PGF II SA v OMFS Company & Anor

These proceedings concern claims for dilapidations arising out of alleged breaches of the repairing covenants of underleases relating to three floors of the building at 33 Lombard Street, London EC3. On 10^th January 2012, the day before the trial was due to start, the Claimant accepted a Part 36 offer that had been made by the Defendant on 11^th April 2011. That brought the proceedings to an end, save for the question of costs.

The application before the Court is for an order that the Defendant pay the Claimant’s costs on a standard basis:

In respect of the period to 2^nd May 2011 (i.e. the expiry of the relevant period of 21 days following the offer of 11^th April) CPR Rule 36.10(5)(a) provides that the Claimant is entitled to its costs, unless the court orders otherwise. There has been no suggestion by the Defendant that the Claimant should not have its costs in respect of this period and it is therefore sufficient to indicate that the Court does not otherwise order.

The only issue arises in relation to the second period, from 3^rd May 2011 to 9^th January 2012. In summary the Claimant maintains that it should have its costs in respect of this period because it was only on 10^th January 2012 that it became aware that the Defendant was going to contend that the Defendant was not liable for defects to the air conditioning system on the basis that the system was not within or part of the demised premises and therefore not subject to the repairing obligations. The Claimant also relies upon, what it alleges, was the unreasonable refusal of the Defendant to mediate both in connection with its primary contention and, in the event that the Court is against that contention, in support of a submission that the Claimant should not have to pay the Defendant’s costs in relation to this period.

CPR Rule 36.10(4) and (5) provide:

“(4)

Where –

a)

a Part 36 offer that was made less than 21 days before the start of trial is accepted; or

b)

a Part 36 offer is accepted after expiry of the relevant period, if the parties do not agree the liability for costs, the court will make an order as to costs.

(5)

Where paragraph (4)(b) applies, unless the court orders otherwise –

a)

the claimant will be entitled to the costs of the proceedings up to the date on which the relevant period expired; and

b)

the offeree will be liable for the offeror's costs for the period from the date of expiry of the relevant period to the date of acceptance."

Thus, unless the court makes the order as requested by the Claimant, it will be liable for the Defendant’s costs for the period in question. In Lumb v Hampsey [2011] EWHC 2808 (QB) the court had to consider how it should exercise its discretion under CPR Rule 36.10(5)(b). It concluded that the test to be applied under the Rule is whether the usual order should be departed from because it would be unjust for the Claimant to pay the Defendant’s costs after the expiry of the period; such a departure would be the exception rather than the rule. The court also concluded that CPR Rule 36.14(4) gave some guidance as to the matters that the court should take into account in considering whether the usual order as to costs would be unjust. Insofar as relevant in this case those matters include:

An example of such an exceptional case is Kunaka v Barclays Bank plc [2010] EWCA Civ 1035. In that case the litigant in person did not accept the offer made by the Bank within the relevant period. Following the expiry of the relevant period the Bank wrote to the Claimant pointing out that the Part 36 offer remained open for acceptance but it said nothing about the costs consequences of acceptance at that stage. In the circumstances the Court of Appeal held that it would be unjust for the Claimant to be liable for the Bank’s costs following the expiry of the relevant period.

Whilst bearing in mind that I have a general discretion as to costs I respectfully agree with the analysis in Lumb and propose to adopt that approach. However it is to be noted that in this case the Claimant not only resists paying the Defendant’s costs after the expiry of the relevant period, it goes further and seeks an order that the Defendant pays its costs in respect of this period.

In order to understand that parties’ arguments it is necessary to set out the facts but since I do not have to come to a concluded view on the issues in these actions it is sufficient to summarise the relevant matters.

The whole of the building was let by the freeholder, Equitable Life Assurance, under a head lease to Guinness Peat Financial Services Ltd (“Guinness”) for a term expiring on 23^rd June 2009. Guinness then underlet the various floors of the building including the first, second and fourth floors. These underleases expired on 19^th June 2009, save for the fourth floor which expired on 18^th January 2009. The Defendant purchased the leasehold interests in relation to these underleases on 4^th February 2005 and the Claimant acquired the freehold interest on 16^th February 2007 and procured the surrender of the head lease on 24^th December 2008. Thus, as from that date, the Claimant was the direct landlord of the Defendant as tenant of the three floors in question.

Licences were granted to the tenant and undertenant to carry out alterations in relation to these three floors. Part of those alterations consisted in the replacement of the pre-existing variable air volume system and induction units with full air conditioning provided by fan coil units fed from two new chillers on the roof.

On 29^th August 2008 a notice to reinstate the alterations made to the fourth floor premises pursuant to the licences was served on the Defendant and similar notices were served on 10^th November 2008 in relation to the first and second floors.

Schedules of Dilapidations were served on the Defendant on the expiry of the underleases on 12^th January 2009, in the case of the fourth floor, and on 2^nd July 2009 in relation to the first and second floors. The schedules distinguished between alleged breaches of reinstatement obligations and repairing obligations. Matters relating to the air conditioning appeared as breaches of the reinstatement obligations by reference to clause 3(9) of the underleases, at least in the case of the first and second floors.

On 15^th October 2010 the Claimant issued the present proceedings, separate actions being commenced in relation to each of the three floors. In each case the Claimant contended that there were “breaches of repair, redecoration, yielding up and reinstatement covenants, which caused the Claimant Landlord to suffer loss and damage.” The Particulars of Claim recited various terms of the underleases, referred to the Schedules of Dilapidations and to letters dated 29^th October 2009 and 4^th June 2010, as particularising the claims for breaches of the various covenants. No reference was made to the terms of the licences in the Particulars of Claim and no breach of those licences was pleaded. The letters of the 4^th June 2010 in turn referred to the letters sent by the landlord in 2008 requiring the Defendant to reinstate the works carried out pursuant to the licences, but made no allegation of any breach of those licences.

The Defendant filed its Defences on 26^th January 2011. The only positive averment put forward was that certain of the works carried out by the Claimant were not necessitated by any breach of covenant on the part of the Defendant.

The various alleged defects were set out and pleaded to in a Scott Schedule with iterative comments from the Claimant and Defendant. At some stage in this process the principal allegations in relation to the air conditioning were moved from the part of the Schedule dealing with breaches of reinstatement obligations to that part detailing breaches of the repairing obligations. As regards the air conditioning the Defendant responded by way of comments but only on issues of fact. By contrast, in relation to allegations concerning the windows, the Defendant contended that the windows were not within the demise.

The total value of the claim as pleaded was about £555,000 in relation to the first floor, a slightly higher figure for the second floor and approximately £377,000 in respect of the fourth floor. The direct costs relating to the air conditioning amounted to about £100,000 in relation to each of the first and second floors, however this figure would increase taking into account indirect costs (for example consequential works to the ceilings) and the various additions such as professional fees and loss of rent and service charge. In the event it was not disputed that the damages attributable to the allegations concerning the air conditioning made up a significant proportion of the total claim.

On 11^th April 2011 the Defendant made the Part 36 offer referred to above in the sum of £700,000 in full and final settlement of the claims brought by the three sets of proceedings.

On the same day the Claimant made its own Part 36 offer but also wrote to the Defendant, in a letter headed “without prejudice save as to costs”, suggesting a mediation at any time after 6^th May 2011. The letter provided dates in May and June when the Claimant would be available and put forward names of two possible mediators. The letter concluded by asking the Defendant whether it was agreeable to attending an early mediation and if not, why not. The Defendant made no response to this suggestion of mediation.

The question of mediation was again raised by the Claimant’s solicitor’s letter dated 19^th July 2011 but as before the Defendant gave no response to this suggestion.

At about 10 a.m. on 10^th January 2012 the parties exchanged outline submissions in preparation for the commencement of the trial on the following day. The Defendant contended in its submission that, by reference to the definition of the demised premises in the underleases (and other clauses), the air conditioning did not fall within the demise to the Defendants and therefore it had no liability for the alleged defects. It proposed seeking permission to amend the Defences to include an assertion to this effect.

At about 2 p.m. on the same day the Claimant wrote accepting the Part 36 offer put forward on 11^th April 2011. The letter demanded that the Defendant pay the Claimant’s cost incurred after the expiry of the relevant period:

“The basis of seeking that order is the notification only this morning (in paragraph 28 of your Counsel’s skeleton argument) of the proposed amendment to the Defences.

Had the point which your client now seeks to take been taken, as it should have been, in the original Defence (responding for instance (in relation to the First Floor) to item A2 (£180,000) in the Schedule of Dilapidations dated 29 June 2009 referred to in paragraph 8 of the Particulars of Claim in relation to the First Floor) that offer would have been accepted within the relevant period (as defined under CPR Part 36)”.

In summary the Claimant contends it is entitled to the order it seeks on the basis that the point taken by the Defendant in its outline submissions was “information” within the meaning of CPR Rule 36.14(4)(c) or (d) which was not available to the Claimant at the time when the Part 36 offer was made. It further contends that the point was a matter of importance which the Defendant was obliged to put forward in its Defence in accordance CPR Rule 16.5, as acknowledged by the Defendant when it indicated in its outline submissions that it intended to apply for permission to amend. Further it points to the fact that at all times, until the service of those submissions, the Defendant had led the Claimant to believe that the only disputes relating to the air conditioning were ones of fact. In relation to the offer to mediate the Claimant asserts that had the Defendant engaged in the process, as it should have done, it is probable that as a result of the preparations both parties would have undertaken for that mediation, this point would have emerged at that stage. Taking account of these factors and bearing in mind the court’s general discretion as to costs under CPR Rule 44.3 an order should be made requiring the Defendant to pay the Claimant’s costs incurred after the expiry of the relevant period.

In the course of the Claimant’s argument I raised the question as to whether, even if the air conditioning was outside the premises demised by the underleases, equivalent obligations to the repairing obligations under the underlease arose under the licences and the notices to reinstate. It is unnecessary to come to a concluded view on that question, it is sufficient to record:

Both in connection with its primary submission and in connection with its fall-back position, the Claimant relies on the principle set out in Halsey v Milton Keynes General NHS Trust [2004] EWCA Civ 576, namely that, as an exception to the general rule that costs should follow the event (in this case the presumption arising under CPR Rule 36.10(b)), a successful party may be deprived of its costs if it unreasonably refuses to mediate. In this context the successful party is the Defendant. The Claimant contends that, bearing in mind the six factors expressly considered by the Court of Appeal in that case, it was unreasonable of the Defendant to refuse to mediate. Thus, it argues, the dispute in this case was well suited to mediation. There was nothing to indicate that the Defendant thought its case was so strong that it was reasonable to refuse to mediate. Whilst there were negotiations (at least in the form of Part 36 offers) there was no suggestion that either party had an unrealistic view of the merits of the case as pleaded. In any event the skill of a mediator lies in drawing out seemingly intractable positions. The costs of mediation would not have been disproportionately high nor would it have caused delay. Finally the Claimant contends that a mediation would have had a reasonable prospect of success.

In answer to these submissions the Defendant contends that the opportunity to put forward the point concerning the extent of the demised premises had not arisen, at least not until the complaints relating to the air conditioning were moved from the part of the Scott Schedules alleging breaches of the reinstatement obligations to the part alleging breaches of the repairing obligation. Alternatively it was said that both parties were equally at fault; the Claimant in failing to spot the point in the underlease, the Defendant in failing to make clear its position.

As set out above the Claimant asserted in its letter of acceptance of the Part 36 offer that had the question of the extent of the demised premises been pleaded the offer of the 11^th April 2011 would have been accepted within the relevant period. In answer to this the Defendant asserts, supported by a witness statement, that had it been aware of this point at the time it would have made a reduced offer. In short it also maintains that it was not alive to this issue at that time.

Finally it is said on this point that if one examines the Claimant’s and Defendant’s Part 36 offers it is evident that the Claimant did not fail to accept the Defendant’s Part 36 offer because it did not include sufficient monies on account of the air conditioning defects. In other words the Defendant seeks to negate the assertion that the Claimant’s decision to accept the Part 36 offer was solely attributable to an alteration in the Claimant’s view of the risks in the light of the matter set out in the Defendant’s outline submissions.

In relation to the question of mediation the Defendant argued that it was not unreasonable for it to have refused to mediate given what had occurred between these parties at a previous mediation which had taken place in 2010 in relation to another dispute relating to service charge. I was provided with letters which referred to the conduct of that mediation. In addition it was said that had any mediation taken place in about May 2011 it would not have been successful in the absence of evidence as to diminution in value attributable to the breaches of the repairing covenant or a successful mediation could only have taken place later in the year when expert reports on diminution in value were available.

In supplementary written submissions the Defendant has elaborated on this latter submission. It contends that, given the changes in the value placed on the claim by the Claimant (varying from about £1.8m in July and August 2009 to £2.1m in October 2009 to £1.9m in June 2010) the Defendant had to await full disclosure from the Claimant before being able to investigate whether the work carried out by the Claimant was work of repair or, in truth, upgrading work. It contends that that disclosure took many months to complete extending well after April 2011 and into the autumn of that year. Further it points to the fact that expert evidence on air conditioning, one of the main issues dividing the parties, was only exchanged in November 2011. Thus the Defendant contends it would not been able to engage in a reasonable discussion as to settlement in response to the invitation to mediate contained in the Claimant’s solicitor’s letter of 11^th April 2011.

Quite apart from these matters the Defendant contends that it cannot be deduced that the Defendant refused to mediate from its absence of response to the letter of 11^th April nor its failure to provide “a full response” as it had promised in its email of 3^rd August 2011, written in response to the Claimant’s further invitation to mediate in the letter of 19^th July.

Further it contends that if it did refuse to mediate it did not do so unreasonably, given the factors considered in Halsey, and in particular there was no reasonable prospect that a mediation would have been successful.

In relation to the mediation on the service charge dispute the Defendant argues that the burden of proving unreasonableness of a refusal to mediate in this case rests on the Claimant and that, given that the Claimant objected to any waiver of privilege in relation to that mediation, it cannot discharge that burden.

Finally the Defendant maintains that given the Claimant’s latest offer of settlement made in December 2011 in the sum of £1.05m the only possible explanation for the Claimant’s conduct was to use the proceedings to pressurise the Defendant into paying too much to resolve the claim. In those circumstances the attempt to rely upon an alleged unreasonable refusal to mediate, put forward as an argument at the last moment, should be seen for what it is, namely a last minute attempt to avoid the consequences of its own unreasonable failure to accept an eminently reasonable offer.

From the material put before me it is probable that:

However, whilst I accept that if the demised premises point were to be taken it had to be pleaded and, contrary to the Defendant’s contention, arose on the case as put forward by the Claimant, I do not accept that, in the context, this is what CPR Rule 36.14(c) and (d) is referring to in using the word “information”. It is understandable that the information that may be available to a party, which I take to be factual information, may affect its view of the merits of the case and therefore as to whether an offer should be accepted. The proper interpretation of a lease is not “information”.

Whilst the Defendant might be criticised for failing to put forward its argument as to the scope of the demised premises until the last moment if, contrary to my finding above this was “information”, it was available at all times to the Claimant from a reading of the underleases. These actions revolved around the scope and extent of the tenant’s obligations relating to repair. Since the underleases demised individual floors it would be expected that the Claimant would consider the nature and extent of the repairing obligation and the precise extent of the demised premises, particularly in relation to air conditioning which on any view was, at least in part, not physically within the demised premises. Thus if the point raised by the Defendant late in the day is to be regarded as “information” and if the considerations relevant to how costs should be dealt with at the conclusion of a trial in the light of a Part 36 offer are to be assimilated to the present situation then in my view this “information” was at all times available to the Claimant and the Defendant’s “conduct” in failing to plead the point (if that is how it is to be regarded) is not relevant. I should add that even if a mediation had taken place in about May or June 2011 or even following the letter of 19^th July I am far from convinced that either party would have been alert to this point and thus I do not regard the Defendant’s refusal of mediation as relevant “conduct” either within CPR Part 36.14(4)(d) or more generally for the purposes of the exercise of my discretion, save as set out below.

However, even if I were wrong about these matters, it would seem to me to be essential to the Claimant’s argument that it should be able to demonstrate that had it been aware of the demised premises point, either by way of a pleading or in consequence of a mediation, it would have accepted the Defendant’s Part 36 offer. Indeed that is precisely what it asserted in its letter of acceptance.

In the event the Claimant, in its oral argument, did not go this far. This was understandable because it took the view that insofar as the Defendant sought to assert that had it been aware of the demised premises point when it made the Part 36 offer it would have made a lesser offer, this amounted to a partial waiver of legal privilege and accordingly the Claimant would be entitled to investigate the legal advice given to the Defendant relating to this offer in full. The same objection could have been advanced in relation to the assertion quoted above from the Claimant’s letter of acceptance. Thus the Claimant could not advance this point but at the same time claim that the Defendant’s argument amounted to a waiver of privilege. In the event the Defendant did not press its argument concerning the circumstances in which the Part 36 offer was made and it was not necessary for the Court to rule on the alleged waiver of privilege.

Thus there is no evidence or material from which I can conclude that but for the alleged failure of the Defendant to plead the point subsequently taken in its outline submissions or its failure to participate in the proposed mediation at which it is said that this point would have emerged, the offer of 11^th April 2011 would have been accepted.

In the absence of this causal link and taking account of the other matters considered above, this case does not fall into the exceptional category which would render it unjust for the Claimant to pay the Defendant’s costs after the expiry of the relevant period and therefore it cannot be appropriate that the Defendant should pay the Claimant’s costs in relation to this period. Thus if the matter rested there I would hold that the test derived from Lumb v Hampsey was not satisfied and I would accordingly order the Claimant to pay the Defendant’s costs incurred after the expiry of the relevant period.

As regards the argument concerning the proposed mediation I bear in mind that not to order the Claimant to pay the Defendant’s costs after the expiry of the relevant period would be an exception to the general rule in such circumstances and that the burden rests with the Claimant to demonstrate why there should be a departure from this general rule. Nevertheless, in my view it was unreasonable of the Defendant not to respond to the suggested mediation and therefore not to agree to mediate this dispute. I agree with the Claimant that the factors considered in Halsey making it unreasonable to refuse to take part in a mediation are present here, including the consideration that there was a reasonable prospect that the mediation would be successful. Whilst the burden of establishing this latter factor rests on the Claimant in this case, it is not an unduly onerous burden given that it does not need to show that the mediation would have been successful, merely that it had a reasonable prospect of success. In my view, whether or not the demised premises point subsequently raised by the Defendant had emerged in the course of the mediation, there was a reasonable prospect that well advised commercial parties, such as these, with the benefit of experienced lawyers would have been able to reach an accommodation.

In arriving at this view I disregard the contentions made by the Defendant as to the conduct of the previous mediation for two reasons. First because the mediation proceedings are covered by without prejudice privilege which was not waived by the Claimant, see: Farm Assist Ltd (in liquidation) v The Secretary of State for the Environment, Food and Rural Affairs (No. 2) [2009] EWHC 1102 (TCC). Secondly had the Claimant’s conduct been a reason for refusing to participate in mediation in relation to this matter then one would have expected that to have been put forward by the Defendant’s solicitors in answer to the invitation to mediate. There is therefore no evidence that the Claimant’s conduct in the earlier mediation was the reason for the Defendant’s failure to engage with the Claimant in participating in a mediation in relation to these actions.

As regards the absence of expert valuation evidence on diminution in value not only was it not suggested as a reason at the time for not mediating, it is a bad point. First because the burden is on the Defendant to prove that the costs of repair exceed the diminution in value of the reversion in consequence of the defects. Thus the fact that the Claimant had no expert evidence on that point is not a valid reason for refusing to mediate or postponing mediation. Secondly the Claimant’s solicitor’s letter of 11^th April 2011, suggesting a mediation, offered to provide the Defendant with its copy of the Section 18(1) valuation. It therefore apparently did have such a report and had the Defendant so wished it could have obtained the Claimant’s report and a report in reply, had it so wished, prior to any such mediation. If the Defendant had asked for a copy of that report and it had been refused or there was a delay in providing it, that might well affect the costs issues. In general it would seem to me that both in relation to this point and in relation to some of the points considered below the court should be wary of arguments only raised in retrospect as why a party refused to mediate or as to why it cannot be demonstrated that a mediation would have had a reasonable prospect of success. First such assertions are easy to put forward and difficult to prove or disprove but in this case unsupported by evidence. Secondly, and in any event, it is clear that the courts wish to encourage mediation and whilst there may be legitimate difficulties in mediating or successfully mediating these can only be overcome if those difficulties are addressed at the time. It would seem to me consistent with the policy which encourages mediation by depriving a successful party of its costs in appropriate circumstances that it should also deprive such a party of costs where there are real obstacles to mediation which might reasonably be overcome but are not addressed because that party does not raise them at the time. I have little doubt that that is the position here, namely that any such inhibitions to mediation could have been overcome at the time.

In relation to the additional points made by the Defendant in its supplementary written submissions not covered above:

Accordingly, in my view, it was unreasonable for the Defendant to refuse to mediate and this conduct is a matter which I take into account in the exercise of my discretion as to the costs incurred after the relevant period.

In the course of argument it was suggested that any impact on costs of the refusal to mediate should only take effect when that hypothetical mediation would have taken place. If that were right this might be as late as the end of June 2011, the latest date suggested by the Claimant’s solicitors in its letter of 11^th April 2011 for a possible mediation.

This argument seems to me to overlook the essential point of the Halsey decision. It is the unreasonable nature of the relevant party’s conduct which is sanctioned in costs, where appropriate, and that unreasonable conduct occurs when and if a party to litigation unreasonably refuses to mediate (in this case shortly after the 11^th April 2011), not when the putative mediation would have taken place. This coincides with the expiry of the relevant period.

For the reasons given above the Claimant is entitled to its costs, on a standard basis, incurred up to the expiry of the relevant period following the Part 36 offer of the 11^th April 2011, i.e. 2^nd May 2011 but there will be no order for costs in respect of the period thereafter.

As regards the costs of the hearing on 11^th January 2012, each party should bear its own costs given that neither party succeeded in full.

I would ask that the Claimant draw up an order to reflect this judgment.