A Hermeneutic Perspective on the Interpretation of Contracts

• Author: Shahar Lifshitz,Elad Finkelstein
• Published date: 01 September 2017
• Date: 01 September 2017
• DOI: http://doi.org/10.1111/ablj.12105

A Hermeneutic Perspective on the

Interpretation of Contracts

Shahar Lifshitz* and Elad Finkelstein**

INTRODUCTION

In recent years, a fierce debate has reemerged in legal opinions over

the essence of contract interpretation. The controversy has major impli-

cations for lawyers, businesses, and judges, as contract interpretation is

among the most frequently litigated civil issues, and is the largest cause

of litigation between business entities.

1

This article brings a novel per-

spective to contract interpretation by drawing on hermeneutics and

*Dean, Bar Ilan University, Faculty of Law.

**Vice Dean, Ono Academic College, Faculty of Law.

We are grateful for helpful comments to Oren Bar-Gill, Shyam Balganesh, Itay Bar-

Siman-Tov, Avi Bell, Mitchell Berman, Richard Brook, Hanoch Dagan, Zohar Goshen, Asaf

Hamdani, Roy Kreitner, Ethan J. Leib, Menachem Mautner, Gideon Parchomovsky, Ariel

Porat, Robert E. Scott, Stephen A. Smith, Alex Stein, Eyal Zamir, and the participants in

the following events: Israeli Association of Private Law annual meeting, workshops at

Columbia Law School, McGill Law School, University of Pennsylvania Law School, and

Bar-Ilan Law School and the Institute for Advanced Education for Judges, Israeli Ministry

of Justice. We are also grateful to Danny Shulman for his excellent research assistance and

editing work.

1

See STEVEN J. BURTON,ELEMENTS OF CONTRACT INTERPRETATION 1 (2009) (“Issues of contract

interpretation are important in American law. They probably are the most frequently liti-

gated issues on the civil side of the judicial docket.”); Steven J. Burton, A Lesson on Some

Limits of Economic Analysis: Schwartz and Scott on Contract Interpretation,88I

ND. L.J. 339, 340

(2013) (“After decades of relative neglect, contract interpretation became a hot topic of

scholarly debate after 2003.”); Benjamin E. Hermalin et al., Contract Law, in 1H

ANDBOOK

OF LAW &ECONOMICS 3, 68 (A. Mitchell Polinsky & Steven Shavell eds., 2007) (“Probably

the most common source of contractual disputes is differences in interpretation ....”);

David McLauchlan, Contract Interpretation: What Is It About?,31S

YD.L.REV. 5, 5 (2009)

(“In recent times contract interpretation has become one of the most contentious areas of

the law of contract. There are fundamental divisions among commentators, practitioners

and judges (often writing extra-judicially) as to the nature of the task and the permissible

aids to interpretation.”).

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C2017 The Authors

American Business Law Journal V

C2017 Academy of Legal Studies in Business

519

American Business Law Journal

Volume 54, Issue 3, 519–579, Fall 2017

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modern contract theory to develop a more precise taxonomy of inter-

pretive challenges, and to offer an innovative normative model of con-

tract interpretation.

Two approaches dominate the debate over contract interpretation: the

textualist and the contextualist.

2

The textualist approach focuses primar-

ily on the plain meaning of the language contained within the four corners

of the contract.

3

In contrast, the contextualist approach allows courts to

consider a wider array of information outside the text of the agreement in

order to comply with the parties’ intended purpose.

4

Doctrines inspired

by the contextualist approach also include equitable rules of interpretation

aimed at achieving fair results through the interpretive process.

5

2

See Alan Schwartz & Robert E. Scott, Contract Interpretation Redux, 119 YALE L.J. 926, 926

(2010) (“Courts divide over whether to retain the common law’s ‘textualist’ rules of inter-

pretation or to apply ‘contextualist’ interpretive principles that are reflected in the Uni-

form Commercial Code (UCC) and the Second Restatement.”); Joshua M. Silverstein,

Using the West Key Number System as a Data Collection and Coding Device for Empirical Legal

Scholarship: Demonstrating the Method via a Study of Contract Interpretation, 34 J.L. & COM.

203, 254 (2016) (“There are two general approaches to contract interpretation set forth in

the caselaw. These approaches have multiple names, but I shall use the labels ‘textualist’

and ‘contextualist.’”). See also infra Part I.A.

3

The plain meaning rule has been articulated as follows: “where a court finds that the

terms of a contract are clear and unambiguous, the task of judicial construction is at an

end and the contract terms must then be applied as written and the parties bound by

them.” Delaney v. Kusminski, No. 02–7096, 2005 WL 1109625, at *4 (R.I. Super. May 4,

2005) (citation omitted); see also Arrow Elec., Inc. v. Hecmma, Inc., 500 F. Supp. 2d 648,

651 (2005) (“The majority of courts follow some form of the ‘plain meaning rule,’ which

holds that a court will only rely on extrinsic evidence, such as parol evidence, to interpret

a contract if it has first determined that the language of the contract is ambiguous.”).

4

These approaches are identified, to a certain extent, with the complex commercial codes

recognized in the United States, specifically, the Restatement (Second) of Contracts (1981) and

the Uniform Commercial Code as interpreted by the courts. See U.C.C. §§ 1–205, 2–202,

2–208 (AM.LAW INST.&UNIF.LAW COMM’N2003); RESTATEMENT (SECOND)OF CONTRACTS

§§ 200, 209 (AM.LAW INST. 1981).

5

See Jody S. Kraus & Robert E. Scott, Contract Design and the Structure of Contractual Intent,

84 N.Y.U. L. REV. 1023, 1046 (2009) (“We use a well-known contracts case to illustrate the

ways in which courts use equitable reasoning to effectively set aside the parties’ written

contract terms by applying formal doctrines in a nonconventional fashion.”); Harry G.

Prince, Contract Interpretation in California: Plain Meaning, Parol Evidence and Use of the “Just

Result” Principle,31L

OY.L.REV. 557, 562–63 (1998) (“This Article asserts that a search for

a just result would take into account all equities of the case, including such factors as the

status of the parties, the risk of out-of-pocket loss or windfall gain, whether either party

has engaged in culpable or meritorious behavior, and any public interests at stake.”).

520 Vol. 54 / American Business Law Journal

The two poles of this debate are often understood to represent New York,

embracing the textualist view,

6

and California, adopting the contextualist

approach.

7

However, a closer look at legal opinions from courts throughout

the United States reveals a great deal of inconsistency regarding how to

approach contract interpretation, even within states that putatively fit into

either thetextualist or contextualist camp.

8

The emergence of contract inter-

pretation as a dynamic and controversial subject in recent decades is not lim-

ited to the United States.

9

Other common law countries, including

England,

10

Canada,

11

and Israel,

12

have witnessed a similar debate.

6

Geoffrey P. Miller, Bargains Bicoastal: New Light on Contract Theory,31CARDOZO L. REV.

1475, 1478 (2010) (“New York judges are formalists. Especially in commercial cases, they

have little tolerance for attempts to re-write contracts to make them fairer or more equita-

ble, and they look to the written agreement as the definitive source of interpretation.”).

7

See id. (“California judges, on the other hand, more willingly reform or reject contracts in

the service of morality or public policy; they place less emphasis on the written agreement

of the parties and seek instead to identify the contours of their commercial relationship

within a broader context framed by principles of reason, equity, and substantial justice.”).

See, e.g., Pac. Gas & Elec. Co. v. G.W. Thomas Drayage & Rigging Co., 442 P.2d 641, 645

(1968) (“[R]ational interpretation requires at least a preliminary consideration of all credi-

ble evidence offered to prove the intention of the parties.”).

8

See Prince, supra note 5, at 564 (“Other California cases reveal a number of areas in which

the rules governing contract interpretation and construction are fraught with apparent

inconsistencies.”); Silverstein, supra note 2, at 259 (“[C]ourts sometimes set forth inconsis-

tent rules within a single opinion.”).

9

See supra note 2 (presenting scholars who write about interpretive approaches in the

United States).

10

See RICHARD CALNAN,PRINCIPLES OF CONTRACTUAL INTERPRETATION 5 (2013) (“Over the past

twenty years, there has been an unprecedentedly large number of cases at the highest level

concerned with the principles of the interpretation of contracts. Much of the credit for this

must go to Lord Hoffmann who, in a series of cases, has elaborated what have been

described as modern principles for the interpretation of contracts. Some commentators

see these cases as having changed the landscape of contractual interpretation; others see

them more as changing the emphasis. Some accept it with enthusiasm; others approach it

with caution, sometimes bordering on hostility.”). See also infra Part II.A.

11

See, e.g., Sattva Capital Corp. v. Creston Moly Corp., [2014] 2 S.C.R. 633, ¶ 50 (Can.) (“I

am of the opinion that the historical approach should be abandoned. Contractual interpre-

tation involves issues of mixed fact and law as it is an exercise in which the principles of

contractual interpretation are applied to the words of the written contract, considered in

light of the factual matrix.”). See also infra Part II.A.

12

See CA 2045/05 Org. of Vegetable Growers - Coop. Agric. Org., Ltd. v. State 61(2) PD 1

[2006] (Isr.); CA 4628/93 State v. Aprofim Hous. & Promotions Ltd. 49(2) PD 265 [1995]

2017 / Hermeneutic Perspective 521