Victorian Civil and Administrative Tribunal|2014-02-07|Before: Mr P

The Applicant's provision of a Memorandum of Advice from Senior Counsel in respect of s37(2) of the Act. The Valuer quotes a section of the advice where the Senior Counsel opines that s37(2) imports a temporal requirement to the matters that the Valuer can legitimately take into account. Such a temporal limitation excludes consideration of future legislative changes that may result in increased revenue streams to the operators of electronic gaming machines.

The Gaming Services Agreement between the Applicant and Tabcorp;

The profit and loss statements of the Applicant for the financial years 2009, 2010 and 2011.

The Applicant's submission that the Valuer should not take into account the enchanced levels of revenue that may be derived from the electronic gaming machines due to the legislative changes which came into effect after the review date.

No reference is made in the valuation report to the submission provided by the Applicant to the Valuer in a letter from the Applicant's lawyers to the Valuer dated 10 January 2013 that:

The Applicant's 2009, 2010 and 2011 financial statements were provided to the Valuer because the Valuer requested them as a pre-condition to his appointment;

The Valuer should not consider the Applicant's trading figures "because section 37(2)(b) [of the Act] provides that one of the matters to be taken into account is the rent that would be reasonably expected to be paid for premises if they were unoccupied ... If you were to assume that premises were unoccupied, there would be no trading figures to consider"

Section 6 is headed "Rental Determination Methodology". Under the sub-heading "6.1 Pertinent Matters" the Valuer states his view in respect of the Applicant's submission that the Valuer should pay no regard to the legislative changes:

I disagree with this opinion, my basis for this judgement is that these changes as at the date of valuation [the review date] were common knowledge in the gaming industry, indeed the Tenant had committed to purchase 40 gaming entitlements at auction in May 2010 and a 10% deposit had been paid. In my view this opinion is consistent with the definition of market rental which assumes both parties act knowledgably and prudently. Accordingly I have determined a rental which takes into account that there is a period of 197 days from the 1st February 2012 until the introduction of a new gaming structure on 16 August 2012 and the effects of this new structure thereafter until the next market review which is due on 1st February 2017.

In section 6.1 the Valuer states:

I refer to the long established valuation practice within the hotel industry which measures worth on the basis of net operating profit/capital EBIDTAR (earnings before interest, depreciation, taxation, amortisation & rent) whereby private financial arrangements are disregarded as these are not considered direct operating expenses. As a consequence profit and loss statement inclusions such as interest on loans, depreciation, amortisation, leasing charges, hire purchase costs and taxation are excluded from the calculation of EBIDTAR ..."

In my view, the doctrine of EBIDTAR being the basis of value should continue to be observed and that costs and expenses incurred which relate to payments in respect of capital purchases should be disregarded in the assessment of EBIDTAR, this includes the following items:

- Payments relating to the leasing of gaming equipment;

- Payments relating to loans advanced in respect of the new gaming structure.

Under the heading "6.3 Overview" the Valuer states:

Hotel premises are, largely by the nature of their design, specialised improvements. It is my observation over many years that the industry measures value and rental on the basis of trading propensity and operational profitability, assuming good average standard of measurement. In my view, given this market norm, the current market rent for Epping Hotel should be assessed on this same basis.

Therefore a significant component of this rental determination is the assessment of a reasonable trading level for the Epping Hotel.

Under section 6.2 the Valuer notes that he has taken into account measures aimed at reducing problem gambling which the State Government had signalled would likely to come into effect from 1 July 2012.
Under section 6.5 the Valuer briefly notes the proximity of a number of competitor licensed venues and liquour supply outlets.
Under section 6.6 the Valuer produces gaming machine revenue statistics for gaming venues within the general Whittlesea area. The statistics were obtained from the Victorian Commission for Gaming and Licensing Regulation website.
Under the heading "6.7 Adopted Trading" the Valuer states:

I am aware of my obligation in the assessment of trading to assume a good average standard of management. I advise that my assessment of trading has been undertaken on this basis.

In this respect I have reflected on the following information:

- Actual trading information provided for the venue;

- Comments and information provided within the submissions;

- Comments provided by the Tenant during my inspection of the premises;

- My knowledge of trading outcomes of venues which are considered to have some comparability to the Epping Hotel.

Although the Valuer refers to his knowledge of trading outcomes of venues comparable to the Epping Hotel, the report does not identify the comparable venues or provide any information as to the valuer's analysis of the comparable venues or their trading outcomes.
Under section 6.7 the Valuer also states:

In my view it is prudent that a 5 year trading forecast be undertaken to ensure that the full influence of the new gaming structure be incorporated into the assessment of current market rental.

The Valuer then produces in the report a table setting out the adopted trading forecasts for the years 2013 to 2017.

Under section 7, headed "Rental Determination Rationale", the Valuer States, amongst other things:

Traditionally rental for hotel premises has been assessed in the market on the basis of turnover levels and perceived EBIDTAR levels, it being a basic underlying notion that the business's capacity to pay is a major rental consideration. The trading cash flows assessed for the Epping Hotel reflect, in my view, a level of revenue and profitability forecast which are reasonable as at the date of this determination.

I refer to s37(2) of the Retail Leases Act which directs the determining Valuer as follows:"... but the current market rent is not to take into account the value of goodwill created by the Tenant's occupation or the value of the Tenant's fixtures and fittings." It is usual industry practice that the fixtures and fittings used in the operation of the business be held in the ownership of the Tenant and it is the Tenant's responsibility to adequately maintain or if necessary replace such items.

It is also the market norm whereby the negotiation of a new lease agreement would also comprise the Tenant's purchasing the Fixtures & Fittings plus the negotiation of a Rental ...

It is pertinent to note that the future application by the Tenant of its owned Fixtures & Fittings is included in the rental assessment process, the market based rental ratios take this ownership into account so as to avoid double dipping ...

Unlike typical retail premises, hotels are looked upon as a specific asset class. In this respect, I am satisfied that market rental evidence supports the rental ratios indicated earlier in respect of the pre 16th August 2012 period, and, it is the specific characteristics of the Epping Hotel which must be addressed herein. I have done so in the trading adopted.

In the post 16th August 2012 period I restate my view that the rental ratios need to be adjusted to take account of the way that gaming will be operated in hotel venues.

I have determined to assess the current market rental for the Epping Hotel via the application of a 38.0% rental ratio to the EBIDTAR assessed for the trading period 1st February 2012 to 15th August 2012 and a 34.0% rental ratio to the EBIDTAR assessed for the period post 16th August 2012. My calculations which take into account the annual rental increases are detailed as follows...

[the report than sets out a table showing assessed rental for the years 2013 to 2017].

In section 8 the Valuer confirms the rent determination.

In my view, it is very clear from the statements in the valuation report that the rent determination is founded on the Applicant's own trading figures, and that the Valuer has taken into account the value of the Applicant's fixtures and fittings. This is borne out in particular by the Valuer's statement in the valuation report, referred to above, that "It is pertinent to note that the future application by the Tenant of its owned Fixtures & Fittings is included in the rental assessment process...". Section 37(2) of the Act mandates that the Valuer not take into account the value of the Applicant's fixtures and fittings.
The Respondent submits that the methodology employed by the Valuer is consistent with the evident purpose of the Act to strike a fair balance between the interests of the Landlord and the Tenant and to secure a fair and reasonable estimate of the rent that would be paid if the premises were let on the open market. The Respondent says that it is reasonable that the Valuer consider the profits which a willing lessee would make in the future assuming average competent management of the same business by a hypothetical willing lessee. The Respondent says that this "profits method" of determining market rent - where the Valuer takes account of the profits generated by the sitting tenant - is common in the hotel industry and not prohibited by s37(2) of the Act.
However reasonable the Valuer's methodology may seem, and whether or not it is a method that has in the past been commonly adopted by valuers in the hotel industry, I do not accept that s37(2) of the Act allows the methodology employed by the Valuer. I am satisfied that the Valuer has, contrary to the requirement in s37(2) of the Act, taken into account the value of the Applicant's fixtures and fittings, and in so doing the Valuer has fundamentally misconstrued his task. As such, I find that the parties are not bound by the rent determination.

For the reason set out above, I am satisfied that the parties should not be bound by the rent determination. For completeness, I briefly address other issues and submissions.

It is clear that the Valuer has assumed that a hypothetical willing tenant will acquire the Applicant's business, inclusive of the fixtures and fittings and gaming machines and gaming entitlements. While that may not be an ureasonable assumption, the Applicant submits that the assumption, taken into account by the Valuer in reaching the rent determination, is offensive to the requirement in s37(2)(b) of the Act that the Valuer must have regard to the rent that would be reasonably expected to be paid if they [the premises] were unoccupied. The submission has merit.
The plain meaning of unoccupied premises is that the premises are not occupied by the Applicant, or any other tenant. As the Applicant owns the fixtures and fittings and leases the gaming machines the use of which is dependent on the gaming entitlements held by the Applicant, it follows that the premises unoccupied will not include the Applicant's fixtures and fittings or the gaming machines.

The Respondent referred me to a number of English authorities which raise a "presumption of reality" when interpreting rent review covenants. The presumption is that, absent of any express direction to the contrary, the tenant is to pay for what he actually has at the review date. In this case, what the tenant "has" is leased premises from which the tenant runs the business known as the Epping Hotel.
I was not referred to, and I am not aware of, any Victorian authority on the so called "presumption of reality". Should any presumption exist, s37(2) of the Act would, in any event, constitute an express contrary direction incorporated into the terms of the lease. In my view there is no "presumption" which operates to displace or override s37(2) of the Act.

The Applicant says that, as the lease is silent on the matters the Valuer may consider in determining the current market rent, the Valuer is bound by the matters set out in s37(2) of the Act, to the exclusion of any other matters.
In my view, the criteria set out in s37(2) is, by the terms of s37(2) (b), not an exhaustive, prescriptive list of matters which may be considered.
By sub-section 37(2)(b), the Valuer must have regard to the rent that would reasonably be expected to be paid for the premises if they were unoccupied and offered for lease for the same or a substantially similar use. Save that the Valuer must:
- - consider the rent that might be paid for the premises unoccupied and offered for lease for the same or similar use; and
- - not take into account the value of the goodwill created by the sitting tenant's occupation or the value of the sitting tenant's fittings and fixtures,

section 37(2)(b) does not, in my view, set a boundary on matters that the Valuer may consider.

The Valuer took into account the impact of the legislative change to the gaming industry which came into effect on 16 August 2012, some 6 months after the review date. As noted in the valuation report, the Valuer considered that the forecast legislative change was common knowledge in the gaming industry as at the review date and, in determining obtainable market rent, he should act on the assumption that parties [such as a willing new lessee] would act knowledgeably and prudently.
The Valuer also took into account forecast measures by the State Government to reduce problem gambling.
The Applicant submits that, because the Valuer's task was to determine the current market rent obtainable as at the review date, he was not entitled to take into account future events which may or may not occur. I do not accept the submission.
One can think of many hypothetical examples where knowledge of a likely or possible future event will undoubtedly have a bearing on the rent obtainable in the open market between a willing Landlord and a willing Tenant. That the forecast future event may or may not occur is beside the point. What is relevant is the effect that market knowledge of a possible future event, as assessed by a valuer, may have on the rent obtainable in an open market. In my view, section 37(2) does not prohibit the consideration of possible future events.
However, in my view that does not mean that, in reaching the rent determination, the Valuer was permitted to calculate the effect, in dollar terms, that the legislative change had, and would have in the future, on the Applicant's trading figures. As set out above, I have found that the Valuer erred in founding the rent determination on the Applicant's trading figures which necessarily included the value of the Applicant's fixtures and fittings. The Valuer's calculation as to the effect of the legislative change on those trading figures is, in my view, a component of the same error.

Pursuant to s37(2)(d), the Valuer must have regard to any rent concessions and other benefits offered to prospective Tenants of unoccupied retail premises.
The Applicant submits that, as there is no reference to this matter in the valuation report, it may be surmised from the approach taken in the valuation report - a valuation founded on the Applicant's trading figures - that the Valuer wholly ignored this ground.
Having regard to s 32(6)(c) of the Act, which provides that the valuation must ...(c) specify the matters to which the valuer had regard in making the determination, the submission has merit.
During the hearing the Respondent sought to tender a letter from the Valuer dated 18 October 2013 addressed to the Applicant and the Respondent. Save for introductory matters, the letter states as follows:

I refer to correspondence dated Wednesday, 16 October 2013 from Wisewould Mahony Lawyers who act on behalf of the landlord of the Epping Hotel which in part states:

We are instructed to request that you provide a supplementary report providing further details of your consideration of rent concessions and other benefits offered to prospective tenants of unoccupied premises as required by s37(2)(d) of the Retail Leases Act 2003 (Vic).

I refer to s202 of the Determination Report [the valuation report], specifically the first paragraph of Page 9 which states that in undertaking the determination the provisions of s37(2) had been applied.

Based upon my experience in the hotel industry I am of the opinion the rent concessions and other benefits are not typically offered to prospective tenants of unoccupied premises. The rental evidence considered as part of the determination process was not, so far as I am aware, affected by concessions or other benefits offered to the prospective Tenants.

The Applicant submits that the letter should not be admitted into evidence because:
- - the parties or the Valuer are not entitled to impugn or supplement the valuation report;
- - the Valuer is functus officio;
- - admitting the letter would be prejudicial to the Applicant and the Valuer.
The Respondent submits that the letter is admissible for reasons including the following:

The letter is a " supplementary report" and there is nothing in the Act or the Lease to suggest that the Valuer should be confined to providing his determination in one document only;

If the valuation report is at risk of being set aside because of a minor omission within it, and the supplementary report corrects the minor omission, the Tribunal should accept the report so as to avoid unnecessary further expense to the parties. It is consistent with the objects of the Act to admit the letter into evidence;

The Tribunal may have regard to supplementary material that a Valuer elects to provide;

The supplementary report forms part of the valuation report and therefore has the same status as the primary report and need not be tested by cross examination.

In my view there is no hard and fast rule as to whether parties, who have appointed an independent specialist valuer and received his valuation report, are bound to accept supplementary reports or material from the valuer. It depends on the circumstances in each case.
There is nothing in the Act or the lease to suggest that the Valuer is limited to providing one document on one occasion.
However, having regard to the means by which the supplementary letter was obtained, the date the letter was provided and its contents, I find that it would be unfairly prejudicial to the Applicant to pay any regard to it.
It is clear from the terms of the supplementary letter itself that the Valuer has provided the letter in response to a specific request from the Respondent, a request which, in my view, is a blatant prompt to the Valuer to provide further information in respect of a matter which is conspicuously absent in the valuation report.
Further, the Respondent's request to the Valuer was made some 8 months after the Valuer provided the valuation report to the parties and some 5 months after the Applicant commenced this proceeding. In my view, once the Applicant commenced this proceeding challenging the valuation report, it became untenable for the Valuer to provide any supplementary report.
In all the circumstances, I am satisfied that the supplementary letter should be wholly disregarded.

For the reasons set out above, I find that the parties are not bound by the rent determination and I will make an order to that effect.
I will also direct that the proceeding be listed for directions hearing before me for the purpose of hearing submissions as to any further orders sought in consequence of these reasons. The parties are at liberty to seek consent orders in this regard.
Finally, I will reserve costs with liberty to apply. I draw the parties' attention to s92 of the Act.

Serene Hotels Pty Ltd v Epping Hotels Pty Ltd (Retail Tenancies) [2014] VCAT 97 (7 February 2014)

Serene Hotels Pty Ltd v Epping Hotels Pty Ltd

At a glance

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Source

Judgment (56 paragraphs)

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Legislation Cited (1)

Cases Cited (2)

Serene Hotels Pty Ltd v Epping Hotels Pty Ltd (Retail Tenancies) [2014] VCAT 97 (7 February 2014)