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Cap on litigation funders’ adverse costs liability not a binding rule

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09/03/2020

In a significant judgment, the Court of Appeal has ruled that a litigation funder’s liability for payment of the successful parties’ legal costs was not capped at the funding amount it had provided to the unsuccessful claimant. In an insolvency context, ChapelGate Credit Opportunity Master Fund Ltd v Money & others [1] will be of particular interest to commercial funders looking to fund insolvent estate claims. It will also be of general interest to insolvency practitioners.

Why is this case of interest?

Importantly, this case clarifies that the approach taken in a 2005 Court of Appeal case is not a binding rule. Arkin v Borchard Lines Ltd (Nos 2 and 3) [2] established the so-called “Arkin cap”, where the commercial funder of an unsuccessful claim was ordered to pay the winners’ costs only to the extent of the funding provided. The Court was seeking a “just solution” – so that a successful opponent is not denied all of its costs, but commercial funders who typically provide help to those seeking access to justice are not deterred by the fear of disproportionate costs consequences if the litigation they are supporting does not succeed.

Arkin attracted criticism, including from key civil litigation reform figure Sir Rupert Jackson. In his view, it is wrong in principle that a litigation funder, which stands to recover a share of damages in the event of success, should be able to escape part of the costs liability in the event of defeat [3].

What practical advice arises?

This decision serves as a warning to commercial litigation funders that Arkin cap protection cannot be relied on as a matter of course to limit adverse costs liability. In seeking to reach a “just” outcome, judges may well scrutinise the funder’s prospective gains and the particular circumstances impacting on the opponent’s costs exposure on a case-by-case basis. Funders should ensure that funding proposals are evaluated robustly, that the merits of the claim are thoroughly tested and kept under review, and that effective after-the-event (ATE) insurance cover is in place. Insolvency practitioners may find that funders adopt a more cautious approach when deciding what they are prepared to finance and on what terms.

What did the Court of Appeal say?

Judges do not necessarily have to adopt the Arkin approach when determining the extent of a commercial funder’s adverse costs liability. They retain a discretion and, depending on the facts, may consider it appropriate to take into account matters other than the extent of the funder’s funding and not to limit the funder’s liability to the amount of that funding. They might want to consider the funder’s potential return, not just its outlay. The more the funder stands to gain, the closer he might be thought to be the “real party” ordinarily ordered to pay the successful party’s costs.

In this case, the claimant had to recover from her opponents more than five times ChapelGate’s expenditure to have any prospect of keeping anything for herself. The High Court judge was also entitled to take into account the extent to which the Arkin cap would leave her opponents out of pocket. ChapelGate chose to facilitate litigation which involved very serious allegations against more than one party and the parties could not be expected to share legal representation. It was therefore inevitable that they would incur costs greatly in excess of the funding provided, and yet they did not have the protection of any ATE cover. ChapelGate’s waiver of the requirement for ATE insurance very much increased the opponents’ exposure.

Arkin was decided at a time when third party funding of litigation was still developing and conditional fee agreements (CFAs) and ATE insurance were relatively new. Commercial funders, CFAs and ATE insurance are all much more established now. A funder should be able to protect its position by ensuring that either it or the claimant has ATE cover.

The Arkin approach is not redundant and is particularly likely to be relevant on facts closely comparable to those in Arkin, where the funding only covered the claimant’s costs of instructing expert witnesses. However, it is possible to imagine circumstances in which application of the Arkin cap might not be considered “just”, even where a funder has funded only a distinct part of a claimant’s costs.

What were the facts in this case?

The first and second respondents in the appeal were the administrators of a company owned and controlled by Ms Davey. They were appointed by a secured creditor, Dunbar Assets plc (Dunbar). Dunbar obtained summary judgment against Ms Davey for the amount due under a personal guarantee and issued further proceedings to recover costs of enforcing the guarantee and judgment. Ms Davey issued proceedings against the administrators under paragraph 75 of schedule B1 to the Insolvency Act 1986. She also counterclaimed against Dunbar, alleging that it had so interfered with the conduct of the administration as to be vicariously liable for the administrators’ breaches of duty and had conspired with agents (whose advice the administrators had allegedly relied on) to cause her harm.

Ms Davey and ChapelGate entered into a funding agreement for both sets of proceedings. The original funding amount was £2.5 million, with a condition that Ms Davey obtain ATE insurance to cover herself for any adverse costs order. She failed to do so for whatever reason and the funding amount was reduced to £1.25 million, with ChapelGate anticipating Arkin cap protection and waiving the requirement for Ms Davey to obtain ATE insurance. Any case proceeds were to be applied first to repay the funding amount and second to pay ChapelGate a “funder’s profit share”. Once the trial had begun, the size of that share would be the greater of 500% of the funding amount or 25% of the net winnings (the case proceeds minus the funding amount). Ms Davey would receive what was left after payment of legal and expert fees and disbursements and any uplifts or other amounts due under CFAs which she had entered into.

A legal opinion delivered a month before trial gave the conspiracy to injure claim against Dunbar a less then evens chance of success (from 55-60% a few months prior to the signing of the funding agreement). The prospects of success on the main claims against the administrators and Dunbar had, if anything, strengthened.

The claims were dismissed after a High Court trial. Ms Davey was ordered to pay the administrators’ and Dunbar’s costs on the indemnity basis because of how she had conducted the litigation and the serious nature of the allegations made. The administrators and Dunbar applied for costs orders to be made against ChapelGate, which was ordered to pay costs on the indemnity basis from the date of the funding agreement without any cap. In declining to apply the Arkin cap, the judge referred to the following factors:

  • ChapelGate approached its involvement throughout as a commercial investment;
  • Conduct of the litigation by and on behalf of Ms Davey was significantly out of the norm, warranting an indemnity costs order. While ChapelGate did not itself direct the way in which the case was conducted, it nevertheless had every opportunity to investigate and form a view as to the nature of the claim and the support for the allegations which were being made before choosing to fund it;
  • It must have been apparent to ChapelGate that Ms Davey was most unlikely to be able to pay any substantial costs awarded against her, and that the opponents’ costs were likely to be very substantial and well in excess of the amount which ChapelGate itself proposed to invest in the litigation;
  • The decision to halve the funding amount while retaining the same potential share of the recoveries and removing the requirement for Ms Davey to purchase ATE protection highlighted the fact that ChapelGate was closely focussed on its own self-interest in funding the litigation as a commercial venture, and that there was no correlation between the amount that it chose to invest and the costs to which the opponents were exposed;
  • There was force in the point that ChapelGate negotiated to receive a substantial commercial profit which would have taken priority over any compensation payable to Ms Davey; and
  • The judge was not persuaded by ChapelGate’s policy argument that commercial litigation funders would be discouraged from providing funding because his decision would signal that they might have an ‘open-ended’ exposure to adverse costs.

If you have any questions arising from this briefing, please do not hesitate to get in touch with one of the contacts below.

[1] [2020] EWCA Civ 246

[2] [2005] EWCA Civ 655

[3] Review of Civil Litigation Costs: Final Report (December 2009)

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