Three's a crowd? Third-party arbitration funding

OnDemand

September 14 2017

Arbitration & ADR Netherlands

Third-party arbitration funding can benefit both under-resourced growing businesses as well as established and profitable companies, allowing them to cover the legal costs of potentially complex proceedings. However, companies should be aware of its potential risks and downsides, such as concerns over confidentiality and privilege of sensitive information, the funder’s self-interest in returning a profit on its investment and potential conflicts of interest between funders and arbitrators. A number of jurisdictions and arbitration institutions are considering introducing external regulation of third-party arbitration funding.

Is third-party arbitration funding common in your jurisdiction?

The third-party arbitration funding market is clearly developing in the Netherlands. A number of international funders are active on the Dutch market and, for the past few years, several national funders have been equally active. These active funders offer funding arrangements in relation to claims with wide-ranging values.(1)

Third-party funding is more common in the context of Dutch court litigation funding, especially in relation to cartel damages follow-on litigation. Funders are also active at the enforcement stage, in relation to both arbitral awards and court judgments. Funding respondents seems much less common (to the point of non-existence).

As an alternative to third-party funding (or in combination with external funding), claimants can use arbitration or litigation risk insurance, whereby the initial fees are covered by the claimant and, in case of a negative outcome, by the insurer. At present, this seems to be less commonly used by claimants. However, it is sometimes utilised by third-party funders to hedge their own capital risk.

What terms and conditions are generally associated with third-party arbitration funding in your jurisdiction? Does this type of funding usually include punitive measures in the event of an adverse outcome for the claimant company?

Funders and claimants normally negotiate the terms of a funding arrangement before the proceedings commence, but some funders also offer funding while proceedings are underway. The terms will vary from one funding arrangement to another: the funder and the parties are free to negotiate these terms within the boundaries of Dutch contract law. Typical provisions include the return for the funder, funding commitments, termination rights and the extent to which the funder can exercise control over a claim (see below).

Where the claimant prevails, the funder's return will generally be:

  • a percentage of the amount awarded;
  • a multiplier of the funder's litigation costs; or
  • a combination of a proceeds and costs-based return.

Cases in which a matter is settled before an award is rendered will generally also be covered by the funding arrangement.

Funding arrangements may also include security for costs, where ordered by the arbitral tribunal.

Adverse costs may also be included in the funding arrangement – for example, via a deferred after-the-event insurance premium. The risk of adverse costs is important to consider when concluding a third-party funding arrangement.

Punitive measures in the event of an adverse arbitral outcome are not provided for under Dutch law and are therefore not part of funding arrangements regarding arbitral proceedings under Dutch law.

Third-party arbitration funding can involve potential risks for claimant companies. What measures can be taken to avoid or minimise such risks?

Where a tribunal renders an adverse costs award, the claimant must cover these costs if they are not covered by the funder. One could take out after-the-event insurance (in the form of either a directly payable premium or deferred conditional premium) in order to minimise the risk of having to pay adverse costs.

Another risk may be a funder informally trying to steer or influence the claimant's case strategy – for example, during settlement negotiations. It is therefore important to ensure that case strategy is and remains solely the claimant's domain, unless the claimant and funder agree otherwise. For example, a funding agreement may include a provision stipulating that the claimant must consult the funder before instructing legal counsel on material case decisions. The extent to which the funder is entitled to approve (or disapprove) and be consulted in relation to case strategy should be duly recorded in the funding agreement, including in relation to accepting settlement proposals. Termination rights are also important to consider in this regard. The claimant and funder may agree that the latter can solely advise on case strategy and such advice can be helpful, depending on the funder's experience and know-how.

It is important to involve legal counsel who are experienced in negotiating funding agreements early on in the process in order to minimise risks. Legal counsel may also assist in determining the most appropriate type of funding and, if applicable, comparing offers from multiple funders.

How does third-party funding affect the confidentiality and privilege of sensitive material in arbitration proceedings?

Communications between the claimant and funder are not covered by privilege. This is important to consider and, in any event, no sensitive information should be shared with the funder before concluding a non-disclosure agreement (NDA). Experienced funders will either:

  • offer such an NDA before conducting any due diligence; or
  • be accustomed to signing confidentiality documents early on in the process.

Legal counsel sometimes become party to the funding agreement, resulting in a tripartite funding agreement. In such case, the funder and counsel have a much closer relationship.

No case law particularly addresses the issue of privilege between counsel and funder under Dutch law. However, if attorneys share privileged information with the funder, especially pursuant to an NDA, such information would likely remain privileged.

Regardless of privilege and confidentiality considerations, claimants should be aware that funding arrangements, or at least the existence thereof, may be subject to partial disclosure in arbitral proceedings – for example, to ensure that no conflict between the arbitrators and the funder exists.

Given the significant legal and ethical issues associated with third-party arbitration funding, such as potential conflicts of interest and questions regarding impartiality, is external regulation needed in your jurisdiction?

It is difficult to say at this stage whether external regulation is required. There are no legislative initiatives in this regard, but the Dutch legislature has shown its awareness of the potential downsides of litigation funding.

Once funders cater more frequently to less experienced claimants (eg, small and medium-sized enterprises and consumers), regulation may become desirable – in particular, to ensure that funders meet particular solvency requirements and do not exert undue influence over the proceedings, including the acceptance of settlement offers. Regulation may initially take the form of self-regulation, as in – for example – the United Kingdom, by way of the Code of Conduct for Litigation Funders, which is administered by the Association of Litigation Funders.

For further information on this topic please contact Joep Wolfhagen or Sandra Coelen at Freshfields Bruckhaus Deringer LLP by telephone (+31 20 485 7000) or email (joep.wolfhagen@freshfields.com or sandra.coelen@freshfields.com). The Freshfields Bruckhaus Deringer LLP website can be accessed at www.freshfields.com.

Endnotes

(1) During the course of preparing this update, a number of funders were contacted with regard to their latest offerings and the developments in the market, including Omni Bridgeway and Liesker Procesfinanciering.

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