Third party funding is a relatively new phenomenon in the UK; historically it had been viewed by the Courts as unethical and contrary to public policy amid fears that it promoted unmeritorious claims being brought before the Courts and resulted in conflicts of interest, both actual and perceived; such arrangements would therefore often be deemed unenforceable.
Nowadays, however, third party funding arrangements are generally permissible, are becoming better understood by lawyers and the courts alike, and the widely held view that they promote access to justice means that the stigma of yesteryear is falling away. Typically, they have always been of the utmost importance for parties seeking to pursue their legal rights in circumstances where the cost of doing so would otherwise be prohibitive. But times are changing. Third party funding arrangements are now also commonly used by sophisticated, multi-national companies as a means of taking the costs of large-scale litigation or arbitration off balance sheet, as well as securing a number of other advantages when it comes to the treatment of legal costs.
Third party funding arrangements now have a more firmly established place as a convenient financing structure allowing capital that would otherwise be spent on legal fees to be spent or invested elsewhere by a business. Accordingly, third party funding has and continues to become more prevalent across the legal market in England and Wales, both in terms of the number of cases being funded by third parties, and in the number of specialist firms offering funding.
The additional costs benefits of third party funding
While the precise terms of any third party funding arrangement will often depend on the nature of the claim being funded and the parties to the arrangement (considered further below), there have been a number of key developments over recent years in relation to the allocation of parties’ costs from which all such arrangements may benefit.
The general rule in English litigation is that the loser pays the winner’s costs. How does that rule apply to a situation where one of the parties is involved in a third party funding arrangement? What funded costs can a successful litigant recover? When can a third party funder be liable for another party’s costs? How does application of the principle differ between arbitration and litigation?
Courts will usually consider costs orders and the implications of a third party funding arrangement at the conclusion of legal proceedings. Such arrangements are generally enforceable in England and Wales unless a Court deems that funder has interfered with proceedings by exerting excessive control over the litigation process[1].
(i) When can a successful party recover its funded costs?
There is no mechanism under the English Civil Procedural Rules through which a successful party can recover legal costs incurred by its funder. This is on the basis that the costs incurred have been shouldered by a third party to the litigation, rather than the litigant himself. In such circumstances, the funder is to recover its fees (and achieve the return on its investment) via its entitlement to a fee that is payable out of the judgment debt (i.e. the proceeds of the litigation) itself.
The same is not true in arbitration. In Essar Oilfields Services Limited and Norscot Rig Management PVT Limited the English Court acknowledged the wide discretion enjoyed by an arbitral tribunal and was unwilling to overturn its decision that a successful claimant in arbitration was able to recover its third party funding costs, on the terms agreed with the funder and in addition to the principal Award. Those terms included that the funder would receive the greater of 300% of the funding amount or 35% of the amount recovered in the case of “success” (as defined in the funding agreement). A tribunal’s jurisdiction to make such an order stems from the Arbitration Act 1996 which gives the tribunal a general power to award costs as it sees fit, and that those costs can include “legal and other costs of the parties (emphasis added)”[2], which could be interpreted to mean the funder’s commission. It is noteworthy that the respondent’s conduct in this case had put the claimant under significant financial pressure, effectively forcing them to seek third party funding. It remains to be seen if a similar award will be granted where this is not the case.
(ii) Will a third party funder be liable for another party’s costs?
In English litigation, the Court has the jurisdiction to make costs orders against third parties. The degree to which a third party funder can be held liable for the other side’s legal costs in litigation will depend on (a) the extent of that funder’s interest (financial or otherwise) in the outcome of the proceedings and (b) the level of control exerted by the funder over the litigation.
In circumstances where a third party funder is supporting a litigant without any arrangement that it should receive something in return, the funder will generally not be held liable for the other side’s costs should the funded party be unsuccessful. The Court of Appeal held in Hamilton v Al Fayed[3] that funders of this nature “being those with no personal interest in the litigation, who do not stand to benefit from it, are not funding it as a matter of business, and in no way seek to control its course” should not be the subject of costs orders. These types of funders are rare in commercial litigation.
On the other hand, professional funders will usually be held liable for another party’s costs to the same degree as the funded party in circumstances where the funded party is unsuccessful. The extent of an adverse costs order against a third party funder can be limited to an amount equivalent to the sum of funding already provided: the so-called “Arkin Cap”[4]. However, in circumstances where the funder is found to have unduly interfered with the litigation, it seems unlikely that the Arkin Cap would apply and there would be no limit to the Court’s adverse costs order. With that in mind, funded parties in litigation will usually purchase after the event insurance to protect themselves (and their funders) accordingly.
A very important recent decision of the English Court of Appeal in Excalibur Ventures LLC v. Texas Keystone Inc. & Ors confirmed a “following the fortunes of the funded” approach by ordering the third party funder to pay the other side’s costs on an indemnity basis, notwithstanding that the funder had nothing to do with the matters giving rise to the indemnity basis order. The Court found it appropriate to make the order against the funder on the basis that “he has funded proceedings substantially for his own financial benefit and has thereby become “a real party” to the litigation‘ and so ‘it is ordinarily just that he should be liable for costs if the claim fails‘[5]. Further, the Court considered the whole claim to be “speculative and opportunistic“, based on “no sound foundation in fact or law” and did not think the third party funder could evade all liability for the claim being brought by passing all blame onto its clients and their legal team. The case underlines not only the huge costs risk to third party funders should they have to pay costs on an indemnity basis, but also the burden on them to really know their case and trust their client’s lawyers so that, without controlling the conduct of the litigation, they can minimise their liability risk for the other side’s costs.
In arbitration the approach is different. Arbitral tribunals do not generally have the jurisdiction to issue an adverse costs order against third party funders because the funder is not typically a party to the arbitration agreement and, under section 61 of the Arbitration Act 1996, a tribunal does not have jurisdiction to make a costs order against a non-party to the arbitration. Third party funders are therefore protected from adverse costs orders when funding arbitration proceedings. That said, the custom (or often requirement) that funded parties purchase ATE Insurance to protect against adverse costs orders means that, practically speaking, the differences in this respect between litigation and arbitration are nullified.
When is third party funding typically available?
There are clear benefits to be enjoyed from obtaining third party funding to support a legal claim and for the reasons explained above, particularly where the claim is to be subject to arbitration. In what circumstances, then, are such arrangements available?
(i) What do third party funders look for in a case?
Professional funders invest in cases with a view to making a profit, and with a very keen eye on the fact that they stand to lose everything if their investment fails. This is a very different situation to the claimant and their lawyer who will likely operate on a “pay come what may” basis. Further, in light of Excalibur (see above), third party funders could face a huge costs bill on top of their investment loss if they have not carried out sufficient due diligence on their case or maintained good enough oversight on the ongoing conduct of the litigation. In order to minimise the risk of their investment, there are a number of factors that a funder will consider when deciding whether to provide backing:
- The value and legal merits of a case: each funder is likely to have a threshold value for a claim size before they will consider it for investment purposes and they will carry out their own assessment of that value. Alongside that quantitative assessment they will consider the strength of the factual matrix underlying the funded party’s case and the key points of law, often seeking their own independent advice for those purposes.
- The cost of bringing the claim: in order to price their investment and return thereon, third party funders require a detailed budget from the legal team on the case, setting out the level of investment that will be required and the stages of the litigation or arbitration at which that investment will be called for. This budget should include all ancillary legal expenses, including own-side and adverse expenses, and will be fully interrogated by a funder to asses its scope and reasonableness before a funding budget will be finally agreed upon.
- The ability of the Defendant to pay: third party funders might be happy with the legal merits of the case, but they will need to know that in the event of success in the claim that the defendant has the ability to pay the damages, and that any funds or assets of the defendant to meet those payment obligations will be able to be located, paid over and/or enforced against. Reputation, jurisdiction and creditworthiness of the defendant will be absolutely key considerations for a third party funder, and detailed due diligence and background checking processes are therefore very common in the early stages of investment discussions with a third party funder.
(ii) What does a typical third party funding agreement look like?
The terms of any third party funding arrangement will differ from case to case and will depend on the different funding structures that third party funders provide, but it is always in all parties’ interest to ensure that such terms are given full consideration. In particular, the parties should avoid arrangements that allow the third party funder too much scope to interfere in the management of the case (for reasons of enforceability, as explained above), and funded parties should also be conscious not to provide the funder with an unreasonably high return in the event of success. Lawyers for a funded party should be prepared to enter fairly detailed negotiations with a third party funder in relation to the following aspects of a funding agreement:
- the legal structure of the funder’s interest in the proceeds of the case, including the biting point for monies in the case becoming “proceeds” for the purpose of payment to a funder;
- how those proceeds are held and distributed (often by using a trust structure that the client lawyers recognise and are trustee over, and with a clear priority of payments between client, lawyers, funder, relevant tax authorities, etc);
- the termination rights of the funder and/or the funded party in the contract (which may not actually end the third party funder’s interest in the proceeds should the claim continue post-termination of the funding agreement and be successful); and
- the reporting requirements of funded party and its lawyers to the third party funder during the life-cycle of the funded case.
Third party funding agreements are often high value, with substantial up front costs and complicated pricing and payment mechanisms. Time will need to be invested by a party and its lawyers to establish that contractual footing, with the aim for all being to guarantee as smooth a procedure as possible for the funding element of what can be a bumpy road ahead in a high value litigation or arbitration case.
Looking forward
The third party funding market in England and Wales continues to grow and there is no sign of it slowing. In an environment where corporates and their legal teams are under increasing pressure to reduce legal spend, third party funding represents a clear opportunity for parties to pursue their legal rights while at the same time responding to that pressure to limit costs and taking those costs of the balance sheet.
In England and Wales, the Ministry of Justice through the Civil Justice Council has charged the Association of Litigation Funders (the “ALF”) with delivering self-regulation of the third party funding market. A voluntary Code of Conduct for Litigation Funders exists which covers capital adequacy requirements for funders as well as rights regarding termination and control of proceedings in any given investment situation. However, given its voluntary nature, a large swathe of the funding market remains completely unregulated, which from time to time raises difficult issues (the Excalibur case is an example of a funder that was not a member of the ALF and had minimal experience of litigation funding). Given the global and rapidly growing nature of the industry, and as third party funding becomes a more established feature of the litigation landscape, a number of institutions and jurisdictions are considering this issue of regulation so that the duties and obligations of third party funders can be clarified.
The popularity of third party funding arrangements in arbitration is all the greater in light of the benefits that can be accrued when it comes to dealing with costs: third party funders welcome the protection from adverse costs orders and it is in both the funding and funded parties’ interests that there is scope for arbitral tribunals to make separate awards for legal costs, rather than having to foot the lawyers’ bills out of the principal award or judgment debt. Against this backdrop, the popularity of London as a seat for arbitration continues to increase, and along with it, the number of professional third party funders getting involved in the action.
[1] In Giles and Thompson, [1993] UKHL 2, it was held that the funder should not engage in “wanton and officious meddling” in proceedings.
[2] Sections 59(1)(c) and 63(3) of the Arbitration Act 1996
[3] Hamilton v. Al Fayed [2002] EWCA Civ 665
[4] Arkin v Borchard Lines Ltd and others [2005] EWCA Civ 655; Bailey v GlaxoSmithKline UK Ltd [2017] EWHC 3195 (QB)
[5] Excalibur Ventures LLC v Texas Keystone Inc & Ors [2016] EWCA Civ 1144 at para 39
