Landmark UKSC decision: the devastating impact for third-party litigation funding

Lucy Keane, Counsel - Signature Litigation Gibraltar

Litigation finance rarely makes a big splash beyond the specialist trade media. But on 26^th July, national headlines were devoted to the topic thanks to a landmark ruling by the UK Supreme Court (UKSC), which decided that a litigation financing agreement (LFA) was, in fact, a damages-based agreement (DBA). By a majority of four to one, the Court ruled that LFAs which take the form of a DBA are, in certain circumstances, unenforceable.

This was not merely a technical clarification of the law, but a substantial jolt to the industry. The potential ramifications of the judgment on litigation funders and the viability of class actions could be enormous. The FT confirmed that the decision ‘will send shock waves’ through the litigation funding industry.

The UKSC ruling, made in the context of proceedings in the Competition Appeal Tribunal (CAT), may have enduring, far-reaching consequences for UK litigation funding and for public access to justice. Understandably concerned about enforceability, funders have been busily reviewing their current funding agreements, as clients and law firms seek to restructure their LFAs.

The CAT could be hardest hit. Parties in collective proceedings brought before the CAT, who seek a collective proceedings order (“CPO”), have traditionally used third party litigation funders to meet both their own costs and any adverse costs orders. Current and future claims may be in jeopardy because DBAs are not permitted for opt-out collective proceedings in the CAT. With claims often in excess of £1 billion, the loss to the litigation financing industry could be most keenly felt in the competition arena.

Widely known as “the Trucks case”, the judgment in R (on the application of PACCAR Inc) v The Competition Appeal Tribunal and others [2023] UKSC 28 concerned an application to bring collective proceedings for breaches of competition law under section 49B of the Competition Act 1998.

One of several competition class actions to appear before the CAT in recent years, it was brought on behalf of the buyers of heavy goods vehicles, who had allegedly suffered loss due to a cartel run by a number of major truck manufacturers. The European Commission had declared the arrangement between the truck manufacturers to be in breach of European competition law.

To obtain a collective proceedings order from the CAT, the second and third respondents (UK Trucks Claim Limited and the Road Haulage Association) were required to show that they had implemented adequate funding arrangements to meet their own costs and any potential adverse costs orders. The parties had obtained funding from third-party litigation funders. Under the relevant LFAs, the maximum remuneration available to the funders was calculated by reference to a percentage of the damages that could ultimately be recovered.

The truck manufacturers’ position before the CAT was that the LFAs constituted DBAs within the meaning of the relevant legislation (section 58AA of the Courts and Legal Services Act 1990, as amended). As such, they were unenforceable because they did not comply with certain regulatory formalities. If this was right, there was no proper basis on which a CPO could be made by the CAT in favour of either UKTC or the RHA.

The CAT ruled that the LFAs were not DBAs and were therefore not struck at by the relevant provision. A CPO could therefore be made.

In March 2021, the CAT decision was upheld by three Court of Appeal judges in the Divisional Court on a preliminary issue that LFAs were not DBAs. They also gave permission to leapfrog an appeal to the Supreme Court, which had to determine whether this form of arrangement for the funding of litigation by third-party funders is lawful and effective. The specific issue was whether LFAs, pursuant to which the funder is entitled to recover a percentage of any damages recovered, constitute DBAs within the relevant statutory scheme of regulation.

This analysis depended on whether litigation funding fell within an express definition of “claims management services” in the applicable legislation, which also includes the “provision of financial service or assistance”. If the LFAs at issue were DBAs within the meaning of the relevant legislation, they would be unenforceable and unlawful since they did not comply with the formal requirements for such agreements.

The Court observed that the effectiveness of group litigation may depend on the use of third-party funding. It further noted that third-party funding arrangements, where the funder can take a share of the compensation recovered in the litigation proceedings, have proved an attractive and effective model in the UK and elsewhere.

There are significant implications of the issue in the appeal. The Court was told that if LFAs of this kind were held to be DBAs within the meaning of section 58AA, then the likely practical consequence would be that most third-party LFAs would be unenforceable as the law currently stands.

The Supreme Court (Lords Reed, Sales, Leggatt, Stephens and Lady Rose) decided, with Lady Rose dissenting, that the LFAs at issue were DBAs for the purposes of section 58AA. The Judgment was delivered by Lord Sales, who said: “The assumption has been made that third-party funding arrangements such as those in issue in these proceedings, which assign a passive role to the funders in relation to the conduct of the litigation, are not DBAs within the meaning of section 58AA, are not contrary to public policy, and so are enforceable as ordinary binding contractual arrangements”.

Lord Sales added: “The funding agreements fall within the definition of a ‘damages-based agreement’ and are therefore made unenforceable.”

Notably, the Court’s view was that the services provided by the funders did constitute “claims management services” pursuant to section 4 of the Compensation Act 2006 and section 419A of the Financial Services and Markets Act 2000 (the forerunners of section 58AA) by virtue of providing “other services in relation to the making of a claim” in the form of “the provision of financial services or assistance”. It was common ground that a DBA had to meet certain regulatory requirements in order to be enforceable and that the LFAs in the Truck case did not do so.

The Court observed that participants in the third-party funding market may have made the assumption that this form of LFA did not constitute a DBA, but that this did not justify the Court in changing the meaning of “claims management services” as defined.

While expressing a view that public policy might dictate that access to justice by means of third-party funding might be desirable, the UKSC did not consider this to be a reason to depart from the conventional approach to statutory interpretation. If application of this approach meant that the previously held assumptions of those in the funding industry were displaced, then that was the inevitable, if challenging, consequence of the Court’s decision.

There is no doubt that the UKSC’s decision is a body-blow to the UK litigation funding industry. The assumption by funders that LFAs were not DBAs and not subject to stringent regulatory requirements has been shattered. In opt-out collective proceedings before the CAT, DBAs are not permitted. This will have profound consequences for those looking to pursue claims and for those left wondering whether existing claims are properly financed at all.

Susan Dunn, Chair of the Association of Litigation Funders, who provided a witness statement in the case, suggested that the consequences of the UKSC decision will extend to all or most litigation funding agreements. It will likely be “massively damaging both for the administration of justice in relation to the existing cases which involve funding by litigation funders, and the future access to justice of parties who would otherwise have employed LFAs to fund their cases,” according to Dunn.

She added that it could “bring to an abrupt end hundreds of funded claims with potentially catastrophic consequences for all involved in the case.” With over £500 million of costs incurred annually by litigation funders in the UK, the financial consequences could be immense.

Despite this, reaction from funders has been mixed. Some funders, whose LFAs are structured so that the return on capital is calculated as a rising multiple of invested capital over time, are optimistic that their LFAs will survive the decision. By comparison, those funders whose interest or return is calculated as a percentage of the award made to the funded party are having to look long and hard at the way in which their agreements are structured. Many believe that careful review of funding agreements will provide a solution, with the possibility of amendments to existing LFAs being touted as a way forward.

Initial concern in the international arbitration sphere has died down, given that, by its international nature, workarounds such as LFAs governed by non-English law would be a potential solution. Funders involved in non-UK markets are relaxed and foresee little or no difficulty in funding arbitrations seated outside England.

Despite such upbeat responses, it remains to be seen whether the challenges presented by the Paccar decision will be truly capable of resolution in the ways suggested. Another, and perhaps very sensible option, would be for the UK Government to legislate to ensure continued public access to justice – surely a matter of the highest public policy. Many claimants, especially in competition claims, now face being excluded from this most fundamental of rights. With public access to justice so vastly under-funded, it is perhaps time that this issue was acknowledged by those in power. Some funders have already called for clarity from the UK Government and the expectation that the Government should put its mind to this seems eminently reasonable. As matters stand, the balance is now tilted in favour of well-funded multi-nationals who stand to gain an unfair advantage over small businesses and consumers. For the benefit of all, that can never be a good thing.

It can be expected that disruption and fall-out from this case will continue for the foreseeable future, with, no doubt, more twists and turns along the way to clarity on whether third-party litigation funding is to remain a viable option in the United Kingdom.