Beegas Nominees Ltd v Decco Ltd

This is an application by Beegas Nominees Limited, the trustee of the Lattice Pension Group Scheme, under s.45 of the Arbitration Act 1996, for the determination of a question of construction relating to the lease of some land and buildings at Opal Way, Stone Business Park, Staffordshire (“the Premises”) which are let to the Defendant, Decco Limited. The Premises comprise a distribution warehouse with ancillary office accommodation on two floors totalling some 111,815 square feet. It was completed for occupation in December 1995. The lease in question is dated 4th March 1996 and was made between SEP Industrial Holdings Plc as landlord and Jaton Holdings Limited as tenant. It was varied by a licence to assign and deed of variation dated 1st April 1996, but it is common ground that none of those amendments materially affects the construction of the provisions I am concerned with.

The lease was granted for a term of 25 years from 4th February 1996 at an initial rent of £428,000 per annum, subject to review. The first such review is with effect from 25th March 2001 and thereafter at 5-yearly intervals for the remainder of the term. The rent review provisions are contained in clause 3 of the lease and provide for an upwards-only review of the rent from the relevant “Rent Review Date” as defined, to whatever is the higher of the current rent, the “Market Rental Value agreed or determined in accordance with this clause 3.2” or, in relation only to the rent review as at 25th March 2001, the sum of £500,000 per annum. Clause 3.2(2) of the lease provides for the Market Rental Value to be determined by a surveyor acting at the election of the landlord either as an arbitrator or as an expert, in the absence of agreement. The landlord has elected to go to arbitration on the Market Rental Value for the purposes of the review due on 25th March 2001, and in January 2002 Mr W S Wrigley RICS was appointed to act as the arbitrator for the purposes of the 2001 review. An issue has arisen as to the interpretation of the provisions of clause 3.2 which has been referred to the Court for determination, with his consent.

The basic structure of the rent review clause is not controversial. It contains the usual assumptions about the covenants in the lease having been duly observed and performed, the premises being fit for immediate occupation and use and their having the benefit of any planning permission and any other necessary consent current at the relevant review date. Similarly there are the usual disregards about works and improvements carried out during the term to the premises by the tenant, otherwise than pursuant to an obligation to the landlord, together with any goodwill attaching to the premises by reason of the business conducted from them. Clause 3.1 contains a definition of “Market Rental Value” in the following terms:

“‘Market Rental Value’ means the best rent or rents after the expiry of a rent free period or periods of such length as would be renegotiated in the open market between a willing landlord and a willing tenant at which the Premises might reasonably be expected to be let on the relevant Rent Review Date as a whole, or in parts if the sum of the best rent for such parts is higher than the best rent for the whole, on the terms of a Hypothetical Lease assuming the Assumptions and the Disregards apply.”

For these purposes a “Hypothetical Lease” is defined as a lease granted with vacant possession in the open market without a premium, between a willing landlord and a willing tenant, for a term of 15 years commencing on the relevant review date, which contains similar covenants, conditions and provisions to those contained in the existing lease, excluding the amount of the principal rent currently payable, but including the provisions for the 5-yearly review of the rent. These are, as I have said, in pretty well standard form, and nothing turns on them for the purposes of this application.

The provisions which have given rise to this dispute are those contained in clause 3.2(6), which provides as follows:

“The Landlord and the Tenant agree that and the Surveyor is required to assume that evidence of rental value of premises (comprising buildings and ancillary areas) which are being used for or may lawfully be used for purposes within Class B1 or Class B8 or both of the Town and Country Planning (use Classes) Order 1987 either which are of at least 50,000 square feet measured gross internal and which are located in or within a five mile radius of Tamworth, Staffordshire or in or within a five mile radius of Minworth, Birmingham is evidence of Market Rental Value of the Premises as if those premises were situated upon the Stone Business Park.”

In the subsequent deed of variation this clause was amended so that its opening words now read: “The Landlord and Tenant agree that a surveyor is required to assume …”. As indicated above, the parties have agreed that these amendments do not affect the meaning of the clause. That is plainly right, although I should add that the abandonment of the reference to “the Surveyor” must be an error. The whole of clause 3.2 is directed to what the Surveyor (i.e. the expert or arbitrator) needs to take into account in carrying out the determination of the Market Rental Value. I intend, therefore, to proceed to construe this clause without reference to these subsequent amendments.

The Claimant landlord contends that the effect of this provision is to require the arbitrator to treat any evidence of the rental value of premises of the kind there described (i.e. units of at least 50,000 square feet located in or within a 5-mile radius of Tamworth or Minworth) as evidence of a letting of those premises on the hypothetical assumption that they were, at the date of the relevant letting, situate within the Stone Business Park. The effect, it says, of the concluding words of clause 3.2(6) (“as if those premises were situated upon the Stone Business Park”) is that the arbitrator must ignore the actual geographical location of the comparable premises and substitute for it a location at Stone. Consistently with this, in analysing the comparable, no discount or allowance falls to be made from the rent obtained on that letting, on account of the fact that the premises are in a better or more highly rented location. The arbitrator’s analysis of these comparables, and any adjustment he makes in the rent in order to reach the Market Rental Value of the subject premises, will therefore be limited to factors such as the size, age, condition and structure of the comparable premises.

Mr Reynolds QC for the tenant contends that this construction of clause 3.2(6) requires the Court to depart from the presumption of reality which he says dictates the general approach of the Court to questions of construction affecting rent review provisions. If authority is needed for that, it can be found in the decisions of the Court of Appeal in Basingstoke and Deane Borough Council v. Host Group Limited [1988] 1 WLR 348 and Dukeminster (Ebbgate House One) Limited v. Somerfield Properties Company Limited [1997] 2 EGLR 125. That presumption requires the valuation to proceed on the basis that the Premises are located within the Stone Business Park and not elsewhere. The value of any comparable evidence will depend upon it consisting of a letting of similar premises on similar terms at a similar time. The greater the degree of similarity, the more powerful and persuasive the evidence of rental value derived from the comparable letting will be. Equally any relevant dissimilarity or differences, whether in the subject premises or the terms of the letting, will require the valuer to make an appropriate adjustment. The Claimant’s approach to the construction of the rent review provisions violates, he says, the principles of valuation if it requires the valuer to assume that the location of the Premises within the Stone Business Park is identical to the location of a comparable property, whether within a 5-mile radius of Tamworth or within a 5-mile radius of Minworth. Both those locations are more than 20 miles from Stone and on the tenant’s evidence are, by reason of their locality, subject to a different rental market. A proper construction of clause 3.2(6) is that it requires the valuer to consider as relevant evidence the rental values of premises within the 5-mile radius of Tamworth or Minworth, but does not require him to make no adjustment in the rental value of those premises to take account of the fact that they are in a different and more advantageous location.

I have no difficulty in accepting Mr Reynolds’s basic submission that the Court should assume that the subject premises in any rent review fall to be valued, unless otherwise stated, on the basis of what they actually are. This is why, in the absence of terms to the contrary, the Court will assume on a rent review that the premises are to be notionally re-let on the same terms as those contained in the existing lease. To do otherwise is to force the tenant to pay for a benefit which he does not in fact receive. But in modern leases, granted for long terms in times of economic uncertainty, it is now common form for the landlord to manipulate reality so as to ensure, for example, that he receives at least the same level of income following a review. The upwards-only rent review clause in this particular lease is now standard. The assumptions and disregards in the present lease were similarly designed to achieve an agreed basis for the valuation of the Premises, regardless of their actual condition at the relevant date. In the Basingstoke and Deane Borough Council case Nicholls LJ recognised these commercial realities when at page 354D-E he said this:

“Of course rent review clauses may, and often do, require a valuer to make his valuation on a basis which departs in one or more respects from the subsisting terms of the actual existing lease. But if and in so far as a rent review clause does not so require, either expressly or by necessary implication, it seems to us that in general, and subject to a special context indicating otherwise in a particular case, the parties are to be taken as having intended that the notional letting postulated by their rent review clause is to be a letting on the same terms (other than as to quantum of rent) as those still subsisting between the parties in the actual existing lease. The parties are to be taken as having so intended, because that would accord with, and give effect to, the general intention underlying the incorporation by them of a rent review clause into their lease.”

In the present case we are not concerned with the terms of the hypothetical letting, which with minor adjustments reflects the status quo. The hypothesis under scrutiny is one which relates to the valuation process necessary in order to determine the Market Rental Value of the Premises on the basis of that letting for the purposes of the review. But I am prepared to accept, by analogy to the cases dealing with the terms of the hypothetical letting, that the Court will require the language of the lease to make it clear that the parties intended to alter the valuation principles and assumptions normally applicable, before requiring the valuer to attach greater significance to the evidence of comparable lettings than they would otherwise command.

As in all cases of construction, a dispute arose earlier on in these proceedings as to whether it was permissible for the Court, as part of its task of construction, to look at evidence beyond the terms of the lease itself. This dispute has now been resolved, in that no objection is any longer taken to the admissibility of a statement by Mr Julian Griffiths, so far as it refers to factual matters in the knowledge of both parties at the time when the freehold of the Premises was acquired by the Claimant’s predecessors in title in 1996 and leased back to the original tenants. As an exhibit to his witness statement he produces a report which he prepared at the time of the transaction and prior to the grant of the lease. In paragraph 8.5 of the report it says this:

“The rent review clause states that the reviewed rent will be capable of being compared to rental levels of comparable 50,000 square foot units in Tamworth and Minworth as if they were situated upon the Stone Business Park. The reason for this is that both of these regions are established distribution centres attracting a number of occupiers and therefore likely to experience continued rental growth. The area around Stone is less established although it is, in our opinion, capable of satisfying future demand (therefore creating pressure for rental growth) as a consequence of being situated between Birmingham and Manchester and having dual carriageway access (A34) to the M6. The comparisons to Tamworth and Minworth allow some comfort should the demand for units in Stone not materialise.”

In his witness statement he says that the landlord sought some comfort through the rent review provisions in relation to future rental levels in case the Stone Business Park did not experience the rental growth that was expected as quickly as was hoped.

The decision of the House of Lords in Investors Compensation Scheme Limited v. West Bromwich Building Society [1998] 1 WLR 896 is regularly paraded before judges as a justification for allowing them to see documents and other material in existence at the relevant time, on the basis that such material formed part of the relevant matrix of fact. However, Lord Hoffmann in his speech in that case made it clear that, although the matrix of fact can include (to use his words) “absolutely anything which would have affected the way in which the language of the document would have been understood by a reasonable man”, it does require that the material in question should have been reasonably available to both parties. By the same token, he made it clear that the law excludes from the admissible background the previous negotiations of the parties and their declarations of subjective intent. Above all else the decision in the Investors Compensation Scheme case was not concerned with a straightforward dispute about the construction of a lease or a commercial contract, It was concerned with a case where the terms of the document had clearly, even on an objective basis, been drafted erroneously. What the House of Lords was concerned to define was how far the Court could go in correcting obvious errors in an agreement simply as a matter of construction, as opposed to by way of rectification. Where, however, there is no reason to suppose that any error has crept into the drafting of the agreement between the parties, the dispute between them as to the correct meaning to be attributed to the language they have used falls to be determined by construing ordinary words in the context of the document itself, having regard to the type of transaction it is. The report produced by Mr Griffiths in April 1996 was prepared for the landlord alone and it is not an admissible document in itself. I do, however, accept Mr Seitler’s submission that I am entitled to have regard to the fact that at the time of the lease the Stone Business Park was relatively undeveloped, compared with similar business parks in Tamworth and Minworth, which were already established distribution centres. Beyond this I am not prepared to go.

The dispute on construction really fines itself down to the effect of the concluding words in clause 3.2(6): “as if those premises were situated upon the Stone Business Park”. Founding himself upon the approach of the Court of Appeal in the Dukeminster case, Mr Reynolds says that it would be unreasonable and unworkable as a matter of valuation for the arbitrator to be precluded from discounting the rental values of comparable premises in Tamworth and Minworth by reference to their location. A likely scenario, he says (and one which may already have been reached in the current arbitration) is that, having carried out the usual exercise of adjusting each side’s valuation evidence by reference to discernible differences, for example, in the quality, size and terms of letting between the premises in the comparable lettings and the subject Premises, the arbitrator will be left with three sets of direct comparables (based on premises in Stone, Tamworth and Minworth), each set of which will produce a different rental value. If given a free hand, the arbitrator will be able to explain and reconcile the differences in value by reference to the three different locations of the premises involved. But if that freedom is denied to him, the determination of the Market Rental Value by reference to these comparables will not be a matter of valuation. It will be reduced to the mechanical exercise of selecting the highest rent.

I can see the force of that submission if the lease indicated that the normal canons of valuation should apply throughout the process of determining the Market Rental Value of the Premises. But even without considering the background evidence I have referred to, it is clear from clause 3.2(6) that the parties to the lease intended some adjustment to the valuation exercise. If the only purpose of clause 3.2(6) was to require the arbitrator to include as relevant evidence lettings of similar premises in Tamworth and Minworth, it is unlikely that clause 3.2(6) was strictly necessary at all. If at the time of the first review there were still insufficient lettings of large units in or around Stone Business Park on which to base a valuation of the Premises, the arbitrator would be required by the parties and have little choice but to have regard to comparable lettings outside the immediate geographical area of Stone. They would be considered and doubtless taken into account, subject to any necessary deductions on account of location. By the same token, if clause 3.2(6) were intended to do no more than to ensure that this limited exercise was carried out, it would, as Mr Reynolds concedes, have been unnecessary to add the final words which have given rise to the controversy. A full stop could have been placed after “Premises” in the penultimate line of the clause.

I am reluctant to assume, without further confirmation, that the draftsman introduced words into the clause which were effectively redundant. On the Claimant’s construction of the clause, those words have a specific purpose and define what use the arbitrator must make of the evidence derived from lettings in Tamworth and Minworth. If Mr Reynolds is right, then in the circumstances outlined above clause 3.2(6) would serve no useful purpose. The rental evidence from Tamworth and Minworth, having been received, would then be excluded or significantly devalued so as to conform to the evidence of rental values in Stone. It was suggested by Mr Reynolds that the concluding words should be construed so as to mean “notwithstanding that the premises are not situate upon the Stone Business Park”, but that seems to me to be very close to the opposite of what the clause in fact says, and I can see no justification for re-formulating it in that way.

It seems to me relatively clear, from the very fact that the lease was granted in this unusual form at a time when the Stone Business Park was largely undeveloped, that the landlord wished to achieve on a review a rent which was on a par with the rentals obtainable in comparable business parks in Tamworth and Minworth, which were then established trading centres. This seems to me a perfectly intelligible commercial objective, even though it has the effect (unless and until Stone becomes as successful as those other centres) of requiring the tenant to pay a higher than market rent. It might be said that this is difficult to reconcile with the purpose of the rent review, which is the determination of the “Market Rental Value” of the Premises, but clause 3.2(1) provides that the Market Rental Value is to be determined in accordance with clause 3.2, which of course includes 3.2(6). There are therefore express words in this case which require the arbitrator to make a departure both from reality and from normal valuation practice, but that does not mean that the determination of the market rent is exclusively a mechanical process. Depending on the evidence before him, he may, in Mr Reynolds’ scenario, have a range of rental values derived from three locations. He will not be able to take location into account as the distinguishing factor. He must assume that all the lettings were of similar premises in a comparable location in the Stone Business Park. But if (for example) the highest rent comes from lettings of a group of Tamworth or Minworth properties, he would still have to decide whether to take the highest of the values or some other value. What, however, he will not be entitled to do is to discount the higher values simply because the premises in question are in Tamworth or Minworth and not in Stone. If that leaves him with no choice but to take the highest rental value, then so be it. The lease requires the tenant on the review to pay from the review date the best rent obtainable for the Premises at the time. That formula seems to me to be perfectly workable, even if it does require the tenant to pay more in rent than the actual market in Stone can justify at the time.

For these reasons I will answer the question of law raised by the application in terms of alternative (a) and make a declaration accordingly.