral agreement.

6. Can be Admitted: Hunt Foods & Industries v. Doliner (1966) – Applies the UCC Parol Evidence Rule. P undertook negotiations to acquire the assets of Eastern Can Company, of which D owned a majority share. The negotiations needed to be temporarily halted for a few weeks. P told D that this made them nervous and demanded an option to buy D’s stock at $5.50 a share. D put this option into the contract, but later claimed that he and P came to the agreement that it would only be used in the event that he solicited an outside offer. P denied this. Negotiations resumed, but the parties couldn’t come to an agreement, so P tried to exercise its $5.50 a share option. D refused to let him. At the trial, the court allowed D to introduce parol evidence that he and P had come to an understanding regarding the option. According to Section 2-202 of the Uniform Commercial Code, a written contract can be supplemented by a verbal agreement, assuming that a) the agreement does not contradict the written terms and b) the contract was not intended to supersede all outside agreements. The verbal agreement in this case does not contradict any of the terms, so it should be admissible.

B. Merger Clauses and the Parole Evidence Rule

1. Merger clause – Statement within a contract that the contract contains all the relevant terms of an agreement. It is NOT universally effective in voiding all outside agreements.

2. Cannot be Admitted: UAW-GM Human Resource Center v. KSL Recreation Corp. (1998) – P entered into a contract with KSL for the use of KSL’s property. The letter of agreement included a merger clause that stated that all of the relevant terms were contained within the agreement. P and KSL both stated that, though it wasn’t included in the contract, they verbally agreed that the P would be provided with a union-represented hotel. D bought KSL and replaced the union employees with non-union employees. The court ruled in D’s favor, holding that when the intent of two parties is clear and ambiguous, the court does not have the right to look to extrinsic testimony in order to reinterpret this intent. Parties choose to include a merger clause to indicate that the written agreement is fully integrated. Ignoring this by allowing parol evidence would render the clause useless. Furthermore, in this case, allowing parol evidence would be especially egregious because it’s very possible D had no idea an agreement was made when it bought KSL.

Dissent: Writing cannot prove its own completeness and accuracy. Even if it contains an express statement to that effect, the assent of both parties must still be proven. The very testimony the parol evidence rule is intended to exclude is necessary to determine whether or not the written statement is a complete and accurate representation of the full agreement. Paper and ink...