Who Pays the Piper?
A cause of action is an asset of a particularly unusual nature, realisation of which can often strain relations between the IP and the creditors.
A cause of action is an asset of a particularly unusual nature, realisation of which can often strain relations between the IP and the creditors.
Immediately post insolvency creditor feelings maybe running high and the wish to see instantaneous action which metes out retribution and not just brings compensation maybe evident. However the commercial imperatives of the IP (are proceedings worthwhile in term of legal merit, recoverability and of proportionate cost vs benefit?) often leads to lengthy investigations and dulls creditor engagement. Conversely creditors may be excluded from decisions regarding litigation, the claim being conceived in the confines of confidentiality and legal privilege, and by using available realised assets, commenced without consultation. Where ultimately the action provides little return or no return to creditors but recovery of costs and expenses, litigation may be perceived as being run for the benefit of the IP and the lawyer. Into this combustible mix comes the question of funding.
It will have escaped no one's attention that on 26 February 2015, the Government granted an eleven hour reprieve to the insolvency profession; announcing that insolvency litigation will continue to remain 'for the time being' outside of the scope of the reforms introduced by the Legal Aid, Sentencing and Punishment of Offenders Act 2012 (LASPO).
No win no fee agreements (conditional fee agreements) (CFAs) and the recoverability from the losing party of CFA success fees and after the event (ATE) insurance premiums have played an important part in the shaping of the litigation practices of both insolvency practitioners and the lawyers acting for them. Removing creditor risk, i.e. limiting or extinguishing diminution in the insolvent estate and allowing a potential recovery where none was otherwise present.
Has the reprieve however stopped the profession from embracing change and developing innovative ways to litigate and provide return to creditors other than by use of the CFA model?
LASPO removed the ability of claimants in commercial litigation cases to recover the CFA success fee and insurance premium from their opponents, a measure driven in part by the growth in personal injury litigation and the consequent response of the insurance industry.
While the funding of commercial litigation is outside the scope of this article, it has been argued that despite the returns to the claimant being potentially reduced, the absence of CFA success fee recovery has not significantly altered litigation volumes. However while a solvent claimant can make an informed decision as whether to provide ongoing funding or alternatively from any reward bear the additional cost of the success fee and premium, for the insolvency practitioner the costs will be borne from a recovery that would otherwise go to creditors.
In support of its campaign to see exemption extended R3 estimated that should the exemption to LASPO be lost there would be a consequent fall in insolvency litigation with a cost to creditors estimated to be at £160m. Why is this?
Firstly in lower value claims, the fact that success fees and premiums would be deducted from the final award would make many uneconomic. Secondly the respective bargaining positions of the parties would alter making litigation less attractive; the defendant tactically employing delay and obfuscation as a means to ‘sweat out’ the claimant. In contrast where the defendant however faces the prospect of increased costs through a success fee and ATE premium, this delaying tactic has significant cost implications and risk.
Despite these compelling arguments it is questionable whether the Governments' announcement marks a permanent change in attitude. As a result the insolvency sector must remain alive to the possibility that the exemption will be removed and will need to consider the alternatives.
As the ultimate beneficiaries of the action should the creditors not fund the same? Indeed it is arguable that the CFA model has allowed major creditors such as financial institutions and Government bodies (who have the ability to fund and maybe advocating that action should be taken) to shirk responsibility and withdraw funding from cases, pushing the risk and capital costs to the insolvency practitioner and legal team.
In many cases however it is the collective nature of the insolvency process and the need to co-ordinate a potential disparate body of creditors provide obstacles, with many creditors taking the not unreasonable view that they have already suffered the economic loss on the insolvency and would have no wish to speculate to accumulate.
In certain limited circumstances creditors may provide funding, and see the return of their ‘investment’ as a costs and expenses, however without an assignment of the causes of action the economic interest in the final award remains with the creditors as a whole, which acts as a potential dis-incentive for individual creditors to provide funding.
Over the past decade the litigation funding market has been developing apace offering litigants an alternative to CFA arrangements. The announcement in February is however an indication that the Government does not feel that the insolvency industry has embraced the funding industry and/or that the funding industry has not developed sufficiently to meet the challenges presented by insolvency cases.
While in the months leading up to the potential loss of the exemption some funders developed product lines (often tied to ATE coverage) to deal with lower value claims, a significant take up did not result/was not necessary.
What potential developments might we see should the LASPO exemption be permanently lost?
The Government has provided for the continuation of the insolvency exclusion to LASPO for ‘the time being’. With pressures on the insolvency industry over costs and remuneration, there is an inference that creditors do not receive adequate return. Perhaps allowing the assignment of office holder claim is in reality a means of promoting the market/the private sector to find a solution to this problem. However while this is a solution that may see directors of failed companies being pursued more regularly, this will not necessarily lead to any better return to creditors.
As a result despite the eleventh hour reprieve, this is no time for the insolvency profession to rest on its laurels. The profession must remain alive to the reputational damage suffered if it does not pursue active engagement with creditors and evidence that litigation is conducted on their behalf. Furthermore irrespective of whether the CFA/ATE exemption remains, potential significant change will arise with the entry of new funders/products into the insolvency litigation market. These changes should be embraced and the innovation that the industry has consistent shown must be at the fore to ensure that this important form of asset recovery is not lost for creditors.
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