HT-2020-000448 - [2024] EWHC 1185 (TCC)

I do not repeat the principles of contractual construction set out earlier in this judgment.

As provided within the definition, Cell Y21 of the ‘Summary’ Tab within the FM provides the ‘Forecast Revenue’, as referenced within the key provisions. Cell Y21 is described as the “Total Contract Value” and the sum of cells AA21:EP21. Those cells sum the revenue for each month, including the contribution from Volume Based Service Charges. The Volume Based Service Charge is in turn calculated by reference to the ‘Charges Summary’ sheet. This sheet contains the sum of the basic, standard, enhanced, and subscription charges for each month and obtain data from the Calculations sheet which in turn are based on the contractual transaction charges.

The transaction charges were set such that if DBS’s predictions as to volumes (the contractual ‘Predicted Volumes’) proved precisely accurate, the total sum payable by way of transaction charges would match the ‘Volume Based Service Charge’ element of ‘Forecast Revenue’ set out in the FMIt is common ground that whilst the Agreement provided for charges to be levied on a per transaction basis, the focus of the commercials was on the total revenue that would flow from DBS to TCS each year in relation to transactions, the unit charges effectively being “reverse engineered” to achieve the commercially agreed Forecast Revenue. That reverse engineering meant that provided volume predictions were accurate, the expectations of the FM would be met.

The agreed purpose of the Charges Variation Clause was, as pleaded by TCS and admitted by DBS:

Both parties aver that the mechanism should be construed in light of this.

Where actual volumes fall within the range 85% to 110% of predicted volumes in a given year, no adjustment is to be made. Where divergence is greater than that in any given year, Clause 2.8.4 allowed for downward adjustment of the unit charges for the following year to compensate for the revenue surplus caused by actual volumes exceeding 110% of predicted; and Clause 2.8.5 required upward adjustment of the unit charges for the following year to compensate for the revenue deficit caused by actual volumes falling below 85% of predicted. If the volume of charges fell below 75% a separate regime applied, but that is not applicable in the circumstances of this case.

It is to be noted that the trigger for adjustment is whether the number of transactions within a particular year exceeds or falls below the predicted number of transactions for that year by an amount outside the stated range i.e. the volume. In the language of the Clause, this is when the “Actual Transaction Percentage” is above 110% (Sub-Section 2.8.4) or between 75-85% (Sub-Section 2.8.5). The Actual Transaction Percentage is the percentage by which the actual transactions differed from the predicted transactions, and is calculated as a percentage: (actual transaction volume)/(predicted transaction volume) *100 as stated in Clause 2.8.2.

It is, therefore, not the revenue exceeding or falling below the predicted forecast that triggers the relevant adjustment, but a comparison between predicted and actual volume of transactions in a given year. It is also to be noted that TCS always takes the risk that transactions may be up to 15% lower than predicted in the FM, and takes the benefit (without risk of any clawback) of a potential 10% increase in volume. As such, the adjustment to the year following one in which the adjustment mechanism is triggered is by reference to the delta from the outer edges of the tolerance range, not from 100%. As per the example in Clause 2.8.5, if the actual transaction volume is 82%, then the upward adjustment to the rates is the equivalent of 3% (not 18%) to reflect the fact the TCS bears risk of the ‘first’ 15% of the transaction volume falling below 100%.

Whilst therefore the parties have agreed that the purpose of the clause is to ensure that the Claimant’s revenues from the Transaction Charges remained broadly as envisaged by the FM even if actual transaction volumes diverged significantly from the Predicted Volumes on which the FM was predicated, real emphasis should be placed on the word ‘broadly’, because the mechanism will likely end up with a divergence between predicted revenue and actual revenue because of 85%-110% risk/benefit range.

There is no difference between the parties as to how the clause operates to adjust the charges for SYX+1, assuming Actual Transaction Percentage is above or below the 85%-110% range in SYX.

If the higher trigger occurs, the Transaction Charges are decreased so that the (adjusted) Transaction Charge for year SYX+1 multiplied by the Predicted Transaction Values would give an under-recovery of Forecast Revenue equivalent to the over-recovery for the Forecast Revenue in excess of the 110% cap in SYX. So (in an example I explored with the experts, who both agreed with the following), if the Actual Percentage Volume is 113% in SYX:

The mechanism also has the effect that if the predicted volume for SYX+1 falls within the 85%-110%, there is no triggering mechanism to permit adjustment of the Transaction Charge in SYX+2 in order to compensate for any over or underpayment within the range. However, given that payment in SYX+1 is also intended to compensate TCS or DBS for any over/underpayment in year SYX, this means that TCS may or may not be fully compensated for any under-recovery and/or DBS does not clawback in full any over-recovery in the previous year. This works in either parties’ favour depending on the happenstance of the Transaction Volume in SYX+1. So, if the rate was reduced in SYX+1 because of an excess volume in SYX, the mechanism operates so that any increased volume in SYX is also paid at the reduced rate. Similarly, if the rate was increased in SYX+1 because of reduced volume in SYX, any increase in volume above 100% of predicted volume in SYX+1 is also paid at the higher rate. This is illuminating as it demonstrates the very real limitations of the mechanism in maintaining Forecast Revenue, even broadly.

It is now necessary to consider the different approaches of the parties to the proper calculation in year SYX+2 in circumstances where there was an adjustment in SYX+1 to Transaction Charges because of an excess or shortfall in volume in SYX.

On TCS’s case, the over- or under- recovery is calculated by comparing Forecast Revenue for SYX+1 (i.e. predicted transaction volumes for SYX+1 multiplied by the contractual unit transaction charge for SYX+1) with actual revenue (i.e. the actual transaction volumes for SYX+1 multiplied by the actual unit transaction charge for SYX+1, reduced or increased as it was from the contractual unit transaction charge for SYX+1 by any adjustment which took place at the end of SYX). DBS’s case is that the comparison is between forecast revenue for SYX+1 (i.e. predicted transaction volumes for SYX+1 multiplied by the contractual unit transaction charge for SYX+1) with a ‘deemed’ actual revenue (i.e. the actual transaction volumes for SYX+1 multiplied by the contractual transaction charge for SYX+1). It therefore ignores the fact that the contractual transaction charges for SYX+1 had been varied by operation of paragraph 2.8 of Schedule 2-3.

TCS contends that as a matter of language, the amount of an ‘over-recovery’ or ‘under-recovery’ must be measured by reference to the amount of actual recovery and not the amount of the recovery that would have arisen had the unit transaction charges been different but that did not in fact arise because the charges were not in fact set at a level that led to such recovery.

It also contends that its calculation is more consistent with what the parties accept was the commercial purpose of the provisions. It uses an example of 150 actual transactions for each of Service Years 1-3, against a prediction of 100 each year (which would have generated an overall Forecast Revenue at £10 per transaction of £4,000 over 4 years). On that example, the model agreed by the experts demonstrates that TCS’s construction of paragraph 2.8.4 leads to total actual revenues of £4,500 and DBS’s calculation leads to total revenues of £3,900. It contends that although the DBS figure happens to be closer to the FM than the TCS figure, the outcome on DBS’ construction is commercially perverse: the example demonstrates that the revenues that TCS receives for processing a total of 550 transactions over the term (i.e. 150 more transactions than forecast by the financial model) is less than the revenue it would have received had it processed only 400 transactions; and even less still than the £4,300 that TCS would have been entitled to receive (on both parties’ cases) had it processed a total of 430 transactions over four years (precisely 110% of predicted volumes). TCS submits that the greater the divergence of actual Transaction Volumes from Predicted Volumes, the more extreme this commercial perversity becomes. If volumes are increased to 300 for each of Service Years 1 to 3 (i.e. a total of 1000 transactions for the term), it contends that DBS’s construction leads to TCS not being paid at all, and instead having to pay DBS £3,300. It therefore submits that a construction that leads so readily to such outcomes is unlikely to be correct.

Notwithstanding this example, I do not consider that TCS’s construction is correct. As a matter of language, the focus of the clause is upon (a) Actual Transaction Percentage in terms of triggering the adjustment, but also upon (b) Forecast Revenue when considering over or under-recovery and adjustment of the Transaction Charge. Forecast Revenue is defined by reference to the FM, and is the predicted volume multiplied by the contractual rate. At the end of year SYX, both parties’ construction accepts that ‘over’ or ‘under’ recovery is a matter being driven by excess or insufficient volume alone, and the extent of adjustment to the Transaction Charge is also therefore driven by excess or insufficient volume. TCS’s construction, however, then means that ‘over’ or ‘under’ recovery in year SYX+2 means the aggregate effect on Forecast Revenue of both excess or reduced volume plus the change in the Transaction Rate as a result of a previous adjustment.

I consider that TCS’s construction is not supported by the illustration given at the end of Clause 2.8.5. This states that ‘if the Actual Transaction Percentage equals 82% then the increase in Transaction Charges for the subsequent Service Year shall be such that the over recovery in the subsequent Service Year is equivalent to 3%, the difference between 82% and 85%.’ It is the change in volume alone which dictates the adjustment to the Transaction Charges. The effect of taking the actual over recovery in the subsequent Service Year rather than what has been called the deemed over recovery (using the appropriate contractual rate for the relevant Service Year, rather than the actual, adjusted rate) means that the consequent adjustment will not be made solely by reference to the change in volume, as the illustration makes clear is the intention of the parties. DBS’s construction is true to the illustration, in that, by using the contract rates for the relevant year in both sides of the comparison, it is only the extent of volume change (outside the range) from predicted to actual which drives the adjustment for the following year.

Similarly, by permitting the effect of the adjustment to the rates in SYX+1 to play a part in identifying whether or to what extent there has been an over or an under recovery, the situation can arise, on TCS’s construction, whereby the mechanism would produce, in SYX+2, an increase in Transaction Charge notwithstanding the fact that the transaction volume exceeding the predicted volume. The same is true in reverse. This is clearly not an intended outcome. It is clear that the language implies that any relevant excess volume must lead to the Transaction Charges being ‘reduced’; any relevant fall in volume must lead to the Transactions Charges being ‘increased’. A construction whereby this may not be the outcome is not the correct construction. Such an outcome is not possible where adjustment is driven by excess or reduced volume alone, as DBS’ construction requires.

This potential effect was accepted by Mrs Wall, TCS’s forensic account, as a potential effect of TCS’s construction. In her calculations she noted that such an effect would be an unlikely intention, and sets her formula to avoid it. She states (at Note 10 to calculation sheet H5 at Appendix VW1-H to her First Report):

By introducing the maximum and minimum adjustments into the formula when modelling TCS’s construction to avoid this improbable outcome, Mrs Wall is in effect introducing words into the clause in order to make sense of it, which words (a) do not exist and (b) are not necessary to make sense of the DBS construction. This points against TCS’s construction as being correct.

It may be noted, further, that in fact it is only Clause 2.8.4 which states that the adjustment is at the Authority’s option. Clause 2.8.5 (when there has been insufficient volume) requires that the rate shall be increased. Thus, the mechanism introduced into Mrs Wall’s model is not in fact permitted by the clause. A construction which requires the rates to be reduced in SYX+2 in circumstances where there the Actual Transaction Percentage is lower than 85% is plainly not contemplated by the language of paragraph 2.8.5.

As to the example raised by TCS in Closing, of 300 transactions for each of years 1 to 3, the model shows the following: