Booz Allen Hamilton (HK) Ltd. v. Skyhorse Ltd.

LT No. 614 of 1997

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Headnote

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Tenancy law-Application for new tenancy by Part IV tenant-Suit premises in defective condition-whether landlord's covenant to repair under the current tenancy should remain included in the new tenancy-assessment of prevailing market rent taking into account of defects and basis for assessment

The applicant tenant applied for a new tenancy. The house was with defects which the Tribunal found it unlikely that the landlord would be able to rectify during the term of the new tenancy. The landlord argued that the covenant to repair should not be altered and that rent should be assessed without regard to the defects leaving the tenant to enforce the landlord's covenant to repair. On the other hand the tenant argued that rent should be assessed taking into account the defects and the interference of quiet enjoyment already taken place.

Held: (1) On the true construction of Section 119J of the Landlord and Tenant (Consolidation) Ordinance which requires the Tribunal to have regard to the terms in the current tenancy, the Tribunal should not in granting new tenancy alter the these terms without good reasons or alter them to any greater extent than necessary to reflect reality.

(2)As the existing defects would not in all likelihood be rectified, the landlord's covenant to repair should be qualified to relieve the landlord of the obligation to rectify the same. (3) The prevailing market rent would be what the landlord was reasonably expected to obtain from a well-informed tenant who expected to go through the disturbance experienced by the applicant tenant.

IN THE LANDS TRIBUNAL OF THE

HONG KONG SPECIAL ADMINISTRATIVE REGION

LT No.: 614 of 1997

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Judgment

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Background

1. This is an application by a Part IV tenant for the grant of a new tenancy. The current tenancy was duly terminated by the landlord according to the provisions of the Landlord And Tenant (Consolidation)Ordinance, Cap7. Negotiation for a new tenancy took place but was fruitless. In the meantime the tenant was late in notifying the landlord by Form CR102 stating he would not deliver vacant possession when the current tenancy expired on 31 March 97. Nonetheless the landlord served a Form CR105 on the tenant requiring him to apply to this tribunal for the grant of a new tenancy. On 27 February, the tenant took out the present application. The landlord opposed the tenant's application on the only ground that the service by the tenant of Form CR102 was out of time. It was about two months out of time. It was not disputed and it is well settled that the Tribunal can for good cause enlarge the time for the service of Form CR 102. I did not think it necessary for me to determine if the service of Form CR 105 by the landlord amounted to waiver of his rights, or if such rights of the landlord can be waived. The service of Form CR 105 should be taken into consideration together with the background of the case. The landlord stated in Form CR101 that it did not oppose a new tenancy. In fact negotiation that took place was all about the level of the rent. I am satisfied that at no time the landlord was led to believe that the tenant was not interested in a new tenancy. There was no prejudice suffered by the landlord and I exercised my discretion to enlarge the time for the service of Form CR 102 to make it a valid one. There being no other ground of opposition, the granting of a new tenancy is inevitable.

Credibility Of Witnesses.

2. When the evidence was concluded, I gave the parties three weeks to reach agreement on details concerning covenants to repair. Before the period expired, the solicitors for the landlord raised the complaint about Mr. Cullen making quite serious allegations against his integrity and credibility. After another hearing, I allowed the application by the landlord to recall Mr. Cullen for further cross-examination. The sole basis for the complaint was that Mr. Cullen had during the course of negotiation expressed an opinion that the market rent should be $180,000, $10,000 more than his estimate given in his report. He did not refer to his earlier estimate in court. It was alleged that he was withholding relevant information and had misled this Tribunal. I accepted his explanation why a lower estimate had been given earlier. This was an estimate given to the tenant for the purpose of negotiation and was obtained without detailed analysis and without the benefit of market information not yet available to him at that stage. Further it is needless to say that estimation of market rent involves some elements of uncertainty and subjective factors and can only be accurate within a certain margin. The discrepancy, be that as it may, was well within the acceptable margin, ±5% in his profession. It was not disputed by counsel for the landlord and I accept that it is in fact the case. There was no reason for him to mention his earlier estimate or for counsel for the tenant to disclose that earlier estimate to the Tribunal. The landlord and its counsel had always been aware of this earlier estimate. The counsel for the landlord chose not to cross-examine Mr. Cullen on it. It is too bold for her to allege any misconduct on the part of Mr. Cullen. In all circumstances of this case, the allegations are misconceived and unfounded.

3. Both experts were not shaken in cross-examination. Nothing in their demeanour showed they were not honest witnesses. It is one of the usual cases when experts called by opposing parties differed in their opinion on matters in dispute. It is a question of weight to be attached to their evidence. In assessing the weight, due regard should be made to the relative experience of the witnesses in dealing with this particular type of property in Hong Kong. In this respect no doubt Mr. Cullen appeared to be more experienced. As to the tenant's witness, Mrs. Jones, I find her to be a truthful and honest witness.

4. There is an inspection report annexed to Mr. Cullen's valuation report. There is nothing before me to show how the inspection report came to be compiled and what the qualifications and experience of those involved are. By itself little weight can be attached to it. Mr. Cullen at times relied on it. In his profession, he has to rely on findings of other professions. Certainly he would be in a position to judge the reliability of the inspection report and is entitled to make whatever use he saw fit. Nevertheless his opinion on matters not within his expertise but based solely on the inspection report cannot carry more weight than the inspection report itself.

State Of Premises

5. Mrs. Jones gave evidence about the history of repairs and disrepairs of the house. I accept her evidence. At about the time the current tenancy expired, the landlord started repair work which went on until August. While other defects have been rectified, the waterproofing especially of the roof structure remains a problem. Water pressure remains low and rusty water supply persists.

Duration And Other Terms Of The New Tenancy

6. The duration of the new tenancy and its commencement date are not in dispute. Other terms are also not in dispute except the one touching on the landlord's obligation to do structural repairs. The tenant asked this tribunal to grant a new tenancy without this relevant covenant of the landlord and asked the prevailing market rent to be assessed on the basis of the condition of the premises as existing at the date of the commencement of the new tenancy. On the other hand the landlord would like this covenant to be included in the new tenancy as in the current tenancy and submitted that rent should be assessed on the basis that the landlord would honour the covenant. Because of the poor state of the premises, the inclusion or exclusion of such covenant for repairs would affect significantly the market rent.

7. Section 119J of the Landlord And Tenant Ordinance ( Consolidaion), Cap.7 ("the Ordinance") provides that:

"The terms of a tenancy granted by order of the Tribunal under this Part---shall be such as may be agreed between the landlord and the tenant or as, in default of such agreement, may be determined by the Tribunal; and in determining those terms the Tribunal shall have regard to the terms of the current tenancy and to all relevant circumstances."

8. I gave parties time to reach agreement on the appropriate covenant to repair to be included. No such agreement was forthcoming. I am unable to find any case laying down the principles the Tribunal should follow when determining which terms should be included in the new tenancy and none was cited to me by counsels. Part IV of the Ordinance no doubt conferred a certain degree of security of tenure on the tenant. To that extent, the freedom of contract of the landlord is somewhat curtailed. However it is a reasonable presumption that it is not the intent of the legislature to further interfere with the freedom of contract of the landlord and the tenant. The terms in the current tenancy represent the last and full agreement the parties reached. To uphold the freedom of contract these terms should not be altered without good reasons or altered to any greater extent than necessary. Indeed the Ordinance specifically requires the Tribunal to have regard to the terms of the current tenancy. It was argued on behalf of the landlord that new rent should be assessed on the basis that the defects could be rectified and would in due course be rectified. If that was not the case, it was argued, then the tenant could take legal action to enforce its right. On the other hand it was argued on behalf of the tenant that as it would not make any economic sense for the landlord to carry out the repairs reduction of rent should be made. Mckinsey & Co Inc Hong Kong & ors V Sky Alliance Development Ltd. [1991] 1 HKC 486 was cited in support. In the present case there is no reliable evidence as to what kind of repairs were most effective, or of the cost and time involved. There is no evidence of the cost of rebuilding the house or other financial consideration. I cannot draw a conclusion that it makes no economic sense to effect these remedy or it is commercially viable to effect these repairs. However in this particular case I do not think it is necessary to come to this conclusion. The real question is whether in all probability the landlord would effect the repairs which would successfully rectify these defects. I think not. The landlord has had ample opportunity to effect the repairs. The result has been shown to be unsatisfactory. Repair work has stopped. No concrete plans to effect further repairs have been suggested or offered by the landlord. Though I have no ground to doubt the landlord's intent to keep its valuable property in good repairs, I am satisfied that no effective repairs would be undertaken during the term of the new tenancy. For these reasons, I do not think it right to assess rent on the basis that these repairs would be rectified. The rent should be assessed on the basis of what a well-informed hypothetical tenant would have paid. Account should therefore be taken of what the Jones went through during period of repairs and subsequent tolerance of the remaining defect during the remainder of the term of the two years tenancy. Having found that the landlord is not likely to rectify the defects successfully, it would not make any sense to allow its covenant to repair in the current tenancy to be included without qualification. Mr. Lynch rightly made the point that if the landlord was required to make good the defects and at the same time the rent was reduced on the basis of the defects, the tenant would end up paying a lower rent for occupying an improved house. Therefore in all theses circumstances and in order to achieve consistency between the covenants of repair and the basis of assessment of rent, it is necessary for me to impose an additional term or a proviso to landlord's covenant to repair in the new tenancy to qualify the landlord's covenant , to the effect that " it is always provided that the landlord is under no obligation to rectify the defects now existing and known to the tenant". All other terms of the tenancy remain the same except that the rent determined below is inclusive of management fees. I leave it to parties to apportion the final PMR ( "prevailing market rent") into two parts, rent and management fees. In that way the terms in the current tenancy would only be altered to a minimum extent to reflect the reality.

Assessment Of New Rent.

9. Both experts worked out the new rent in a two-steps approach. First they worked out the rent on the assumption that the house was good tenantable condition. Then they made adjustments taking into account the state of the premises. As I have to assess rent based on evidence adduced before me, I think I have little choice but to adopt the same approach.

PMR (Good Tenantable Condition)

10. The subject property is in Lugard Road on the Peak. It is a pre-war detached house of two storeys with its own garden and swimming pool. Both experts chose a number of comparable premises and worked out the adjusted unit rate to arrive at the PMR for the suit premises. I think certain comparables are not appropriate and I disregard them. As usual, the experts differed substantially in their opinion on the adjustments that should be made for different factors. These adjustments often involve the subjective view of the valuation experts. Of course I cannot substitute my own view for theirs on these. I can only determine what is likely to be the reasonable adjustment in the light of conflicting views of the expert. Sometimes it is purely a question of whose assessment I prefer.

Choice Of Comparables For Analysis

11. Mr. Lynch used three comparables. In addition to these three, Mr. Cullen used two more in his analysis. Of the three comparables common to their ananlysis, they had divergent views on adjustment rates for each different factor and on overall assessment for each house. As to these two houses at No. 26 and No. 28 Severn Road, both expert identified the same factors for adjustment. Mr. Lynch assessed the overall adjustment rate for each house to be 7%. Not only it is a small percentage, it is many times smaller than the third and remaining comparable. Adjustments for different factors were invariably smaller than the corresponding ones for the third comparable. It can therefore be inferred that he was of the view they were much more representative of their kind than the third comparable. Mr. Cullen estimated the overall adjustment for each house to be (10.5% and was the smallest he gave to the five comparables. He attached different weighting to these adjustments to arrive at the final unit rate. He attached the greatest weighting to these two houses. All these point to the fact that he was of the view that these two houses were the most representative of their kind. Therefore, I conclude that both experts were in effect agreed on one thing, namely that these two houses were the most representative and the best comparables. I must therefore have regard to these two comparables in determining rent.

Both of them also used 26 Middle Gap Road as comparable. This is a much bigger house than the suit premises. There are also other distinguishing features for which the experts differed widely in giving the adjusted rates. In particular Mr. Cullen attacked the adjustment relating to size and layout. He said total adjustments were too high and there was no reason to make two separate adjustments relating to size of the house.. I accept Mr. Lynch's explanation why two separate adjustments were made. It is not in dispute that the unit rate tends to fall as the size of the house gets bigger. Adjustments for the layout is a different matter. Mr. Lynch was of the view that as part of the floor area was not of much use to the tenant because of the layout, a further adjustment should be made. That makes sense. He was entitled so to do. I believe he honestly held this opinion. Total adjustment for all factors made by him was +46% , a large allowance by itself and relatively large as compared to other two comparables he used. On the hand the total allowance given by Mr. Cullern was -1.75%. After weighting it down, the effective adjustment he gave would be slightly less than that. Again, I do not doubt this is his honest opinion. If two experts can differ so widely in assessment, it is only reasonable hypothetical intended tenants would have equally if not more widely different views. This must mean this house is much different from the suit premises and is not an appropriate comparable. Indeed, Mr. Cullen attached less weight to this house when working out the adjusted unit rate and Mr.Lynch's overall allowance is some six times more than those given to other two comparables. In view of all these, I disregard this comparable.

12. Mr. Cullen used two comparables which were not used by Mr. Lynch. One of them is the town house in Strawberry Hill development. I accept Mr. Lynch's view that it is not wholly comparable. I also think it is not a good comparable. In fact Mr. Cullen attached the least weighting to it. The total allowance he made for various factors was -17.5%, the largest among all the comparables he used. This % adjustments and weighting must represent Mr. Cullen's view on the similarity of the premises for comparison purposes. Looking at the number of the factors for which adjustment was required, the sizes of these adjustments and the aggregate adjustment of all these factors, and , the fact that Mr. Cullen attached the least weight to it, I do not think it is a good representative of its kind. In all these circumstances, I disregard this comparable.

13. The other comparable which only Mr. Cullen used was the house in Mt. Cameron Road. It is the other comparable to which he attached the least weighting. The total adjustment before weighting is -15% which is the second largest among the five comparables. Again I believe this is less representative of than the two houses in Severn Road. It might still be used as comparable. I do not know however what weightings would have been attached to it by Mr. Cullen now that I have disregarded the comparable in Middle Gap Road. Mr. Cullen fine-tuned his adjustment by using a weighting exercise. Mr. Lynch did not do that but just take the average of the unit rates of the houses. To compare Mr. Cullen's adjustments for individual factors with the corresponding ones given by Mr. Lynch is inappropriate if the weighting by Mr. Cullen is not taken into account. Should I disregard this comparable? If I do , the remaining comparables would be the two houses in Severn Road. Mr. Cullen attached equal weight to them and no weighting exercise would be necessary. His approach would be the same as Mr. Lynch and direct comparison can then be made for their estimates for different factors. The remaining thing I should consider is whether excluding this otherwise useful comparable would affect adversely Mr. Cullen estimate. The exact difference cannot be ascertained as it is not known what new weight he would have attached to it. Perhaps the effect it has on the original exercise can throw some light on this. If this comparable was taken away form the original analysis of Mr.Cullen's, the weighted average rental would then be $401.9[(3972-355)/9]per sq. m. which is $4.7 per sq. m. higher than his original estimate. The saleable area of the suit premises is 420.1 sq. m. The effect of the exclusion of the Mt. Cameron Road would be an increase in rental in the order of $1600. The effect of ignoring this comparable is therefore insignificant. For all these reasons I propose not to use this comparable but to offset the disadvantage of not having this comparable I would allow a deduction of $1600.

Adjustments For The Two Houses In Severn Road

14. The evidence about the provision of swimming pool is unclear. From Mrs. Jones' evidence, the tenant of one of the houses has the use of a heated swimming pool. What is not certain is whether it is shared by the tenant of the other house. Both parties were not willing to look into the matter further. They believed it would not significantly affect the market rent. Under these circumstances I make no adjustment. In fact no adjustment has been proposed.

15. These two houses have the same landlord and tenant. Mr. Lynch suggested that the parties may not be at arms length. There is nothing concrete to support that. It is not right for the Tribunal to speculate on this. No adjustments should be made in this regard.

16. The first adjustment relates to the time factor. The tenancy in these two houses commenced three months before the commencement date of the present new tenancy. The rental market was rising during this period. Mr. Cullen's estimate of 4.5% was more accurate and should be adopted. The second adjustment is about the view. No adjustment was proposed by Mr. Cullen. Mr. Lynch proposed an adjustment of -3% . This is of course not to the advantage of his landlord client. He based his allowance on the fact that a line of trees prevented a fully open view from the ground floor of the suit premises. This advantage is compensated by more seclusion provided by the trees. I adopt Mr. Cullen's view and make no adjustment for this factor. The third adjustment is in respect of access. The difference in the estimates is 5%. No doubt this involves some element of subjective view of the valuation experts. However Mr. Cullen's estimate is supported by rental information relating to flats in the same locality. I accept that his estimate is more accurate and I adopt his -10% adjustment. The fourth adjustment is to allow for the fact that the comparables are smaller houses. As Mr. Lynch rightly pointed out that as the size of the house gets bigger, the unit rate of rental tends to fall. This is basic. I accept it. However neither of them gave an satisfactory explanation how his own estimate was arrived at. Mr. Cullen is more experienced and I prefer his estimate. I adopt his 2% adjustment. The fifth adjustment Mr. Cullen thought appropriate was about the car parking facility. The comparables had locked up garages. He stressed on the point of security. A padlock can only provide limited security. It is more important to look at the location and access from the passing traffic. Security-wise, I do not think parking at this garages afford any significant increase in security. A reasonable tenant would readily appreciate this. I accept Mr. Lynch's view that no allowance should be made on the basis of security. However a covered garage is better than parking space. A lump sum deduction of $1500 is more than sufficient to reflect this difference in car parking facility. The comparables are semi-detached houses. No allowance was proposed by Mr. Lynch. 5% adjustment was suggested by Mr. Cullen. I do not see any reason why the landlord should object to this bonus. I think it is reasonable and I adopt it. The last adjustment and the most controversial one concerns the state or the condition of the two houses. No doubt that they were in much better condition than the suit premises. Mr. Lynch argued that no allowance should be made. He criticised the approach of Mr. Cullen who made -10% adjustment and then made a further adjustment taking into account the defects in the suit premises. He complained Mr. Cullen is double counting the effect of defects of the suit premises. This criticism is not quite appropriate. As I understand Mr. Cullen's approach, he made the adjustment on the basis that the suit premises were put back to good tenantable condition. As it was in fact not so put back and would not be put back to such condition, a further adjustment should be made to account for those defects. To him it was not double counting but a two-steps counting. However to substantiate his assessment, there must be some evidence or basis to compare the good tenantable state of suit premises to the state of the comparable houses. One house can be in much better condition than the other when both of them can be described in good tenantable condition. I am not told in what way the state or the condition of these houses are better than the hypothetical good tenantable condition of the suit premises. Having said that I think some allowance should nevertheless be made. Mr. Ng, counsel rightly made the point that an incoming tenant would rather have the repairs rectified than to accept the tenancy with reduction in rental of an amount just enough to compensate him. I agree with him. To induce a tenant to move in more reduction should be made even though some element of double counting is involved. This however is not the reason Mr. Cullen put forward to support his adjustment. I cannot adopt his adjustment in its entirety. Looking at the defects complained of , and considering the likelihood that tenants of this type of houses are generally looking for a living in luxury , I think -5% adjustment is reasonable.

17. The total %adjustment that should be made to both houses would be -3.5%( 4.5%-10%+2%+5%-5%) and a lump sum reduction of $3100 ($1500 + $1600). The adjusted unit rate of the comparable is $446[(491+463)/2 ×96.5%] The PMR( No Defect) would have been $190274($193374-$3100)

Adjustment For Disturbance And On Account Of Defects.

18. Mr. Cullen thought that no rent should be charged for the one month period when workers were on the site doing repair work and as to other four months until the roof was repaired a reduction of $20,000 in rent would be right. As to the remainder of the term of the new tenancy, the PMR with defects should be 87% of PMR without defects i.e. a deduction of 13% . Mr. Lynch did not have much chance to comment on the details of this analysis of Mr. Cullen. The assessment of allowance for disturbance during repair period was only put forward by Mr. Cullen when he was recalled by the landlord's counsel. Mr. Lynch was not recalled to comment on the further evidence. When Mr. Lynch gave evidence, he was not hardly asked, if at all, the assessment of 13% reduction on account of the defects.

19. The adjustment should not be made on basis what damages the court would award in a similar case to compensate the loss of enjoyment and for disturbance. It should be made on the basis what market rent the landlord is reasonably expected to obtained from a well-informed tenant who expected to go through what the Jones had gone through during the months of repair and to live with the fact that the defects would not be rectified during the term of the tenancy. For reasons I gave earlier, the reduction in rent should be more than the court would have awarded in proceedings against the landlord for breach of covenant to repair. Mr. Cullen is no expert on assessing damages. His view would be irrelevant if his assessment was understood or rather misunderstood in that sense. In any event he was not guessing what damages a court would award. He was giving an opinion on the level of rental at which an intended tenant would accept the tenancy . This is a correct approach though I doubt if he had actual experience of encountering a similar case in which a intended tenant made such conscious calculations in pecuniary terms. His assessment must have been one of intuition and highly subjective. I can assess the reasonableness of his estimate by reference to the amount of damages the court is likely to award. Unless the deduction in rent is plainly and very much in excess of the likely damages the court would award, it would not be unreasonable. I think the total deduction assessed in this case is within the range of damages the court would likely award. I accept his estimate. The PMR (with defects)for the new tenancy should be calculated as follows:

Rent before allowance for disturbance for the four months period of repair:

$ 190274 ×0.87 = $165,538

Total rental for 24 months : $165,538 × 24 = $3,972,912

Deductions:

One month rent free = $165,538

Four months deduction of $20,000 per month = $80,000

Total: $245,538

Net total for 24 months = $3,972,912- $245,538 = $3,727,374

PMR(final)for the new tenancy =$3,727,374/24=$155,000 (rounded down)

New Tenancy

20. A new tenancy of two years commencing on 1 April 1997 is granted with monthly rent of $155,000 inclusive of management fees. A new term as mentioned earlier is to be included and other terms be the same as in the current tenancy.