Following the recent decision of the High Court in Essar Oilfield Services Limited v Norscot Rig Management Pvt Limited, the question being asked is whether third-party funding in arbitration claims has become a more attractive proposition ([2016] EWHC 2361 (Comm)). The court allowed the successful claimant in an arbitration to recover the whole of its third-party funding costs, which included a 300% uplift, in addition to damages (see box “Reasonableness of uplifts and success fees”).

Norscot Rig Management PVT Ltd brought arbitration proceedings under International Chamber of Commerce (ICC) rules against Essar Oilfields Services Ltd in relation to a contractual dispute. Norscot sought third-party funding because the dispute with Essar had made this a financial necessity.

A typical arrangement offered by third-party funders is that legal fees and disbursements are paid in exchange for an uplift or multiple of the sums advanced. In Essar, the funders, Woodsford Litigation Funding, had agreed with Norscot an uplift of 300% of the actual legal costs incurred in relation to the arbitration.

Until now, the accepted practice in arbitration, and the only legally available option in litigation matters, seems to be that if the claimant is successful, the payment of costs such as legal fees, disbursements and the funder’s uplift will be at the funded party’s expense and normally deducted from damages.

Having succeeded in the arbitration, Norscot sought its costs from Essar and the arbitrator made a costs award that included the entire amount that Norscot was due to pay Woodsford, over and above the damages that had been awarded to compensate Norscot for its loss.

Essar challenged the award in the High Court on the basis that it amounted to a serious irregularity under section 68(2)(b) of the Arbitration Act 1996 (1996 Act) (section 68(2)(b)). At the heart of the challenge was section 59(1)(c) of the 1996 Act (section 59(1)(c)), which seeks to circumscribe the categories of costs recoverable in an arbitration governed by the 1996 Act, that is:

The court dealt with two principal issues. Firstly, whether the fact that an arbitrator ruled that “other costs” in section 59(1)(c) could include the full costs of third-party funding can amount to a serious irregularity under section 68(2)(b). The court rejected this argument and ruled that the award of costs was simply an exercise of the undoubted power to award costs under section 61(1) of the 1996 Act, and was not an excess of power.

Secondly, and of greater significance, the court held that the arbitrator was in any event correct to interpret “other costs” as capable of including the full costs of the third-party funding. Essar had attempted to argue that section 59(1)(c) should be construed narrowly to cover only the costs of the arbitration, not the costs of third-party funding. However, the court could not be convinced by any of Essar’s arguments in favour of adopting a restrictive view.

During the hearing, the court asked Essar to address what the term “other costs” could possibly mean. Essar’s response was that it meant “something necessary to get the arbitration off the ground or on the road”. This, in the court’s opinion, included the costs of securing the necessary third-party funding since the evidence was that the claim could not have been brought without this third-party financial support.

The court in Essar explicitly rejected the submission that the issue of costs under the 1996 Act should be framed by reference to the Civil Procedure Rules (CPR). The court held that the 1996 Act was designed to be, and is, a complete code to the conduct of arbitration, and it was irrelevant that the CPR does not contain an equivalent provision to section 59(1)(c). This therefore creates a divergence in costs recovery in funded cases between litigation and arbitration.

Success fees under conditional fee arrangements and premiums payable under after the event insurance policies are no longer costs recoverable from the losing party in litigation and even the insolvency exception to this rule was abolished on 6 April 2016 (section 44, Legal Aid, Sentencing and Punishment of Offenders Act 2012, which amended section 58A(6), Courts & Legal Services Act 1990). Similarly, any percentage of damages payable to a solicitor under a damages-based agreement is expressly irrecoverable from the losing party (CPR 44.18). As for the recovery from a losing party of any uplift agreed to be paid to a third-party funder, there is simply no basis for this whatsoever in the context of litigation.

While there is no prospect in litigation of a successful claimant making a recovery from a defendant for any uplift that it has to pay to its funder, successful defendants may conversely be able to recover their costs from the funder. Section 51(3) of the Senior Courts Act 1981 gives the court full power to determine by whom and to what extent costs are to be paid, but as regards arbitral claims there is no similar provision in the 1996 Act. Moreover, in Excalibur Ventures LLC v Texas Keystone, the High Court held that third-party litigation funders were jointly and severally liable to pay the defendant’s costs on the indemnity basis, even though they were not responsible for the conduct of the claim ([2014] EWHC 3436 (Comm); www.practicallaw.com/5-589-3926).

In both Singapore and Hong Kong, moves are afoot to introduce rules that seek to regulate the liability of third-party funders for the other side’s costs in the context of arbitration taking place in those jurisdictions. This will be a further factor relevant when parties choose where to arbitrate, given that funders may be reluctant to assume that risk. In the meantime, in the arbitration context, the absence of any English law provisions making third-party funders liable for the other side’s costs in appropriate cases appears to create a current imbalance in favour of the funders.

The immediate question is whether Essar gives significant impetus to the funding of arbitration claims in the expectation that any upside to funders can be recovered from the losing party. The decision in Essar is being viewed by some in the market as a watershed moment for the funding of arbitration claims. The court’s ruling that the arbitrator’s decision on costs was entirely lawful has confirmed the existence of a potentially advantageous parallel costs recovery regime in arbitration matters.

However, the reasoning behind the arbitrator’s decision should not be overlooked. In particular, he found that Essar’s conduct had been directed at trying to financially cripple Norscot, and therefore deter the bringing of any claim. This clearly influenced the arbitrator in the way that he awarded costs. It is highly arguable that where recourse to a funder has been optional rather than of financial necessity, it would be unfair and wrong in principle to penalise the defendant.

Nevertheless, Essar makes clear that the arbitrator will ordinarily have a wide discretion when determining whether and in what amount to award costs. Particular arbitral rules may lay down guidelines, or otherwise the arbitrator may look to any applicable rules contained in the law of the seat of the arbitration. Otherwise, the parties are free to agree specific costs provisions either in any contract in which the agreement to arbitrate is contained or at any other time. Therefore, it is by no means clear that arbitrators will now routinely award the costs of funding to all successful claimants. However, those that do so may prove very popular with funded claimants.

In the meantime, England, as a seat for arbitration, presents an ever more attractive venue for funders so long as it remains the case that an arbitral tribunal has no jurisdiction over them to require the payment of the other side’s costs where the funded party loses its claim.

In terms of the overall popularity of arbitration as a means of dispute resolution, any long-term shift in the direction of Essar could be viewed adversely in the market, with defendants being faced with additional uncertainty about the true exposure they face when dealing with a funded claim.

Simon Bushell is the London Chair of the Litigation Department, and Kavan Bakhda is an associate, at Latham & Watkins LLP.