Article by Peter Defoe, a Chartered Surveyor with over 40 years’ experience and a supervisor at Anglia Ruskin University
Image: Typical cutback diagram courtesy of Gordon Ingram Associates

You may be aware that I have written previously on LinkedIn about the cutback conundrum in terms of valuation and apportionment of compensation. Now, I have been approached to provide a view on how one should assess the extent of cutback in relation to what areas should be included or excluded in any calculation. Perhaps surprisingly, this is not an easy question to resolve. For starters, whilst some cases reference a cutback solution and valuation, so far no case decision has stated how the assessment should be undertaken.

Traditionally surveyors have taken a broad approach by assessing a notional cutback envelop and, from what remains of the proposed development, they will usually have assessed any areas with a ceiling height above 1.5 metres as still being useable floor space. Anything below will be lost as a result of the cutback. A profit share can then be based on the difference between the original proposed useable floor space and that which remains after the cutback. It is worth noting that this methodology does not seek to prove that the remaining useable space is, in fact, useable in design terms. Another, simpler approach is to use the Gross External Area (GEA) which pays less attention to the usability of space.  However, it is entirely possible that neither of these methods will be correct if the case came to court.

The starting point for surveyors assessing a cutback solution is to determine the ‘grumble line’ in affected rooms within the dominant owner’s property. Any part of the proposed development by the servient owner that causes the grumble line to reduce the so called ‘adequately daylit area’ of the room below 50% would be subject to the cutback design. This presupposes that, if the matter went to court for determination, they would accept this premise but it is worth noting that none of the cases reported, where a cutback assessment has been made, actually consider this point. In addition, as an example,   if a court decided that the 0.2% contour representing the grumble line should in fact be a 0.5% contour or that the working plane height should be 75cm instead of 85cm then, as a mathematical certainty, the amount of any cutback would increase.

The legal background

When a claimant proves that their rights to light will be injured by a proposed development there can be two outcomes. There will either be an agreement between the parties to settle the matter for a payment of compensation, or the matter will go to court to decide whether to grant an injunction and/ or to award damages. Traditionally surveyors seeking to negotiate a settlement rather than have the matter decided by a court, will have made their valuation on the basis of the light rental with an uplift to reflect the severity of the damage. However, several cases have now been heard by the courts where the sum awarded or recommended if an injunction were not awarded, has been based upon a share of the profits.

It is important to understand that a claimant must always prove their case i.e. that their right to light will be injured but, if the matter goes to a court for a decision they do have the right to see all of the relevant information prepared by the defence. The importance of this will become apparent later in this article.

The important case, for rights of light surveyors, setting out the principle of profit share is known as Re: Wrotham Park (Wrotham Park Estates v Parkside Homes 1974) which, although about a breach of covenant, clearly established a precedent which was subsequently referenced in such cases as:

• Tamares (Vincent Square) Ltd v Fairpoint (Vincent Square) Ltd EWHC 212 (Ch) Ch D [2007]
• Regan v Paul Properties DPF No 1 Ltd and others: ChD 27 Jul 2006
• HKRUK v Heaney 2010 HKRUK II (CHC) Ltd v Heaney [2010] EWHC 2245 (Ch)
• Beaumont Business Centres Ltd v Florala Properties Ltd [2020] EWHC 550 (Ch)

Tamares (Vincent Square) Ltd v Fairpoint (Vincent Square) Ltd

In Tamares the case related to a loss of light to a secondary staircase of a commercial building in Victoria, Central London. Arguments were made that the loss of light should not be considered to be actionable but the court ruled that there would be an injury to the easement. On this basis damages were awarded as the remedy but, in a departure from traditional practice, damages were awarded of one-third share of the profit the developer would make on that part of the development that could not be built without causing a right to light injury.

The right to light surveyors had to agree the area of cutback, for which development valuation advice was then sought to provide the relevant information for the court. There was no explanation as to how the cutback was assessed by the surveyors.

It was made clear, however, that the court sees a benefit in having both a traditional book valuation and a profit-based calculation in order to see which would result in the higher compensation level.

Regan v Paul Properties

In this case the judge stated at point (4) “Is the case one in which it would be oppressive to the defendant to grant an injunction? Yes it is. Whether one is considering the proposed 53% cutback or the proposed 48% cutback, the effect on the internal floor area of unit 16 would be very substantial, as would be the effect on the likely selling price of that unit; and significant further expense would be incurred, especially as regards the 53% cutback. To require either exercise would in my view be disproportionate to the amount of harm caused to Mr. Regan, especially having regard to the prospect of an award of damages by way of compensation in his favour. There may also be planning and/ or building regulations difficulties raised by any modified plans, especially as regards the 53% cutback.”

There was no explanation of how the cutback was assessed and whether it related solely to loss of useable floor space.

HKRUK v Heaney

This was a strange case having been brought by the servient owner in order to settle the compensation figure then counter claimed by the dominant owner seeking an injunction. In the summing up it was stated that “This appraisal set against a capitalised value of anticipated rental income of £41,783,822 an anticipated outlay (once again covering acquisition and construction costs, professional fees and finance charges) of £34,875,075. This would give a profit of £6,908,747. Mr Allan then re-ran the appraisal, taking out 4,498 square feet which is the area by which, on Mr Bramley’s evidence, the sixth and seventh floors would have to be reduced in order to avoid infringing the defendant’s right to light. On this basis, he arrived at the following figures: capitalised rental, £39,682,163; outlay, £34,176,724; profit, £5,505,439. Accordingly, the difference between profit for the whole and profit excluding the cutback area is £1,408,000, which Mr Allan regards as “the figure that ought to have been used in negotiations with the defendant in early 2008.”

The court had the benefit of an expert’s consideration of a revised scheme to avoid actionable loss, as well as Quantity Surveyors advice on costs etc. and Valuer’s opinions of the difference resulting from the possible changes. Although it is clear that, at the outset of the case, this information was not available to the rights of light surveyors. One must assume that they advised their clients on a traditional ‘book value’ basis and/ or that their cutback assessment was based either on Gross External or Gross Internal Area that would be lost and then applied this as a percentage of profit. However, this is not recorded.

Beaumont v Florala

In this case the judge made extensive reference to the potential cutback. In reaching a conclusion on the evidence presented, the judge found that the likely uplift in profit which Florala was going to be able to make by building the hotel as it did, rather than by having to carry out a scheme along the lines of the most profitable alternative, i.e. with the dual entry lift scheme, was in the region of at least £1.1 million.

It is clear from the evidence heard during the trial that the court had the benefit of expert evidence on alternative designs and the implications of these alternatives in terms of value. It was concluded that Florala could not have developed an equivalent hotel as profitably if it had had to build within the narrower frame required by a cutback, which would restore the light which Beaumont lost as a result of its development. However, there is no indication that the rights of light surveyors discussed a cutback solution prior to the action commencing. It is of course possible that this was the subject of without prejudice correspondence.

In his conclusion, the judge considered that the income capitalisation approach (which yields this figure, rather than the lower figure of £1 million) is the way that a purchaser would normally assess how much to pay. It accepted the evidence that up to and since January 2017, there had been an excess of demand over supply, such that hotel purchasers were and are prepared to pay a capital price which reflects a lower yield than the 4.25% posited and more in the region of 3.75% to 4%. This means that the valuations both of the hotel as built, and of the Florala alternative, are both a little on the low side (by a factor of about 1.1).

The suggestion that he should take as the relevant indicator the “developer’s profit” of 17.5% on the total construction costs (which would be about 17.5% of £1 million or so because it was plain from the evidence that this “developer’s profit”) is just a notional amount. He emphasised ‘notional’ – to compensate the developer for the risks (past and future) he undertakes in carrying out the development: it is not the same as the net total benefit he expects to obtain from the development.

In finding for the claimant he awarded a figure of 33.3%, of the profit, subject to a small reduction relating to losses of light in a couple of locations that were not actionable. He decided that, in a hypothetical negotiation, these two factors would have made only a small difference, so as to reduce the sum of £366,300 (i.e. 33.3% x £1.1 million) to £350,000 and that this figure “felt right” should and injunction not to be granted.

As an aside, it is worth perhaps noting that the expert surveyor’s evidence of cutback was proposed to be 47.59 square metres (or 512.5 square feet) but that there is no indication that this related directly to the loss of profit resulting from alternative designs.

Professional guidance                                                    

The RICS, being the principle professional organisation for rights of light surveyors, has issued guidance for surveyors undertaking this service. The second edition was issued in March 2016 but despite extensive discussion, amongst the authors, there was no agreement on the appropriate methodology for undertaking a cutback analysis. The guidance merely refers to “other methods of valuation” such as servient owners gain and to the use of other specialist such as valuers and quantity surveyors. There is no mention of seeking a redesign solution within the cutback envelope in order to provide accurate advice to their clients and insurers.

It is accepted that many cutback solutions are relatively simple and would not require such details analysis there are also many that display considerable complexity.

Other guidance notes issued by the RICS are worthy of mention, the first being the RICS Valuation Global Standard published in January 2020 which is concerned with the valuation of property generally and profit-based calculations but without reference to rights to light.

The RICS Property Measurement guidance 2^nd edition issued in January 2018 links to the International Property Measurement Standard. It identifies how the IPMS relates to Gross External Area (GEA)(IPMS1 and 3A), Gross Internal Area (GIA)(IPMS 2 and 3B), Net Sales Area (NSA)(IMPS2), Net Internal Area (NIA)(IPMS3) and Effective Floor Area (EFA)(IMPS3C) all of which are used for different purposes. It should be noted however that IMPS 1 and 2 are for costing purposes whereas IPMS 3, 3A, 3B and 3C are used for agency valuation. In general, areas with ceiling heights lower than 1.5 metres are excluded but stated separately as having limited use.

The absence of an explicit statement from RICS regarding the methodology to be used firstly in establishing the appropriate cutback based upon traditional methods and then whether the loss of useable floor area.. Thus profit, should be assessed by Gross Internal Floor Area, Nett Internal Floor Area or by redesign leaves the matter open to professional judgement.

Implications for insurers

Rights of Light surveyors can only work with the information provided to them and so, for example, accuracy of results is dependent upon the accuracy of information provided by their client’s advisers. Results such as the Equivalent First Zone (EFZ) used in assessment of loss are based upon case law and traditional practice which may be found, by a court, to be no longer appropriate. Out of this the cutback envelope may be found to be wrong ab initio.

Having made the assumption that a court would accept the traditional assessment then the surveyor will start shaving parts off the proposed development in their model until any loss of light to the servient owner is below the threshold that would be considered actionable. They must then calculate the proportion of the development that could not be developed and thus would represent a loss of profit to the developer, should an injunction be granted, so that they can advise insurers.

The developer will have provided information such as the scheme costs and the anticipated value of the completed development and the cutback area as a proportion of the whole the whole development will be applied to the anticipated development profit. Based upon the cases outline above the surveyor would then advise their client to allow up to one third of the profit, associated with the cutback, as a possible compensation figure excluding other costs. However, it is extremely rare for a client to go to the expenses of creating an alternative scheme within the safe envelope and then assessing the difference in profit between the proposed scheme and the safe scheme. It is unlikely that the surveyor will include any mention of this in their report, relying instead on general disclaimers and caveats.

Insurers may therefore be basing the extent of cover on incomplete or incorrect information. It is quite possible that, should the matter go to court, the dominant owner will seek to discover through legal process whether the cutback has been calculated correctly by the servient owner i.e. it includes all areas that would cease to be useable and if not then the evidence would have to be rejected and reassessed otherwise the profit calculation is meaningless. Similarly, if the court decided that the grumble line should be assessed at say 55% or the working plane height should be different then the cutback would need to be reassessed.

Conclusion and recommendations

It is clear that the courts expect a valuation of compensation based on profit share as well as a traditional book value basis in order that they can decide which is most favourable to the claimant and therefore insurers will also require this information. However, it is not clear that insurers are aware of the difference between a simple cutback solution based on GEA, a more accurate solution based on GIA or a solution where the scheme has been redesigned within a cutback envelope.

If strict interpretation is applied then the only way that a profit calculation can be achieved is if the proposed cutback is assessed to ensure that the remaining internal floor area will be useable and accessible and if not then it should be redesigned to establish how much less profit would be achieved as a result. Where the cutback is straightforward then the profit should be valued on the basis of gross internal floor area as this is the most common basis for rental valuations. Where there has to be a redesign then the difference in anticipated profit between the proposed development and the cutback solution will be used.

It is then necessary to consider how surveyors might deal with cases where a designed cutback might not result in a loss of useable floor area but could conceivably result in a loss of profit. For example, if a tower block exceeding 30 storeys had to reduce by one storey to remove the problem then this might be achieved by simply reducing each storey’s height by 100 millimetres but the resulting loss in terms of proportions of rooms may have an adverse effect on profit. Similarly, some landmark buildings such as the Shard have features on the top that could be removed without affecting useable floor area but the loss to such a landmark scheme might well affect the profit. This is the where expert valuation advice will be required to achieve any degree of certainty. However, it should be noted that if the loss of profit is less than the compensation that might be payable using traditional book value methods then the point becomes moot.