Lord Justice Rix :
Introduction
- The issue in this appeal concerns the proper construction of provisions in a contract between the supplier and user of warehousing services and in particular of provisions relating to the charging of fees for those services. The question which has divided the parties relates to the credit available to the user under use or pay provisions when the supplier profits from new third party business.
- At one time all three parties to this appeal were part of the same group, formerly known as Unigate plc, now known as Uniq plc ("Uniq"). St Ivel Limited and Uniq Prepared Foods Limited remain part of Uniq, although St Ivel is now a dormant company. It is unnecessary to distinguish between them and it will be convenient to refer to them both simply as "St Ivel", being claimant and third party respectively and in this court the appellants. Wincanton Group Limited, the defendant and in this court respondent, was demerged and floated separately on the London Stock Exchange in May 2001. Its subsidiary, Wincanton Holdings Ltd, was formerly known as Unigate Distribution Services Ltd. It is unnecessary to distinguish between Wincanton Group Limited, Wincanton Holdings Ltd and Wincanton Logistics Limited ("Wincanton").
- At a time when all three parties were part of Unigate plc, which was a major dairy products food business, Wincanton constructed a new National Distribution Centre (the "NDC") at a site on the Gloucester Business Park. The original proposal went back to 1997, when construction began. The NDC became operational in September 1999. When completed the NDC was sold by Wincanton to a financial institution and leased back by a 25 year lease dated 17 February 1999 (the "lease").
- St Ivel and Wincanton for their part entered into an agreement dated 7 April 1999 (the "1999 agreement") under which Wincanton agreed to provide warehousing and associated services to St Ivel at the NDC. At that time the NDC was dedicated to internal group business, and the charges provided for by that agreement essentially reflected Wincanton's costs (a so-called "open book" charging basis). However, in the second half of 2000 Uniq sold its dairy and cheese business. This and the demerger of Wincanton led to a review of the relationship between St Ivel and Wincanton. It was decided that the NDC should cease to be a dedicated site and would seek third party business to fill up the site's capacity. A revised agreement dated 30 March 2001 (the "2001 agreement") was therefore negotiated. Under the 2001 agreement the charging basis changed from the "open book" model to a "closed basis" model, ie one where a fixed price per pallet was charged, designed to return to Wincanton its costs plus an appropriate profit. The 2001 agreement was to last for 8 years.
- In particular, St Ivel guaranteed a "Threshold Volume" of a minimum of 39 million cases of goods per year, failing which it would be liable to make a "Volume Shortfall" payment to Wincanton. However that payment could be reduced by a stated percentage of the profits (gross revenue less associated costs) derived from "Additional Business" (ie new third party business there defined), which for its part Wincanton undertook to use all reasonable endeavours to develop and secure (clause 9 of the 2001 agreement).
- In 2002 St Ivel's business contracted still further with the sale of its yoghurts and spreads businesses. It therefore sought to renegotiate its contract with Wincanton so as to split the 2001 agreement into three separate contracts governing both businesses being sold (two contracts) and the business being retained (the third contract). For present purposes it is sufficient to test St Ivel's obligations by reference to that third contract (the "2002 agreement"). It had been hoped to transfer the obligations under the first two of the 2002 agreements to the buyers of the businesses concerned, but in the end that did not prove possible and St Ivel retained the obligations under all three of the 2002 agreements. The essential structure of the 2002 agreement remained that of the 2001 agreement for the balance of the 8 years: however, on this occasion the credit to be obtained against the Volume Shortfall payment liability by reference to Wincanton's profits on new additional business was taken out of the agreements and inserted into a side letter dated 25 October 2002. The 2002 agreement itself was dated 14 August 2002.
- This appeal is essentially about the construction of the side-letter and in particular the words in its clause 4.2 (misnumbered 5.1, but by common agreement 4.2) whereby the additional third party business concerned was related to the "Warehouse". The essential sentences read:
"[4.2] Wincanton shall use reasonable endeavours to develop and secure additional business with a view to utilising spare capacity and throughput in the Warehouse. In the event that Wincanton secures Additional Business, Wincanton agrees that any payment due by the Uniq Group in respect of a Volume Shortfall under a Relevant Agreement shall be reduced by [stated percentages] of the gross revenue (less associated costs) generated as a result of that Additional Business."
The critical question is whether that reference to the Warehouse (a defined term) is a reference to the warehouse at the NDC as it had existed during the 2001 agreement (at a time when a warehouse extension had been contemplated but not yet completed) or the warehouse as it had become by the time of the 2002 agreement, namely an extended warehouse.
- The judge below, Mr Justice David Steel, held that the reference was to the warehouse as originally constructed, and not as extended. This appeal is about whether he was right in that judgment.
The warehouse
- Both the 2001 agreement and the 2002 agreement contained a definition of the "Warehouse" which provided as follows:
"Warehouse" means the warehouse premises let subject to the Lease, in which the Warehouse Services are to be provided".
This definition disguised the answer to the issue which divided the parties by qualifying the reference to the premises by the expression "in which the Warehouse Services are to be provided". As will appear below, the parties were also divided about the significance of this latter phrase. It is not suggested, however, that the comma immediately before the relative clause "in which" etc throws any particular light on the issue.
- As originally built the NDC consisted of a site containing 136,000 square feet of warehouse space together with offices and ancillary accommodation, vehicle parking and washing equipment and security facilities. In 2002 a warehouse extension on the existing site added a further 87,000 square feet of warehousing space.
- The original warehouse was a chilled facility which contained computer controlled automated handling machinery. The warehouse extension was only partly chilled and contained no automated handling machinery.
- St Ivel's goods needed to be kept chilled and were always stored within the original warehouse. However, part of the extension came to be used for the purpose of receiving St Ivel's goods before they were transferred to the original warehouse for storage. Since there were parts of the extension which were chilled, I infer that the critical feature of the extension which made it unsuitable for the storage of St Ivel's goods was that, unlike the original warehouse, it did not contain the automated handling machinery from which St Ivel's goods benefited. "By unsuitable" I mean contractually unsuitable because, as will appear below, the 2001 and 2002 agreements were premised on the use of such automated handling equipment.
- At the time of the 2001 agreement the warehouse extension had been planned and was anticipated but was not yet constructed. An application for planning permission had been made in November 2000 and construction had started in March 2001, almost contemporaneously with the date of the 2001 agreement. It was largely completed by November 2001 and became operational in July 2002, shortly before the signing of the 2002 agreement, which it will be recalled was dated 14 August 2002.
- Some further evidence about the NDC, its warehouse and the extension, and the use to which each was put, is contained in these passages of a witness statement made by Mr Shaun Harvey, a finance director in the Wincanton group:
"The Warehouse consists of the original building of 136,000 square feet, which was built when the original agreements with Uniq were completed and an extension ("the Extension") of 87,000 square feet which was completed shortly before the Side Letter was agreed. Further, there are offices and ancillary accommodation of 55,000 square feet and a car park of 188,000 square feet. The total size of the site is 466,000 square feet. The Warehouse has a maximum storage capacity of 16,239 pallets which figure breaks down to 10,260 pallets in the original building and 5,979 in the Extension…
The original part of the Warehouse is fully automated, whereas the Extension is a more traditional warehouse space with storage racking, forklift trucks and personnel. The original, automated part of the Warehouse was designed specifically for St Ivel's products and St Ivel's products have always and only ever been stored in that part of the Warehouse. The Extension, which was financed using Wincanton's capital, has never been used to store St Ivel product but is used to store the products of other customers and to carry out the cross docking activity, which I will describe later. The way that the automated part of the Warehouse works needs to be explained. Palletised product is received into the Warehouse from the customer's factory. The pallets are unloaded off the inbound vehicle using fork-lift trucks. The product and pallet details are recorded using barcode readers and verified with Wincanton's Warehouse Management System ("WMS"), which is the IT system used by Wincanton to control and operate all parts of the automated warehouse. The pallets are then loaded onto a conveyor and put away into the storage racking. The WMS will allocate available spaces in the racking to those pallets and will record all details of the goods. The pallets will remain in storage until an order is received to despatch those goods on behalf of the customer. An order to despatch goods is received electronically from the customer into WMS. WMS will identify the storage location of the goods to be picked in order to fulfil that order and will then instruct and control the automation to locate and pick those goods. WMS will ensure that the product is picked in date sequence to ensure proper stock rotation…
Additional Business is stored and handled in both the original building and the Extension. St Ivel product, however, has only ever been stored and handled in the original building."
- That last sentence is, as I understand the evidence, true in the sense of "handled" by the automated handling equipment; but on arrival at the warehouse St Ivel product pallets may be temporarily offloaded in the receiving bays of the extension once it was built, before being moved into the original part of the warehouse for storage and subsequent handling.
The lease
- The lease was for 25 years with rent reviews at five yearly intervals. It allowed for the possibility that the warehouse in its original form would be extended in "Phase 2", should the appropriate option be exercised under an earlier development agreement. Such further development was referred to as the "Extension". The Phase 1 development, which included the warehouse in its original form, measured 169,572 square feet gross internal area. This area I think included the offices and ancillary accommodation. The Phase 1 rent was £763,074 per annum (£4.50 per square foot). Pending the practical completion of the Extension, there was in addition a further Phase 2 rent payable of at least £67,050. Provisions were made for rent reviews and for the ascertainment of the new Phase 2 rent after practical completion of the Extension. The rent for the Extension would always be based on the level (£ per square foot) of the Phase 1 rent.
The extension
- In March 2001, almost contemporaneously with the making of the 2001 agreement, Wincanton commenced the construction of the extension. A memorandum dated 22 March 2001 prepared for consideration by its board discussed the proposal. The development option with the lessor of the NDC provided that by far the greater part of the construction costs of the extension would be borne by the lessor. However, Wincanton would bear the cost of plant and equipment, of which the greater part would depend on the installation of mechanical handling equipment. In the end, such equipment was not installed in the extension.
- The paper referred to the following considerations. The original warehouse had an annual capacity of 80 million cases (the agreements speak of 85 million cases). Current annual volumes deriving from Uniq had fallen from a previous forecast of 68 million cases to 48 million and were forecast to fall still further to 39 million with the sale of Uniq's dairy and cheese ("Dairy Crest") business. Wincanton had therefore been actively seeking additional third party business to mitigate the shortfall. The limiting parameter to the introduction of further new business was storage capacity. This was part of the rationale of the proposed extension.
- It may be important to emphasise that the extended warehouse, once completed, was a single building. There was no impediment against moving products from one part of the building to another. However, what products might be stored in one part of the building rather than another would of course depend on the functionality of those several parts. Thus goods which required chilled storage could only be stored, consistently with contractual requirements, in chilled parts of the warehouse or its extension, and St Ivel goods could only be stored in the original warehouse with its automated handling equipment.
The 2001 agreement
- Most of the detailed terms of the 2001 agreement were reproduced in the 2002 agreement. In particular, the definitions of "Warehouse" and "Additional Business" were the same. St Ivel guaranteed a Threshold Volume of 39 million cases a year. However, St Ivel was permitted to exceed the Threshold Volume by bringing in "Additional Volumes" up to a total maximum of 60 million cases a year. Above 60 million cases the parties "agree to meet to discuss and agree the charges payable". St Ivel also forecast "Strategy Volumes" for the warehouse of 42.9 million cases plus 10% totalling 47.1 million cases in year 1, up to a total of 63.9 million cases in year 5 (see clause 10 and Schedule 2). Wincanton for its part undertook that the capacity of the warehouse was sufficient to meet such Strategy Volumes at hourly throughput rates also specified in Schedule 2.
- The Threshold Volume was to be paid for at one price per case, and Additional Volumes were to be paid for at a rebated price. The essence of the "use or pay" provisions was found under clause 9 ("Guaranteed Volume") as follows:
"9.1 St Ivel shall provide the Threshold Volume of Goods to Wincanton at the Warehouse each year of the Term. Subject to Clause 9.5 if St Ivel fails to provide the Threshold Volume it agrees to compensate Wincanton therefor by payment of charges for the Volume Shortfall calculated in accordance with paragraph 1.1(c)(i) of Schedule 1…
9.5 Wincanton shall use all reasonable endeavours to develop and secure additional business with a view to utilising spare capacity and throughput in the Warehouse. Subject to Clause 9.6, in the event that Wincanton secures Additional Business at the Warehouse, Wincanton agrees that any payment due by St Ivel in respect of a Volume Shortfall shall be reduced by:
9.5.1 in respect of the payment of the first 10% of the Volume Shortfall, 75%; and
9.5.2 in respect of the payment of the balance of the Volume Shortfall, 50%
of the gross revenue (less the associated costs) generated as the result of that Additional Business.
9.6 Notwithstanding Clause 9.5 above, in the event that Wincanton secures Additional Business by reason of the transfer of a customer from its existing operations to the Warehouse, it shall be entitled to deduct any losses flowing as a direct consequence of the transfer of such customer prior to St Ivel obtaining any reduction in payment for a Volume Shortfall in accordance with Clause 9.5 above."
- Clause 9.6 reflected the fact that Wincanton had other warehousing operations elsewhere. Additional Business was defined in such a way as to allow for such third party business as had already been committed to the warehouse. Thus –
"Additional Business means revenue received from customers additional to St Ivel and additional to the Committed Benefit…
Committed Benefit means the level of revenue stipulated in part 1.1(c)(ii) of Schedule 1 which is received by Wincanton and which is excluded from the calculation of Additional Business…"
Schedule 1 listed such Committed Benefit as follows:
"Committed Benefit shall mean:
Year 1 £1,580,000 (comprising £630,000 attributable to Campina Melkunie BV Volumes and £950,000 attributable to Devon Desserts volumes)
Year 2 £1,285,000 above Year 1 Committed Benefit
Year 3-8 £1,225,000 above Year 1 and Year 2 Committed Benefit combined.
Thus Committed Benefit amounted to £2,865,000 in Year 2 and to £4,090,000 in Year 3 and beyond.
- Schedule 1 was the schedule generally concerned with the charges which St Ivel had to pay for the warehousing services provided by Wincanton. It was headed "Charges". Thus it made provision for Threshold Volume, Additional Volumes, Reduced Volumes (the Volume Shortfall payment charges) and Committed Benefit. In addition to such charges which reflected the amount of throughput, there was also a fixed "Annual Fee" of £4 million in year 1, £2.9 million in year 2 and £2 million in each of years 3/8. Schedule 1 also made provision for "Adjustments and Reviews" in such charges. One of the matters to be taken into account in that respect was rent payable by Wincanton to the NDC lessor. The rent provision (clause 1.3 of Schedule 1) stated as follows:
"Rent
Subject to the due performance by Wincanton of its obligations pursuant to clause 14, St Ivel agrees to pay the increase in Rent at each Rent Review under the Lease payable as a proportion of the Agreed Rates calculated as follows: (165,000 sq feet x £4.50 per sq.ft) x 70% x percentage increase in Rent following Rent Review.
Where 70% calculation is based on Year 2003/2004 St Ivel Strategy Volumes (ie 59.5 million cases) divided by 85 million cases (total Warehouse capacity)."
- Thus St Ivel was to pay the increase in rent on a review under the Lease to the extent that Phase 1 rent increased (the £4.50 rent per square foot on the original area of 165,000 square feet) but limited to 70% of that increase to reflect the fact that St Ivel's forecast strategy volumes for the first rent review year itself reflected the use of 70% of the total capacity of the original warehouse space. The figure of 165,000 square feet is not identical to the lease's Phase 1 area of 169,572 square feet, but neither party has adverted to that small discrepancy and it is not disputed that the 2001 agreement's reference to 165,000 square feet and £4.50 per square foot is a reference to the Phase 1 rent. It is true , as Mr Andrew Hochhauser QC observes on behalf of St Ivel, that under the lease Phase 2 rent, after construction of the extension, would increase by the same proportion as Phase 1 rent: but that does not affect the facts that (a) the 2001 agreement formula is expressed by reference to the Phase 1 area and (b) the figure produced by that formula will be different for that very reason from a figure produced using a formula which included the total square footage of both Phases 1 and 2.
- As stated above, at the time of the 2001 agreement the warehouse extension was under consideration and imminent or actual construction, but had not yet been built. However, it could or would have entered operational service during the 8 years of the 2001 agreement, so that the issue which has in the event arisen in the context of the 2002 agreement might have arisen under the 2001 agreement. There was some reference to the possible development of the extension in Schedule 3 to the 2001 agreement, headed "Warehouse Services Specification" and "NDC Specification". Thus section 4 of Schedule 3 discussed "Storage Capacity" by reference to an "Agreed Capacity" of 5,985 pallets in year 1 rising to 6,780 pallets in year 5. Schedule 3 continued:
"If third party business is integrated into the NDC and the storage space utilised then Wincanton are unable to guarantee volumes above the agreed capacity. Options would need to be considered as to how this requirement is to be satisfied either within the NDC extension or alternative sites."
- Schedule 3 also opened by referring in general terms to the NDC as follows:
"The St Ivel National Distribution Center (NDC) at Brockworth Gloucester commenced operations in May 1999 with the objective to supply storage, picking and distribution facilities to the St Ivel chilled products business.
The site is operated by Wincanton on a open book contract which is managed by St Ivel against an operational specification and a series of Key Performance Indicators KPI's.
The announcement by Uniq plc that Wincanton were to demerge from the company in June 2001 created a situation where the open book contract would need to be amended and the operational specification revised. The need for revision is further compounded by additional third party business now being handled by the NDC.
The following document outlines the procedural specification to which St Ivel expects Wincanton to operate the NDC under a closed book contract…
The NDC will operate at 2 degree C+/- 1 degree C
- The Schedule 3 Specification was involved in the definition of "Warehouse" as follows:
""Warehouse" means the warehouse premises let subject to the Lease, in which the Warehouse Services are to be provided;
"Warehouse Services" means the loading and unloading, storing and handling of the Goods, the management of the Warehouse and any ancillary or complimentary [complementary?] services to be provided to St Ivel, as indicated by the Warehouse Services Specification;
"Warehouse Services Specification" means the requirements for the Warehouse Services set out in Schedule 3 as may be varied from time to time in accordance with the Agreement."
- It will be apparent, however, that Schedule 3, which is written as a practical specification rather than as a legal document, refers indifferently to "NDC" and "site" rather than to "Warehouse". A rare reference to "warehouse" is found in Schedule 3's clause 21: "The warehouse should be maintained to an acceptable level of cleanliness".
- The 2001 agreement is replete with provisions which are premised on the requirement of automated handling equipment guided by computer controlled systems: see the definitions of "IT Services", "Operating Parameters", "Warehousing Equipment", "Warehousing Management Systems" (WMS), "Wincanton Systems", clause 8 ("Systems"), Schedule 1's operating parameters, Schedule 2 (headed "St Ivel Strategy Volumes") setting out hourly rates of throughput, and Schedule 3 (passim).
- The 2001 agreement contained in its clause 4 (headed "Changes") provisions governing the making of changes to Schedule 3 and hence Schedule 1. In the event of dispute there were arrangements for its resolution which included the appointment of an expert to be appointed by the President of the Institute of Logistics. In that context clause 4.5 provided in part as follows:
"…In giving his decision the Expert shall state what adjustments (if any) are necessary to the charges."
Clause 4.6 appears to have contemplated a change to charges not necessarily linked to a change to Schedule 3, for it provided:
"Notwithstanding Clause 4.1 above, Wincanton shall be entitled to make changes to the charges, or St Ivel may require a change to the charges set out in Schedule 1 in the event of, and for so long as, there is a Substantial Change to the Operating Parameters by delivering a notice to that effect…"
Clause 4's dispute resolution mechanism covered any disagreement in this sphere as well.
- Wincanton submits that the 2001 agreement throws light on the meaning of "Warehouse" under the 2002 agreement: the definition of "Warehouse" is the same in both agreements, the extension was not yet built at the time of the 2001 agreement, and Schedule 3 (which was annexed to the 2002 agreement in due course) is premised on chilled storage space and mechanical handling equipment. St Ivel submits that the extension had always been envisaged, construction had actually commenced almost contemporaneously with the 2001 agreement, and there is no reason therefore to give "Warehouse" a restricted meaning.
The 2002 agreement and its side-letter
- By the time that the 2002 agreement and its side-letter were entered into on 14 August and 25 October 2002 respectively (the side-letter replaced an earlier side-letter dated the same date as the 2002 agreement), the extension had of course been built. There is nothing about these new agreements, however, which expressly recognises that fact.
- The following provisions may be noted. The definitions of "Warehouse" and "Warehouse Services" remained the same. The definition of "Warehouse Services Specification" had changed somewhat to reflect the fact that such a specification might change. For the present, however, it remained defined in terms of the 2001 agreement's Schedule 3, thus –
"Warehouse Services Specification" means the requirements for the Warehouse Services as agreed between the parties from time to time and which Specification will be based on the warehouse services specification comprised in Schedule 3 to the Previous Agreement (a copy of which schedule, for convenience, is annexed as Schedule 3 to this Agreement);".
- Clause 4 of the 2002 agreement (again headed "Changes") again made provision for changes to Schedules 1 and 3. The essence of the provisions was the same, but the detail had been varied. Clause 4.5 now read:
"In reaching his decision the Expert shall apply the principle that the financial position of Wincanton in respect of this Agreement and the hereinbefore recited agreements taken overall is not to be adversely affected by any change as compared with its position under the Previous Agreement [the 2001 agreement] which and insofar only as the change is attributable to the substitution of this Agreement and the hereinbefore recited Agreements [the other two 2002 agreements] for the Previous Agreement."
Clause 4 also made specific reference to Schedule 3 as follows:
"4.10 The parties acknowledge that the warehouse services specification comprised in Schedule 3 hereto reflects and was tailored to the Customer's requirements existing at the time of the Previous Agreement and that, consequent upon the substitution of this Agreement for the Previous Agreement and the assignment by the Customer of this Agreement, those requirements and the operating parameters of the Warehouse Services as regards this Agreement will involve changes to which Change Control may apply."
- Schedule 1 remained the schedule concerned with "Charges". There the concepts of "Threshold Volume", "Additional Volumes" and "Reduced Volumes" (tying into "Volume Shortfall") remained the same, although the figures and relevant charges had altered to reflect the division of St Ivel's former business between the three 2002 agreements. The "Annual Fees" remained as before. Schedule 1 again contained a clause 1.3 dealing with "Adjustments and Review", the first item in which dealt with increases in rent, as follows:
"Subject to the due performance by Wincanton of its obligations pursuant to clause 14 the Customer agrees to pay the increase in rent at each Rent Review under the Lease payable as a proportion of the agreed Rates calculated as follows: (165,000 sq ft x £4.50 per sq.ft) x 41.73% percentage increase in Rent following Rent Review."
The 41.73% was not then expressly and immediately explained in the way that the 70% had been explained in the similar place in Schedule 1 to the 2001 agreement (see at para 23 above): but the implicit explanation was nevertheless the same, namely that the 41.73% was part of the total 70% which St Ivels's Strategy Volumes across the three 2002 agreements represented out of the total capacity of the original warehouse within the Phase 1 development of 165,000 square feet. Similarly, Wincanton again undertook to "ensure that the capacity of the Warehouse is sufficient to meet" such Strategy Volumes (clause 10 and Schedule 2).
- The 2002 agreement, like the 2001 agreement before it, reproduces provisions which are premised on the use of computer controlled automated handling equipment: see para 29 above. As the judge found and there is no dispute, Operating Parameters, Strategy Volumes and hourly throughput continued to be expressed by reference to the premise of automated handling.
- Similarly, there was the credit provided to St Ivel to be set off against its Volume Shortfall payment liability by reference to the profits (revenue less associated costs) earned by Wincanton on Additional Business (again defined as additional third party business less Committed Benefit). The difference was that on this occasion the credit was dealt with in the side-letter rather than in clause 9.5 of the agreement. This was because the credit was designed to be personal to St Ivel as distinct from the purchaser of its businesses. The side-letter read in relevant part as follows:
Additional Business
4.1 In this paragraph:
Additional Business means revenue received by Wincanton from customers additional to the Uniq Group and additional to the Committed Benefit.
Committed Benefit shall mean £2,865,000 in respect of the year ending 31 March 2003 and £4,090,000 in respect of the following years.
Volume Shortfall in respect of a Relevant Agreement means the difference between the Threshold Volume as defined in that Agreement and the Actual Volume of Goods (as defined in that Agreement) provided by the Uniq Group to Wincanton at the Warehouse pursuant to the Agreement in each Year of that Agreement where the actual volume of such Goods provided by the Uniq Group to Wincanton at the Warehouse is less than that of the Threshold Volume under that Agreement…
[4.2] Wincanton shall use reasonable endeavours to develop and secure additional business with a view to utilising spare capacity and throughput in the Warehouse. Subject to paragraph 4.3 below, in the event that Wincanton secures Additional Business, Wincanton agrees that any payment due by the Uniq Group in respect of a Volume Shortfall under a Relevant Agreement shall be reduced by:
(a) in respect of the payment of the first 10% of the Volume Shortfall, 60%; and
(b) in respect of the payment for the balance for the Volume Shortfall, 40%
of the gross revenue (less associated costs) generated as a result of that Additional Business.
4.3 Notwithstanding paragraph 4.2 above in the event that Wincanton secures Additional Business by reason of the transfer of a customer from its existing operations to the Warehouse, it shall be entitled to deduct any losses flowing as a direct consequence of the transfer of such customer prior to the Uniq Group obtaining any reduction in payment for a Volume Shortfall…
4.4 Any profit resulting from Additional Business shall be assessed by an independent auditor…"
- Thus the mechanism remained the same in the 2001 and 2002 agreements. The Committed Benefit also remained the same, for the figures of £2,865,000 and £4,090,000 were derived from Schedule 1 of the 2001 agreement.
- It will be observed that the expression "Warehouse" figures repeatedly in these provisions of the side-letter. Exceptionally it is not built into the definition of "Additional Business", even though Wincanton had operations elsewhere, but it is common ground that the side-letter, as the 2001 agreement before it, must be read as though Additional Business incorporated a limitation to the warehouse. So, the question is, what is the warehouse for these purposes? Is it the original warehouse, or does it refer to the extended warehouse?
The emergence of the issue
- The argument has shifted, at any rate on Wincanton's side, as the parties' dispute neared trial. Uniq's case has always been that the "Warehouse" embraced the whole of the NDC. Wincanton originally agreed, and sought to deduct the Phase 2 rent of the extension as an "associated cost". Indeed, it pleaded that the extension "has only ever been used for "additional business"." It admitted St Ivel's pleaded definition of the NDC and the "Warehouse" as being synonomous. When witness statements were exchanged, Mr Harvey described the warehouse as including the extension and described the extension as "a dedicated storage and handling facility for Additional Business". Other witness statements, however, suggested a new line of argument, viz that the concept of "throughput" found in the agreements and the side-letter (in the clause 4.2 phrase "spare capacity and throughput") meant automated throughput, ie throughput using the automated handling equipment only to be found in the original warehouse: on that basis Additional Business could not be generated in the extension. That gave rise in due course to amendments in Wincanton's pleadings to make such a case explicit, to a corrective witness statement from Mr Harvey, and to a skeleton argument for trial based on Wincanton's new case, that "Warehouse" was limited to the original warehouse.
- The judge referred briefly to this history in his judgment, but described it as academic, otherwise than in relation to costs. It has been elaborated in St Ivel's skeleton argument for this appeal, but has not figured prominently in Mr Hochhauser's oral submissions on behalf of St Ivel.
The judgment below
- The judge had to deal with two preliminary issues of construction. The first raised the question before us of whether Additional Business for the purposes of the side-letter included such business conducted within the extension. That issue has essentially reduced to the question of whether "Warehouse" in the side-letter refers to the original or extended warehouse. The second issue was as to the meaning of "associated costs" for the purposes of calculating the "gross revenue (less associated costs)" which had to be deducted from St Ivel's liability to make Volume Shortfall payments. As to that latter issue, the judge held that associated costs meant only those marginal or what he called additional costs generated by the Additional Business concerned. They did not include what might be described as the fixed or sunk costs of the warehouse operation. There is no appeal in respect of that second issue. That decision is favourable to St Ivel.
- As to the issue with which we are here concerned the judge decided it in favour of Wincanton's case that "Warehouse" referred only to the original warehouse. The essence of his reasoning is in the following passages:
"27. Turning now to the 2002 agreement and side letter, the striking feature, as submitted by the Defendant, is the lack of any disparity between the terms of the two agreements despite the construction of the extension in the meantime, save to reflect the division of the St Ivel business into three. Of particular note are:
(i) the terms of the rent review clause in Schedule 1 are still expressed by reference to the area of the original warehouse and with operating parameters still expressed by reference to automated throughput.
(ii) the strategy volume in Schedule 2 continued to be expressed in the context of automated throughput within the total capacity of the original warehouse.
(iii) Perhaps the most striking of all the original Warehouse Services Specification is annexed in Schedule 3 without amendment: this both gives the appropriate measure of automated throughput of chilled goods but also expressly distinguishes between the NDC on the one hand and the NDC extension on the other.
28. Of course each contract must be construed by reference to its own terms. But the fact that the earlier agreement was not merely executed prior to the extension being built but also expressed by reference to the dimensions, capacity and characteristics of the original warehouse is in my judgment of particular significance when repeated in the new agreement despite the enlargement of the total footprint and capacity of the whole building. The more so when the extension is not automated and, at least in part, at ambient temperatures.
29. The provisional conclusion must be that the "warehouse" of both agreements is the same, namely the warehouse of 165,000 sq. feet with a physical capacity of 85 million cases per year and equipped for both refrigeration and automated operation. On this basis it follows that, although the lease encompasses both Phase 1 (the original warehouse) and Phase 2 (the extension), the word warehouse is restricted to the premises in which the Warehouse Services under the earlier agreement continue to be furnished.
30. Does this accord with commercial good sense? In my judgment it does. It is difficult to see why, Wincanton having incurred the cost of constructing an extension, should give credit to St Ivel for part of the revenue derived from obtaining customers for the new space – the more so when the space is not available for St Ivel throughput because of the absence of automation and refrigeration."
The submissions of the parties
- The parties' submissions broadly tracked those which had been made to the judge. On behalf of St Ivel, Mr Hochhauser emphasised the following points. He agreed that the critical issue was the meaning of "Warehouse" in the side-letter. He described as a key or paramount consideration the fact that the side-letter reflected a complex commercial arrangement: it gave to St Ivel only a share of Wincanton's profits derived from Additional Business, not a full credit based on a mitigation theory whereby capacity unused by St Ivel might be compensated by income earned from third party users. Although that complex deal had already existed under the 2001 agreement before the extension had been built, the terms of it (the percentage of profit available as a credit to St Ivel) had fallen in the 2002 agreement together with its side-letter (from 75% and 50% to 60% and 40% of profits) – to reflect, he suggested, the larger capacity now created by the extension. Moreover, even before the extension had been built, St Ivel benefited from Additional Business across the whole of the original warehouse and not limited to that 70% capacity which alone it had been envisaged St Ivel would use. As it was, both lease and 2001 agreement had already envisaged such an extension and the extension had been built by the time of the 2002 agreement. When built, the extension formed a single integrated unit with the original warehouse: it depended for its physical support, infrastructure, staff and services on the rest of the NDC site. It was managed, administered and operated as one with the original warehouse. The rationale for its development was to enable Wincanton to develop the NDC into a multi-user site, ie to obtain new third party business (see Wincanton's March 2001 memorandum). Wincanton had itself long regarded all such new business (the agreements' Additional Business concept) wherever it was sited within the extended warehouse as within the concept of Additional Business and only came very lately to its ultimate and amended litigation position. It was uncommercial and therefore an unlikely and unrealistic basis of agreement that distinctions should have to be made to depend upon where the new business was sited, whether within the original warehouse or within its extension, especially given the extended warehouse's integrated nature. Thus Wincanton's obligation to use reasonable endeavours to obtain such new business was a general obligation, not one limited to the warehouse only as originally configured. This remained true even if "Warehouse" under the 2001 agreement had to be given a restricted meaning.
- The judge was wrong to have been influenced by the terms of the Schedules. In particular, Schedule 3 gave every appearance of having been drafted by businessmen not lawyers: in any event it spoke generally of the "NDC" and the "site" and rarely of the "Warehouse". There was no obligation to restrict St Ivel goods to the original warehouse, whatever happened in practice, as was shown by the fact that the extension, once it was built, was used for the purpose of receipt of such goods even if not its storage. It could not be said that such use of the extension was uncontractual, or that the contractual obligation (contained in clause 21 of Schedule 3) that "The warehouse should be maintained to an acceptable level of cleanliness" did not apply to the warehouse as a whole. As for the definition of "Warehouse", that referred primarily to the "Warehouse premises let subject to the Lease", which was a general reference to the whole of the premises, and the following phrase "in which the Warehouse Services are to be provided" was merely descriptive and did not qualify the earlier expression.
- As for the judge's reliance on "commercial good sense", he had overlooked both the overall context of the parties' relationship and their deal in respect of Additional Business. The whole NDC venture had been developed in partnership. St Ivel shared in the risks of that venture in part by reason of its fixed annual fee of £2 million. The judge had also overlooked the commercial unreality of Wincanton seeking business only for part of the extended warehouse and the commercial difficulties of attributing costs incurred across the warehouse as a whole to only a limited part of the operation.
- Mr Hochhauser recognised that the jurisprudence concerning use of post-contractual conduct to assist in the construction of a contract was against him: see James Miller & Partners Ltd v. Whitworth Street Estates (Manchester) Ltd [1970] AC 583. He sought nevertheless to use such post-contractual conduct as evidence of pre-contractual matrix, which he submitted was permissible. He reserved his position on the basic rule should this case go further.
- On behalf of Wincanton, Mr Christopher Pymont QC agreed that the essential issue was what the definition of "Warehouse" embraced. He submitted, however, that the judge was right for essentially the reasons he had given. The definition went back to the 2001 agreement, which was before the extension had been built. That was a pointer, but in addition the key phrase was "in which Warehouse Services are to be provided". That may be descriptive, but it described the original warehouse, not the warehouse as extended. It was also normative, for it described where the warehouse services "are to be provided". The obligation was to provide those services in the original warehouse, because only that original warehouse was both chilled and automated. The "Warehouse" definition was also intimately wrapped up in Schedule 3 (through the definition of "Warehouse Services"). That too showed that only the original warehouse was in contemplation. Schedule 3 referred to the possibility of the extension, but only as something about which "Options would need to be considered" should St Ivel develop a need for storage beyond the agreed capacity. Clause 4 of the 2002 agreement demonstrated that Schedule 3 could not be changed without going through an important procedure.
- Despite the existence of some chilled space in the extension, the fact that the majority of its space was not chilled and the complete absence of computer controlled automated machinery meant that the business of the extension was essentially different from that of the original warehouse. It followed that charges would probably be different there and essentially the customer would choose where he wanted to be.
- The solution to the issue provided by the definition of "Warehouse" was supported by other considerations. For instance, (i) Schedule 2 to the 2002 agreement referred to a calculation of "Hourly rates of throughput for each Year" which depended in part on the figure of "85 million" (ie cases) which was the original warehouse's annual capacity. That figure of 85 million was also to be found both in Schedule 2 to the 2001 agreement, and in Schedule 1 to the 2001 agreement in the passage cited above which explained how it was that 70% of a Phase 1 rental increase was to be paid by St Ivel. (ii) Thus clause 1.3 of Schedule 1 to both the 2001 and 2002 agreements provided for an increase in charges dependent on the increase of rent (upon rent review under the lease) on the original size of 165,000 square feet (ie Phase 1 rent under the lease) and without reference to Phase 2 rent. (iii) Thus the provisions of clause 4 of the agreements relating to changes made no provision or allowance for the changes which might ensue from the building and completion of the extension.
- The judge was right to speak about the commercial good sense of Wincanton's case. Wincanton would be paying for the extension both in the form of capital costs and in the form of an increase in the Phase 2 rent. The 2002 agreement made no provision for capturing those costs. It was simply uncommercial therefore to read the side-letter as providing St Ivel with a credit which might depend very largely on Wincanton's marginal profits from extra third party business facilitated by the building of the extension.
Discussion
- In my judgment, Wincanton has the better of these arguments. In large part, my reasons reflect those of the judge and of Mr Pymont's submissions, but I would seek to put the matter in the following way.
- The essential issue is indeed, as both parties agree, a matter of definition: is the "Warehouse" of which the side-letter speaks the original or the extended warehouse? It is plain that "Warehouse" is being used in the same sense as that in which it is used in the 2002 agreement: not merely because the side-letter is itself a side-letter to that agreement, but also because the terms of the side-letter are redolent of the substance of that agreement. Thus the reference to Volume Shortfall in clause 4.1 of the side-letter refers to "Goods (as defined in that Agreement) provided by the Uniq Group to Wincanton at the Warehouse pursuant to that Agreement" and the critical clause 4.2 speaks of Wincanton securing additional business "with a view to utilising spare capacity and throughput in the Warehouse". So the definition of "Warehouse" in the 2002 agreement must be definitive.
- That definition speaks of the "warehouse premises let subject to the Lease, in which the Warehouse Services are to be provided". The first part of that phrase identifies the premises in question (as distinct from any other warehouse premises) by reference to the Lease, elsewhere defined by date and parties and a reference to "the whole site"; and the second part of that phrase narrows the description of warehouse premises (which themselves form only part of that site) by identifying such premises to be those "in which the Warehouse Services are to be provided". So the question becomes: where are the Warehouse Services to be provided"?
- That is ultimately a matter of contract not prediction, let alone after the event narrative. One immediate answer is that given by the fact that at the time of the 2001 agreement the extension did not exist. It seems to me that that fact is a highly significant pointer, even if it is not necessarily conclusive. It is not necessarily conclusive because the 2001 agreement might have stated, and the 2002 agreement might in any event have stated, that the Warehouse Services were to be provided in the extension as well as in the original warehouse. It was, after all, already being planned, perhaps being built, at the time of the 2001 agreement. However, neither the 2001 nor the 2002 agreements did so state, either expressly or impliedly. The fact that, even after the extension had been built, the 2002 agreement's definition remained in the same terms as that of the 2001 agreement is itself a pointer against the expanded interpretation of that definition relied on by St Ivel. For these purposes it was common ground that it is permissible to construe the 2002 agreement and its side-letter against the background of the earlier 2001 agreement. See HIH Casualty and General Insurance Co Ltd v New Hampshire Co [2001] EWCA Civ 735, [2001] 2 Lloyd's Rep 161 at [83], Electrosteel Castings Ltd v Scan-Trans Shipping & Chartering Sdn Bhd [2002] EWHC 1993 (Comm), [2003] Lloyd's Rep 190 at 198.
- Not only did neither the 2001 nor the 2002 agreement state that the Warehouse Services were to be provided in the extension to the warehouse as well as in the original warehouse, whether expressly or impliedly, but both agreements are redolent of terms which only make sense on the basis that the services were to be provided only in the original warehouse. Thus only the original warehouse was both chilled and automated, which were requirements of the services to be provided and governed the parameters of those services. Secondly, the provisions of Schedules 1, 2 and 3 repeatedly reflected the size and capacity of the original warehouse. I refer to the matters about which Mr Pymont made submission, such as the reference to a throughput capacity of 85 million cases per year which was the original warehouse's capacity, or to the square footage of the original warehouse operation (165,000), or to the relationship of St Ivel's strategy volumes and the warehouse capacity (the 70% and the 41.73%). It is particularly significant that an increase in the rent under the lease pursuant to a rent review was only to lead to a higher charge in respect of Phase 1 rent, because such a rent review was looking into the future when the extension would have come on stream (so far as the 2001 agreement was concerned) or when third party additional business might have built up (so far as the 2002 agreement was concerned).
- Thirdly, it seems to me significant that the one express reference to the extension in either agreement (the reference in Schedule 3) is to the possibility that "Options would need to be considered as to how this requirement [St Ivel volume above the agreed capacity] is to be satisfied either within the NDC extension or alternative sites". In other words: the original warehouse's capacity is the subject matter of the agreements, a growth in St Ivel's requirements which would put a strain on that capacity would require fresh agreement, and for that purpose the "NDC extension" and "alternative sites" were spoken of as being in pari materia. This is entirely antithetical to the proposition that "Warehouse" includes the extension. Fourthly, there are detailed provisions in clause 4 of both agreements for material change in either services and/or charges (Schedule 3 and/or Schedule 1) without any reference to the extension. One would expect, however, that any intention to bring the extension within the scope of the 2001 agreement would have been reflected in some way in that clause, and that any such reference in the 2001 agreement would have been similarly reflected in some way in the 2002 agreement.
- It is further significant in this context that the agreements address the new situation created by the demerger of Wincanton and its pursuit of new third party business without reference to the extension: see the introduction to Schedule 3 cited at para 26 above. If for the purposes of clause 9.5 of the 2001 agreement or of the side-letter to the 2002 agreement the extended warehouse were to be the subject matter of the parties' arrangements, it is very odd that the significance of the extension to the pursuit of new third party business was not addressed specifically somewhere in those agreements. A similar point could be made about clause 4.10 of the 2002 agreement (see para 34 above) which allows for revisions to reflect new circumstances but has resulted neither in the 2002 agreement being materially altered, nor thereafter in any new arrangements, to take account of the extension.
- In my judgment, these considerations make a powerful case for giving to the definition of "Warehouse" its natural meaning, referring to that original part of the Warehouse where the Warehouse Services were to be provided.
- What is to be said on the other side? Mr Hochhauser submits that the deal expressed by the side-letter (and before that in clause 9.5 of the 2001 agreement) was a complex arrangement which did not reflect the common law of mitigation. That may be so: but this does not ultimately take St Ivel anywhere. Given the fact that St Ivel was not using the whole capacity of the original warehouse, and that Wincanton had signed up some third party customers in any event (the Committed Benefit), the question of making allowance for substitute custom was always going to be a difficult one. This point in other words is not a positive one: it does not point in the direction of the extended as distinct from the original warehouse. It merely seeks to say: where a "deal" has to be made, anything is possible.
- Mr Hochhauser submits that for Wincanton in obtaining additional business, and also for both parties for the purposes of their mutual accounting, to have to distinguish between third party custom in two different parts of an integrated warehouse was uncommercial and unrealistic and difficult to unravel. The point has some cogency, but the fact is that the warehouse was not as integrated as all that: the extension was only partly chilled and not at all automated. Different services suggest different customers. St Ivel is an example here: its goods would not be stored in the extension (and have not been). There is no safe evidence as to the position regarding the Committed Benefit third party customers. Moreover, because of the limited meaning of "associated costs", there is no need to allocate warehouse wide costs to Additional Business. The costs which have to be accounted for are only the marginal costs associated with Additional Business for the original warehouse.
- Mr Hochhauser submits that the very rationale of the extension was to enable the NDC to attract, and diversify towards, multi-user custom. That may be allowed, but that was a matter for Wincanton, which was already in the process of its future demerger from Uniq at the time of the 2001 agreement. It does not mean that the 2001 agreement (or the 2002 agreement) was based on giving to St Ivel, which was only interested in the original automated warehouse, a potential share in the profits generated by the extension.
- On the other hand, what the judge described as the "commercial good sense" of Wincanton's case seems to me to make a telling point. It does seem uncommercial that St Ivel should be entitled to participate (where a Volume Shortfall occurs) in the profits generated by the extension without any contribution to the cost of the extension, which would be borne entirely by Wincanton. This is especially the case as (a) the credit from the profits of Additional Business is very favourably addressed from the point of view of St Ivel, since it is only marginal costs which need to be deducted from the revenue, and not the fixed or sunk costs of building or renting the extension itself; and (b) St Ivel has no interest in the extension, since its goods must be stored within the original automated warehouse.
- Therefore the prima facie meaning of the definition of "Warehouse" is confirmed both by a detailed semantic consideration of the 2001 and 2002 agreements as a whole, as well as by the commercial rationale discussed in the previous paragraph.
Conclusion
- I would therefore dismiss this appeal.
Lord Justice Richards
- I agree
Lord Justice Stanley Burnton
- I also agree
