Court allows appeal finding £40,000 annual payments were conditional dividends, not contractual debts.

THE SUPREME COURT

Keane CJ

Denham J

Murphy J

240/00

Between:

Igote Limited

Plaintiff/ Respondent

AND

Badsey Limited

Defendant/ Appellant

Judgment of Mr Justice Francis D Murphy delivered the 18th day of July, 2001

In these proceedings the Plaintiff/ Respondent (Igote) claim that the Defendant/ Appellant (Badsey) is indebted to them in the

sum of £40,000 for the year ended the 31st March, 1997, and a further sum of £40,000 for the year ended the 31st March,

1998 (making a total of £80,000) on foot of an agreement in writing dated the 27th day of July, 1991 (therein and hereinafter

referred to as “the Share Subscription Agreement”) made between Igote (therein referred to as “the First Subscriber”) of the

first part Bagrave Limited (therein and hereinafter referred to as “the Company” ) of the second part and Badsey (therein

referred to as “the Second Subscriber”) of the third part.

Clause 4.3 of the Share Subscription Agreement provided as follows:-

“It is agreed that in respect of any financial period of the company of twelve months duration, the Company shall

distribute at least IR£40,000. If a financial period is of greater or lesser duration that twelve months, the amount shall

be adjusted proportionally. Notwithstanding the respective shareholdings in the Company, this IR£40,000 or (sic)

proportionate amount shall be distributed to the First Subscriber and thereafter a similar amount shall be distributed to

the Second Subscriber. Any dividend in excess of such amounts shall be split between the shareholders in proportion to

their holdings of Ordinary Shares. The First Subscriber and the Second Subscriber will execute any dividend waiver

necessary to implement the above, and will arrange where possible to pay such distributions by way of interim dividends

as agreed.”

It was pleaded on behalf of Igote and contended in argument that the annual payment of £40,000 was a contractual

commitment to pay that sum and the failure to do so amounted to an indebtedness by the Company. On behalf of Badsey it was

argued that the sum of £40,000 referred to in clause 4.3 aforesaid was a commitment to pay that sum by way of dividend and

accordingly to make the payment only if profits were available for that purpose. The learned trial Judge (Butler J) upheld the

argument of Igote in an ex tempore judgment delivered on the 12th day of July, 2000 and it is from the judgment and order

made on foot thereof that Badsey appeals to this Court.

The issue between the parties concerns the proper construction of the Share Subscription Agreement. The purpose of

construing a document entered into between two or more persons is to ascertain their common intention. What “intention” in

that context means and how it is ascertained has been the subject matter of much judicial authority in respect of which no real

controversy arises in the present case. Perhaps a convenient explanation of the word “intention” in this context was provided

by Lord Shaw in Great Western Railway .v. Bristol Corporation [1918] 87 LJ Ch 414 when he said:-

“.... one hears much use made of the word “intention”, but courts of law when on the work of interpretation are not

engaged upon the task or study of what parties intended to do, but of what the language which they employed showed

that they did; in other words, they are not constructing a contract on the lines of what may be thought to have been

what the parties intended, but they are construing the words and expressions used by the parties themselves. What do

these mean? That, when ascertained, is the meaning to be given effect to, the meaning of the contract by which the

parties are bound. The suggestion of an intention of parties different from the meaning conveyed by the words

employed is no part of interpretation, but is mere confusion.”

Lord Wright expressed the same view in not dissimilar terms in IRC .v. Raphael [1935] AC 26 when he said:-

“It must be remembered at the outset that the court, while it seeks to give effect to the intention of the parties, must

give effect to that intention as expressed, that is, it must ascertain the meaning of the words actually used. There is

often an ambiguity in the use of the word “intention” in cases of this character. The word is constantly used as meaning

motive, purpose, desire, as a state of mind, and not as meaning intention as expressed.”

There are numerous maxims and rules which have evolved over the years which may provide assistance in what can be the

difficult task in ascertaining the intention of the parties. Igote placed particular reliance on one such rule. It may be described

as “the factual matrix rule”. That rule is frequently identified with Lord Wilberforce and the speeches made by him in Prenn .v.

Simmonds [1971] 1 WLR 1381 and Reardon Smith Line Ltd .v. Yngvar Hansen-Tangen [1976] 1 WLR 989. In the Prenn Case

Lord Wilberforce said (at page1383):-

“The time has long passed when agreements, even those under seal, were isolated from the matrix of facts in which

they were set and interpreted purely on internal linguistic considerations .... We must ... inquire beyond the language

and see what the circumstances were with reference to which the words were used, and the object appearing from

those circumstances, which the person using them had in view.”

Lord Wilberforce then continued in terms to the later part of which particular attention was directed by Counsel on behalf of

Igote, namely:-

“In my opinion, then, evidence of negotiations, or of the parties intentions, and, afortiori, of Simmonds’ intentions, ought

not to be received, and evidence should be restricted to evidence of the factual background known to the parties at or

before the date of the contract, including evidence of the “genesis” and objectively the “aim” of the transaction.”

In the Reardon Smith Line Case Lord Wilberforce repeated his views (at page 995) in these terms:-

“No contracts made are in a vacuum: there is always a setting in which they have to be placed. The nature of what is

legitimate to have regard to is usually described as “the surrounding circumstances” but this phrase is imprecise; it can

be illustrated but hardly defined. In a commercial contract it is certainly right that the court should know the

commercial purpose of the contract and this in turn presupposes a knowledge of the genesis of the transaction, the

background, the contract, the market in which the parties are operating.”

The dangers involved in exploring the background or surrounding circumstances to a document under construction and the

limitations which must be placed upon the factual matrix rule were referred to in Plumb Brothers .v. Dolmac (Agriculture) Ltd

[1984] 271 EG 373 by May LJ when he said (at page 374 L):-

“There has grown up a tendency to speak about construing documents in or against what is described as the “factual

matrix” in which the contract or documents first saw the light of day. In truth that is only, I think, a modern way of

saying what has always been a rule for a long time that, in construing a document, one must look at all of the

circumstances surrounding the making of the contract at the time it was made. There is the danger, if one stresses

reference to the “factual matrix” that one may be influenced by what is in truth a finding of the subjective intention of

the parties at the relevant time, instead of carrying out what I understand to be the correct exercise, namely,

determining objectively the intent of the parties from the words of the documents themselves in the light of the

circumstances surrounding the transaction. It is not permissible, I think, to take into account the finding of fact about

what the parties intended the document to achieve when one is faced with the problem some five, ten or many years

later of construing it. In deciding what the document did in fact achieve, all that one can look at are the general

circumstances surrounding the making of the document and in which it was made, and deduce the intention of the

parties from the actual words of the document itself. The contract between the parties is what they said in the relevant

document. It is not for this or any court to make a contract for the parties different from the words that the

documents actually use merely because it may be that the parties intended something different.”

In Rohan Construction Ltd .v. Insurance Corporation of Ireland [1988] ILRM 373 this Court, in a judgment delivered by Griffin J,

did apply the principles enunciated Lord Wilberforce in the Reardon Smith Line Case but the warning note sounded by May LJ

must be equally applicable in this jurisdiction. At the end of the day the rule as to construction and the context in which it is to

be achieved is most succinctly expressed in the judgment of the Chief Justice in Kramer .v. Arnold [1997] 3 IR 43 at 55 when

he said:-

“In this case, as in any case, where the parties are in disagreement as to what a particular provision of a contract

means, the task of the court is to decide what the intention of the parties was having regard to the language used in

the contract itself and the surrounding circumstances.”

The importance which was attached by Igote to the factual element is apparent from the course which the proceedings took.

Witnesses were examined and cross-examined in the High Court over a period of five days in relation to their business

relationships, the negotiations between them and advice which they gave or received. Not only was discovery sought from and

made by both parties but Igote complained in this Court that the discovery made on behalf of Badsey was inadequate. This

complaint was made by reference to the more voluminous discovery made in proceedings under s.205 of the Companies Act

1963 involving the same parties or some of them. Igote sought to have the appeal struck out on the basis of the inadequacy of

the discovery or, alternatively, to adduce as evidence in this Court the documents which they contended should have been

discovered in the first instance. That problem was resolved by the Court permitting Counsel on behalf of Igote to refer to such

of the documents as he thought fit in the course of his argument subject to the ultimate decision of the Court determining the

relevance or otherwise of any such documentation.

The mediate and immediate background to the Share Subscribers Agreement is somewhat confusing. Brian Francis Mooney was

registered in February, 1985, as the proprietor of certain patents in respect of apparatus for manufacturing heat exchangers.

Prior to 1991 that and associated patents (also owned by Mr Mooney and/or relatives of his) were exploited by a company

known as Merriott Limited which was indirectly a joint venture between Comhlucht Siucre Eireann and the Mooney family. The

Sugar company were the majority shareholders but the licence to use the patent was provided by the Mooney’s through a

series of companies to Merriott Limited. Merriott Limited paid a fixed royalty for the use of the patent until its right thereto

ceased when that company went in to receivership. At that stage negotiations took place between Barlo Group Plc and the

Mooneys. Those negotiations resulted ultimately in the execution of the Heads of Agreement dated 19th July, 1991, between

the Mooneys and Barlo Group Plc. In pursuance of that agreement a series of documents was executed on the 27th of July,

1991. These included the Share Subscription Agreement under which Igote and Bagrave (a member of the Barlo Group)

subscribed for shares in the Company (Badsey) and an assignment or assignments also dated the 27th day of July, 1991,

whereby Brian Francis Mooney assigned to the Company the patent rights described in the schedule thereto in consideration of

the payment to him of the sum of £1,000. The Company then executed a licence of the patent rights to Badwell Limited (which

subsequently changed its name to Merriott Radiators Limited). The consideration of the granting of the licence was the sum of

£1 together with an annual royalty payment which was described in the following terms:-

“The licensee shall pay to the owner of the licence hereby secured the following annual royalty payments exclusive of

value added tax:-

(a) The Licensee shall during the continuance of this Agreement permit to be accrued for the account of the owner a

royalty of 10% per annum of the audited sales of all products which have been produced through the use of any of the

patent rights herein licensed .... sold or otherwise supplied for money or money’s worth in a year (“Royalty”).”

In each of the years from the execution of the Share Subscription Agreement up to and including the year 1996 the Company

did pay to Igote a sum of £40,000. In the years 1997 and 1998 the Company had no distributable profits out of which a dividend

of that amount could be paid. Evidence to that effect was given in the High Court by the Company’s auditors and by

independent experts in the High Court and was not challenged. It was and is the Plaintiffs case that their right to receive

£40,000 is a contractual obligation that it is in fact “a royalty payment” which the Company was obliged to pay in each year

“come hell or high water” as Mr Mooney said in the course of his evidence in the High Court.

Of course, neither Mr Mooney nor Igote is entitled to a royalty as such. Mr Mooney disposed absolutely of his patent rights to

the Company and it was the Company who licensed them to Badwell in consideration of an annual royalty. What was urged on

the Court was that the assignment of the patent rights was for a nominal sum in anticipation of the patent holder being

compensated by a payment which would be equivalent to an annual royalty and, above all, received as a right from the

Company whether or not profits were available to it. The complexity of the arrangement between the parties was due in part to

the understandable wish of Mr Mooney and his associates to obtain the tax exemptions available from the exploitation of patent

rights by virtue of s.34 of the Finance Act 1973 as subsequently amended. The statutory conditions governing that exemption

are complex and the documentation placed before the Court showed how compliance with these evolving conditions influenced

the negotiations between the parties.

In my view the complicated background to the Share Subscription Agreement is at best of a very limited value in construing the

concluded agreement. At worst it provides the temptation - foreseen by May LJ - of seeking to extract the subjective intention

or motivation of one or other, or even both, of the parties from the history rather than construe it in the context of that

history.

In his judgment Butler J - having quoted the passage from Kramer .v. Arnold which I have already cited - went on to say as

follows:-

“As to the surrounding circumstances, I heard evidence from Mr Brian Mooney on behalf of the plaintiff and from Mr

Brendan Henehan, Solicitor, Paul McGowan, David Kennedy, David Deasy, Mark Dobbin and John Burke on behalf of the

defendant. I am satisfied from the evidence of Mr Mooney that what was agreed between the parties was that there

would be a fixed “royalty” payment of £40,000 as there had been in the case of the former agreement with the Irish

Sugar Company (as it then was). This is corroborated by two matters which preceded the execution of the agreement.

The two matters to which the learned trial Judge referred were, first, a change in terminology from the heads of agreement

dated the 19th July, 1991, and the share subscription agreement and, secondly, what the Judge described in the following

terms:-

“In notes prepared by Mr Heneghan which preceded the agreement and which were obtained on discovery, he refers at

one stage to a “40K fixed royalty” and in another he uses the words “they will get 4K up front” and again “then Barlo will

catch up on the 40K before dividends get split...””

In my view the learned Judge erred in ascertaining the intentions of the parties from the evidence heard by him as well as the

alterations aforesaid and documents prepared in the course of the negotiations. The intention of the parties may be gleaned

only from the document ultimately concluded by them albeit construing it in the light of surrounding circumstances but not

ascertaining their intentions from such circumstances. Such a process would be justified only where one or other of the parties

claimed rectification of the document executed by him: that is not the present case.

Reading and rereading the Share Subscription Agreement as a whole and in particular Article 4.3 thereof and having regard to

the surrounding circumstances insofar as they are material I am satisfied that the obligation of the Company under Article 4.3

was to distribute the sum of £40,000 by way of dividend and that the shareholders Igote and Bagrave Limited had a comparable

obligation to ensure that such a dividend was paid if, but only if, such a dividend could be lawfully paid. The learned trial Judge

expressed the view that the ordinary and natural meaning of the word “distribute” as used in the paragraph in question was

“pay”. I would respectfully disagree with that view. The shorter Oxford Dictionary gives the primary definition of “distribute” as

“to deal out or bestow in proportions or shares amongst many; to allot or apportion as his share to each”.

Accordingly the use of the word “distribute” suggests the payment of a dividend rather than the discharge of a particular

commercial indebtedness. In his submissions to this Court Counsel on behalf of Igote understandably directed attention to the

fact that Article 4.3 expressly provides for the payment of the sum of £40,000 to “the First Subscriber” and does not relate the

payment to any shares at the time being held by that subscriber. On the other hand the provision that the second tranche of

£40,000 is to be distributed to the Second Subscriber is subject to the same observation and in that case there is no basis for

suggesting that the payment should be made otherwise than by way of a dividend. It was argued on behalf of the Company

that the phrase “any dividends in excess of such amounts will be split ...” indicates that the original “amounts”, like the excess,

are all dividends. However it seems to me that the proper interpretation of the Article is put beyond doubt by the final sentence

thereof which provides:-

“The First Subscriber and the Second Subscriber will execute any dividend waiver necessary to implement the above,

and will arrange where possible to pay such distributions by way of interim dividends as agreed.”

That sentence clearly recognises that the £40,000 to be paid to the First Subscriber in priority to the claims of the Second

Subscriber was a dividend which, prima facie, would be payable to all of the shareholders of the same class in proportion to

their shareholdings and could be dealt with otherwise only by agreement between the parties. The final words of the sentence

resolve any possible doubt by requiring arrangements to be made to make the annual payments, not by lump sums, but by

“interim dividends”.

The only other clause of the Share Subscription Agreement which throws any light on the matter is Article 5.8. That Article is

headed “Dividends” and in the first sentence thereof provides:-

“Subject as hereinafter provided and to clause 4.3 the dividend policy of the company shall be determined by the Board

from time to time.”

The expression confirms that Article 4.3 was in fact dealing with dividends and is at the very least consistent with the view

that the sums of £40,000 payable to the First Subscriber and Second Subscriber were indeed dividends but payable in a manner

which differed from the routine procedure and required - as provided - the express agreement or waiver of the shareholders

concerned.

Unhappily, it would seem to me that the effort to place the Agreement in the context in which it was made involved into an

impermissible investigation of the subjective intentions of the parties in entering into the Agreement. I have no doubt that the

Agreement and in particular Article 4.3 thereof properly construed requires the Company and the other parties thereto to

procure the payment of the sums of £40,000 by way of dividend subject to the necessary qualification that such sums may only

be paid when profits are available for that purpose.

In those circumstances I would allow the appeal; set aside the order of the High Court and substitute an order dismissing the

Plaintiff’s claim.