No guaranteed “cap” on a third party litigation funder’s liability for adverse costs

ChapelGate Credit Opportunity Master Fund Ltd (ChapelGate), a commercial funder, appealed against an adverse costs award against it in Davey v Money.¹ Ms Davey had sued the joint administrators of a company and the creditor appointing them (together, the Defendants) for breach of duty and improper conduct amounting to dishonesty during the administration.

ChapelGate had entered into a funding arrangement with Ms Davey whereby it initially funded GBP2.5 million in return for 30% of its committed funding (in addition to repayment of the principal amount) and the greatest of 300% of its committed funding, or 25% of the total recovery if the case was won or settled. The High Court found in favour of the Defendants on the substantive merits and subsequently ordered ChapelGate to pay the Defendants’ costs on the indemnity basis by way of a non-party costs order under s51 Senior Courts Act 1981.

ChapelGate argued that, as a third party funder, its liability should be capped at the amount it provided to Ms Davey in accordance with the Arkin cap.

The Arkin cap

In Arkin v Borchard Lines Ltd (Costs Order),² Mr Arkin persuaded a commercial funder to fund expert evidence in support of his claim that could not have otherwise been obtained. Mr Arkin then lost on the substantive merits of the claim and a costs award was rendered against him and the litigation funder.

The Court of Appeal held that the funder’s liability for costs under s51 should be capped at the funding it contributed to Mr Arkin’s costs. Phillips LJ anticipated that the Arkin cap would encourage third party funders to: (i) self-limit the amounts provided, thereby reducing their possible exposure and keeping costs in the case proportionate; and (ii) consider more acutely whether the “prospects of the litigation are sufficiently good to justify the support that they are asked to give” and, in so doing, act in the public interest. These predictions were made in 2005, when the market for third party funding in this jurisdiction was still in its infancy, with a view to facilitating access to justice. Since Phillips LJ’s early prognoses, the market has significantly commercialised and no longer consists of a limited number of funders.  

No hard and fast rule for capping third party funders’ liability

The decisions in Davey v Money and ChapelGate confirm that the Arkin cap should not apply automatically in all cases involving commercial funders, whatever the facts and however unjust doing so would be. This is a significant change.

The Court of Appeal agreed with the first instance Judge, Snowden J, who identified some key factors that would justify a court’s departure from Arkin, including where:

• The primary driver for funding is commercial: While it was not in and of itself wrong for ChapelGate to approach the litigation as a commercial investment, Ms Davey’s access to justice “came a clear second to ChapelGate receiving a significant return on its commercial investment”. In that sense, ChapelGate was the party with the “primary” interest in the claim, and accordingly it was right that it should bear liability for the successful Defendants’ costs.
• The funded party is unable to pay the full adverse costs award: ChapelGate must have been aware that Ms Davey was impecunious and would be unable to pay the full amount of any adverse costs award rendered against her. The Defendants’ costs were awarded on the indemnity basis principally because Ms Davey had made what the court found to be “wholly unfounded” allegations of dishonesty, against multiple Defendants (including “professional persons” operating in regulated industries), who could not be expected to share legal expenses. Even though ChapelGate did not drive the conduct of the litigation, it had every opportunity to investigate and form a view on the nature of the claim and the lack of evidential support for the allegations, before choosing to fund it. Accordingly, it bore the full liability for the Defendants’ costs incurred after the date of its investment on the indemnity basis.
• The funded party fails to obtain ATE insurance: In return for waiving the requirement on Ms Davey to obtain ATE insurance, ChapelGate halved its funding commitment (to GBP1.25m) whilst retaining the same rights to the potential share of any recoveries. In reducing its funding exposure, ChapelGate consequently increased the exposure of the Defendants, who no longer had the protection of ATE insurance.
• The funder is set to receive significant returns far in excess of its committed funding: If successful, ChapelGate would have received a substantial commercial profit in priority of any recovery received by Ms Davey (and indeed, in advance of her lawyers, who were acting on Conditional Fee Agreements).

Snowden J considered that the clear commercial self-interest of ChapelGate contradicted the outcomes originally anticipated by Phillips LJ in his support of the Arkin cap.

Comment

As these cases and the original Arkin decision demonstrate, third party funding is supported by the English courts. However, the courts no longer consider third party funding to be a nascent concept and are alive to the commercial self-interests of funders.

For litigants engaged in disputes against a party backed by a commercial funder, the Court of Appeal’s decision offers reassurance that the Arkin cap will not be applicable in every case, particularly where its operation would likely leave the successful party out of pocket on costs. The courts will not apply the Arkin cap where doing so would result in an unjust outcome, nor will they allow the cap to act as a funding stimulus for claimants to pursue spurious claims.

Litigants should note that, while the Court of Appeal has resolved that the Arkin cap is not a binding rule, this does not render it redundant. There may still be cases where the approach laid down in Arkin remains appropriate, particularly where there are comparable facts.³

The case also serves as a poignant reminder to funders that they may ultimately be the ones on the hook for costs, including on the indemnity basis, even where they do not drive the litigation strategy.

The Arkin cap was only ever intended to be applicable to professional funders. Applying Davey v Money, in Kazakhstan Kagazy Plc & ors v Baglan Zhunus & ors,⁴ the Commercial Court agreed that the Arkin cap should not apply to limit certain family members’ liability for costs under s51 where they had financed a fraudster’s unsuccessful defence. Jacobs J noted that the Arkin cap did not have any real relevance in a case that did not involve a professional funder, but that in any event it was not, in his view, an “inflexible rule”. Allen & Overy LLP acted for the successful Claimants.

Footnotes:

_{¹ [2019] EWHC 997 (Ch).}

_{²  [2005] EWCA Civ 655.}

_{³ See, Burnden Holdings (UK) Ltd v Fielding [2019] EWHC 2995 (Ch).}

_{⁴  [2019] EWHC 2630 (Comm).}

Further information

This case summary is part of the Allen & Overy Litigation and Dispute Resolution Review, a monthly publication.  If you wish to receive this publication, please contact Amy Edwards, amy.edwards@allenovery.com