01 September 2023
In The Hong Kong Polytechnic University v Rehabaid Society  HKCA 956, the Plaintiff and the Defendant entered into a contract which gave rise to a contractual licence, and which was, on its face, silent on the terminability and duration of the licence. The Court of Appeal (the “CA”) held that on the proper construction of the contract, the licence was terminable by the Plaintiff upon the cessation of collaboration between the Plaintiff and the Defendant, and upon the giving of reasonable notice. The decision provided clarification on the relationship between interpretation and implication of terms, in light of the Privy Council decision in Attorney General for Belize v Belize Telecom Ltd  1 WLR 1988 and the UK Supreme Court decision in Marks & Spencer plc v BNP Paribas Securities Services Trust Co (Jersey) Ltd  AC 742.
The Hong Kong Society of Rehabilitation (the “HKSR”) operated an outpatient centre providing services to persons with disabilities and chronic illness called Rehabaid Centre (the “RC”). In around late 1985, the HKSR reached an understanding with the Plaintiff to relocate the RC to premises within the Plaintiff’s campus (the “Campus”).
In March 1986, an application (the “HKJC Application”) was made by the Plaintiff to the Hong Kong Jockey Club (the “HKJC”) for funding to build a Rehabilitation Engineering Centre (the “REC”) on the Campus, close to the RC. There was contemporaneous evidence that the RC and the REC were intended to closely cooperate and that the functions of the two centres would be directly complementary.
A Memorandum of Agreement dated 10 May 1988 (the “MoA”) was entered into between the Plaintiff and HKSR. The stated purpose of the MoA was to set out the arrangements associated with the RC being established on the Campus in adjacent accommodation to the REC. Under the terms of the MoA, the RC’s occupation on the Campus was rent-free and the Plaintiff would provide the RC with utilities, cleaning, maintenance, security, etc, in return for a token charge. On the other hand, the Plaintiff paid a considerable amount in providing water, electricity and cleaning services to the RC.
It was common ground that the MoA gave rise to a contractual licence (the “Licence”). However, the document was silent on the terminability and duration of the Licence.
The Defendant was incorporated in 1992 as an entity separate from the HKSR to take over the operation of the RC. By a novation agreement dated 1 November 1992 made between the Plaintiff, HKSR and the Defendant, the Defendant took over HKSR’s rights and obligations under the MoA.
The collaboration between the RC and the REC substantially decreased in 1991. Since about 1994, there was no longer any collaboration or meaningful collaboration between the RC and the REC.
By a letter dated 19 November 2015, the Plaintiff’s solicitors served a notice to quit on the Defendant and demanded the vacation and delivery up of the various spaces within the Campus (the “Spaces”) to the Plaintiff.
Decision at first instance
The Plaintiff commenced proceedings to recover possession of the Spaces from the Defendant. It contended that, as a matter of construction of the MoA or alternatively implication of term, the Plaintiff was entitled to terminate the Licence arising from the MoA upon the cessation of collaboration between the RC and the REC, and upon reasonable notice of termination being given.
At first instance, DHCJ Richard Khaw SC (the “Judge”) dismissed the Plaintiff’s claims and held that the Plaintiff’s notice of termination was invalid and of no effect. In favour of the Defendant, the Judge granted an order of specific performance of the MoA.
The Judge rejected the Plaintiff’s contention that, for contracts that were silent on duration or manner of determination, the proper approach was to ascertain the common intention of the parties. Referring to various dicta from Lord Neuberger PSC in Marks & Spencer plc v BNP Paribas Securities Services Trust Co (Jersey) Ltd  AC 742, the Judge emphasised the conceptual distinction between interpretation of a contract and implication of terms. In particular:-
(a) The exercise of implication cannot properly be classified as part of the exercise of interpretation: “When one is implying a term or a phrase, one is not construing words, as the words to be implied are ex hypothesi not there to be construed” (§27);
(b) “In most, possibly all, disputes about whether a term should be implied into a contract, it is only after the process of construing the express words is complete that the issue of an implied term falls to be considered. Until one has decided what the parties have expressly agreed, it is difficult to see how one can set about deciding whether a term should be implied and if so what term” (§28).
The above dicta would seem inconsistent with the reasoning in Attorney General for Belize v Belize Telecom Ltd  1 WLR 1988, in which Lord Hoffmann expressed the view (at §19) that “the implication of a term is an exercise in the construction of the instrument as a whole”.
In light of Marks & Spencer, the Judge took the view that the issue before the Court was one of implication of terms. He therefore applied the test for implication of terms in BP Refinery (Westernport) Pty Ltd v Shire of Hastings (1977) 180 CLR 266, 283, according to which (1) the term sought to be implied must be reasonable and equitable; (2) it must be necessary to give business efficacy to the contract, so that no term will be implied if the contract is effective without it; (3) it must be so obvious that ‘it goes without saying’; (4) it must be capable of clear expression; and (5) it must not contradict any express term of the contract.
Applying this test, the Judge held that the Plaintiff had failed to establish the implied term as a matter of business efficacy and/or necessity. The relevant documents and factual matrix did not support any intention of the parties that the Licence should be conditional or contingent upon collaboration between the RC and the REC.
Accordingly, the Judge held that the Plaintiff’s notice of termination was invalid and of no effect. The Defendant was entitled to continue occupying the Spaces. There was “no reason why the Plaintiff [should] not be entitled to specific performance of the MoA”.
The Judge did not find it necessary to rule on the Defendant’s case that the Licence was perpetual because the Defendant was not seeking any relief or declaration premised upon a perpetual licence. However, the Judge’s observations indicated that he did not find favour with the Defendant’s case in this regard.
Decision of the Court of Appeal: construction of the MoA
The CA allowed the Plaintiff’s appeal and set aside the judgment at first instance.
The CA held that the Judge had erred in focussing on the issue of implication of term rather than construction of the MoA as a whole. The fact that the MoA was silent on the terminability and duration of the Licence did not mean that these issues could not be approached as a matter of construction. The interpretation process is not confined to interpreting the express words of the agreement, but also involves consideration of what the parties have omitted to say.
Meanwhile, the CA provided important clarification on the relationship between interpretation and implication of terms, in light of Marks & Spencer and Belize. The CA acknowledged that Marks & Spencer was followed in Lo Yuk Sui v Fubon Bank (Hong Kong) Ltd  HKCA 261, but noted that in Lo Yuk Sui, the CA also referred to the dicta of:-
(a) Lord Carnwath JSC in Marks & Spencer, §71 that it was not necessary to draw a sharp distinction between interpretation and implication, emphasizing that the exercise of contractual interpretation is an iterative rather than sequential process; and
(b) Lord Mance JSC in Trump International Golf Club v Scottish Ministers  1 WLR 85, §42, which cautioned against adopting a too rigid or sequential approach to the processes of consideration of the express terms, and of consideration of the possibility of an implication.
The CA held that the Judge erred in not determining the basic question of whether the Licence could be terminated by the Plaintiff unilaterally or if it was a permanent licence. In the view of the CA, there must always be one single true interpretation of the agreement, which the Court must ascertain based on the evidence and the parties’ submissions before it. The Judge should have specified what he thought was the true interpretation, but he had failed to do so.
On the evidence, the CA held that the co-location of the REC and the RC on the Campus was underpinned by the principle of mutual benefit between the Plaintiff and the HKSR. The co-location arrangement was mutually beneficial, because the Plaintiff was able to leverage on the established reputation of the RC to boost its HKJC Application for funding for the REC. Meanwhile, the use of the Spaces was highly subsidised by the Plaintiff. The fact that the Plaintiff was willing to shoulder the heavy financial burden for the co-location of the RC demonstrated that it was doing so for a purpose from which it would derive benefit.
Against this factual matrix, it made neither common sense nor commercial common sense for the Plaintiff to have intended to continue to shoulder the heavy financial burden in favour of the RC regardless of any change in circumstances, for example where the co-location of the RC no longer gave any benefit to the REC or the substratum of its relationship with the Defendant no longer existed.
Accordingly, the CA held that on the proper construction of the MoA, loss of substratum would give rise to the right to terminate the Licence upon the giving of reasonable notice.
Decision of the Court of Appeal: implication of term
The CA also found in favour of the Plaintiff, on its alternative case on implication of term.
The CA held that the Judge took an unduly narrow view on the concept of business efficacy. In particular, the Judge had failed to give sufficient consideration to the principle that necessity for business efficacy involves a value judgment, and the test is not one of “absolute necessity”. Another way of expressing the requirement of business efficacy is that a term can only be implied if, without the term, the contract would lack commercial or practical coherence.
In the view of the CA, logically, the first question to ask was: “what is the effect of the MoA without any implied term?”. In the absence of an implied term, the Licence was on the face of the MoA unlimited in duration. This would have the effect of alienating the Spaces in favour of the Defendant, and the occupation of the Spaces would be subsidised indefinitely by the Plaintiff. The result would be unreasonable, if not absurd – the MoA would lack commercial or practical coherence without an implied term.
Accordingly, the CA upheld the Plaintiff’s alternative case on the implied term.
In Belize, Lord Hoffmann delivered a seminal restatement of the law on implication of terms into contracts. For some commentators, the restatement represented a departure from accepted orthodoxy, in diluting the requirements that had to be satisfied before a term would be implied, and providing support for the notion that implication of terms was part of the exercise of interpreting a contract: see e.g. John McCaughran KC, “Implied terms: the journey of the man on the Clapham omnibus”  C.L.J. 607.
In Marks & Spencer, various dicta appeared to signal an intention to row back from Lord Hoffmann’s reasoning in Belize, with Lord Neuberger PSC opining that interpretation and implication of terms are two different processes, involving different techniques, and that one normally could not begin to embark on the exercise of implying a term into a contract before ascertaining the meaning of the express words of that contract.
In Rehabaid Society, the CA provided important clarification on the above controversy, as a matter of Hong Kong law. The following points arising from the CA’s decision are particularly noteworthy:-
(1) When the interpretation of a contract is in issue, there can only be one true interpretation and it is incumbent on the Court to pronounce upon it.
(2) The exercise of contractual interpretation is an iterative rather than sequential process. It is not necessary to draw a sharp distinction between interpretation and implication. The Court should not adopt too rigid or sequential an approach to the processes of consideration of the express terms, and of consideration of the possibility of an implication.
(3) The interpretation of a contractual document involves consideration of not only what the parties have said in the agreement, but also what they omitted to say. The interpretation process is not confined to interpreting the express words of the agreement.
(4) A term sought to be implied into a contract must satisfy the requirement of business efficacy. Necessity for business efficacy involves a value judgment. The test is not one of “absolute necessity”. A term can only be implied if, without the term, the contract would lack commercial or practical coherence.