England and Wales High Court (Commercial Court) Decisions

IN THE HIGH COURT OF JUSTICE
QUEEN'S BENCH DIVISION
COMMERCIAL COURT

		Royal Courts of Justice Strand, London, WC2A 2LL
		06/12/2007

Mr Justice David Steel :

Introduction

1. The Court is concerned with the trial of preliminary issues pursuant to an Order of HHJ Mackie made on 24 April 2007. They arise out of three agreements dated 14 August 2002 whereby the Defendant ("Wincanton") agreed to provide warehouse services to the Claimant ("St Ivel"). In terms of throughput, these agreements made provision for a "threshold" volume of goods reflecting a minimum number of cases which St Ivel undertook to provide. Remuneration was by way of a rate per case together with an annual fee. In the event of a shortfall on the threshold volume, payments had to be made by way of a percentage of the full rate.
2. These agreements were supplemented by a side letter dated 25 October 2002 whereby Wincanton agreed to give St Ivel a reduction in the sums otherwise payable in the event of a shortfall in volume proportional to the extent that Wincanton secured "additional business" as defined in the side letter. The focus of the preliminary issues is twofold. The first issue raises the question of what business is to be included in the expression "additional business" and in particular whether it included business conducted from an extension to the warehouse. The second question raises the issue as to the extent of the "associated costs" that were to be deducted from the gross revenue generated by the "additional business".
3. The issues are essentially ones of construction in respect of which there was little if any factual dispute. Indeed the parties prepared an agreed statement of facts. The following is largely derived from that statement.

The Parties

4. St Ivel and the Third Party ("Uniq") are both part of the Uniq Group and are subsidiaries of Uniq plc. Uniq plc was formerly known as Unigate plc. St Ivel is now a dormant company. Wincanton was a wholly owned subsidiary within the Uniq Group until May 2001 when it was demerged from the group and floated on the London Stock Exchange.

The National Distribution Centre at Gloucester

5. In or about May 1997 the board of Unigate plc approved a joint proposal from St Ivel and Wincanton for the construction of a new chilled National Distribution Centre ("NDC") near Gloucester. When complete, the NDC was sold to a financial institution and leased back. By a lease dated 17 February 1999 Unigate Distribution Services Limited ("UDS") took a 25 year lease of a site for the NDC at Gloucester Business Park. UDS changed its name to Wincanton Holdings Ltd and on the demerger of Wincanton from the Uniq Group it became part of the Wincanton Group.
6. Construction of the NDC began in or around November 1997 and it became fully operational in September 1999. Between May and September 1999 business from St Ivel's production factories was introduced to the NDC on a phased basis. The NDC as originally built consisted of a site containing 165,000 square feet of warehouse space together with offices and ancillary accommodation, vehicle parking, washing equipment and security facilities.
7. In 2002 an extension to the warehouse ("the extension") added a further 87,000 square feet of warehousing space. An application for planning permission for this extension had been made in November 2000 and construction had started in March 2001. It was largely completed by November 2001 and became operational in July 2002. It is this extension which is at the heart of the dispute between the parties.

Previous contractual arrangements between the parties

8. An agreement was entered into on 7 April 1999 between Wincanton Logistics Limited (the then name of the Defendant) and St Ivel pursuant to which Wincanton agreed to provide warehousing and associated services at the NDC to St Ivel with charges for the provision of such services to be calculated on an "open book" basis.
9. In the second half of 2000, Uniq plc sold its dairy and cheese business to Dairy Crest. Plans were also commenced to demerge Wincanton from the Uniq Group. The demerger of Wincanton from the Uniq Group prompted a review of the contractual arrangements between St Ivel and Wincanton regarding the use of the NDC. It was decided that:

i) the NDC should cease to be a dedicated site and would become a multi user site;

ii) Wincanton would seek other business to fill up the capacity of the site; and

iii) Uniq would be released from its obligation to take back the lease of the NDC in the event that the Warehouse Management Services Agreement of 1997 was terminated.

10. Following negotiations between St Ivel and Wincanton, a revised agreement for the provision by Wincanton Logistics Limited of warehouse services was entered into on 30 March 2001 ("the 2001 Agreement"). Under the 2001 Agreement the basis upon which St Ivel was charged for warehouse services was changed from an "open book" basis (i.e. a fixed annual management fee together with all the actual costs of providing the service) to a "closed book" basis (i.e. fixed price per pallet to include all costs).
11. Under the terms of the 2001 Agreement, St Ivel agreed to put a minimum of 39 million cases of goods into or through the NDC annually, failing which St Ivel would be liable to make a Volume Shortfall payment to Wincanton. The 2001 Agreement also provided that in the event that Wincanton was able to secure and develop Additional Business (which was defined as being revenue received from customers additional to St Ivel and additional to the Committed Benefit reflecting the value of existing third party business), any Volume Shortfall payment due from Uniq would be reduced by: (1) in respect of the payment for the first 10% of the Volume Shortfall, 75%; and (2) in respect of the payment for the balance of the Volume Shortfall, 50%.

The new agreements

12. By July 2002 Uniq had announced its intention to sell its St Ivel Yoghurts and St Ivel Spreads businesses, which were both major users of the NDC. As a result, Uniq approached Wincanton to seek its agreement to divide the 2001 Agreement into 3 separate contracts ("the Agreements") covering (1) Spreads; (2) Yoghurts and Desserts; and (3) Yoghurts, Desserts, Cottage Cheese and Dips (the Uniq Retained Business contract). Uniq's aim was to pass responsibility for (1) and (2) to the purchasers of those businesses. The Agreements, which replaced and superseded the 2001 Agreement, were signed by Wincanton and St Ivel (the latter acting as undisclosed agent for Uniq) on 14 August 2002. Thus any reference to Uniq hereafter should be taken (unless the context otherwise requires) to include St Ivel.
13. The Agreements were supplemented by a side letter also dated 14 August 2002. This side letter was replaced and superseded by a Side Letter dated 25 October 2002 ("the side letter"). The side letter took effect as a variation to the 2002 agreements and, inter alia, set out a mechanism to reduce the Volume Shortfall charge payable by Uniq in certain circumstances where additional third party business was secured. The mechanism set out in the Side Letter was in all material respects identical to that contained in the 2001 Agreement save that, in consideration for Wincanton agreeing to split the 2001 Agreement into the Agreements, the percentage reductions in any Volume Shortfall payment due from Uniq were reduced to 60% and 40% respectively.
14. The sale of the Yogurt business to Danone was completed on 15 August 2002 and the Spreads business was sold to Dairy Crest on 1 November 2002. However, under the terms of those sales, the obligations under the Agreements remained with Uniq and did not pass to the buyers.

Performance of the agreements

15. In the years ended 31 March 2003 and 31 March 2004 Uniq met or exceeded the threshold volume of goods which it put through the NDC. However, in the year ended 31 March 2005 Uniq did not meet the threshold volume. In the result, on 4 April 2005, Wincanton sent Uniq an invoice for the Volume Shortfall in the year ended 31 March 2005 for £2.931 million plus VAT. This sum, together with other sums making up a total of £3,445,092.95 (the gross amount), was taken by Wincanton from Uniq's bank account by direct debit in respect of this invoice. No allowance was made by Wincanton for any rebate due to Uniq in respect of this invoice.
16. On 15 April 2006 Wincanton sent Uniq a further invoice in respect of the volume shortfall for the year to 31 March 2006 for £2.175 million plus VAT. Uniq refused to pay this invoice. After Uniq challenged the invoice, Wincanton calculated the rebate due as £76,784 and issued a credit note in that amount on 7 June 2006. On 26 June 2006, Uniq paid the sum of £1,285,070 plus VAT (i.e. £1,509,957.30 in total) without prejudice to its challenge to the amounts owing.

Dispute Resolution Procedure

17. Both parties then followed the Dispute Resolution Procedure contained in Clause 27 of the Agreements. In accordance with this procedure, on 21 November 2006, the parties attempted to resolve the dispute by way of mediation. The mediation was unsuccessful. In the result, Uniq issued proceedings by a claim form dated 2 January 2007.

The relevant provision

18. Paragraph 4 of the Side Letter, entitled "Additional Business", reads (insofar as relevant and with incorrect paragraph numbers corrected) as follows:

"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… £4,090,000 in respect of each [year];

- 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 that 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;

- Relevant Agreement means such of the Agreements… as shall for the time being and from time to time be vested in the Uniq Group…

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 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 for 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."

The principal issue

19. The first issue is this. What area of space within the warehouse (including the extension) is relevant for the purposes of giving credit for additional business? The Claimant says the whole warehouse including the extension. The Defendant says only the original warehouse i.e. excluding the extension (a position that the Claimant was at pains to point out was somewhat inconsistent with the terms of the Defence, even as re-amended).
20. Before seeking to resolve this issue it is necessary to recite various provisions of one of the Warehousing Services Agreements to which the side letter applied:

"1 Definitions

1.1 "Lease" means the lease of the whole site entered into between Britel Fund Trustees Limited and UDS Limited on 17 February 1999

"Operating Parameters" means those parameters between the parties set out in Schedule 1 within which the Warehouse Services are to be provided by Wincanton

"Rent" shall have the same meaning as in the Lease

"Threshold Volume" means 23.25 million cases in each year of the Term;

"Volume Shortfall" means the difference between the Threshold Volume and the actual volume of goods provided by the customer to Wincanton at the Warehouse in each year of the Term where the actual volume of Goods provided by the Customer to Wincanton at the Warehouse is less than that of the Threshold Volume;

"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 services to be provided to the customer, as indicated by the Warehouse Services Specification;

"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);

………

9 Guaranteed Volume

9.1 The Customer shall provide the Threshold volume of goods to Wincanton at the Warehouse each year of the Term. If the Cusomer fails to provide the Threshold Volume it agrees to compensate Wincanton therefore by payment of charges for Volume Shortfall calculated in accordance with paragraph 1.1© (i) of Schedule 1.

10. Customer Strategy Volumes

10.1 Wincanton shall ensure that the capacity of the Warehouse is sufficient to meet Customer Strategy Volumes plus an additional 10% of such volumes at the hourly throughput rates specified in Schedule 2 in each year of the Term.

Schedule 1

Charges

1.1 Amount of charges

Wincanton shall be entitled to charge for Warehouse Services provided to the Customer under this Agreement as follows:

(a) Threshold Volume

For volumes up to and including the threshold Volume an amount equal to a rate of 17.06p per case …

(c) Reduced Volumes

…for all volumes below the Threshold Volume, an amount equal to the Agreed Rates … plus 13.14 pence per case in relation to the volume Shortfall…..

1.3 Adjustments and Review

(a) Rent

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 x £4.50 per sq. ft.) x 41.73% x percentage increase in Rent following Rent Review.

Schedule 2 Customer Strategy Volumes

(a) Customer Strategy Volumes for the Warehouse are as follows:

	Million Cases	Plus 10%	Total
First year of Term:	26	2.6	28.6
Second year of Term:	29	2.9	31.9
Third year of Term:	31.9	3.19	35.09
Fourth year of Term:	35.09	3.51	38.6

(b) Hourly rates of throughput at the Warehouse are as follows:

Capacity\Category:

Goods Inwards	234 pallets per hour
Replenishment to FMP Cranes	168 pallets per hour
Full pallets to marshalling	100 pallets per hour
Pallets out of FMP pick up area	188 pallets per hour
Total pallets out	288 pallets per hour
Case pick	16 000 cases per hour

…..

(d) Hourly rates of throughput for each year shall be calculated as follows:

(the Customer Strategy Volume for the preceding 12 months + 10%) ÷ 85 million x 100 = percentage rate of hourly throughput applicable to each capacity category…..

Schedule 3 Warehouse Services Specification

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 an open book contract which is managed by St.Ivel against an operational specification and a series of Key Performance Indicators KPI's…..

The following document outlines the procedural specification to which St.Ivel expects Wincanton to operate the NDC under a closed book contract.

2. General Parameters

….

The site will operate 24 hours per day and 7 days per week….

The NDC will operate at 2 degree C +/- 1 degree C

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.

3. Strategic Volumes

The St Ivel strategy volumes are below…..

[e.g. 2002/2003 49 million cases: plus 10% 53.9]

4. Storage Capacity

….

The mix between sites may change but the overall stock should not exceed 5985 pallets

[Agreed Capacity 5764]

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.

….

6. MHE Throughput

Peak volumes per day = 185,000 case pick + 650 full pallets

Hourly volumes (based on 16 hour pick window) = 8,060 cases picked per hour and 41 full pallets per hour. During peak periods this pick window can be extended to 18 hours and the peak full pallet throughputs calculated below are based on an 18 hour window.

21. Housekeeping

The warehouse should be maintained to an acceptable level of cleanliness.

The site will need to comply with independent Uniq Hygiene audit conducted every 6 months and recommended actions will need to be fulfilled."

The Claimant's case

21. The Claimant's case can be briefly summarised as follows:-

i) The extension was built before the 2002 agreement.

ii) The "warehouse" is the premises subject to the lease.

iii) The leased premises are both the original warehouse and the extension: indeed the lease expressly contemplated the construction of the extension on the premises.

iv) Indeed both the plans and the photos demonstrate that they form one single unit or building.

v) The "warehouse services" are those services provided under Schedule 3 to the "NDC": this encompasses the whole building.

vi) Although MHE throughput relates to automated activity in the warehouse, additional business utilising "spare capacity and throughput" cannot be restricted to automated activity otherwise there would be no meaning to "spare capacity".

vii) When the Side letter was executed there was spare capacity in both the original warehouse and the extension.

viii) The original pleaded case of Wincanton (together with the witness statements) proceeded on the basis that the warehouse included the extension: such was a strong pointer to the ordinary and natural meaning of the words within their commercial context.

The Defendant's case

22. The Defendant's case can be summarised equally briefly:-

i) The predecessor agreement, entered into in 2001, was executed prior to the construction of the extension.

ii) The charge rates, strategy volumes, committed benefit etc. were all by reference to the use, capacity and cost of the original warehouse.

iii) These same figures were adapted for use in the 2002 agreement without adjustment to reflect the extension.

iv) The fact that "warehouse" referred to the original warehouse is further confirmed by the following matters:-

a) It is defined by reference to the services set out in the Specification in Schedule 3 which are all automated.

b) It is defined by reference to operations at 2°C which excludes the operations at ambient temperatures in the extension.

c) There is no contractual obligation to furnish space within the extension if third party business exceeds the relevant agreed capacity of the original warehouse.

Discussion

23. It is desirable to start by considering the terms of the 2001 agreement. This was entered into prior to the construction of the extension. It too made provision for credit to St Ivel in respect of additional business against charges for volume shortfall, albeit within the body of the agreement rather than in a side letter.
24. It is well established that a prior contract is admissible as part of the matrix or surrounding circumstances for the purposes of construing a later contract, the more so where as here the later contract, albeit in one sense superseding the prior contract, is in similar terms. (The only major disparity in the present case is the creation of three agreements by reference to various different products.)
25. This proposition was common ground having regard to the authorities: Ladbroke Group p.l.c. v Bristol City Council [1988] 1 ECLR 126, HIH Casualty and General Insurance Ltd. v New Hampshire Co [2001] 2 Lloyds Rep 161, KPMG Llp v Network Rail Infrastructure Ltd [2007] EWCA Civ 363.
26. The 2001 agreement, was, by definition, solely concerned with the original warehouse as the extension had yet to be built. The structure was largely repeated for the purposes of the 2002 agreement and side letter. Of particular significance were the Schedules:

i) Schedule 1 was concerned with charges in respect of the threshold volume of 39 million cases per year and any volume shortfall. These charges were open to review. The formula for adjustment, so far as reflecting increases in rent, was by reference to the area of the original warehouse (namely 165,000 square feet). Furthermore the applicable percentage of the increase (namely 70%) was based on the prescribed strategy volume divided by the capacity of the original warehouse.

ii) Schedule 2 was concerned with St Ivel strategy volumes and throughput volumes year by year. By virtue of clause 10 of the 2001 agreement, Wincanton was required to ensure that the warehouse capacity was sufficient to meet those volumes plus 10% at the specified throughput rates. It followed that the warehouse for these purposes was to be the original warehouse since not only was the extension yet to be built but also because (a) the total available capacity was 85 million cases and (b) the throughput rates reflected automatic handling.

iii) Schedule 3 sets out the specification of "warehouse services" which were to be provided within the leased warehouse. These services were to be provided within the original warehouse:-

a) because the extension had yet to be built.

b) because it was solely directed to St Ivel chilled products business.

c) because it expressly provided that third party business would eliminate any guarantee of volumes above the agreed capacity in which case the requirement might have to be absorbed in the proposed extension.

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 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 temperature.
29. The provisional conclusion must be that the "warehouse" in 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.
31. The reference to spare capacity as allegedly distinct from throughput does not help in determining the question whether the relevant capacity is in the original warehouse or in the entire building. The identification of spare capacity or throughput can be within the original warehouse or within both the original warehouse and the extension. They are not distinct but married concepts. The additional business will absorb capacity and throughput.
32. I have not forgotten the volte face by Wincanton as to whether the "warehouse" included the extension. Whilst this may have some materiality on the issue of costs, I regard the point otherwise as academic.
33. In short, following the change from open to closed book operations in 2001, the rationale for payments where there was a shortfall in the threshold volume was that nonetheless the costs associated with finding the facilities to accommodate that threshold volume would remain covered (albeit with some allowance for savings). On the face of it, the allowance against the shortfall payment must reflect additional business making use of the very same facilities. It follows that the only relevant space is the original warehouse which is no doubt why the Committed Benefit in both the 2001 and the 2002 agreements is the same and is a measure of the value of existing custom within the original warehouse.
34. It follows that I answer Question 1A to the effect that Paragraph 4 of the Side Letter is to be interpreted as referring to the main warehouse only, excluding the extension. This conclusion has had the consequence that Question 1 is no longer controversial and I say no more about it.
35. Question 2 is as follows:

"(2)In calculating the amount of "gross revenue (less associated costs) generated as a result of that Additional Business", are "associated costs" limited to variable costs incurred with respect to any Additional Business and, in particular:

(a)to what extent (if at all) is Wincanton entitled to treat any part of the costs of the Warehouse extension as "associated costs" of Additional Business;

(b)to what extent (if at all) is Wincanton entitled to treat the costs of employers' liability and public liability insurance as "associated costs" of Additional Business; and

(c)to what extent (if at all) is Wincanton entitled to treat the costs of management and administration as "associated costs" of Additional Business?"

36. In the light of my conclusion on Question 1A, Question 2(a) becomes redundant. But, as sub-paragraphs (b) and (c) foreshadow, there remained an issue (the financial significance of which remained unclear) with regard to the meaning of "associated costs" in the context of such matters as insurance premiums, utility costs, staff overheads, maintenance, improvements and so on incurred in relation to the original warehouse from time to time.
37. Wincanton's approach was, it struck me, somewhat obscure. This emerges from the form of declaration it proposed:

"Associated costs:

(a)are not limited to variable costs incurred with respect to any Additional Business;

(b)are not limited to costs directly associated with Additional Business;

(c)can be calculated or assessed as a part or proportion of any larger item of cost provided that the part orproportion is an associated cost of generating the source revenue;

(d)include any costs which may in fact be associated with the generation of the Additional Business."

38. The problem is that the positive declarations in (c) and (d) are circular in defining associated costs as those costs associated with the Additional Business, Furthermore they furnish no secure basis for any sharing or apportionment. For instance, should it be by reference to revenue stream, square footage, throughput or some other comparator?
39. In my judgment, just as the gross revenue is only the additional revenue, so also the associated costs should be only the additional costs. Thus I prefer Uniq's case that the associated costs are limited to those costs incurred for the purposes or as a result of the Additional Business i.e. would not have been incurred or would have been lower if the Additional Business had not been sought and obtained.
40. It follows that so far as Question 2 is concerned, in my judgment, the appropriate declaration is:

"In calculating the 'gross revenue (less associated costs) generated as a result of that Additional Business' for the purpose of paragraph 4 (2) of the Side Letter, the "associated costs" do not include costs which would have been incurred by Wincanton even if the Additional Business had not been obtained and /or undertaken (including costs incurred in providing services to the Uniq group or in generating the Committed Benefit)."

41. It is worth noting that, if this conclusion on Question 2 is correct, it furnishes further support to the answer given to Question 1A. If Additional Business were to include business within the extension it would, put at its lowest, be a surprising commercial outcome that only the incremental cost should be deducted before giving credit to Uniq.