MEXX CONSOLIDATED (FAR EAST) LTD v. ATTORNEY GENERAL AND ANOTHER

Property law - Crown lease - user covenant limited use of premises to industrial or godown purposes - Crown alleged premises used for commercial purposes and forbearance fee demanded for breach - large premises were used for research design and testing of samples and making of patterns - textile machinery, manual labour and large quantities of materials used on premises - patterns manufactured on premises - prototypes and some samples manufactured on premises but majority of samples manufactured elsewhere - all samples were checked, packaged and exported from premises to overseas - whether premises were used for industrial purposes or whether in breach of Crown lease premises used for commercial purposes - Held: 1. Primary user of premises industrial; 2. Plaintiff not in breach but had complied with user covenant in Crown lease.

IN THE SUPREME COURT OF HONG KONG

HIGH COURT

Miscellaneous Proceedings No.2421 of 1986

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JUDGMENT

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1. The Crown granted a lease of Kowloon Inland Lot No.6053 for a term of 75 years from 29th September 1949 together with a right of renewal for a further term of 75 years. The lease was later varied by a Deed of Variation dated 12th May 1983. The 2nd defendant is the current Crown lessee under the Crown lease pursuant to a Deed of Assignment dated 1st May 1987. The buildings erected in terms of the Crown lease on Inland Lot No.6053, are known as the Hing Wah Centre. The plaintiff is the tenant of those parts of the Hing Wah Centre being Unit Nos. 1, 2, 3 and 4 of the 2nd Floor, Unit No.2 on the 3rd floor, Unit No.3 on the 9th Floor and Units Nos. 1, 2, 3 and 4 on the 10th Floor (hereinafter called "the suit premises").

2. In the present summons the plaintiff seeks a number of declarations. The two principal declarations are sought in the following summarised terms:

3. Among the changes effected under the Deed of Variation, were a building covenant restricting the erection of buildings to factories or godowns and a user covenant restricting use to industrial and godown purposes. Under the latter covenant the Crown lessee covenanted not to :

"... use or allow or suffer to be used the demised premises or any part thereof or any building or buildings erected or to be erected thereon or any part or parts of such building or buildings for any purpose other than industrial or godown purposes or both excluding any trade that is now or may hereafter be declared to be an offensive trade under the Public Health and Urban Services Ordinance..."

4. The present proceedings are a consequence of the Crown's initial view that the plaintiff was using part of the suit premises for commercial premises. At the hearing Counsel for the Crown indicated, that the Crown now maintains, that the whole of the suit premises are used for commercial purposes. In the Crown's submission such use is in breach of the user covenant in the Crown lease which restricts use to industrial or godown purposes.

5. The ultimate issue to determine is whether the suit premises are used for industrial or godown purposes. If they are, the plaintiffs are entitled to all or some of the declarations sought. If not, then the plaintiffs are in breach of the user covenant, imposed on them through their tenancy agreements, and the Crown, as lessor, may elect to exercise its powers as lessor under the lease.

6. The words "under the lease" are used deliberately for although the lessor happens to be the Crown, its powers against the plaintiffs are purely contractual powers under the lease and are rot dependent upon or reinforced by any statutory powers nor do they stem from its governmental status. Counsel for the Crown expressly conceded this was the position, referring in passing to the decision of the Privy Council in Hang Wah Chong Investment Co.Ltd. v. Attorney General (1981) HKLR 336, (1981) 1 WLR 1141. I am therefore solely concerned with the Crown's contractual powers as lessor under the Crown lease.

7. The perhaps interesting factual position, that the Crown is objecting to the apparently less obnoxious commercial use, of premises limited to industrial use, was also explained by its Counsel. It had occurred to the Court that as part of Government's overall town planning and to help meet the well known demand for industrial premises, the Crown was anxious in the public interest that industrial premises should only be used for industrial purposes and would, if necessary, invoke its contractual powers as lessor, to enforce industrial user covenants in Crown leases. However, Counsel explained that the major motive behind the Crown's objection, was that on the grant or modification of Crown leases, the Crown charges a lower premium for industrial, than for commercial land. If thereafter, low premium industrial land is used for commercial purposes, the Crown suffers loss.

8. Hong Kong's embryonic town planning legislation means that the Government implements its land policy, so far as land use is concerned, through the user, building and other covenants of Crown leases, rather than under the Town Planning Ordinance, Cap. 131. The confusion which at times can occur, whether the Crown's objection to user is under contractual or statutory powers, is even evident in the letter of the Buildings and Lands Department, to the former Crown lessee, dated 20th August 1986. In that letter the District Officer put forward two alternative solutions if the lessee preferred not to conform to the user covenant. The first alternative was for the position to be regularised by payment to the Government of a premium for what was described as a non-conforming commercial use within an industrial building. For example, during negotiations between Crown lessor and the lessee, the Crown issued an interim forebearance fee for the whole of Kowloon Inland Lot No. 6053 for the period from 21.12.86 to 20.3.87 in the sum of $197,033. I understand from Counsel that this fee reflects the Crown's estimate of the higher premium and rental rates for commercial as compared with industrial premises.

9. The other alternative suggested by the District Officer was for the lessee to apply to the Town Planning Board, for regularisation of the non-conforming use. As a matter of Jaw, the latter suggestion would not necessarily have assisted. No matter what approval the Town Planning Board may have given under its statutory powers, that would not have affected or reduced the Crown's contractual powers under the Crown lease. They are two quite distinct concepts. Counsel for the Crown explained that the letter had in effect telescoped what was intended. Apparently, what the District Officer meant, was that if the Town Planning Board - which is a wholly Government administrative body and not a judicial or quasi-judicial tribunal - approved of the changed use, the Crown might then, in its contractual capacity, more favourably deal with an application by the lessee for the waiver or modification of the user covenant.

10. In practical terms, the identity of the Board and the lessor are the same, namely the Government. But the clear legal distinction between statutory and contractual powers remains not only important but fundamental. The failure in the correspondence to distinguish between these different powers was unfortunate. For some lessees on receiving such letters might wrongly infer, that the Crown's powers were not merely contractual but were reinforced by the Crown's statutory and prerogative powers. In these proceedings that is not the position. I am solely concerned with the Crown's contractual powers as lessor under the Crown lease. Neither the status of the lessor as the Government, nor its statutory or prerogative powers, are relevant to the issues I have to determine. I place them entirely to one side and merely mention them at this preliminary stage, to make it quite clear that they are irrelevant and will not be taken into account in determination of the issues before this Court.

11. Turning to the facts, the plaintiff is a Hong Kong subsidiary of a Dutch Company which is a manufacturer of high fashion clothing. Large quantities of clothing are manufactured in Hong Kong all of which are exported to 13 or more countries overseas. The clothes were formerly marketed under the brand names of Moustache, Moustache Junior, Emanuelle, Emanuelle Junior and Kisses but are now sold under the single acronymic name of "Mexx".

12. The plaintiff's suit premises occupy all of the 2nd and 10th Floor and parts of the 3rd and 9th Floors of the Hing Wah Centre. The vertical separation of the plaintiff's business between several floors of the same building, is not uncommon in Hong Kong. Counsel for the Crown sensibly indicated that no point would be taken on this physical separation between different floors and the Crown would accept that the suit premises, for the purpose of these proceedings, comprised one integrated entity.

13. The suit premises, as at 5th January 1987, comprised a net area of 22,567.34 square feet. A Table was produced which divided that area between 11 different departments. Those departments occupied various portions of the suit premises. Expressed in percentage terms, 55.29% was occupied by the Production Department; 10.53% by the Fabrics Department; 10.36% by the Technician's Department; 6.30% by Accounts and Service Department; 6.25% by the Shipping Department; 2.93% by the Data Processing Department; 2.44% by the Personnel Department; 2.41% by the Canteen; 2.05% by the Image Workshop Department; 0.89% by Management; and 0.55% by the Textile Quota Department.

14. The Crown, from the earlier correspondence, recognised that if the suit premises were used for industrial purposes it would be reasonable for part of the premises to be used for ancillary office, management and canteen purposes. Counsel for the Crown confirmed this attitude at the trial. I am satisfied that once the character of the premises is determined, the prima facie neutral ancillary office, management, canteen and other areas will properly share the same classification and form part of that primary use. I accept Counsel for the Crown's submission that the principal sections of the suit premises which will probably determine use, are the Production Department, Fabrics Department and Technician's Department which occupy 76.18% of the total area. If the Image Workshop, Textile Quota and Shipping Departments are added, the percentage increases to 85.03%.

15. As to the actual use of the whole of the suit premises, the plaintiff had filed an affirmation of their Group Vice President, Mr. Horatio Ho. This lengthy affirmation, in considerable detail, sets out particulars of the departments of the plaintiff's occupying the suit premises and the nature of their work. The affirmation included a number of exhibits relating to the nature of the plaintiff's business and floor plans of each floor showing where the various departments were situated. No other affirmations were filed or oral witnesses called by any of the parties. The Court's findings of fact therefore require to be made on the basis of Mr. Ho's affirmation.

16. The plaintiffs submitted that it used the suit premises for industrial purposes. Further, while it was content to argue that the suit premises were used for industrial purposes, it expressly did not abandon the possibility that part of the premises were also used for the alternative contractual approved used, namely for godown purposes. The plaintiff asserted that the industrial process it carried out on the suit premises included the research, design, development, testing and manufacture of sample clothing. Other alleged industrial work was the preparation and production of paper patterns for the manufacture of clothing at other premises. After this work was done the clothing, together with other sample clothing manufactured elsewhere, was packaged on the suit premises and exported overseas.

17. The evidence revealed that a huge number of over 100,000 samples were produced in Hong Kong each season for export overseas. The styles and fabrics of these samples were all researched, designed and tested at the suit premises. The plaintiff also manufactured at the suit premises the prototype samples but most of the subsequent samples were thereafter manufactured at factories at other locations in Hong Kong. However, so far as the samples manufactured off the suit premises were concerned, they were all sent to the suit premises for checking, quality control and packing before being exported overseas.

18. From Mr. Ho's affirmation it was clear that substantial quantities of raw materials were used on the suit premsies. The Production Department used 2000 yards of drafting paper per month and 1500 yards of fabrics per month for initial and fitting samples. The Fabric Department consumed 1200 yards of fabric per month for testing and research purposes. The same Department also used a large quantity of industrial solvents, bleaching agents and softeners for testing and research. The suit premises were serviced by 3 cargo lifts which were used for conveying these materials and also for bringing up to the suit premises the other samples manufactured elsewhere. According to the plaintiff the essential weight bearing capacity and cargo lift facilities in this industrial building would not be available in commercial premises.

19. The plaintiff's submitted that the activities at the suit premises fell within the plain and ordinary meaning of industrial purposes. On a broad view, it was submitted, that those activities were an industrial process involving the adaptation of design concepts which resulted in the production of high fashion garments; that industrial processes were used to produce very large quantities of samples or protoypes which were labelled and packaged for export on the premises; that in the course of such activities prototypes and other samples were actually manufactured on the premises. On a narrow view, it was submitted, raw materials brought on to the premises were transformed and articles manufactured in the course of which a wide range of machinery was used and a substantial number of persons were employed in manual labour. These characteristics, it was submitted, were those of a factory or industrial use and not of a commercial business.

20. The Crown submitted that the real nature of the activities carried on at the suit premsies were commercial and not industrial. Commercial use commonly encompasses two sub-uses namely, shops and offices. The Crown did not suggest that the premises were used as a shop but asserted that they were in effect used as offices. On the facts, the former possibility was clearly not available as no wholesale or retail sales are made on the suit premises. All of the plaintiff's Hong Kong production is exported to its associated companies overseas. The Crown's principal submission was that, on the facts, the primary use of the premises was as a research and design office. To that primary purpose the limited manufacturing and packing elements were merely ancillary.

21. In reviewing the factual evidence, I recognise that the plans of each floor include indications that the premises may well be suitable for commercial offices. In particular, on the 10th Floor there is a board room and 2 areas described as open meeting areas. The plans are certainly open to the inference that these areas are office or conference facilities. However, the photographs of these areas and Mr. Ho's evidence, indicate that they are also used by the production Department. The photographs show the tables used for checking and packing clothes. I record that the photographs were taken on the same day as the Crown's inspection. The meeting areas are also much less segegrated, than the plans suggest, from the adjacent passage areas, where large quantities of clothing are stored and packed.

22. I accept Counsel for the plaintiff's submission that the premises are both spacious and well kept. I agree that if the premises are industrial then the plaintiff should not be penalised nor that use affected, simply on account of the very high standard of decoration, which elsewhere in Hong Kong, may be more typical of commercial than industrial premises. On the other hand, there is evidence to support Counsel for the Crown's submission that while the work carried out on the suit premises may be incidental to an industrial process, the plaintiff's difficulty is that the industrial process takes place elsewhere on other premises. I am satisfied that, on the facts, this is not a case where the suit premises are clearly being used for industrial purposes or clearly being used for non-industrial purposes. There are elements of both kinds of user.

23. In determining what the contracting parties mean by the use of the words "industrial ... purposes" I am aware that the plain and ordinary meaning of "industrial" contained in V The Oxford English Dictionary 236 is:

"Industrial: Pertaining to, or of the nature of, industry or productive labour; resulting from industry."

That definition does not carry the enquiry very much further forward. Although a number of dictionaries were included in Counsel's list of authorities, I was in fact referred to a wide range of authorities in which the words "industrial", "factory" and "commercial'' were considered. Those authorities were helpful in varying degrees but each suffered from the disadvantage that the Courts were generally concerned with the statutory meaning of those words in relation to the particular legislation of which they formed part.

24. Counsel for the plaintiff referred to the definition of "industrial undertaking" in Section 2 of the Factories and Industrial Undertakings Ordinance, Cap.59 which includes any factory. This Ordinance empowers the Commissioner of Labour to enforce safety and other standards including those relating to the protection of women and young persons. "Factory" is also defined in Section 2 as meaning:

25. I was referred to the fact that design element, of all the samples later manufactured was carried out at the suit premises; that all the prototypes and some of the samples were wholly manufactured at the suit premises; that the samples made elsewhere were brought back to the suit premises for checking before packing; that the checking at times led to altering, adapting and refinishing such samples before packing. Mr. Ho's affirmation disclosed that the Production Department included 22 sewing machines, 28 cutting tables, 6 irons, 5 knitting machines, 2 buttoning machines and a considerable number of other items of textile manufacturing machinery. The Fabric Department also used a wide range of textile machinery. Exhibit HH-34 included a table of the staff employed in the suit premises. The total staff comprised 233 persons. The number employed in manual labour was well in excess of 20 persons.

26. However, the nature of this Ordinance necessarily included a wide definition of "industrial undertaking" and "factory" otherwise the enforcement and supervisory power of the Commissioner of Labour could have been thwarted. I was also referred to the similar definition of "industrial building" in the Building (Refuse Storage Chambers and Chutes) Regulations, Cap.123 although it is extended to include godowns. But it also falls to be construed in the light of those particular Regulations. Similarly, cases such as Lerose Ltd. v. Hawick Jersey International Ltd. (1974) RPC 42 and B and B Viennese Fashions v. Losane (1952) 1 All ER 909 are at most of background interest.

27. I was also referred to Commissioner of Inland Revenue v. Lambhill (1950) 31 TC 393 which concerned Glasgow structural engineers whose main workshops were within an industrial building. But their drawing office was situated in a separate building. Taxation allowances could be claimed for industrial buildings. The Court of Session (First Division) on appeal, held that the drawing office was in substance an integral part of the industrial premises and devoted to the industrial operations carried on therein. If the plaintiff's samples manufactured elsewhere, had been manufactured by it and not contracted out, this case may have beer of greater relevance. It may also have assisted the plaintiff's if the Crown had attacked the current use of the suit premises separately, floor by floor, but it has expressly elected not to adopt that approach. In the result this Scots case, while interesting, is only of peripheral relevance. The same observation is equally true of J. & F. Stone Lighting & Radio Ltd. v. Haygarth (1966) 3 All ER 539 (HL) and Paul Popper Ltd. v. Grimsey (1963) 1 QB 44 as the plaintiff itself recognised.

28. Counsel for the Crown submitted that it was necessary to look at the activities carried on in the whole of the suit premises and then to ascertain the primary use of the premises, in the light of the provisions of the Crown Lease. On that approach, it was submitted, the primary use of the suit premises was not industrial but commercial. It was conceded that minor parts of the premises may be used for industrial purposes but it was submitted that the user covenant would only be complied with, if the primary user was industrial.

29. I was invited to apply a similar approach in determining user by analogy with that which is followed under the Landlord and Tenant (Consolidation) Ordinance, Cap.7, and I was referred to Shirlien Light v. Wan Bing-wong (1971) HKLR 145 a primary user judgment under that Ordinance. Like the English authorities cited by the plaintiff, that judgment very much depends on the relevant landlord and tenant legislation. The Ordinance principally classifies premises into domestic premises and business premises. Section 51(3) lists matters which may be taken into account in so classifying premises for the purposes of Part II and Part IV of the Ordinance.

30. However, care must be exercised in not pushing that analogy too far. That broad classification is usually important in determining whether tenants enjoy statutory protection in the case of domestic premises or whether, as business tenants, they generally are unprotected. The fact that in Hong Kong many tenants live and use as their home, premises which are in part used for business purposes, has resulted in the question of primary user frequently coming before the Courts. Where there is mixed domestic and business use, Hong Kong courts, unless the use is clearly business, have consistently tended to find a domestic primary use. The Court of Appeal's judgment in Chan Kwok Kwan v. Chan Cheong Wai (1980) HKLR 450 is not only an example of this trend but contains probably the most detailed examination of the application of the statutory primary user criteria. These primary user cases are very much affected by the protected tenant provisions of the Ordinance.

31. The English Court of Appeal's decision in Post Office v. Oxford City Council (1978) 78 LCR 425 was also relied on by the Crown. In that case garage premises, although registered as a factory under the Factories Act 1961, were held to be commercial premises for the purposes of the General Rate Act 1967. Under subsidiary rating regulations hereditaments were entitled to certain rating exemptions if they were used "wholly or mainly for industrial purposes". The Court of Appeal's judgment is a useful warning against the dangers of assuming the universality of definitions, enacted only for the purposes of a particular Act. In that case premises were in effect industrial under the former Act but were not industrial under the latter Act.

32. The Crown also referred me to and both Counsel spent a considerable amount of time analysing, the interesting English Court of Appeal judgment in Crowe (Valuation Officer) v. Lloyd's British Testing Co. Ltd. (1960) 1 All ER 411,a rating appeal from the Lands Tribunal. The ratepayer tested anchors and cables under authority which required that the testing company should be wholly independent of the manufacturer. The testing Company's premises were registered as a factory under the Factory Acts. The Court of Appeal had to consider whether premises registered as a factory were for the purpose of rating relief legislation, either an industrial or non-industrial building.

33. Under the Rating and Valuation (Apportionment) Act 1928 the House of Lords, when considering the same premises, had much earlier held that they were used for non-industrial purposes - Grove v. Lloyd's British Testing Co. Ltd. (1931) AC 450. As a result of a 1955 Amendment to the Rating and Valuation Act 1925, the ratepayer again attempted to have the premises reclassified. The Court of Appeal, by a majority, held that the premises were non-industrial. The Court of Appeal reached that conclusion as a result of construing the relevant rating legislation as a whole, to avoid absurdity and because, on the facts, the limited testing function did not amount to manufacturing and therefore was not an industrial purpose.

34. Disputes over user are more readily resolved where the actual use is factually reasonable clear and the issues are unaffected by complex statutory provisions. The divided judgments of the Court of Appeal in Crowe v. Lloyd's British Testing Co.Ltd. are an example of a case falling factually in that grey area where the process carried on in the premises included elements of both industrial and non-industrial use, made even more difficult by the complex relevant legislation.

35. Fortunately, the present proceedings are considerably simplified as the Court is not concerned with applying complicated statutory provisions to unclear facts. I merely have to construe a user covenant in relation to undisputed primary facts. In approaching that construction task it is, of course, necessary to look not merely at the user covenant but at the whole of the lease. In this respect the Crown in particular submitted that in construing the user covenant, it was helpful to refer to the building covenant. The building covenant, in its customary negative phraseology, prohibited the lessee from erecting or allowing buildings to be erected on the demised premises:

"... other than a factory or factories or a godown or godown or both together with ancillary offices and such canteen and other welfare facilities (but excluding residential quarters) for workmen employed on the demised premises ..."

36. Counsel for the plaintiff's submitted, that the building covenant did not assist in construing the user covenant. In his submission once the buildings were erected the building covenant was spent. Further, the buildings might be used for industrial purposes in compliance with the user covenant, which might not necessarily constitute a factory. In my view, the building covenant is not spent when the buildings are erected for it continues to operate in relation to any buildings erected during the duration of the Crown lease. I am also satisfied that the industrial purposes referred to in the user covenant, would necessarily be carried out within or about a factory or factories, built in accordance with the building covenant.

37. I hold that industrial purposes under the user covenant involve a manufacturing process. The various statutes and many cases cited, are not decisive of what constitutes an industrial purpose for the purpose of the Crown lease. In particular, the emphases in some of the legislation on 20 or more persons being employed in manual labour, is not a paramount factor. That type of legislation, is mainly concerned with achieving reasonable minimum safety and related standards in factories without affecting the operation of smaller family or cottage type industries. With increasing automation in industry, the early emphasis on the number of persons engaged in manual labour, is even less relevant when it comes to construe a user covenant.

38. On the facts I find that all the prototypes and some of the samples are wholly manufactured on the suit premises involving substantial quantities of material. I further find that the design and production of patterns is part of a manufacturing process. All these processes involve the use of material, machinery and labour to create patterns and samples. These important elements of the plaintiff's business carried on at the suit premises, clearly fall within the meaning of industrial purposes as used in the covenant.

39. However, I accept that the primary user of the premises, must be for industrial purposes, before compliance with the user covenant can be achieved. I accept that if the research and development work carried out at the premises is considered in isolation, some parts of that work could equally well be carried out in non-industrial premises such as commercial offices. But I am satisfied that it an entirely wrong approach to consider those or any elements of the plaintiff's overall activities in isolation. All of the plaintiff's activities within the suit premises must be considered as a whole. Where it is technically possible to break down those activities into separate elements, it is still their cumulative effect and not their individual characteristics, which is more important.

40. When this broader approach is adopted, it is clear that the research, design and testing functions are merely successive stages in one continuous industrial process, resulting in the creation of manufactured garments, which are finally packed and exported overseas from the suit premises. The fact that a majority of the samples are manufactured elsewhere does not, on the instant facts, materially alter the nature of the plaintiff's business carried out in the suit premises. Parenthetically, it might be observed, that this is a very different factual situation to that which divided the Court of Appeal in Crowe v. Lloyd's British Testing Co. Ltd. (supra). In that case the only operation carried out at the ratepayer's premises was post-manufacturing testing, in circumstances where all the articles had been earlier wholly manufactured elsewhere, by a different company. The testing operations were, compared to the manufacturing, a distinct subsequent activity carried out by a third party at other premises.

41. In the present case, the major part of the research, design and testing elements of the plaintiff's operations, are carried out before manufacture of the articles. They are carried out to make it possible to manufacture those articles, some of which are manufactured on the premises and all of which are packaged on and exported from the premises. The final quality control checking, carried out on the suit premises, relates to all the articles, whether manufactured on the premises or elsewhere. But even this subsequent checking is not a post-manufacturing testing operation, carried out by a different company. It is merely a final stage of the manufacturing process carried out by the plaintiff. In view of the large number of articles and their destinations, the fact that they are all prototype samples and samples, does not detract from the manufacturing nature of the process.

42. When I review the whole of the evidence, in the light of the facts already referred to and the findings made, I am satisfied that the primary use of the major Production, Fabrics and Technicians Departments, is industrial. The remaining Departments are necessarily and reasonably incidental to the activities carried out in those 3 major departments. Having made these detailed findings, it is helpful to stand back and take an overall global look at the plaintiff's actual activities, within the whole of the suit premises. After doing so, I am reinforced in the view that the suit premises are used for industrial purposes, in terms of and in compliance with the Crown lease.

43. Turning to the declarations, Counsel for the plaintiff indicated that the alternative second declaration comprised the major relief sought. In view of my conclusion as to user, I would have been prepared to grant either declaration. In the circumstances I will grant the requested second declaration. Accordingly I hold that the use by the plaintiff of the suit premises is and has been for the purposes falling within the provisions of the Deed of Variation of 12th May 1983 relating to the suit premises.

44. The single declaration granted, may well dispose of the other matters raised under the remaining declarations sought in the originating summons. However liberty is reserved in case further orders are sought, in relation to those other declarations. I will also hear the parties, if necessary, on costs and any other consequential matters. I record that the 2nd defendant, as the current Crown lessee, was represented throughout the hearing but made no submissions or took any other part in the dispute between the plaintiff and the 1st defendant.