Summary and implications
On 18 November the Court of Appeal upheld a first instance decision making a group of litigation funders liable to pay the costs of the action it funded on the indemnity basis. The ruling increases the exposure of funders in cases that don't succeed. It also sends a clear message to funders that their fortunes will follow those of the entity they back, irrespective of the funders' conduct.
Losing parties are generally required to pay the winning side's costs on one of two bases: the standard basis or the indemnity basis. Standard basis is the default and generally results in the unsuccessful party paying in the region of 65-70% of its opponent's costs. However in certain circumstances (usually where the losing party has behaved badly and/or lost on all aspects of its claim) a court can make the more onerous order for "indemnity" costs. This results in the loser paying a higher percentage (in the region of 80-90%) of the winner's costs.
Summary of issues
Four funders financed a US$ 1.6bn claim by Excalibur Ventures (an oil exploration firm) against two US oil companies. Excalibur claimed that the oil companies cheated it out of an exploration deal in Iraq. The claim was rejected by the court on every point. Excalibur's conduct was heavily criticised and it was ordered to pay costs totalling £31m on the indemnity basis.
Excalibur having no assets, the successful defendants sought a third party indemnity costs order against the funders, or in the case of two of the funders, their parent companies. Two funders had set up special purpose vehicle (SPV) subsidiary companies, which themselves had no assets, to advance funds received from the parent companies to fund the litigation.
It is long established that third party costs orders can be made against funders but the funders in this case argued that they should not be liable on the indemnity basis, because they themselves had not behaved badly. It was also argued that the parent companies which had provided funding via subsidiaries should not be made liable, as that would disregard separate corporate existence and involve piercing the corporate veil.
The Court of Appeal upheld the order for indemnity costs against the funders and the parent companies. Tomlinson LJ's reasoning was that it would be unfair if a successful party's damages were limited because the counterparty was funded. He pointed out that the funder can choose which claims to back whereas a defendant does not choose by whom to be sued, or in what manner.
The judge said it was appropriate to make an order against any entity which had provided funding and would in reality receive the benefit of the litigation; therefore the costs orders against the parent companies were upheld. He pointed out that if recourse were only available against the entity which entered into the contractual arrangement, funders would be able to avoid exposure through using SPVs.
The judgment emphasised that in order to mitigate potential costs liability and avoid paying for the conduct of the funded party, funders should do thorough due diligence before funding a case and continue to closely review and monitor cases as they progress. Tomlinson LJ also said that engaging independent lawyers to conduct an ongoing review of cases seemed to him to be "not just prudent but often essential in order to reduce the risk of orders for indemnity costs".
Implications for parties seeking funding
Given the prospect of indemnity costs orders and the clear message from the court about the necessity of thorough and ongoing review of cases, funders may increase their levels of due diligence and seek independent legal advice. They may seek to pass on the costs of this heightened review by requiring a higher proportion of their clients' winnings. In other words funding could become more expensive. It may also become harder to secure funding, as funders become more cautious.
On other hand the litigation funder Burford Capital said in response to the judgment that responsible funders are already taking the steps suggested by Tomlinson LJ and that in Burford's view the decision is to be welcomed as it will dissuade opportunistic, inexperienced funders (such as those in the Excalibur dispute) from backing unmeritorious claims.
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