ADC Buildings Pty Limited v Barana Properties

BBC Hardware Pty Ltd v Payce Properties Pty Ltd (2000) 50 NSWLR 66 Ferris v Plaister (1994) 34 NSWLR 474 Gollan v Randwick Municipal Council [1961] AC 82 G R Mailman and Associates Pty Ltd v Wormald (Aust) Pty Ltd (1991) 24 NSWLR 80 Kelmea Pty Ltd v State Railway Authority (unreported, NSWSC, 10 December 1986) McCann v Switzerland Insurance Australia Ltd (2000) 203 CLR 579 Pye v Valuer-General [1973] 2 NSWLR 385 CASES CITED: Ritchie v Valuer-General (1961) 21 LGRA 296 Royal Sydney Golf Club v Federal Commissioner of Taxation (1955) 91 CLR 610 Skips A/S Nordheim v Syrian Petroleum Co Ltd [1984] 1 QB 599 Sonnerdale v Valuer-General (1953) 19 LGR (NSW) 211 Sydney City Council v Valuer-General (1956) 1 LGRA 229 United Scientific Holdings Ltd v Burnley Borough Council [1978] AC 904 Wunderlich Ltd v Valuer-General (1959) 5 LGRA 50

ADC Buildings Pty Limited (Appellant) PARTIES: Barana Properties (No 1) Pty Limited (Respondent)

N C Hutley SC/D R Stack (Appellant) COUNSEL: S D Robb SC/R Scruby (Respondent)

Deacons (Appellant) SOLICITORS: Kemp Strang (Respondent)

LOWER COURT JURISDICTION: Supreme Court - Equity Division

IN THE SUPREME COURT OF NEW SOUTH WALES COURT OF APPEAL CA 40832/04 ED 3454/04

MASON P IPP JA BRYSON JA

Tuesday 12 July 2005 ADC BUILDINGS PTY LTD v BARANA PROPERTIES (NO 1) PTY LTD

Judgment 1 MASON P: I agree with Ipp JA. 2 IPP JA:

The rent review issue 3 This appeal concerns the construction of a rent review clause in an agreement of lease ("the Lease"). 4 The Lease was entered into in 1973 between the Maritime Services Board of New South Wales and the appellant ("ADC"). In terms thereof ADC was granted a leasehold estate in the property known as 189 Kent Street Sydney ("the Property"). The term of the Lease runs from 23 November 1972 to 31 May 2062; it is, therefore, for a period of more than 90 years. Prior to the Lease, a large office building had been erected on the Property and that building has remained on the Property until now. 5 Prior to 1996 the Marine Ministerial Corporation acquired the Property from the Maritime Services Board. After 1996 the Property was sold to the respondent ("Barana"). 6 The Lease in its original form contained a rent review clause (the "original rent review clause") that provided for five yearly rent reviews and was in the following terms: "… TO BE HELD by the Lessee as tenant for the term … at a rental of … ($26,608) per annum for the period commencing on [23 November 1972] and expiring on [31 May 1973] and thereafter for each succeeding period of five years at the yearly rental for the preceding five years increased by eight per cent of the amount of increase (if any) in the unimproved capital value of the land since the commencement of each such preceding period of five years all such rents to be paid by equal monthly instalments in advance to the Board at its head office in Sydney on or before the first day of each and every month during the said term PROVIDED that such unimproved capital value as at [31 November 1972] shall be taken as ($360,000) and thereafter shall be valued by the Valuer General in accordance with the Valuation of Land Act 1916 and any amendment thereof …" 7 On 16 December 1996 the Lease was varied by a document entitled "Variation of Lease". The Variation of Lease replaced the original rent review clause with a new and different rent review clause (the "new rent review clause"). The new rent review clause required rent reviews to be held every five years as from 1 June 1998 and provided: "D. From (and including) each Review Date the annual rent payable shall be the sum which is eight per cent (8%) of the Value of the Land as at that Review Date." 8 Clause C of the Variation of Lease provided the following definitions relevant to the new rent review clause: '''Value of the Land' means the capital sum which the fee simple of the land hereby leased might be expected to realise if offered for sale on such reasonable terms and conditions as a bona-fide seller would require assuming that the improvements, if any, thereon or appertaining thereto, other than Land Improvements, had not been made. Despite anything in the preceding sentence, in determining such capital sum it will be assumed that: (a) the said land may be used or may be continued to be used, for any purpose for which it is or was being used, or for which it could be used, at the relevant Review Date; and (b) such improvements may be continued or made on the land as may be required in order to enable the land to continue to be so used but nothing in this clause prevents regard being had, in determining such capital sum, to any other purpose for which the land may be used on the assumption that such improvements, if any, other than Land Improvements had not been made; … 'Land Improvements' means: (a) the clearing of land by the removal or thinning out of timber, scrub or other vegetable growths; (b) the picking up and removal of stone; (c) the improvement of soil fertility or the structure of soil; (d) the restoration or improvement of land surface by excavation, filling, grading or levelling, not being works of irrigation or conservation; (e) the reclamation of land by draining or filling together with any retaining walls or other works appurtenant to the reclamation; and (f) underground drains; …" 9 On 1 June 2003 a rent review was carried out to determine the new rent as from that date. A valuer, Mr Gothard, was appointed for this purpose and brought in a valuation of $25,000.000 as the "Value of the Land". He applied the following methodology in valuing the Property: · "The property which I am to value is the [fee] simple of the land. This means that, in assessing the value I am to assume that the Lease from which this task derives does not exist. · I am to assume that the improvements which occupy the land do not exist however, I am still required to recognise any Land Improvements. The excavation on the land is considered to be a Land Improvement and therefore should be included in the value. · The value is to reflect the highest and best use of the land. I should state that I believe I am required to adopt a reasonable approach to the highest and best use based on the planning and development controls at the valuation date. · Whilst considering the value based on the highest and best use I am also required to have regard to the value of the land for its existing use. In this valuation exercise I am to assume that the land may continue to be used for a building which is identical in type, use, size and style to that which is presently erected thereon." 10 ADC contended that the rent review miscarried on the ground that Mr Gothard's valuation of the land was not conducted in accordance with the Lease. ADC brought proceedings seeking a declaration to that effect. 11 Before Palmer J ADC submitted that Mr Gothard's valuation failed to apply the valuation methodology prescribed by the definition of "Value of the Land" in cl C of the Variation of Lease. The basic proposition advanced by ADC was that Mr Gothard was wrong to assess the value of the land on the assumption that the Lease did not exist. ADC contended: "In the case of property which is subject to the Real Property Act 1900 (NSW), the unambiguous meaning of the words 'fee simple of the land' is the interest of the registered proprietor in that property, subject to all encumbrances recorded on the title to that property, such as easements, covenants, mortgages and leases. Accordingly, and in the context of the Lease and the Variation, Mr Gothard, in determining the 'Value of the Land', was required to determine the interest held by Barana in the Property, subject to all recorded encumbrances which relevantly included the Lease." 12 Palmer J rejected ADC's submissions. His Honour pointed out that the definition of "the Value of the Land" in the Lease was, subject to insignificant differences, the same as the definition of "value of land" in s 6A of the Valuation of Land Act 1916 (NSW) and (prior to the amendment of the Act by the introduction of s 6A) its predecessor (the former s 6). His Honour considered that the parties, by adopting a definition of value of the land that was taken from and so similar to s 6A and s 6, intended that the Lease definition was to be given the same settled interpretation as had been given by the courts to these sections. His Honour referred to a body of authority that, he said, supported this approach, including McCann v Switzerland Insurance Australia Ltd (2000) 203 CLR 579 at 601 and Ferris v Plaister (1994) 34 NSWLR 474. 13 His Honour then proceeded, after referring to Royal Sydney Golf Club v Federal Commissioner of Taxation (1955) 91 CLR 610, Sydney City Council v Valuer-General (1956) 1 LGRA 229 and Gollan v Randwick Municipal Council [1961] AC 82, to conclude: "[I]n accordance with the construction which the Courts have placed on the words of s 6(1) [of the Valuation of Land Act ], the words 'fee simple' in the lease definition of "Value of the Land" should be construed as requiring the Lease itself, and any restrictions on use created thereby, to be excluded from consideration in the valuation exercise, as Mr Gothard did." 14 His Honour further considered that the construction the courts have placed upon s 6A and s 6 of the Valuation of Land Act "requires that for all relevant purposes of valuation the restrictions on use imposed by the Lease are to be ignored". His Honour referred to Sonnerdale v Valuer- General (1953) 19 LGR (NSW) 211, Wunderlich Ltd v Valuer-General (1959) 5 LGRA 50, Ritchie v Valuer-General (1961) 21 LGRA 296, Pye v Valuer-General [1973] 2 NSWLR 385 and other cases, and said: "In accordance with these decisions, it is clear … that the purpose and effect of the second sentence of the Lease definition of 'Value of the Land' is not to introduce into the valuation process the restrictions on use contained in the Lease. Rather, its purpose and effect is to provide for a situation where a lawful existing use of the Property is a non-conforming use under current planning legislation. In the circumstances of the present case, that consideration was irrelevant in the valuation exercise." 15 On these grounds, his Honour concluded that the valuation conducted by Mr Gothard was in accordance with the Lease definition of "Value of the Land". 16 The principal grounds of appeal relied on by ADC are:

(a) His Honour erred in holding that the words "Value of the Land", as used in the new rent review clause, are to be given the same construction as the Courts have placed on the words of s 6A (and the earlier s 6) of the Valuation of Land Act ;

(b) His Honour erred in holding that the words "fee simple", as used in the new rent review clause, are to be construed as meaning the title to the property, unencumbered by all mortgages, leases or other restrictive covenants;

(c) His Honour erred in holding that, in determining the value of the land pursuant to the new rent review clause, the valuer was required to ignore the restrictions on use imposed by the Lease;

(e) His Honour should have held that, in determining the "Value of the Land", pursuant to the new rent review clause, a valuer was required to assume that the Property could only be used for a purpose permitted by the Lease.

The competing interests of the parties 17 Clause 16 of the Lease was in the following terms: "That the said demised premises shall be used by the Lessee solely:- (a) for the Lessee's own offices and vehicle parking; and/or (b) for letting (subject to the provisions of Clause 15 hereof) as offices, showrooms, car park and similar commercial activities or for such other purposes as the [lessor] may from time to time approve."

Clause 15 is not presently relevant. 18 Mr Gothard based his valuation on potential residential use, despite the fact that, under the Lease, ADC was not entitled to use the land for residential purposes (Barana not having given its approval to such use). 19 ADC submitted that there was an essential "unfairness" that would result if it were required to pay rent based on the market value of the unencumbered land taking into account the notional highest and best use of the land (and not limiting the use to that permitted to the lessee under the Lease). ADC submitted that this would be the case were Mr Gothard's methodology to be upheld. 20 ADC's submission looks at the issue solely from its point of view as a tenant. When regard is had to the situation from Barana's viewpoint, there could be said to be an unfairness in construing the clause on the basis that the lessor commits its land to the possession of the lessee for many years without being able to take advantage of the possible increases over time in its market value. The not unlikely result of ADC's construction would be that, over time, it would be able to enjoy possession of the Property at a rent significantly below its market value. 21 In United Scientific Holdings Ltd v Burnley Borough Council [1978] AC 904 (cited by Gleeson CJ in GR Mailman and Associates Pty Ltd v Wormald (Aust) Pty Ltd (1991) 24 NSWLR 80 at 86) Lord Salmon said (at 948): "[A rent review clause] is for the benefit of the tenant because without such a clause he would never get the long lease which he requires; and under modern conditions, it would be grossly unfair that he should. It is for the benefit of the landlord because it ensures that for the duration of the lease he will receive a fair rent instead of a rent far below the market value of the property which he demises. Accordingly the landlord and the tenant by agreement in their lease provide that at stated intervals during the term, the rent should be brought up to what is then the fair market rent. The revision clause itself lays down the administrative procedure or machinery by which the fair market rent shall be ascertained." 22 I accept that fairness, to the extent described by Lord Salmon, would ordinarily be the general purpose underlying a rent review clause. Nevertheless, the competing interests of ADC and Barana, as lessor and lessee, as to whether or not the land is to be valued without regard to encumbrances or restrictions on use, are irreconcilable. It is difficult - if not impossible - to attempt to resolve their opposing submissions on this issue by reference to fairness. The focus must be, rather on the actual meaning of the words used in their particular context. 23 As Giles JA in BBC Hardware Pty Ltd v Payce Properties Pty Ltd (2000) 50 NSWLR 66 at 72 noted, the normal commercial purpose of rent review provisions in long term leases is: "to keep the rent in line with current property values. Changes in the locality, in the planning instruments relevant to the land, and in the economically advantageous use of the land could be expected. No doubt the lessee would want to be protected from paying a greatly increased rent while still restricted in the use of the land. But the lessor would not want to be left with an inadequate return from land of greatly increased value. Their bargain must be found in the words they used." 24 I would add that it is not possible to make a reliable assessment of whether it is unfair to ignore the Lease when valuing the land. 25 Much depends on market trends and values over the full term of the Lease in the particular area where the Property is situated. These are matters which are not capable of being known. 26 In terms of the new rent review clause, the market value must be assessed "assuming that the improvements, if any, thereon or appertaining thereto, other than the land improvements had not been made". This means that the land must be valued on the assumption that the building on it is to be ignored. Accordingly, when the value of the land is assessed, Barana loses the benefit of the value of the building. Moreover, if the land is to be valued in accordance with its present use (as a property used to let office space to tenants), the valuer must take into account the cost to a developer of constructing a building (which, in reality, exists on the land and which the notional buyer would acquire with the Property). These factors further complicate the issue of unfairness.

The history of the rent review clause 27 Under the original rent review clause, the rent was to increase each five-year period "by 8% of the amount of the increase (if any) in the unimproved capital value of the land". The proviso in the clause required the unimproved capital value to be taken, as at 31 November 1972, at $360,000 and, thereafter, to be valued by the Valuer General in accordance with the Valuation of Land Act and any amendment thereof. 28 The reference in the original rent review clause to "unimproved capital value of the land" meant that the value of the land was to be assessed without reference to existence of the Lease (and ADC did not dispute this). 29 Counsel for both parties suggested that the reason for the Variation of Lease being entered into, and the new rent review clause being agreed, was the decision by Bryson J in Kelmea Pty Ltd v State Railway Authority (unreported, NSWSC, 10 December 1986) in which his Honour held that, by 1 June 1985, the Valuer General was not empowered to determine the unimproved value of land pursuant to the Valuation of Land Act. 30 On 4 November 1988 the Valuer General wrote to ADC concerning a request by it for "unimproved capital values" as at 1 May 1988. He referred to Kelmea Pty Ltd and stated that, barring legislative change, "the Department is not able to accede to your request to provide unimproved capital values". The parties, therefore, needed to agree upon a new formula for determining rent for the five-year periods provided for by the Lease. On 16 December 1996 the Variation of Lease was executed. 31 It is not irrelevant that, originally, when the Lease was arrived at, the parties thereto were content to fix the rent (albeit by a different formula to that used in the new rent review clause) by reference to the unencumbered fee simple of the land. ADC's original agreement to the use of the value of the unencumbered fee simple as an element in determining the rental is inconsistent with its argument that utilising such a value would be patently unfair. 32 The question arises whether, after the term of the Lease had run for 24 years, and some 66 years still remained, the parties - by the new rent review clause - revealed a common intention to alter fundamentally the basis for determining the rent.

The ordinary meaning of the language of the new rent review clause 33 There are, in particular, two features of the new rent review clause that support the view that, on its ordinary meaning, regard is not to be had to the Lease in undertaking a valuation of the land. 34 The first such feature is the natural and ordinary meaning of the term "fee simple". 35 ADC submitted that the words "fee simple" as they appear in the new rent review clause "must mean the actual title of the Property subject to all encumbrances, including the Lease". But the term "fee simple", by its natural and ordinary meaning, is an unencumbered fee simple. As it was put by the High Court in Royal Sydney Golf Club v Federal Commissioner of Taxation (1955) 91 CLR 610 (at 623): "The expression 'the fee simple of the land' naturally means the fee simple as the highest estate unencumbered and subject to no conditions."

In context the meaning of the term may alter, but its natural meaning must be the starting point. 36 ADC pointed out that the phrase "fee simple" in the rent review clause is not qualified by the word "unencumbered". But, according to the natural meaning of the term, the word "unencumbered" would be tautologous. 37 The second feature that supports the construction that regard should not be had to the Lease in undertaking a valuation of the land is the fact that, in terms of the new rent review clause, the land must be valued on the assumption that the building presently on the land does not exist. 38 The words which follow the phrase "despite anything" in the second sentence of the rent review clause do not bring back the building for the purposes of valuation. The "despite anything" provisions merely allow the valuer to take into account a broad range of potential uses (when determining what the land might be expected to realise if offered for sale to a bona fide purchaser) and the making of improvements required to enable the land to continue to be used as it was used at the relevant review date. 39 ADC's argument is that for the purposes of determining the market value of the land, the interest created by the Lease must be deducted from "the actual title of the property". That is to say, what remains must be valued. In such a valuation exercise, some regard would have to be had to the value of the Lease. That, in turn, would mean taking account of building (as the building is crucial to the value of the Lease). But, taking account of the building would be difficult to reconcile with the requirement in the rent review clause to value the land as if it were unimproved. 40 The requirement that the land should be valued as unimproved land suggests that the parties intended to make allowance for the likelihood that the value of unimproved land could well improve in the future in ways which could not be foreseen. This, in turn, leads to the inference that the parties intended that the lessor should not be prejudiced by committing the land for use with the building on it let to and occupied by tenants for many years.

The "use" provisions of the lease 41 ADC submitted that, on a proper construction of the new rent review clause, the value of the land is to be determined by the range of uses permitted, as at each review date, by Barana under the Lease. ADC submitted that, under cl 16 of the Lease, Barana was entitled, from time to time, to approve of the use of the property for purposes other than for letting as "offices, showrooms, carpark and similar commercial activities". ADC argued that even if it did not seek to use the property for a particular use different to letting as offices, showrooms, etc, Barana could still, of its own accord, approve a different use. Should Barana do so, the land could be valued, for the purposes of the new rent review clause, by reference to such a different use. If Barana did not approve another use, the Property had to be valued by reference to the use in fact being undertaken under the Lease by ADC. 42 The following part of the definition of "Value of the Land" (which I shall repeat for the sake of convenience) is against ADC's construction: "Despite anything in the preceding sentence, in determining such capital sum it will be assumed that: (a) the said land may be used or may be continued to be used, for any purpose for which it is or was being used, or for which it could be used, at the relevant Review Date; and (b) such improvements may be continued or made on the land as may be required in order to enable the land to continue to be so used but nothing in this clause prevents regard being had, in determining such capital sum, to any other purpose for which the land may be used on the assumption that such improvements, if any, other than Land Improvements had not been made." 43 The new rent review clause thus provides that, in determining the value of the land, it is to be assumed that the land may be used, or may continue to be used, for any purpose for which it could be used at the relevant review date, but nothing in the clause prevents regard being had to any other purpose for which the land might be used on the assumption that the building had not been constructed. Thus, the valuer can take into account any potential legitimate use of the land (that is, legitimate under the town planning legislation applicable). The breadth of these provisions is materially inconsistent with the construction advanced by ADC. 44 I would add that ADC's argument as to use involves adding another complicating factor to the construction advanced by it. Its argument as to use means that, in valuing the land, the interest created by the Lease is to be deducted from the fee simple and the building is to be ignored, but regard must still be had to at least part of the Lease for the purpose of determining the notional use. These contortions militate against the construction advanced. 45 As I have mentioned, Palmer J attached considerable importance to the fact that the new rent review clause was largely derived from s 6A of the Valuation of Land Act. Section 6A provides: "Land value (1) The land value of land is the capital sum which the fee-simple of the land might be expected to realise if offered for sale on such reasonable terms and conditions as a bona-fide seller would require, assuming that the improvements, if any, thereon or appertaining thereto, other than land improvements, and made or acquired by the owner or the owner's predecessor in title had not been made. (2) Notwithstanding anything in subsection (1), in determining the land value of any land it shall be assumed that: (a) the land may be used, or may continue to be used, for any purpose for which it was being used, or for which it could be used, at the date to which the valuation relates, and (b) such improvements may be continued or made on the land as may be required in order to enable the land to continue to be so used, but nothing in this subsection prevents regard being had, in determining that value, to any other purpose for which the land may be used on the assumption that the improvements, if any, other than land improvements, referred to in subsection (1) had not been made. (3) Notwithstanding anything in subsection (1), in determining the land value of any land, being land in relation to which, at the date to which the valuation relates, there was a water right: (a) the land value shall include the value of the right, and (b) it shall be assumed that the right shall continue to apply in relation to the land." 46 The differences between the new rent review clause and s 6A are as follows:

(a) The words "hereby leased" have been inserted after the words "the fee simple of the Land".

(b) The words "despite anything" in the new rent review clause have replaced the words "[n]otwithstanding anything" in s 6A(2).

(c) The phrase "in determining the land value of any land" in s 6A(2) has become "in determining such capital sum" in the new rent review clause.

(d) The phrase in s 6A(2)(a) "for any purpose for which it was being used" has become "for any purpose for which it is or was being used" in the new rent review clause.

(e) The phrase in s 6A(2) "that value" in the words that follow "but nothing in this sub-section" has become "such capital sum" in the new rent review clause. 47 In my view, these differences are not significant. They appear to be the result of an attempt by the parties to adapt the wording of s 6A for use in the Lease. 48 In my view, this obvious utilisation of the wording of s 6A in the Lease cannot be ignored. The inference is that an adapted wording of s 6A was adopted because the section had a settled meaning and the parties wished to incorporate that meaning in the Lease. 49 The settled meaning derives from the meaning that the courts have attributed to "fee simple" as this term is used in s 6A (and was used in s 6). Fee simple in this legislation means "free from encumbrances": Royal Sydney Golf Club v Federal Commissioner of Taxation (at 63); Gollan v Randwick Municipal Council (at 100 - 101). 50 ADC rightly pointed out that the meaning of the term fee simple in s 6A is only settled insofar as its meaning in the Valuation of Land Act is concerned and that Act is concerned with land value for the purpose of levying rates or taxes. It rightly submitted that the meaning of the term might alter in a different context and its use in the Lease is a different context. 51 Nevertheless, the very fact that the parties chose to use the words of s 6A, when those words had a settled meaning in their context, is capable of leading to the inference that the parties intended that meaning to be the meaning that the words should bear in the different context of the Lease. Put in another way, to paraphrase Oliver LJ in Skips A/S Nordheim v Syrian Petroleum Co Ltd [1984] 1 QB 599 (at 620 - 621), documents containing familiar expressions which have a well-established meaning among commercial lawyers should be consistently construed and a well-established meaning - particularly as regards something like a rent review clause where clarity and certainty are important to both parties - should not be departed from in the absence of compulsive surrounding circumstances or a context which is strongly suggestive of some other meaning. 52 At the very least, it may be said that the substantial adoption of s 6A in the new rent review clause does not reflect an intention to depart from the natural meaning of "fee simple". 53 For the reasons I have set out, I would not uphold ADC's arguments. In my view, Mr Gothard's methodology was in accordance with the Lease and Palmer J was correct in the view he arrived at. 54 I would dismiss the appeal with costs. 55 BRYSON JA: I agree with Ipp JA **********

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