Rent reviews update

Citation

Dowden, M. and Nathanson, N. (1999), "Rent reviews update", Journal of Property Investment & Finance, Vol. 17 No. 5. https://doi.org/10.1108/jpif.1999.11217eab.001

Rent reviews update

Rent reviews update

Malcolm Dowden and Nabarro NathansonSolicitors, London, UK

Keywords: Landlard, Tenant, Rent, Reviews

This article deals with rent review cases decided since July 1998.

1. Rent review procedures - is time of the essence?

In the conjoined appeals generally referred to as United Scientific Holdings Ltd v. Burnley Borough Council [1978] AC 904 the House of Lords considered whether time should be of the essence where rent review provisions set out a timetable for the service of notices and counternotices. The principle established by the United Scientific case was encapsulated by Lord Diplock ([1978] AC 904 at 920):

So upon the question of principle upon which these two appeals were brought to settle, I would hold that in the absence of any contra-indications in the express words of the lease or in the interrelation of the rent review clause itself and any other clauses or in the surrounding circumstances the presumption is that the time-table specified in a rent review clause for completion of the various steps for determining the rent payable in respect of the period following the review date is not of the essence.

In the same case (at 958) Lord Fraser of Tullybelton approved the summary of law on the point in Halsbury's Laws of England:

Time will not be considered to be of the essence unless:

1. 1.

   the parties expressly stipulate that conditions as to time must be strictly complied with; or

2. 2.

   the nature of the subject matter of the contract or the surrounding circumstances show that time should be considered to be of the essence; or

3. 3.

   a party who has been subject to unreasonable delay gives notice to the party in default making time of the essence.

The principle thus stated seemed clear enough: time will not be of the essence unless there are sufficient contra-indications. However, doubts creep in as soon as the question is asked - what will be a sufficient contra-indication?

The issue was revisited in Banks and another v. Kokkinos and another [1998] EGCS 187. Under the rent review provisions in a commercial lease the landlords were entitled, in the absence of an agreed nomination of a valuer, to apply for a nomination by the President of the RICS. If the landlords had not made a RICS application by the review date then it was open to the tenant to serve a notice on the landlords proposing a revised rent. The lease provided that unless the landlords made a RICS application within three months after service of the tenants' notice, the figure proposed by the tenant would stand as the revised rent. The tenants' proposed figure represented a nil-uplift. The landlords missed the three month deadline and, aware that the market rent was considerably higher, sought a declaration that time was not of the essence. Nicholas Strauss QC (sitting as a deputy judge of the High Court, Chancery Division) gave judgment for the tenants.

In deciding that there were sufficient contra-indications to rebut the presumption, the judge doubted the correctness of the decision in Phipps-Faire Limited v. Malbern Construction Limited [1987] 1 EGLR 129. The facts in Phipps-Faire were similar to those in Banks. Specifically, the tenant in Phipps-Faire had the right to serve a notice proposing a revised rent, whereupon the landlord had a period of three months to respond, failing which the tenant's proposed figure would be the revised rent. Warner J did not consider this to be sufficient to rebut the presumption. In the key passage of his judgment Warner J said:

Of course the phrase "within three months", if read literally, imports a strict time limit. But the very essence of the principle laid down in the United Scientific and Cheapside cases is that there is a presumption that such a phrase is not to be taken literally. The use of the phrase cannot of itself serve to rebut the presumption.

Warner J also rejected the contention that the presence of a "default provision" made time of the essence. In his view, the contra-indication required to rebut the presumption must be "a compelling one" and those put forward were not compelling. Phipps-Faire left practitioners wondering what, short of an express statement that time was of the essence, would be sufficiently compelling.

The decision in Banks followed those of a strong Court of Appeal (Sir John Donaldson MR, Griffiths and Slade LJJ) in Henry Smiths Charity Trustees v. Awada Trading and Promotion Services Limited [1984] 1 EGLR 116 and of the Court of Session: Inner House in Visionhire Limited v. Britel Fund Trustees Limited [1992] 1 EGLR 128. Again, in each case the facts were similar.

In the Henry Smiths case, the Court of Appeal found that the provisions of the lease were intended to rebut the presumption precisely because the parties had included a default provision. The parties had not only set out a timetable but had made provision for what was to happen in the absence of strict compliance. In the Visionhire case the Scottish Court, having found that the relevant rules were common to both systems, held that the presumption was rebutted because the parties had specified "a kind of ultimatum procedure", thereby making time of the essence.

Cases on the construction of particular documents cannot be taken as binding precedents when construing another document. A particular form of words can mean different things in different contexts. However, case law can and does establish the principles to be applied when construing a document. The Banks case, in rejecting the views expressed in Phipps-Faire, has redirected attention to the principles stated by Lord Diplock in United Scientific and by Slade LJ in the Henry Smiths case. The best way of rebutting the presumption is to state expressly that time is of the essence for steps in a rent review. However, this is not the only way in which time can be made of the essence. Any form of expression which clearly evinces the concept of finality attached to the end of the period or periods prescribed will suffice to rebut the presumption.

2. Rent review - departing from the review procudure

It is always open to a landlord and tenant to depart from the mechanism set out in the rent review provisions of their lease. However, before agreeing to do so landlords must bear in mind the potential impact on any claim which they might have to make against any former tenants or guarantors in the event of default by the tenant.

Beegas Nominees Limited v. BHP Petroleum Limited [1998] EGCS 60 (CA) is a case with complex facts but a straightforward outcome. The Court of Appeal ruled that an original tenant is not bound by the result of a rent review which takes place after assignment and is not carried out in accordance with the review procedure in the lease. The Beegas case provided the Court with an opportunity to apply the principles derived from the important recent authorities of Friends Provident Life office v British Railways Board [1996] 1 All ER 336 (CA) and Hindcastle v Barbara Attenborough Associates Limited [1996] 2 WLR 262 (HL).

Until Friends Provident it was considered that the obligations of an original tenant might be made more onerous by a variation to the lease after assignment. Liability would be determined by reference to the lease as it stood from time to time, and not with reference to the lease in the form originally granted. This was because each assignee is the owner of the whole estate and can deal with it so as to alter it or its terms. The estate so altered would then bind the original tenant because the assignee has been put into the shoes of the original tenant and can do all such acts as the original tenant could have done. Thus, it was held that an original tenant was liable to pay an increased rent resulting from a rent review carried out after assignment of the term even where the rent was agreed outside the strict framework of the rent review clause in the lease - see Centrovincial Estates v. Bulk Storage (1983) 46 P.&C.R. 393 and Selous Street Properties Ltd v. Oronel Fabrics Ltd [1984] 1EGLR 50; (1984) 270 EG 643.

In Friends Provident the Court of Appeal decided that an original tenant will be liable under the contract he had entered into with his landlord (including any variations made before assignment). Variations made after assignment cannot increase the liability of the original tenant. Much the same ground was covered by section 18 of the Landlord and Tenant (Covenants) Act 1995.

An important element of the Friends Provident decision was its confirmation that the original tenant's liability can be increased by a variation which was envisaged by the lease - the paradigm being an increase of rent at review.

In Beegas the Court of Appeal was called upon to determine whether the original tenant, BHP, was bound by an increase in rent which was not determined in accordance with the procedures set out in the lease.

In 1985 BHP's assignees, Sevington, were party to a licence to assign and deed of variation accelerat the first review date by one year and agreeing an increase in the rent from £210,000 p.a. to £225,000 p.a.. for the period 29 September 1985 to 28 September 1991. This licence and deed of variation validated a previous, unauthorised assignment from Sevington to Clive Lewis and Partners.

There was another review in 1991. This was resolved in May 1992 and the landlord and tenant completed a rent review memorandum to record a stepped rent structure for the period 29 September 1991 to 28 September 1996 - starting at £355,000 p.a. and rising by £100,000 each year before the next review date in 1996.

In February 1996 the tenant went into liquidation and in July of that year the lease was disclaimed. The landlord (Beegas) looked to the original tenant (BHP) and its assignee (Sevington) for rent. The result for these parties was as follows:

BHP

Not a party to the 1985 licence to assign and deed of variation, and so not bound by the rent increase from £210,000 to £225,000 for the period 29 September 1985 to 28 September 1991. BHP remained liable for rent at £210,000 for this period.

Not bound by the stepped rent review in 1991. Their contractual liability under the lease was to pay a single rent. The lease did not contemplate a stepped rent.

However, it was open to the landlord to operate the 1991 rent review in accordance with the lease and BHP would be bound by the outcome. This was important to the landlord since the open market rent for the premises had fallen between 1991 and 1996. Operating the 1991 review would therefore establish a higher level of base rent.

Sevington

Bound by the 1985 variation, having been a party to the licence and deed of variation. Its liability was therefore £225,000 p.a. rather than £210,000 p.a.

Not bound by the stepped rent review in 1991.

As with BHP Sevington would be bound by the operation of the 1991 review if carried out in accordance with the lease. Sevington was applying for an order under the Insolvency Act to have the lease vested in itself. The Court held that the rent for the new lease to be granted to Sevington should be £225,000 p.a. subject to the review machinery in 1991 and 1996. Since the rent review was upwards-only, it was important for the landlord to be able to operate the review as at 1991. As noted above, the rental value had fallen between 1991 and 1996 and to the 1991 review would yield a higher base figure.

At first instance BHP and Sevington argued that the disclaimer in July 1996 exonerated them from any liability under the lease. This argument was swiftly rejected on the clear House of Lords authority of Hindcastle v. Barbara Attenborough Associates Limited [1996] 2 WLR 262.

3. Expert determination - open to challenge?

In National Grid Co plc v. M25 Group Ltd [1999] 08 EG 169, the Court of Appeal held that the court had jurisdiction to pronounce on the interpretation of a rent review clause, even though the lease provided that an expert was to settle the rent. The key was to identify, on the true construction of the lease, the remit of the expert. If the lease did in fact confer upon the expert exclusive power to determine points of construction then the court could not intervene. If, however, there was no effectual exclusion then the court could proceed to rule on the meaning of the rent review provisions.

The lease (of an electricity sub-station) provided that if the parties could not agree the reviewed rent then the matter was to be determined by a third party, acting as expert. The landlord and tenant disagreed over the construction of a number of directions, assumptions and disregards in the rent review clause. The tenant's reading of the lease resulted in a proposed rent of £25,000 p.a. The landlord, meanwhile, was pressing for a rent of £914,925 p.a. In view of this wide disparity, the tenant issued a construction summons, asking the court to rule on the meaning of parts of the rent review clause. At first instance the court accepted the landlord's contention that the parties had entrusted the rent review to the expert and so the court had no jurisdiction. The tenant appealed.

The Court of Appeal agreed that if, on a true construction of the lease, the parties had excluded the jurisdiction of the court then the court would indeed be prevented from intervening. However, on close analysis, the Court of Appeal held that the expert had to follow certain contractual directions, and the court had the power to construe the lease in order to ascertain whether he had done so.

The expert's remit was to decide whether there ought to be any increase in the rent and, if so, how much. If the lease had stopped there then the expert's determination would not have been open to challenge in the courts. However, the lease set out various assumptions and disregards. The effect of these contractual directions was to define the expert's remit. It was for the court - not for the expert himself - to determine whether he was operating within these parameters.

It must be stressed that the National Grid case does not overturn cases such as Jones and others v. Sherwood Computer Services plc [1992] 2 All ER 170, [1992] 1 WLR 277, CA, and Norwich Union Life Insurance Society v. P&O Property Holdings Ltd [1993] 1 EGLR 164. Those cases were taken to have established that the courts would neither set aside an expert decision nor deal with any point of law in advance of an expert determination. This produced the widely (though not universally) held view that expert decisions were immune from challenge.

The basic principle established in Sherwood remains intact - the courts will not interfere with an expert's decision if he has done what he was appointed to do. Moreover, there has never been any question of a court intervening on anything other than a point of law. In the context of a rent review, therefore, the actual fixing of the rent will always be a matter for the expert. What has been in issue is whether the legal basis for that rent, which depends on the construction of the particular review clause, is also within the expert's exclusive remit. It remains true that these matters will be within the expert's remit if the lease says that they are.

In the National Grid case the landlord argued that the questions of construction were necessary steps that the expert had to take on the way to determining the rent. An argument along similar lines found favour in Nikko Hotels (UK) Ltd v. MEPC plc [1991] 2 EGLR 103 and Pontsarn Investments Ltd v. Kansallis-Osake-Pankki [1992] 1 EGLR 148. However, the drafting and context of the leases under consideration in those cases differed from that in National Grid. In Nikko the clause required "any dispute" arising "out of the third schedule" (i.e the review clause) to be determined by the expert. In Pontsarn the expert was to determine the "Open Market Rent" (i.e. expressly that defined by the rent review clause). Moreover, in both Nikko and Pontsarn the clauses expressly provided that the decision of the expert was to be "final and binding". By no means all rent review clauses are worded in this way and it may be that the absence of an express provision of this kind will, in itself, open up the determination to challenge.

The National Grid case may well have an impact on the way in which parties decide to determine disagreements over rent reviews. Where review provisions allow a choice between arbitration and expert determination, but the drafting raises the possibility of a challenge to an expert's determination on a point of construction, then the parties may either seek to have the construction points resolved at the outset, or they may opt instead for arbitration. If an expert's decision may be challenged then the reasons often given for appointing an expert rather than an arbitrator (time and cost savings) may not apply. When drafting for the future, practitioners will have to consider just how much immunity from challenge any expert decision is to have.

4. Hypothetical terms and headline rents

Take a hypothetical lease, granted for a hypothetical period on hypothetical terms - but be sure to apply the presumption of reality expounded by Hoffman LJ in Co-operative Wholesale Society Ltd v. National Westminster Bank plc [1995] 1 EGLR 97. Such is the task facing a rent review surveyor.

In St Martins Property Limited v. Citicorp Investment Bank Properties Limited and another [1998] EGCS 161 disputes arose as to (i) the length of the hypothetical lease, (ii) whether the hypothetical lease should contain a break clause and (iii) whether the revised rent should be a "headline" rent. The Court of Appeal (Butler-Sloss, Aldous and Buxton LJJ) did much to uphold the presumption of reality.

Dealing first with the length of the hypothetical term, the Court of Appeal rejected the landlord's contention that the hypothetical lease should be for a term of 35 years. In support of its assertion the landlord pointed to the provision which required the valuer to assume that the hypothetical lease would be "for a term equal in duration to the original term hereby granted." The Court of Appeal considered that the trial judge had been correct in holding that the hypothetical term should be no longer than the 25 year residue of the original lease. Any ambiguity in the assumption was to be resolved in accordance with reality. Rather than meaning that the hypothetical lease was to be for a fresh term of 35 years, the court would construe the assumption as meaning that the hypothetical lease would be for a term equal to the residue of that original term.

The next issue to be considered was the break clause. The provision in the actual lease was personal to the named tenant. The question was whether the hypothetical lease should be assumed to contain a similar clause, amended to refer to the hypothetical tenant. The Court of Appeal held that such a variation was not justified. The break clause was personal to the actual tenant or any assignee which was a wholly owned subsidiary of the actual tenant. It was neither necessary nor proper to take it into account when assessing the open market rent.

The third issue was whether the review provisions should give rise to a "headline" rent. The relevant clause provided that the hypothetical tenant or tenants would not seek a rent-free period nor any equivalent reduction in rent, and that any such period or reduction should be "ignored" when considering any comparable rents.

Again, the findings of the trial judge were upheld. The Court of Appeal accepted that an appropriately worded assumption could require a tenant to pay a headline rent - being the rent that would be payable on the expiry of a rent-free period, whether or not such a period was offered for the purposes of fitting out or inducement or both. However, the conjoined appeals generally cited as Broadgate Square plc v. Lehman Brothers [1995] 1 EGLR 97 had demonstrated the Courts' reluctance to find in favour of a concept which departs so radically from reality. The drafting of a rent review provision must lead inescapably to the conclusion that the parties intended a headline rent. In this case the drafting did not provide unambiguously that a headline rent should result. Moreover, on the landlord's construction, a valuer would be faced with the near impossible task of assessing comparables by reference to the manner in which each deal had been structured. Consequently, the proper starting point was that which accorded with reality - the market rent.