Emily Carroll is a Senior Lecturer in Law at Birmingham Law School.

This is the first of two linked blog posts considering this March 2021 decision about the negotiation of WH Smith’s renewal lease of units P201 and 1087/1088 (the Premises) situated within the retail habitat that is Hammerson’s Westfield Centre in Shepherd’s Bush (the Westfield Centre) said to be the largest shopping centre in Europe.

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Image by StockSnap from Pixabay

Where the parties to a renewal of a business lease are unable to agree its terms, they are to be determined by the court pursuant to section 35 of the Landlord and Tenant Act 1954 (the Act), which provides that the court ‘shall have regard to the terms of the current tenancy and to all relevant circumstances.’ This was the task faced by the court in WH Smith Retail Holdings Ltd v Commerz Real Investmentgesellshaft mbh.

Unopposed lease renewal cases pursuant to the Act rarely reach court because the cost of a trial is prohibitive, and outcomes can be unpredictable. If cases do reach trial – and counsel is instructed – well-worn argument about unremarkable commercial lease terms is pruned back to reveal the most pressing commercial matters between the parties, and to test current issues in the commercial property market more broadly. Although this is only a first-instance judgment, several pressing issues were determined after a four-day hearing before HHJ Parkes QC. The judgment discusses aspects of commercial leases that are rarely reported on, but which are significant to the property sector and the public interest including: (discussed in this first post) achieving climate change targets for commercial property; and (in my second post) rental valuation in the current economic climate, which has consequences for investment funds, including pensions.  

This first post focuses on the parties’ approach to carbon reduction commitments and integration of energy-related costs and works within a traditional lease framework. The take-away point here is that whilst the Government has set out climate change commitments for commercial premises there is little, or no, evidence of a wider conversation between commercial landlords and tenants about the energy efficiency of their premises, or practices within them, to address this broader agenda.

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Online shopping: Image by athree23 from Pixabay

The Tenant’s existing lease commenced on 1 October 2008 at a point in time when buildings had been identified by the Government  as ‘responsible for almost 40 per cent of the UK’s energy consumption and carbon emissions’, and an Energy Performance Certificate (EPC) had been required on ‘construction, sale, or rent’ of commercial properties since 6 April 2008. The existing lease was, however, granted long before the Minimum Energy Efficiency Standard (MEES) came into effect on 1 April 2018, which set a baseline minimum energy efficiency standard (of E rating) for buildings. Under the existing lease, the landlord is potentially able to recover costs for energy efficiency works within the Westfield Centre in two ways: i) through the existing service charge ‘sweep up’ provision that permits the Landlord to recover ‘the cost of any other service amenity or matter which the Landlord’s surveyor in its reasonable discretion shall think proper for the better or more efficient management and/or use of the retained parts or the comfort and convenience of the generality of the tenants or the shoppers in using such retained parts’ [see para 27 of the judgment]; and ii) under a general provision that permits the Landlord to recover costs of complying with ‘any Law relating to’ the Westfield Centre [para 31].

In lease negotiations, the Landlord sought to widen the scope of existing heads of service charge to recover costs (hereafter the Energy Costs) of the following additional services: undertaking energy audits; improving energy efficiency of the Westfield Centre; and implementing EPC recommendations in accordance with principles of good estate management. During the hearing, the Landlord, in a tight negotiating spot, argued both that i) the Energy Costs were on the one hand recoverable under the existing lease (under the ‘sweep-up’ or compliance with ‘Law’ clause) so that their inclusion was mere clarification of the existing position; and ii) that, on the other hand, the introduction of new legislation - the Energy Act 2011 and MEES (not envisaged in 2008) was a justifiable reason to update these lease provisions.

The leading case in relation to the court’s powers under s 35 of the Act is O’May v City of London Real Property Ltd [1983] 2 AC 726 (O’May) in which Lord Wilberforce confirms, at 747, that it is not the intention to ‘petrify’ lease terms particularly where they may be ‘out of date’. The Landlord’s surveyor argued in the current case that inclusion of the new Energy Costs amounted to ‘reasonable modernisation’ [para 31], industry shorthand for the argument that statutory updates amount to a fair and just departure from the terms of the existing lease. The Landlord also confirmed that the Energy Costs had been agreed by other new tenants in the open market, and that improving energy efficiency in the Westfield Centre was important to the wider public (shoppers), particularly to the younger generation. 

HHJ Parkes QC determined that the Landlord had not convinced the court that the service charge changes sought were fair and just. The reasoning is as follows: i) the Tenant had asked for examples of Energy Costs that fell between the cracks of the old and new service charge regimes and the Landlord had failed to provide any (perhaps here the judge overlooked the Landlord’s precarious dual negotiating stance); ii) the recovery of Energy Costs, whilst qualified by a reference to ‘good estate management’ was not defined by the Royal Institution of Chartered Surveyors (RICS) and provided nebulous protection for the Tenant against an ‘environmental white elephant’; iii) this overall lack of clarity was ‘highly likely’ to lead to dispute between the parties; and iv) the judge had sympathy with the Tenant that these Energy Costs could potentially improve the capital value of the Westfield Centre, which was to the Landlord’s benefit.

The Act is a regime entirely pre-occupied with balancing interests of landlord and tenant, security of tenure with market rent, and investment with occupation. These interests are balanced within the traditional parameters of the institutional lease where financial responsibility for repairing and insuring (maintaining the health of the buildings and physical space if you like) is ascribed to the tenant. This structure creates a curious terrain where buildings, and the environment, are left to flag and deteriorate as the model prevents refurbishment and renewal unless recoverable from the tenant – which is not the market norm  (see Bright and Patrick’s 2016 WICKED insights into the role of green leases) – because the general perception in the market is that ‘energy efficiency improvements [will only unfairly] increase capital value for the landlord’. Attempts to insert works of energy improvement into an institutional lease simply highlight the incongruity between these regimes (one, MEES, concerned with carbon reduction, and the Act which is about protecting the position of a tenant on lease renewal). It is striking that the misalignment of the goals of these two regulatory frameworks creates a wasteland inhabited by an environmental white elephant – representing the carbon wellbeing of commercial spaces.

The submissions of Landlord’s counsel (as recounted by HHJ Parkes QC) [at 37] are at the nub of the incongruity between these two regulatory regimes:

Mr Wonnacott [for the Landlord] submitted that the proposed [Energy Cost changes] covered services that the landlord would perform for the benefit of the whole estate, that they were services which mattered to the tenant’s customers, particularly the younger demographic (that seems to me to be a matter of pure speculation), that the tenant was protected from having to pay for some environmental white elephant, or paying for things that only benefitted the landlord, by the ‘good estate management’ rubric, and that in any event all the proposed [Energy Cost changes] were probably covered by the ‘sweep up’ clause [in the existing service charge], and spelling it out clearly was preferable to the risk of a later dispute.

There is no place in section 35 of the Act to weigh in the public’s (including the younger demographic evoked by Mr Wonnacott QC) interest in a broader commitment to carbon reduction between the parties. In the reckoning, there was no question raised about either corporate’s commitment to the Greenhouse Gas Protocol, or any ancillary understanding between the parties about their carbon reduction commitment in relation to this retail space  in order to counteract the rigidity of the commercial lease framework (see Bright and Dixie on this point). We are not privy to the parties’ submissions, but there does not appear to have been discussion around split incentives, or motivations for carrying out energy efficiency works –  for instance, the RICS professional statement on service charges, issued in 2018, which supports the inclusion of Energy Costs where they would result in lowered service charge costs for tenants.

The Government’s 2014 consultation on MEES recognised that the split incentive (namely tenants benefitting from lower energy bills due to energy efficiency improvements borne by landlords) posed a barrier to realising energy efficiency targets. The Government anticipated rent adjustments would be introduced to reflect the differences between the energy efficiency of properties and benefits realised by tenants. This approach is not discussed in the judgment. Achieving a carbon neutral environment requires forward-looking collaboration outside rigid institutional conventions. If these goliaths of the retail industry are still grappling with environmental white elephants in the largest shopping destination in Europe, then achieving carbon reduction targets in retail habitats across the UK currently seems unachievable.

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How to cite this blogpost (Harvard style):

Carroll, E. (2021) Environmental White Elephants & Carbon Reduction Commitment: WH Smith Retail Holdings Limited v Commerz Real Investmentgesellshaft mb. Available at: https://www.law.ox.ac.uk/research-and-subject-groups/property-law/blog/2021/10/environmental-white-elephants-carbon-reduction (Accessed [date])