Third-Party Funding in Investment Arbitration
It is difficult to say that the concept of TPF has a universally accepted definition, due to the wide range of different models of funding which are rapidly evolving around the globe. Nevertheless, the term “third-party funding” generally refers to a situation where a third party, who is not involved in the dispute, provides funding to one of the parties involved in the litigation or arbitration proceedings. According to the Working Group III, TPF occurs when an organization that is not a party to a dispute agrees to provide funds or other material support to a disputing party (usually the claimant), in exchange for remuneration, which is based on the outcome of the dispute. The ICCA-Queen Mary Task Force on Third-Party Funding (“Task Force”) has defined TPF as the following:
“The term “third-party funding” refers to an agreement by an entity that is not a party to the
1 This excerpt is from the author’s thesis titled ‘Procedural Responsibilities of Third-Party Funders in Investment Arbitration.’ For access to the full thesis, please contact the author directly.
dispute to provide a party, an affiliate of that party or a law firm representing that party,
a) funds or other material support in order to finance part or all of the cost of the proceedings, either individually or as part of a specific range of cases, and
b) such support or financing is either provided in exchange for remuneration or reimbursement that is wholly or partially dependent on the outcome of the dispute, or provided through a grant or in return for a premium payment.”
It is possible to breakdown the definition of TPF into four sub-components to have a better understanding of the concept: i) the third-party funder ii) the funded party iii) the scope of the funding agreement and the material support iv) the funder’s remuneration.
i. The funder
A “third-party funder” is any natural or legal person who is not a party to the dispute but enters into a funding agreement with one of the parties, an affiliate of that party, or a law firm representing that party. Funders are “unique as a snowflake, ” which means that they do not use standardized approaches to valuing, financing, and monitoring claims. Their litigation or arbitration funding agreements are not standardized and are instead negotiated on an individual basis with the funded party and its lawyers. Most often, the organization that supplies financial support to the funded party is an outside organization, such as a corporation or a bank, the client’s law firm, an insurance company, hedge funds, private equity funds, sovereign wealth funds and other investors that are interested in the potential return on investment from a successful outcome in the dispute.
It is worth mentioning that funding agreements are not necessarily entered into between the funded party and the main organization of the third-party funder. Third party funders also create special-purpose vehicles to facilitate the funding agreements, which raises issues regarding the funder’s identity and application of the rules. Another scenario arises when the funding agreement is not directly between the financially supported party and the funder’s “primary entity”. In this, the funder may be financing a portfolio of claims of a given law firm. Nevertheless, the nature and the organization of the third-party funder varies based on the type of dispute, jurisdiction and the parties involved.
ii. The funded party
Clients for TPF can include corporations, law firms, individuals, and sovereign states. The funded party in domestic litigation and international arbitration is usually the claimant. However, in commercial litigation and arbitration, respondent funding is also possible. Most of the time, in the cases of respondent funding, respondent party has a counterclaim or a powerful defence that can lead up to financial upside.
TPF in ISDS provides a unique context, as states are always respondents and private investors are claimants. TPF seems to be one-sided funding offered to investor claimants, resulting in an imbalance. It has two underlying reasons: (1) states cannot initiate but only defend themselves against the claims of the investor under nearly all existing treaties, and (2) the possibility to initiate counterclaims is limited. As a result, states do not have much of a financial benefit from the case. However, in practice, third parties have been providing funding to sovereign states as well for a long time, which means that TPF is no longer solely used by private entities like corporations, law firms, and individuals. For example, in RSM Production Corporation v. Grenada case, the respondent state was funded by a third party that apparently had a competing interest in the oil exploration rights that would have been awarded to the claimant if it prevailed.
iii. Scope of the material support
TPF usually covers all or part of the cost of the proceedings, such as legal fees (including fees of
experts, arbitrators, costs of counsel representation and arbitral institutions) and the costs associated with subsequent enforcement actions or appeals. The traditional TPF model entails that the funder covers all legal costs incurred in pursuing the claim, including those for attorneys, experts, and arbitrators. The funder may also occasionally purchase after-the-event insurance to protect against the possibility that the claimant could be held responsible for the successful party’s legal fees.
iv. The Remuneration
The remuneration of the funder depends on the outcome of the dispute. Remuneration can come in different forms: some of the common forms are a fixed amount, a share of the award, a multiple of the funding, or a combination of them. Usually, in international arbitration, the funder’s return ranges between 15% and 50% of the recovery, or around three times the capital invested, whichever figure turns out to be higher. If the client fails, there is no obligation to repay the funder, and the funder ends up losing its investment.
Advantages of TPF
Historically, TPF was primarily used by financially struggling claimants to access justice. Nowadays, the TPF industry is more focused on how large, well resourced corporations can benefit from TPF. These corporations seek funding to manage risk, reduce legal costs, take arbitration expenses off their financial
statements, and prioritize other business initiatives over financing costly arbitration proceedings. This shows that funding is not limited to financially vulnerable individuals anymore. Funding can help clients reduce risk, maintain their cash flow, and ensure that lawyers are getting paid.
Risks of TPF in Investment Arbitration
Scholars and professionals identified a number of concerns relating to the use of TPF. Although commonly used and benefitted from, TPF system as a whole raises some ethical issues, and might have negative impacts on the international investment disputes. Concerns that UNCITRAL Working Group III have brought up regarding TPF involve possible conflicts of interest, the potential for third-party interference and sway over the ISDS proceedings, effects on confidentiality, expenses and security for expenses, as well as the impact on unfounded, and frivolous claims
Codes of Conduct
To regulate third-party funding within the legal sector, some countries have opted for a regulatory approach that includes codes of conduct outlining the responsibilities and best practices for such funders. Additionally, legislative measures focused on disclosure requirements and acceptable claims have been implemented. Nonetheless, to adequately mitigate associated issues, it is essential that third-party funders take on greater responsibility and follow principles grounded in ethical practice.
Several arbitral institutions, such as CIETAC, HKIAC, SIAC, ICC, and CAM-CCBC regulate TPF through stringent requirements of transparency and disclosure. These requirements primarily relate to the funder’s identity and the corresponding framework of financial assistance. The development of comprehensive regulations for the industry necessitates the implementation of disclosure regulations; nonetheless, apprehension exists regarding champerty and maintenance, conflicts of interest, and control over legal counsel. Additionally, without compulsory disclosure mandates worldwide, it is likely that the actual incidence of TPF surpasses existing estimates.
According to Article 27 of the CIETAC Investment Rules, which are currently being implemented on a trial basis, the party receiving funding must inform the tribunal and all other parties involved about the existence of the funding agreement, and disclose the identity and contact details of the funder.
Under Article 44 of the HKIAC Rules, parties are obligated to disclose to the Hong Kong International Arbitration Centre (HKIAC) any commencement, change, or termination of third-party funding in the case, including the details of the funding agreement.
Rules 24, 33 and 35 of the Singapore International Arbitration Centre (SIAC) 2017 Investment Arbitration Rules (SIAC Investment Rules) require the disclosure of the identity of the third-party funder, and where appropriate, its interest in the outcome of the arbitration as well as whether it is committed to cover adverse costs.
The ICC has embraced the standard strategy by demanding the disclosure of the existence of TPF and its identity in its 2021 Arbitration Rules. According to Article 11’s seventh paragraph;
“In order to assist prospective arbitrators and arbitrators in complying with their duties under Articles 11(2) and 11(3), each party must promptly inform the Secretariat, the arbitral tribunal and the other parties, of the existence and identity of any non-party which has entered into an arrangement for the funding of claims or defences and under which it has an economic interest in the outcome of the arbitration.”
In the context of investment treaty arbitration, ICSID initiated a reform initiative in 2016 with the goal of modernizing and streamlining its rules and regulations. The modified rules were agreed by the Member States on March 21, 2022, following lengthy discussions with ICSID Member States and the general public. In the Arbitration Rules, a new article regarding third-party funding has been added. Article 14, which governs notice of third-party funding, states:
1. “A party shall file a written notice disclosing the name and address of any non-party from which the party, directly or indirectly, has received funds for the pursuit or defence of the proceeding through a donation or grant, or in return for remuneration dependent on the outcome of the proceeding (‘third-party funding’). If the non-party providing funding is a juridical person, the notice shall include the names of the persons and entities that own and control that juridical person.
2. A party shall file the notice referred to in paragraph (1) with the Secretary-General upon registration of the Request for arbitration, or immediately upon concluding a third-party funding arrangement after registration. The party shall immediately notify the Secretary- General of any changes to the information in the notice.
3. The Secretary-General shall transmit the notice of third-party funding and any notification of changes to the information in such notice to the parties and to any arbitrator proposed for appointment or appointed in a proceeding for purposes of completing the arbitrator declaration required by Rule 19(3)(b).
4. The Tribunal may order disclosure of further information regarding the funding agreement and the non-party providing funding pursuant to Rule 36(3).”
Additionally, some arbitral institutions have rules prohibiting conflicts of interest involving funders, taking instructions from the funder without client consent, and accepting referral fees or other referral benefits from the funder. However, most of the regulations in this area are indirect and lack clear authority for sanctions or enforcement.
