It is no longer a question of whether third-party funding will be used in international arbitration, but how we will tailor our processes to address the issues that come into play when third- party funders more frequently finance bet-the-company, cross-border disputes and major investor-state claims.
Proponents see the rise in third-party funding as a vehicle for providing greater access to justice; detractors claim that third-party funding will allow distressed companies to bring non-meritorious claims. The detractors’ argument assumes that only the insolvent and cash-strapped claimants are the using third party funding, and that certainly has not proven to be the case. Moreover, there argument seems antithetical to the motivations driving the third-party funders — likely and significant returns on their investment.
Where their investments are recovered only if awards are successful, enforceable and collectable, they have no interest in financing litigation that does not have a significant and likely upside for them. We have seen a growing number of successful investment companies financing international disputes seeing an opportunity to address the concerns of participants surrounding the high cost of bringing a major commercial or investor-state arbitration in return for obtaining significant returns on their investments.
At the recent annual ICC Latin American International Arbitration Conference in Miami, Lex Finance, a leading third-party funder in Latin American arbitration, estimated that more than $16 billion will be invested in arbitration costs over the next four years in Latin American arbitrations. They intend to aggressively market their financing for this marketplace. Third-party funding is here to stay as a viable alternative now more readily available to fund high priced disputes just like contingency, conditional fee arrangements and insurance have been used for many decades.
With third-party funding as an integral component of funding for both future private and investor-state disputes, the major arbitral bodies and thought leaders in that space like the International Council for Commercial Arbitration and Queen Mary University of London are focusing on how to best address the issues arising from third party funders participating in the process.
In September, the ICCA-QMUL Third Party Funding Task Force completed their 172-page working draft report that was several years in the making. It does a deep dive into third-party funding and its impact on future international arbitration proceedings, and makes well-reasoned recommendations for its regulation going forward. At the onset of the report, the task force acknowledges, “Funding is not only for those that are impecunious. The use of funding offers the client the ability to minimize risk, does not have any negative effect on their cash flow, and ensures payment of lawyers.”
The task force also acknowledged that third-party funding involves many increasingly sophisticated financial vehicles to address a variety of business needs from early stage arbitration financing to purchasing favorable arbitration awards at a discounted rate, to financing law firms with a portfolio of arbitration claims.
Each of these unique funding arrangements provides a party with the ability to share risk, obtain liquidity, or improve its fee proposal at different stages of the arbitration process.In its report, the task force identifies the primary issues relating to third party funding as being: disclosure and conflicts of interests; privilege; and costs and security for costs.
After a detailed analysis of the various arguments and institutional positions on those topics, the task force provides guiding principles recommended for addressing third-party funding as to those topics and provides some best practices for third party funders as well as arbitrations where a third party is funding one of the parties. While recognizing that further work needs to be done, the recommended principles that will likely be incorporated by tribunals on a going forward basis are the following:
DISCLOSURES AND CONFLICTS
The task force recognized that concerns with undisclosed funding and its impact on assuring transparency, full disclosure by the tribunal, and avoiding undisclosed conflicts of interest. For that reason, the task force principles recommend a party “on its own initiative” disclosing the existence of a third-party funding arrangement and the funder’s identity as part of its first submission or as soon as practicable, or alternatively that the arbitrators or the arbitration institutions have the authority to expressly request during the selection and appointment process that the parties disclose whether they are receiving third party funding. Based upon those disclosures, the arbitrators or arbitral institutions can assess whether a conflict of interest exists and make disclosures and appropriate action as required by the applicable laws, rules or guidelines.
The task force principles in this regard fall in line with the privileges commonly provided to insurers or others with common interest. While the existence of funding and the identity of the third-party funder are not privileged information, the report recognizes that the specific provisions of the funding agreement may include privileged information and therefore, should only be ordered to be produced in exceptional circumstances. For information that is deemed privileged under the applicable laws or rules, tribunals should not treat that privilege as being waived because it was provided to the third-party funder to obtain funding, or in supporting the funding relationship. If the funding agreement or information provided to the third-party funder is deemed disclosable, the tribunal should generally permit appropriate redactions and limit the purposes for which the information may be used.
COSTS AND SECURITY
Recovery for costs, including legal fees, are generally provided to a prevailing party in the final award. The task force found that merely because a party seeking costs is being funded by a third-party funder, its recovery for costs should not be denied. However, the task force recommended that in the absence of exceptional circumstances, the actual cost of funding, including the third-party funder’s take, is ordinarily not recoverable as costs, and as a general matter, a tribunal lacks jurisdiction to issue a costs order against a third-party funder.
As to requiring security for costs, that determination should be made irrespective of any funding arrangement and solely based on the party’s insolvency and inability to pay costs awarded in the event of an adverse award. If the impecuniousness of a party is established (the traditional standard for requiring security for costs), that party should be given the opportunity to present additional evidence of funding, or have a security for costs award imposed. At that juncture, the funding agreement should be ordered produced but the disclosure order should be limited to those provisions that are strictly necessary to assess the extent to which the funder may cover (or not) an adverse costs order. If a security for costs is required, and the defense of the requesting party fails, then the funded party should be allowed to substantiate the costs it reasonably incurred in posting the security and obtain an award for that amount.
The task force recognized that there remained many areas of disagreement among its members as well as the arbitration community as a whole on the treatment of third party funding. It was hoped that publication of the working report would provide an open dialogue during the public comment period so that in its final report that will be even better composite understanding of the issues and greater appreciation of the reasons for the differing viewpoints. In short, the report provides a good beginning framework for addressing the issues raised by third party funding in international arbitration, but more work needs to be done as third-party funding has become a mainstay for parties seeking to find ways to limit their exposure and costs given the high stakes inherent in international arbitration.
Don Hayden is a partner with Mark Migdal & Hayden in Miami. He is a commercial litigator and international arbitrator.