TSANG CHUN KI AND ANOTHER v. DIRECTOR OF ENGINEERING DEVELOPMENT

Property law - mass transit railway resumption - difference between vacant possession and tenanted value of same resumed property - assessment of comparables - relevance of other resumed prices as comparables - likelihood of redevelopment must be established not assumed - Held: 25% discount of vacant possession value required to reach tenanted value. 2. Compensation of $503,325 awarded - Sections 17, 18 Mass Transit Railway (Land Resumption and Related Provisions) Ordinance, Cap. 276, Section 53(2)(c) Landlord and Tenant (Consolidation) Ordinance, Cap. 7.

IN THE LANDS TRIBUNAL OF HONG KONG

Mass Transit Reference No. 2 of 1984

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JUDGMENT

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1. This was a claim for compensation pursuant to Item 1 of Part I of the First Schedule to the Mass Transit Railway (Land Resumption and Related Provisions) Ordinance, Cap. 276 arising from the compulsory acquisition by the Crown of the property owned by the applicants as joint tenants of a Crown lease of the 2nd Floor, No. 466 King's Road, North Point, Hong Kong. No. 466 King's Road comprises a 4 storey building for which building plans were approved on the 20th day of September 1949 and the occupation permit issued on the 13th day of May 1950. Under Memorial No. 1580141 the applicants, as owners of the 2nd Floor, are the registered Crown lessees of a one-quarter share of the land on which the buildings are erected being Subsection 2 of Section E of Inland Lot No. 2919.

2. The subject property was resumed under Section 4(1) of the Ordinance on the 19th day of April 1982 after notice of the resumption was on the 19th day of March 1982 published in No. 11 Volume CXXIV "The Hong Kong Gazette" as Gazette Notice 908. The relevant date for assessing compensation is therefore the date the subject property was resumed and reverted to the Crown namely the 19th day of April 1982.

3. The subject property was a domestic flat which comprised the whole of the 2nd Floor. Before the resumption it was let to Mr. Lee Po Kam on a monthly tenancy at a rent of $940 per month inclusive of rates. At that time the applicants were also the owners of the ground floor which was let as a restaurant. The 1st and 3rd floors were owned by other persons and let for domestic purposes as was the roof-top.

4. The applicants claimed compensation of $671,100 if it were held that the subject property was resumed with vacant possession and alternatively $600,000 if it were held to have been resumed subject to tenancies. The respondent maintained that the subject property was resumed subject to tenancies. On this basis the respondent had offered compensation of $355,700 which the applicants had rejected.

5. The first issue to determine is therefore whether at the date of resumption the subject property was vacant or subject to tenancies. It was common ground that the applicants had earlier let the subject property to a Mr. Lee Po Kam. When the applicant Mr. Tsang Chun Ki gave evidence, he stated that when the subject property was resumed Mr. Lee Po Kam had left and was unable to be located. Consequentially he was unable to obtain Lee Po Kam's signature to a document required by the respondent under which the tenant waived all his rights to compensation arising from the resumption.

6. Mr. Tsang, who is also an architect and authorised person, understood that if documents of waiver signed by tenants could be produced by the owners upon a resumption, the Crown was prepared to pay compensation to owners on the higher vacant possession basis. Mr. Tsang was involved in the grant by his cousin's son, the owner of the 1st Floor premises, who lives overseas, of a power of attorney in favour of Mr. Tsang's sister to enable her to act for the owner on the resumption of that floor. Initially Mr. Tsang was asked to accept appointment but he declined and suggested his sister. In that case written waivers from all tenants were obtained and the Crown paid compensation on the higher compensated basis of vacant possession of $671,100 for that identical floor.

7. The respondent asserted that the tenancy to Mr. Lee Po Kan existed at the date of resumption as did 9 sub-tenancies from him to occupants of various cubicles and other spaces in the subject property. I do not need to make any finding solely on that oral evidence. For after the hearing commenced the parties produced as Exhibit A4 a statement of agreed facts wherein the applicants agreed that the subject property was let to an absentee principal tenant under a tenancy protected by Part II of the Landlord and Tenant (Consolidation) Ordinance, Cap. 7. The applicants further agreed that there were 8 monthly sub-tenants in occupation and that 5 of those sub-tenants were also protected by Part II. Those agreed facts reinforced the inference that was open to be drawn from the oral evidence that the subject property, when resumed, was subject to tenancies. I hold that when the property was resumed it was subject to tenancies.

8. The second issue to determine is the amount of compensation payable. Section 18 of the Ordinance provides that compensation is to be assessed on the basis specified in the second column of Part I of the First Schedule and with regard to the provisions of Part II of the Schedule. The second column invokes the same settled principles which apply on the resumption of land under the much older Crown Lands Resumption Ordinance, Cap.124.

9. The claim is simplified by the parties agreement that the open market value of the subject property, if it had been resumed with vacant possession, would have been $671,100. As I have held that the subject property when resumed was subject to tenancies it remains to determine the amount by which the agreed vacant possession value of $671,100 should be reduced to take into account the fact that the subject property was tenanted when resumed. The amount of that reduction was the principal issue disputed by the parties.

10. The applicants claimed that the difference between the value of the subject property with or without vacant possession was 10%. In round figures such a difference would reduce the value to $600,000. This was the compensation claimed on this alternative basis. The respondent's offer of $355;700 is equivalent to a reduction of 47% on the vacant possession value.

11. To determine the open market value of the property subject to tenancies it is necessary to consider the evidence of the parties expert valuers. The approach of Mr. V. Chu for the applicants and Mr. A.L. Ostheimer for the respondent were fundamentally different. Mr. Chu commenced with the agreed vacant possession value and after considering several comparables made a deduction to reflect the existence of the tenancies. Mr. Ostheimer sought to establish the value of the subject property on a tenanted basis by the investment method. After capitalising the existing rent under that method he was only looking at a discount factor as a check on his primary capitalisation approach.

12. Mr. Chu, who is a Fellow of the Royal Institution of Chartered Surveyors, referred to as his comparables the resumption for Mass Transit Railway purposes of 3 properties at 542 and 548 Lockhart Road, Hong Kong. Those properties were resumed by agreement about 4 months earlier than the subject property. The revealed agreed compensation payments on vacant possession and subject to tenancy bases, indicated that the percentage of tenanted value to vacant possession value was 88%, 88% and 91% respectively. These may be contrasted with present offer by the respondent which is equivalent to 53%. Mr. Chu cited these settlements as transactions supporting his 10% discount for the subject property.

13. The three Lockhart Road comparable were of similar age to the subject property and ready for redevelopment. Mr. Chu went into considerable detail to show that in his opinion the subject property was also ripe for redevelopment. The subject property is part of an early post-Second World War low rise building of 4 floors. Together with 11 adjoining similar buildings it forms a terrace of low rise development from 458 to 478A King's Road. No. 458 occupies a corner site in King's Road.

14. Mr. Chu contended that these buildings were ripe for redevelopment on either a merger with adjoining lots or single site basis. In his view there were minimal practical ownership obstacles for redevelopment. In the case of the subject property the applicants owned 2 of the 4 floors and a relative who owned the 1st floor had given a power of attorney to the applicant Mr. Tsang's sister after he himself had declined appointment. The 4th Floor was owned by a subsidiary of Henderson Development Ltd., The much less valuable rooftop was owned by another person. Mr. Chu stated that if a larger development was contemplated then the 4 adjoining lots to the west and the next adjoining lot to the east were in single ownership. Three of the next adjoining eastern lots were owned by a Sun Hung Kai Ltd. subsidiary.

15. Mr. Chu alternatively supported his tenanted value of $600,000 for the subject property by analysing the 1979 sale of the 3rd floor to the Henderson Development Ltd. subsidiary. After making a time adjustment, based on the price index for Category C private domestic properties published by the Commissioner of Rating and Valuation in his "Property Review 1983", Mr. Chu ended up with an adjusted price of $594,000.

16. Mr. Ostheimer was of the opinion that the open market value of the subject property at the relevant date would not have included any element for redevelopment potential. In part he reached that conclusion because there was no evidence that the owners of No. 466 King's Road had, as at the relevant date, entered into any actual redevelopment arrangements. The fact that the subsidiary of Henderson Development Ltd. did not in 1980 buy the rooftop, then for sale, and so own the 3rd Floor and the roof-top, was also referred to as an indication of a lack of intention to develop. It was further pointed out that at the date of resumption the existing lease of the ground floor restaurant, if the lessee's option to renew were exercised, would not have expired until the 30th day of September 1985.

17. Having reached the conclusion that the subject property included no redevelopment potential, Mr. Ostheimer went on to value the property on an investment basis in order to ascertain the price he considered a prospective purchaser would pay for the property subject to tenancies. Mr. Ostheimer stated that there was very little evidence of sales of tenanted flats as old as the subject property and sharing its other characteristics including only one flat per floor and no lift service. However, in Appendix D of his Report he listed the sale of 9 tenanted flats. An analysis of those flats revealed an investment return of between 2.8% and 4.9% and a range of sale prices between $3,635 per square metre and $5,367 per square metre. From these figures Mr, Ostheimer selected a return of 2.86% for the subject property which equated to a sale price of $4,236 per square metre.

18. Mr. Ostheimer went on to analyse the relationship between sale prices of tenanted flats and the sale prices of vacant possession flats in terms of a percentage of vacant possession sale price per square metre. These figures showed a range of 53% to 61% of vacant possession value per square metre. On the basis of this twofold analysis a value of $355,677 for the subject property was reached which Mr. Ostheimer rounded up to $355,700. That $355,700 equates to a sale price of $4,236 per square metre and also to 53% of the vacant possession value of $671,100. This amounts to a discount of 47%.

19. As a matter of valuation technique, Mr. Chu's approach on the particular facts of this application, was the sounder. Mr. Ostheimer's primary investment approach was inappropriate. Rarely are flats of this age and size purchased as an investment. Generally they are purchased for redevelopment or as a speculation for re-sale to a developer. The subject property is situate on King's Road in heart of a busy mixed retail, commercial and residential district. The building is both low rise and old. So too are the adjoining buildings in the same terrace. If a merger with adjoining sites proceeded the development would extend to a King's Road corner site. The fact that these properties were resumed to be redeveloped for the Mass Transit Railway North Point Station is evidence of their already existing central situation in North Point.

20. There are few owners of all these buildings and I find that the buildings are ripe for redevelopment. Furthermore that redevelopment but for the resumption, would have been a realistic and inevitable option with few practical obstacles. The relatively small number of owners would have facilitated early redevelopment. The option of renewal of the restaurant to 1985 would not have been insurmountable although it would probably have increased the amount of tenants compensation payable.

21. Counsel for the respondent submitted that the onus was on the applicants to establish redevelopment potential and they had failed to do so. I was referred to Cheung Lai Wan v. Director of Lands and Survey (wrongly reported as Director of Public Works) (1977) H.K.L.T.L.R. 14. That was one of several earlier cases in which it was held that it was necessary for an applicant to prove the "possibility" or "likelihood" of such development; the Tribunal would not "assume" redevelopment but would require evidence. Even if "likelihood" is a stricter requirement than "possibility" the decisions only go so far as to hold that any likelihood may not be assumed but must be established by evidence.

22. The applicants therefore only had to establish that redevelopment was likely. They did not have to establish that specific redevelopment proposals contemplated by the owners had been frustrated by the resumption. Mr. Ostheimer's evidence was misconceived to the extent that it was concerned with the absence of any actual proposals by the applicants to redevelop rather than addressed to the different question whether the likelihood of redevelopment existed and if so to what extent. Although I accept that it is proper to consider whether the absence of any actual proposal is in the circumstances evidence of the possible unlikelihood of redevelopment.

23. On the other hand, the likelihood of redevelopment would strongly be established if evidence of an actual redevelopment proposal, solely frustrated because of the resumption, was adduced. However, the likelihood of redevelopment may also be established by different and far less positive evidence. For example, in Director of Lands & Survey v. Cheung Ping-kwan (1978) H.K.L.T.L.R. 101, 107 there was evidence of redevelopment in the vicinity of the resumed property but no evidence of any redevelopment plans for the resumed property. The Lands Tribunal inspected the locality and from that merely visual evidence was prepared to find that a merger of the resumed property with two of its neighbours "was likely within a forseeable time scale and that such a merger would result in a viable redevelopment scheme".

24. Considering the evidence in this application in the light of those principles, I am well satisfied that the likelihood of redevelopment has been established. Certainly that likelihood appears to be greater than that suggested by the facts in Director of Lands & Survey v. Cheung Ping-kwan and the earlier case of Director of Public Works v. Kwok Ngok-lun (1977) H.K.L.T.L.R. 64. However, each case must necessarily be considered on its own facts.

25. Turning to the facts of this application the next question is what is the market value of the subject property being part of a low rise early post-Seoond World War building with an established likelihood of redevelopment. The best evidence to establish that market value would have been other direct comparable sales of similar 4 storey buildings with a like redevelopment potential. Unfortunately no such direct comparables were adduced or relied on by either valuer.

26. The applicants Lockhart Road comparables were all compulsory resumptions under the Ordinance by way of agreement. Ideally they should, in terms of Section 12(d) Crown Lands Resumption Ordinance, be accurate indicators of open market value. However, only the bare details of those resumptions were adduced in evidence. The Tribunal was not informed whether the agreed consideration strictly reflected the provisions of Section 11(d) or whether because of urgency or other factors involved the consideration was higher. This is a real possibility which must always be considered and was recently referred to by the Tribunal in Redhill Properties Ltd. v. Director of Engineering Development (1984) H.K.D.C.L.R. 1. The extent to which weight will be given to the resumed price, in resumptions by agreement, will depend on the evidence. In some circumstances a Tribunal may give them considerable weight. Certainly this Tribunal would not go so far as to express any general principle of reluctance to use such comparables as has earlier been expressed in such cases as Director of Lands v. Chan Tai Investment Co. Ltd. (1978) H.K.L.T.L.R. 115. As with comparables based on actual market sales between private individuals, it is basically a question of weight to be determined in the light of all the surrounding circumstances.

27. Factors such as urgency and the relative bargaining strength of the parties, apply just as much to market transactions between private individuals as to parties to a compulsory statutory resumption. If adequate evidence is adduced on all the surrounding circumstances a proper appraisal as to the quality of a comparable can accurately be made. In the case of some resumptions contemporaneous payment of ex gratia sums and housing and other entitlements may, of course, be complicating factors.

28. In respect of the 10% difference between vacant possession and tenanted value on the agreed Lockhart Road resumption figures there was unfortunately no evidence whether the rents were controlled under Part II or were market rents. If the latter that would be one possible reason for the much smaller differential compared to the respondent's comparables.

29. The applicants valuer attempted to check his primary valuation based on the Lockhart Road comparables, by indexing a much earlier actual sale in 1979 of a flat within the subject property's building, namely the 3rd Floor of No. 466 King's Road. The long time adjustment to relate that sale to the relevant date of 19th April 1982 must create substantial risk of inaccuracy. Mr. Chu attempted to overcome this difficulty by applying the price index in the "Property Review 1983". However, because of the long period of time involved even the most detailed and specific index would be suspect. Further, this particular index covers all Category C domestic accommodation through the whole of Hong Kong. There could be a variety of local factors relevant to this area of North Point which would invalidate any conclusion reached on the basis of the much wider index. I am therefore unable to give any positive weight to this evidence. At most it may be noted as an interesting attempt, by the valuer, in the absence of other evidence, to check his primary method.

30. Mr. Ostheimer's adoption of the investment method of valuation was based on his rejection of the possibility that the subject property included any redevelopment value. However, in applying the investment method he did analyse the sales of 9 comparables listed in his Appendix D. Eight of those comparables varied from 8 to 22 storeys and all had lifts. Only 1 of those 9 comparables was not supplied with a lift but it was a 7 storey building much higher than the subject property. The majority of those comparables had several separately owned flats on each floor. Further they were built in 1957, 1958, 1962, 1964, 1965 and 1969 so were relatively much newer than the subject property which was commenced in 1949.

31. On the evidence adduced those comparables were also far less suitable for redevelopment. For example they were newer; they more fully utilised existing sites; they were supplied with lifts; they were in multi-ownership. I am satisfied that they are not suitable conparables to be directly compared with the subject property.

32. The respondents valuer also referred to 7 blocks and adduced evidence of sales with vacant possession and sales subject to tenancies within those blocks-Appendix E. Those supported the respondent's 47% discount for sales subject to tenancies compared with sales with vacant possession. No direct comparison can be made with those transactions and the subject propetty for the comparables in both Appendices D and E were not redevelopment properties and were also, as already mentioned, otherwise substantially different to the subject property.

33. All these appendiced domestic premises were prima facie subject to Part II of the Landlord and Tenant (Consolidation) Ordinance. Part II premises are subject to rent restrictions and existing tenants also enjoy a certain security of tenure. It is true that the landlord's right to recover possession for self-use was considerably strengthened by the enactment of the Landlord and Tenant (Consolidation) (Amendment) Ordinance 1980.

34. However, the current rent restriction and security of tenure provisions remain strong and continue to reduce the price that would otherwise be paid for Part II premises subject to tenancies. Certainly the majority of applications by landlords for possession of Part II premises are strongly contested and the outcome remains uncertain. A purchaser of Part II premises for investment purposes would not benefit from the stronger position of landlords seeking possession for self-use. In the normal course he could only hope to recover possession of existing tenancies within one building over a long period and at irregular intervals. The substantial differential indicated by Appendix E is in these circumstances not surprising.

35. On the other hand, the exceptional position is that landlords are invariably successful in recovering possession of all Part II tenancies within one building where the ground, pursuant to Section 53(2)(c), is to rebuild. Where a landlord establishes that he has the twofold intention and capacity to rebuild, orders for possession are generally made in respect of all Part II tenancies within the same building subject to payment of compensation to tenants. This major difference between the ease of recovering possession for rebuilding and the difficulty of recovering possession on the other statutory grounds, may be expected to be reflected in market prices for Part II tenanted properties. For this reason it is unsound to apply differentials on the sale of Part II tenanted properties for investment, to the sale of tenanted properties for redevelopment. This fact further reduces the relevance of Appendix E.

36. Against this factual background the position is that on the agreed vacant possession value of $671,100 the applicants urge that a discount of only 10% need be made to ascertain the tenanted value while the respondent claims 47% is the appropriate discount.

37. The Tribunal's difficulty, in view of the unsatisfactory nature of much of the evidence, is to determine the proper discount. While conscious of these difficulties it is obliged to the parties for their agreement on the vacant possession value of $671,100 so that sum is not in dispute.

38. If in addition to the likelihood of redevelopment the evidence went further and established that redevelopment was imminent then a 10% discount may have been reasonable. In the absence of such evidence among the factors to be taken into account, in an overall view of the subject property at the relevant date, is that while developer interest in this locality would have been high in 1979-81, the market was weakening in the second quarter of 1982. I note that the Henderson Development Ltd. subsidiary purchased the 3rd floor of the subject property in 1979. Unfortunately, there was no evidence of the dates when the Sun Hung Kai subsidiary purchased Nos. 470, 472 and 476 King's Road. While I am satisfied that the likelihood of redevelopment existed as at the 19th day of April 1982, I accept that immediate redevelopment was then less likely than during the very active redevelopment period from 1979 to 1981.

39. I recognise that as the degree of immediate redevelopment recedes it is arguable that the importance of the return from existing rents increases. However, where the likelihood of redevelopment exists the relatively low rental return pending redevelopment, even if delayed, will usually be of little market significance. However, even where there is no element of redevelopment the respondent's discount of 47% is probably excessive. For apart from Comparable No. 4 in Appendix E, there is more than a 2 floor difference between flats within the same building. This gives rise to different views and other variables which may affect value. The best comparable is therefore No. 4 where the 10th floor flat was sold subject to existing tenancies and the 12th floor flat sold with vacant possession. The differential between those sale prices was 40%. I appreciate that this was only one comparable but it supports a discount of 40% rather than 47%.

40. The evidence which supports a detailed analysis only goes so far as to establish a maximum discount of 40% and a minimum discount of 10%. Whether either of those figures or a figure somewhere between those extremes is selected depends on the weight to be given to the comparables and other factors on which those figures are based. I reject a 40% discount for it does not take into account redevelopment potential. I reject a 10% discount because it would, in the absence of any supporting data, be unsafe to rely principally on the 3 resumption comparables on which that figure is based.

41. The evidence does not enable any detailed analysis to be made to produce any intermediate or other alternative figure. However, the evidence does more strongly support a discount in the narrower 20% to 30% range. In the circumstances the best that can be done is to select a figure within that range after fully considering all the relevant evidence. In considering that evidence I accept that the upper limit of even this more limited range probably does not sufficiently recognise the very different legal position which arises in the market when vacant possession is sought on the ground of rebuilding, compared with the prospect of recovering possession on the remaining grounds under Section 53(2).

42. After considering all the relevant evidence I have arrived at the conclusion and find as a fact that the appropriate discount factor is 25%. Applying that discount to the agreed vacant possession value, compensation is determined at $503,325 made up as follows:-

43. The applicants are also entitled to interest on that sum from the 19th day of April 1982 to the date of payment in accordance with Section 26. Liberty to apply in respect of costs and any other consequential matters is reserved.

44. During this hearing I have had the benefit of the expert advice and wide experience of Mr. A.G. Doran, Chartered Surveyor, who was appointed to advise the Tribunal pursuant to Section 9(4) of the Lands Tribunal Ordinance. I am grateful to him for his assistance and confirm that after the disclosure of his advice to the parties at the hearing on the 22nd day of October 1984, he took no further part in the proceedings.

DATED this 24th day of October 1984.