XCHRX CHEUK KIN TRADING LTD. v. THE PRUDENTIAL MALL LTD.

1993 No. A9767

IN THE SUPREME COURT OF HONG KONG

HIGH COURT

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J U D G M E N T

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INTRODUCTION

1. The Defendant, The Prudential Mall Ltd. ("the landlord"), is the owner of the Prudential Centre, a building in Nathan Road, Kowloon. In April 1986, the landlord's predecessor-in-title let part of the building to the Plaintiff, Cheuk Kin Trading Ltd. ("the tenant"). The lease was for 7 years. Before and during the tenancy, the tenant paid sums totalling $1,800,000.00 to the landlord and its predecessor-in-title by way of security deposits. When the lease expired in April 1993, the tenant vacated the premises. The landlord did not return the security deposit, and the tenant in these proceedings claims its return.

THE RELEVANT COVENANTS IN THE LEASE

2. The landlord's justification for withholding the security deposit is based on cl. XI(3) of the lease. That permitted, amongst other things, the landlord to withhold the security deposit until 30 days had elapsed after the settlement of "the last outstanding claim" which the landlord had against the tenant in respect of any breach of the covenants in the lease. The landlord claimed that the tenant had been in breach of cl. III(32)(a) of the lease. That obliged the tenant to return the premises to the landlord in good and tenantable condition, to remove any of its fittings which the landlord wanted removed, and to make good any damage caused by that removal. Cl. III(32)(b) of the lease provided for the mechanism for determining

(i) whether the tenant had carried out its obligations under cl. III(32)(a), and

(ii) if it had not, how the amount of the damages payable to the landlord was to be assessed.

As to (i), a certificate issued by the landlord's architect as to whether the tenant had carried out its obligations under cl. III(32)(a) was to be conclusive and binding upon the parties (in the absence of manifest error). As to (ii), the parties were then obliged to endeavour to agree the amount of damages. If no agreement was reached, the assessment would be submitted to arbitration by a chartered surveyor, whose determination would be binding on the parties.

THE COURSE OF THE PROCEEDINGS

3. Shortly after the issue by the tenant of these proceedings, the landlord sought to have the proceedings stayed on the basis that the parties had agreed by cl. III(32)(b) to submit their dispute to arbitration. Master Jennings ordered that the action be stayed, but that stay was lifted by Yam J. on appeal. Following the lifting of the stay, the tenant sought summary judgment on its claim under Ord. 14. On 6th June 1996, Master Woolley gave the landlord unconditional leave to defend the action, and the tenant now appeals against the grant of unconditional leave to defend.

THE TENANT'S CLAIM

4. The tenant's primary claim is for the sum of $1,502,565.30, which represents the sum of $1,800,000.00, i.e. the aggregate of the security deposit paid, less arrears of rent and other charges which total a sum of $297,434.70, and which the tenant admits the landlord is entitled to deduct from the security deposit. The tenant's alternative claim is for whatever the Court finds to be the balance of the security deposit payable to it after the landlord's "last outstanding claim" against it has been deducted. The fact that the tenant seeks summary judgment on its alternative claims was potentially a technical hurdle in its path. If I had decided that the tenant was entitled to judgment, but if I had not been able to decide in these summary proceedings which of these alternative claims the tenant was entitled to judgment for, I would have had no alternative but to dismiss the appeal, because the landlord in those circumstances would have been entitled to unconditional leave to defend each of the tenant's alternative claims.

THE LANDLORD'S DEFENCE

5. There has been other litigation concerning the construction of cl. XI(3) of the lease. An identical clause had been included in a lease involving the same landlord and another tenant in The Prudential Mall Ltd. v. Chou Kou Pim [1992] 2 HKC 298. The Court of Appeal held that the words "the last outstanding claim" meant "the last outstanding valid claim". Taking that point on board, the landlord contends that it is at the very least arguable that its outstanding claim against the tenant for breach of cl. III(32)(a) of the lease is a valid one. The basis of that assertion is as follows:

(i) After the tenant vacated the premises, the premises were inspected by the landlord's architect. In June 1993, the architect compiled a report setting out the respects in which the premises were not in a good and tenantable condition, and the respects in which the tenant had failed to make good the damage caused by the removal of its fittings. The report constituted the basis for asserting that the tenant was in breach of cl. III(32)(a).

(ii) The contents of that report cannot be challenged by the tenant. That is because the report constituted the architect's certificate for the purposes of cl. III(32)(b).

(iii) The breach by the tenant of cl. III(32)(a) has given rise to two alternative claims, both of which are greater than the balance of the security deposit retained by the landlord.

(iv) The first claim is the cost of putting the premises into good and tenantable condition, and of making good the damage caused by the removal of the tenant's fittings. Quotations for the work involved were obtained from various contractors in 1993, and those quotations amounted in all to the sum of $1,710,080.00.

(v) In fact, the landlord did not carry out any of this work. It decided to let the premises as soon as it could. It claims, however, that the condition of the premises meant that it had to give the new tenant a longer rent-free period, and it had to charge the new tenant a lower rent for the first 3 years of the lease than would otherwise have been the case. Those claims form the basis of the landlord's alternative claim. The landlord claims that its loss as a result of having to give the new tenant a longer rent-free period is either $346,666.00 or $420,000.00 depending on whether the calculation is made by reference to the actual rent or to what the landlord claims was the market rent. The landlord claims that its loss as a result of having to charge the new tenant a lower rent for the first 3 years of the lease is $3,960,000.00.

The issue which this appeal raises is whether it is arguable that either of these claims are valid ones. If they are, cl. XI(3) of the lease permits the landlord to withhold the return of the balance of the security deposit.

THE LANDLORD'S CLAIM FOR THE COST OF THE REMEDIAL WORK

6. In order to determine whether the landlord's claim for the cost of the remedial work is valid, it is necessary to return to the lifting of the stay by Yam J. He had to decide whether the landlord's claim was a valid one, because if it was not, there would not have been a dispute between the parties which could have been submitted to arbitration. He held that the landlord's claim for the cost of the remedial work was not a valid one. The basis of his decision was that the cost of the remedial work could only be a valid claim in law if the landlord had carried out the remedial work. That was what the Court of Appeal had decided in Chou Kou Pim, and Yam J. held that the reasoning applied to the present case.

7. Mr. Anthony Chan for the landlord argues that Yam J.'s judgment was not as clear-cut as that, and that since Yam J. ultimately purported to exercise a discretion not to stay the proceedings, he could not have decided that the landlord's claim had no validity, because in that event no question of the exercise of a discretion would have arisen: the absence of a dispute would have meant that the stay had to be lifted. I cannot accept that argument. A fair reading of Yam J.'s judgment shows that he did decide that the landlord's claim for the cost of the remedial work was not a valid one. In referring to his discretion, he was, as I read the judgment, doing no more than indicating that his finding that the claim was not a valid one meant that he could only exercise his discretion in one particular way.

8. Mr. Chan is on stronger ground, however, when he attacks the relevance of the Court of Appeal's decision in Chou Kou Pim. He points out that cl. III(32)(b) of the lease in that case was in different terms from the equivalent clause of the lease in the present case. Cl. III(32)(b)(iv) of the lease in Chou Kou Pim provided that if the tenant failed to carry out the remedial work, the landlord was obliged to carry it out itself. Mr. Chan contends that the true ratio of the decision of the Court of Appeal in Chou Kou Pim was that, in the light of the terms of the lease, the carrying out by the landlord of the remedial work was a precondition for claiming its cost from the tenant. No such precondition existed in the present case, because in the present case the landlord was under no obligation to carry out the remedial work itself. In those circumstances, the general rule established by the Court of Appeal in Joyner v. Weeks [1891] 2 QB 31 applies. That rule is that where a tenant fails in breach of covenant to deliver up the premises in the condition required by the covenant, the landlord's claim for the cost of the remedial work is not affected by the fact that the remedial work was not done because the premises had immediately been let to another tenant.

9. That powerful and compelling argument is disputed by Mr. C.Y. Li for the tenant. He asserts that although the terms of the tenant's lease did not expressly oblige the landlord to carry out the remedial work if the landlord was to recover the cost from the tenant, the lease should nevertheless be regarded as subject to an implied term to that effect. The parties would hardly have contemplated, he says, that the landlord could be compensated for expenditure which it never incurred.

10. I do not need to comment on which of these arguments is arguably correct. That is because Yam J. has already decided that the landlord's claim for the cost of the remedial work was not a valid one. Whether the process of reasoning by which he reached that conclusion is flawed is beside the point. Even if it is flawed - on the footing that the case, which he thought was decisive, was in fact distinguishable - the fact remains that on the issue which I have to decide, namely whether it is arguable that the landlord's claim for the cost of the remedial work was a valid one, Yam J. decided that it was not. It is not open to the landlord to relitigate that issue as it has already been decided in these very proceedings, albeit in the context of whether the proceedings should be stayed. If I were to decide the issue myself, I would, I think, be allowing the landlord to mount a collateral attack on an issue which has already been decided by a court of competent jurisdiction from which an appeal lay. The way to challenge Yam J.'s decision was to lodge an appeal against it. Indeed, that is what the landlord did. The Notice of Appeal alleged that Yam J. had indeed erred in law in concluding "that the recoverability of damages for a breach of covenant to deliver up possession of premises in tenantable condition was dependant upon the incurring of expenditure upon repairs". The fact that the appeal was eventually struck out because of the failure on the part of the landlord's solicitors to set the appeal down in time is immaterial.

11. This morning, Mr. Chan strongly argued against this approach. He stressed that Yam J.'s judgment was given in an interlocutory appeal. For that reason, his judgment was not a final one. How could his decision in interlocutory proceedings on whether the landlord's claim was a valid one have prevented that issue from being litigated when the action comes on for trial? Moreover, a stay of the proceedings is not a final order because it is always open to the Court to lift a stay. Mr. Chan argues that if it is always open to the Court to lift a stay, it is also open to the Court to re-impose the stay. In my view, these beguiling arguments miss the fundamental point. There are occasionally times when, in order to decide an interlocutory issue, final decisions have to be made on certain issues. That was so in this case. In order to decide whether there should be a stay, the Court had to decide whether the landlord's claim for the cost of remedial works was capable in law of being a valid one. Not whether it was probably capable of being in law a valid one, nor whether it was arguably capable of being in law a valid one, but whether it was in fact a valid one in law or not. The fact that the proceedings in which that issue arose for determination was not final does not affect the finality of the issue which Yam J. in fact decided.

THE LANDLORD'S CLAIM FOR LOST RENT

12. Yam J. declined to submit the landlord's claim for lost rent to arbitration. However, there is, in my judgment, an important distinction to be drawn between the landlord's claim for lost rent and the landlord's claim for the cost of remedial work. Yam J. decided as a matter of law that the fact that the landlord had not carried out the remedial work prevented the claim from being a valid one. In relation to the claim for lost rent, I read Yam J. as having decided in his judgment that the claim was not a sufficiently valid one on the facts presented to him to justify exercising his discretion to stay the proceedings in favour of arbitration. I do not read Yam J. as having reached a concluded view that the landlord would in no circumstances be able to establish a valid claim for lost rent at the trial of the action. Accordingly, no question of issue estoppel arises in respect of this claim.

13. Mr. Li maintained that the lease does not permit the landlord to claim the lost rent. He points out that no such express right is given in the lease. He argues that no such right should be implied, and that the provisions of the lease cannot be construed as giving the landlord such a right. I cannot accept this submission. The lease cannot be read, whether expressly or impliedly, as limiting the landlord's claim to particular heads of loss. The only question, in my view, is whether it is arguable that the landlord's claim for lost rent is a valid one on the facts. In my view, it is. The fact that the new tenant's lease with the landlord contained full repairing covenants is neutral because the tenant's lease with the landlord contained similar covenants. However, in deciding that the landlord's claim is arguable, I have taken into account the landlord's assertions that

(i) in order to mitigate its loss, the landlord had to re-let the premises as soon as possible, and

(ii) the rent-free period granted to the new tenant was 50 days, which was longer than the normal rent-free period granted by the landlord which was 14-30 days.

I have also taken into account the report which the landlord has obtained from chartered surveyors that the rent which the landlord agreed with the new tenant for the first 3 years of the lease was $110,000.00 a month less than the surveyor's opinion as to what the market rent was. I appreciate that all these assertions are hotly disputed by the tenant. Thus, Mr. Li criticises the landlord's report on the footing that it is no more than an assertion without reasons of what the market rent was. In addition, Mr. Li points to the dramatic change on the part of the landlord in its justification for withholding the balance of the security deposit from a claim for the cost of the remedial work to a claim for lost rent. But the assertions made by the landlord raise, in my judgment, issues of fact which it is not possible for me to discount, nor can I say that the issues of fact which are raised are so shadowy that the landlord should be required to bring the balance of the security deposit into Court as a condition of defending.

CONCLUSION

14. For these reasons, I rule that it is arguable that the landlord's claim for lost rent is a valid one, and the landlord must therefore have leave to defend the tenant's claim for the return of the security deposit on that ground. The more difficult question is whether the landlord should be permitted to defend the action on the basis that it has a valid claim for the cost of the remedial work as well. Ord. 14 is silent as to whether leave to defend can be given in relation to particular defences only. Yam J. thinks it can, because that is what he did in New Hampshire Insurance Co. v. Grand Union Insurance Co. Ltd.: see the decision of the Court of Appeal at [1995] 2 HKC 1. Yam J.'s view is an entirely sensible one since it is in no-one's interest for a plaintiff to be required to litigate an issue which has been held in summary proceedings to be unarguable. An appeal was lodged against that view, but since the Court of Appeal decided that none of the defences relied upon amounted to arguable defences, summary judgment was given and the procedural issue was not decided.

15. For my part, I believe that the Court's wide power under Ord. 14 r. 4(3) to impose conditions on the grant of leave to defend enables the Court to grant leave on condition that a particular defence be not pursued. In my view, it would be right to impose that condition in the light of the view I have reached about the validity of the claim for the cost of the remedial work. I appreciate that the normal course for a plaintiff to take if an unarguable defence is relied upon is to issue a summons under Ord. 18 r. 19(1) to strike out that defence, but no defence has yet been filed, and that course is therefore not open to the tenant at present.

16. Accordingly, the order I make is that para. 1 of the order of Master Woolley of 6th June 1996 be varied to read as follows:

"The Defendant be granted leave to defend the action on condition that it does not plead in its Defence and Counterclaim that it has been entitled to withhold the balance of the security deposit by reason of an outstanding claim for the cost of remedial works to the premises to which the claim relates."

Save for that variation, and subject to any argument as to the costs ordered in para. 4 of the order, this appeal must be dismissed.