Practical Law

Big-hitting defendant solicitors were rather quick to proclaim the demise of the Arkin cap, following Snowden J’s judgment in Davey vs Money last month. They’re in good company. In his 2010 Review of Civil Litigation Costs, Jackson LJ said that funders should be fully liable for adverse costs. Others argue that the Arkin cap’s generosity to funders drove the exponential growth of the funding market and in particular the phenomenal performance of Burford.

On the other side of the argument is the commercial reality that this judgment will increase the overall cost of litigation funding; therefore, fewer cases will be eligible for such assistance. Some suggest that this will, to some degree, have an impact on access to justice.

However, to simplify the debate down as such is over simplistic and binary when, in fact, there are deeper issues that the Arkin cap debate really encapsulates.

For a start, there is very little understanding of how litigation funding is actually priced. Yes, it’s mathematically complicated, but understanding even the key principles would inform this debate so much more.

Then, there is the misdirection of the access to justice debate away from where it’s really ingrained in the small-to-mid value claims market. What will the impact of an Arkin cap demise mean for this “SMC” segment of the market?

Finally, isn’t there a broader debate which goes beyond costs liability to the absolute level of costs? The removal of the Arkin cap is a big issue in the first place because of the high cost of litigation. In an age when fixed costs regimes are being extended upwards by claim value, isn’t the most significant part about Snowden J’s judgment the comments encouraging funders to keep a watchful eye on defendants’ costs?

The impact on the mainstream litigation funding market

Both Jackson LJ (as he then was) and Snowden J have stated that there was no evidence to suggest that the demise of the Arkin cap will have an impact on the availability of litigation funding. That may be true, but it somewhat misses the point. Much like Brexit, the argument is not about the continued availability of goods, but the cost at which these goods are made available to the market. This in turn affects the accessibility of those goods in favour of the better resourced.

Funders are commercial operations which need to be profitable to remain solvent. Being profitable means being able to earn enough money on the winning cases to:

• Pay for the returns due to their funders (promised returns to investors).
• Their operating costs.
• Most importantly, the losses they incur on the losing cases (a reality of investing in something as qualitative as litigation).

The pricing that can be quantified was covered by an excellent two-part piece last week by Adrian Chopin, Managing Director at mainstream litigation funders Bench Walk Advisors. But, as he points out, the pricing must include an amount to cover the operating costs and the losses they incur on the losing cases. If a funder’s loss exposure is uncapped in losing cases, then there is a degree of uncertainty that needs to be compensated for by increasing pricing. This is not just myth; the fact that uncertainty increases costs is true of any market.

So, pricing will become more expensive and, while most funders in reality will not retrench from the market, this will narrow the pool of cases that will be economically viable for funding even further.

The impact on funders serving the small to mid-value claims

But is that the whole picture? When one talks about litigation funding, one often refers by habit to the large claim value market where most litigation funders play. Yet, it is the SMCs where the majority of cases are and where the real issues of access to justice are firmly ingrained. Is it reasonable that principles set with large value claims be imposed on SMCs?

The cases we fund at Sparkle Capital are primarily SMCs (although we also fund large value claims). We also fund specific disbursements through our Flexible Disbursement Funding product. So, what does this all mean for us?

In a recent matter, a claimant required £110,000 of disbursement funding (mainly experts’ costs) in an approximately £12 million claim against a well-funded defendant represented by a magic circle law firm. With Precedent H budgets showing a potential £3 million adverse cost liability, and despite the existence of an after the event (ATE) insurance policy for up to £700,000, the £110,000 investment would have entailed a maximum return upside of £165,000 and a maximum downside (adverse costs) of £3 million. Put another way, a crude mathematical calculation would show that the case was not worth funding unless it had prospects of success greater than 94.79%.

Without the funding, the claim may yet have to be dropped. That is intuitively and evidently contrary to access to justice. But then, the Arkin cap was a compromise in respect of a funder who financed a discrete part of the costs of the litigation, like in the example above (see paragraph 39 of the Arkin vs Brochard judgment). If it is now the case that the court’s discretion under section 51 of the Senior Courts Act 1981 (to “determine by whom and to what extent” the costs of proceedings should be paid) means that the Arkin cap is no more, then no return could commercially justify the involvement of litigation funders in the SMC segment of the market. This would be a true disaster for access to justice.

It is for this reason that it just all seems a bit too premature for big-hitting defendant solicitors to proclaim the demise of the Arkin cap. But it’s worth remembering that what Davey was really about was whether the Arkin cap was either:

• A “rule” that should be applied in every case.
• Simply an “approach” that should be considered as an option in the context of the individual circumstances of each case.

Now that it’s clearly established that the Arkin cap was nothing more than an “approach”, surely it therefore follows that the de-application of Arkin is nothing more than an “approach” in any given matter, which can be overruled in favour of reapplying the Arkin cap and should be subject to the usual judicial discretion in its application.

Reducing the costs of litigation

As fascinating as the technicalities of the argument are, the real crux of the issue is the cost of litigation. As perverse as it may seem to funders, this ruling may in fact be a blessing in disguise for funders.

The first is the onus Snowden J’s judgment places on funders to ensure that they are not backing claimants and matters which may end up being subject to a costs order on an indemnity basis. Clearly, no funder does this knowingly and all funders already carry out extensive due diligence on all matters. But it seems the focus is often on the legal merits, arguments and economics of any given matter before the character assessment of the claimant. What this ruling will drive amongst all funders is the requirement to assess the motivations of the claimant, the solicitor and counsel even more extensively. If, despite all this, they still end up backing a horse that rides itself into a costs order on an indemnity basis, then it’s a good sign that their talents may lie elsewhere.

The second is encapsulated in paragraph 110 of Snowden J’s judgment, where he noted that the funder’s funding agreement included a provision under which the claimant was to instruct Mishcon de Reya to monitor the defendant’s costs and to keep the funder informed. Snowden J goes onto say that:

“… if the possibility that a funder may not be able to take advantage of the Arkin cap causes funders to keep a closer watch on the costs being incurred, both by the funded party and the opposing side, and if careful consideration is given to employing the mechanisms in the CPR to limit exposure to adverse costs in an appropriate case, I do not see that as contrary to access to justice or any other public policy.”

In other words, does this bring greater focus on the rights of impecunious claimants to ultimately drive down the total adverse cost liability?

One of the main barriers for funders and ATE insurers is the commercial “proportionality” (claims to cost ratio) of cases that make so many cases unviable. Often, it is down to the sheer costs that well-resourced defendants spend on their defence, usually courtesy of big-hitting defendant solicitors, who seemingly stretch what is proportionately acceptable to the very limit. The imposition of budgets has stemmed this tide marginally, but until a global fixed costs regime is implemented that power remains with the defendants.

When one considers that there is a drive at the “smaller” end of claims for fixed costs regime which is creeping up the claim value scale, this commitment to drive down defendant costs seems real. If this ruling can contribute to that process, then this can surely be no bad thing in the long-run.

That would, of course, mean fewer fees for the same big hitting defendant solicitors who championed the demise of the Arkin cap. How ironic it would be then if this judgment came back full circle.