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28 February 2020

 

Following on from the recent highly successful Association of Litigation Funders Australia (ALFA) conference on Contingency Fees, Competition and Common Fund Orders below are notes on Neill Brennan’s panel segment on a “Funder’s Perspective”.

Litigation funding is simply a finance exercise where the funder attempts to gauge the risk / return trade-off from investing in a matter. Specific case risks include:

1.      Win/loss

a.      At the point of the investment decision there is often significant information asymmetry between the claimant and respondent… you think you have a good case, but discovery/expert evidence proves your assumptions wrong.

b.      You think you have a good case but there are too many unknowns…for example, poor performance of a witness, the court prefers the respondent’s arguments etc.

c.       When a case gets to final hearing, anecdotally the probability of a win moves to around 50:50.

 

2.      Amount of success fee – the fee is generally a percentage of the damages. This is subject to substantial estimation error. For instance:

a.      a worst case is a pyrrhic victory with the full budget spent but little or no damages awarded; or

b.      more likely, case is resolved where the resolution sum is less than expected so the funders commission is lower than expected.

 

3.      Recovery of fee

a.      There is often the risk that the respondent is unable to pay a judgment or has capacity only to pay a small amount by way of settlement.

 

4.      Time to resolve is extended resulting in a reduced time weighted return. A funder’s commission may on the face of it appear attractive, but the final internal rate of return (IRR) is less so as it erodes with time.

The risks described above are those that a funder is familiar with. A funder can measure some of the risks, through the level of due diligence they undertake on a matter.

Non-specific risks

However, the Australian class actions regime has introduced new risks which are hard to quantify introducing an element of a lottery into case outcomes. This includes:

  • Uncertainty over carriage
  • Uncertainty over the legal process

Uncertainty over carriage

There have been a number of competing shareholder class actions in recent years including:

  • Bellamy’s (2 funders/law firms) – Allowed open and closed classes
  • Get Swift (3 funders/law firms) – permanently stayed 2 and allowed 1 to continue
  • AMP Limited (4 funders/law firms) – permanently stayed 3 and allowed 1 to continue.
  • BHP Billiton (2 funders/law firms, law firm) – Adjourned subject to consolidation proposals

The court’s responses to the same case management issues have been different:

  • For instance, in Bellamy’s the court allowed both claims to continue with an “open” and “closed class”
  • In Get Swift the Federal Court and AMP in the NSW SC the courts decided to permanently stay the competing claims
  • In BHP Billiton, the Full Federal Court ordered the two lead plaintiffs to try and agree consolidation while staying a third and in Brambles (Southernwood v Brambles) the court ordered consolidation of two shareholder class actions.

Permanent Stay

The direct and indirect cost of funding a competing class action that may be permanently stayed are high. These often include funding and WIP at risk for:

  • Pleadings
  • Preparing and hearing of “carriage” applications
  • Book build (particularly since the High Court’s Common Fund Order decision)
  • Expert/quantum analysis
  • Counsel opinions
  • Funder’s time

Direct costs can range from $100,000 to $500,000.

Recent Australian class action highlights published by the law firm, Johnson Winter Slattery included the following comments:

It has been left to Australian judges to grapple with which action ought to proceed and which actions ought to be stayed, and which principles should be applied in coming to a decision – similar to the ‘carriage motions’ in Canada. Suffice to say the situation is still very uncertain and predicting the outcome is fraught. This makes for great uncertainty and is dissuading funders from investing significant sums in claims preparation when they may only have a one in four-or-five chance of ‘winning’.

Consolidated Claims

While this may appear to defray the risk of a permanent stay, consolidation can bring its own problems.

A common approach for managing consolidated proceedings is to appoint a committee of representatives from the law firms acting in the separate proceedings. Things generally take longer when done by committee. Where there is more than one firm acting, there is a higher chance of a difference of opinions/ interpretations of the law creating an increase in costs and the need for committee meetings can itself inflate costs.

It remains to be seen whether consolidation results in additional costs being incurred and, if so, whether they are ultimately borne by defendants, plaintiffs or by the law firms.

 

UNCERTAINTY OVER LEGAL PROCESS

Common Fund Orders (CFO)

Another example of legal process risk is the recent High Court decision over CFOs (Brewster v BMW Australia Ltd and Lenthall v Westpac Life Insurance Services Limited).

Previous court decisions encouraged CFOs and discouraged book build, whereas this situation has now reversed. This indicates the potential cost of competing claims will now be even greater.

Uncertainty over pricing/Return

Participating in a class action means the funder does not necessarily have control over pricing with the court approving the funder’s commission as part of any settlement. The court necessarily makes a decision on approving settlements and appropriate funder’s commission with the benefit of hindsight. While the level of commission reflects the unknowns at the outset of proceedings, the court forms a view at a time when the risks of the litigation are much better understood.

Risk Mitigation through joint venture funding

A way of mitigating part of the non-case risk (carriage) is to enter into an arrangement to work with other funders in the way that the BHP claim was consolidated.

  • Co-Funding with both funders entering an agreement with representative claimants; or
  • Co-funding with a lead funder and the 2nd funder entering into an arrangement with the lead.

Challenges of joint venture funding

Funding in a joint venture may incur a different type of risk. For instance, the joint funders may not have the same risk appetite. A situation may arise where one funder believes prospects are now weak and the other agrees but wants to continue.

Joint funding raises the question as to whether arrangements may be anti-competitive. Competition law experts suggest that care needs to be taken when these arrangements were being considered to ensure that they do not breach competition laws.

Conclusion

An overarching goal is access to justice and a related objective is at the best possible price. The class action regime has attracted interest from overseas funders either participating externally or as with Augusta, establishing an Australian presence. Competition arising from this has driven down prices. However, where uncertainty derives from non-specific factors and so cannot be properly measured, there is a possibility capital may flow to other markets reducing the competitive tension and ensuing benefits. Funders and lawyers are engaging with law makers and regulators in constructive dialog to help ensure that the class action regime continues to foster greater access to justice and efficiency.

Augusta Ventures is actively engaged in funding a large number of diverse class actions and would happy to discuss funding solutions with law firms and claimants.