Canada: Interpretation Of Interrelated Contracts In A Commercially Effective Manner: Clarification Of Two Important Principles Of Contractual Interpretation

It is well established that when interpreting a contract the document must be read as a whole, without considering the disputed words or phrase in isolation from the rest of the contractual text. In recent years, the Ontario Court of Appeal has expanded this principle to the interpretation of interrelated contracts, such that if (as commonly happens) a transaction is given effect by a series of contracts, all of the contracts in the series must be considered in interpreting any one of them (the interrelated contracts principle).

It is also well established that commercial contracts are to be interpreted in accordance with sound commercial principles and good business sense (the commercial efficacy principle). However, several recent cases from the Ontario Court of Appeal, most notably the oft-quoted Ventas, Inc. v. Sunrise Senior Living Real Estate Investment Trust, at para. 24, suggested that the commercial efficacy principle is only applicable when the contract is ambiguous. This precondition seemed dubious, as it does not accord with earlier case law and it sits uneasily with general principles of contractual interpretation.

Downey v. Ecore International Inc., a recent decision of the Ontario Court of Appeal, contains a strong reaffirmation of the interrelated contracts principle, and applied the commercial efficacy principle without the precondition of ambiguity. Downey's clarification of these two important principles of contractual interpretation is a welcome one.

Decision

Paul Downey is an engineer. He was hired away from a competitor to work for Ecore International, a manufacturer based in Pennsylvania. For tax reasons, and at Mr. Downey's request, the arrangement was structured not as an employer-employee relationship but as a consulting agreement between Ecore and a company owned by Mr. Downey, known as CSR Industries Inc. The arrangement was put into effect by two contracts, namely a consulting agreement between CSR and Ecore and a confidentiality agreement between Mr. Downey personally and Ecore. Mr. Downey was not a party to the consulting agreement, and CSR was not a party to the confidentiality agreement.

The confidentiality agreement contained a forum selection clause choosing the courts of Pennsylvania for any action "that arises out of or in any way relates to the Company's [Ecore's] business relations with Employee [Mr. Downey]." Mr. Downey sued Ecore in Ontario in connection with the assignment of certain intellectual property rights created during the course of work for Ecore. Ecore moved to stay the Ontario proceedings on the basis of the forum selection clause. At first instance, the stay was denied on the basis that the confidentiality agreement (containing the forum selection clause) failed for lack of consideration, since it was CSR (not a party to the confidentiality agreement) not Mr. Downey who received confidential information from Ecore. The Ontario Court of Appeal reversed, finding the confidentiality agreement and its forum selection clause to be effective.

The Court of Appeal applied the interrelated contracts principle, holding that "[t]he contours of the exact bargain between the parties may sometimes require consideration of more than one contract". The Court quoted a prior decision, Salah v. Timothy's Coffees of the World Inc., for the proposition that "[w]here a transaction involves the execution of several documents that form parts of a larger composite whole – like a complex commercial transaction – and each agreement is entered into on the faith of the others being executed, then assistance in the interpretation of one agreement may be drawn from the related agreements." The consulting agreement and the confidentiality agreement formed part of a single transaction, such that "[i]t is only when the two agreements are read together ... that the intentions of the parties and the true business reality of their relationship emerge:"

Thus the consulting agreement and the confidentiality agreement had to be read together, with assistance in the interpretation of each one drawn from the other. Read together, proprietary information was to be protected in the hands of Mr. Downey. The de facto relationship was between Ecore and Mr. Downey. The arrangement with CSR was simply a tax device, a critical business reality of the relevant factual context. As such, it was irrelevant that CSR had not signed the confidentiality agreement.

It is noteworthy that the interrelated contracts principle applied even though the parties to the consulting agreement and the confidentiality agreement were not the same. Thus privity of contract is no bar to the use of the interrelated contracts principle to interpret a series of contracts.

The Court of Appeal also applied the commercial efficacy principle – without requiring an ambiguity in the contract as a precondition (indeed, the contractual provisions at issue were not ambiguous). The motions judge had concluded that CSR, not Mr. Downey personally, was the recipient of Ecore's confidential information. The Court of Appeal held that this approach violated the commercial efficacy principle by stripping the confidentiality agreement of any purpose. Moreover, under the motions judge's interpretation neither Mr. Downey nor CSR was bound to protect Ecore's intellectual property, a commercially absurd result when the parties clearly intended such protection.

Potential Significance

While Downey does not create any new law, it is an important reaffirmation of the interrelated contracts principle, and is an important clarification that ambiguity is not a precondition to the application of the commercial efficacy principle. Downey also stands as an interesting application of both principles on the particular facts of the case.

Case Information

Downey v. Ecore International Inc., 2012 ONCA 480

Date of Decision: July 6, 2012

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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