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| Andrew Leitch |
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| Anoma Rekhi |
The question was whether the revised LFA remained an unenforceable damages-based agreement, or DBA, or if some creative language in it preserved the potential for a damages-based payout, while remaining compliant with the general prohibition on the use of DBAs in opt-out competition claims under Section 47C(8) of the Competition Act 1998.
The CAT's decision provided welcome guidance on the road ahead for funding opt-out collective proceedings. However, on Jan. 5, the CAT granted Sony permission to appeal the decision,[3] citing the need for a conclusive decision from the Court of Appeal of England and Wales on the enforceability of revised LFAs after PACCAR.
In this article, we consider both judgments in the Alex Neill case, alongside other unsuccessful, post-PACCAR challenges to the enforceability of revised LFAs backing collective proceedings in the CAT. We also explore the U.K. government's proposals to reverse PACCAR, and the implications of these developments for parties to funded litigation.
Background
Before the summer of 2023, litigation funders assumed that LFAs — under which their return is calculated as a percentage of awarded damages — would not count as regulated DBAs, as long as the funder did not provide "advocacy services, litigation services or claims management services" within the meaning of Section 58AA(3) of the Courts and Legal Services Act 1990, or CLSA. This assumption was shattered when the majority of the Supreme Court held in PACCAR that such LFAs are, in fact, DBAs.
The decision rendered the majority of LFAs incepted in CAT collective action proceedings unenforceable, given the general prohibition on the use of DBAs in opt-out competition claims, as above. The PACCAR decision therefore prompted wholesale renegotiations of LFAs to ensure their enforceability, as was the case in Alex Neill.
The Claim and the Revised LFA
In Alex Neill, the proposed class representative, or PCR, brought an approximately £5 billion ($6 billion) claim on behalf of a class of 8.9 million U.K. users of Sony PlayStation video game consoles against three Sony entities. The PCR alleged that Sony had abused its dominant market position in the digital gaming industry by compelling publishers and developers to sell their gaming software through the PlayStation Store and charging a 30% commission on those sales.
It was common ground between the parties that the original LFA was an unenforceable DBA due to PACCAR. It was therefore amended so that the funder would be paid the greater of (1) a multiple of its total funding obligation, or (2) a percentage of the total damages and costs recovered by the PCR "only to the extent enforceable and permitted by appliable law."
The revised LFA also included a severance clause, which specified that the damages-based fee provision could be severed, if required, to ensure that the LFA was enforceable. The CAT was asked to decide on the enforceability of the LFA in the context of the PCR's application for certification by way of a collective proceedings order.
The CAT's Certification Decision
The CAT held that the conditional wording was permissible and did not render the agreement a DBA under Section 58AA of the CLSA. The wording expressly recognized the current position in law, as "the use of a percentage [of damages] to calculate the Funder's Fee [would] not be employed unless it is made legally enforceable by a change in the law." The CAT found this "an entirely proper position to take."
The CAT also held that, in any event, the severance clause expressly enabled the damages-based provision to be removed if it brought the agreement within the statutory definition of a DBA without causing "a major change in the overall effect of the LFA." Here, the CAT referred to the three-stage test for effective severance clauses outlined by the Supreme Court in Tillman v. Egon Zehnder Ltd. on July 3, 2019.[4]
The CAT's Decision on Permission to Appeal
Sony sought permission to appeal the decision. Among other points, it argued that the CAT had erred in finding that the revised LFA was enforceable on three grounds, namely:
- By treating the damages-based fee provision as enforceable despite it including the phrase, "only to the extent enforceable and permitted by applicable law";
- Because of its approach to severance, which the CAT addressed in case it was wrong on the issue in the previous ground; and
- By not finding that the LFA was, in effect, a DBA, because the amount of the funder's fee would ultimately be limited by the proceeds of the claim and therefore "determined by reference to the amount of financial benefit obtained" by the PCR, as per Section 58AA(3)(ii) of the CLSA.
The CAT dealt with these arguments pithily. On the first ground, it held that nothing prevents parties from contracting on a contingent basis, in view of the possibility that the law might change.
On the second ground, it held that, on its face, the LFA contemplated that the relevant clauses could be severed, so there was no question that their removal would alter its character, such that the LFA would not be consistent with the type of agreement that the parties had originally entered into.
Finally, on the third ground, the CAT held that, although the size of the proceeds would inevitably be a relevant consideration in determining the final amount of a funder's fee, this would not in and of itself render an LFA a DBA. If an LFA has no effective provision for the funder's fee to be calculated as a percentage of damages, this would not be altered by the impact of any inherent limit, or the exercise of the tribunal's discretion, on the funder's return.
The CAT emphasized that a practical approach must be taken to deciding whether a funder's payment is "determined by reference" to damages. The CAT therefore declared that there was "no real prospect of the Defendants succeeding on these points on appeal."
Notwithstanding this, the CAT was dissatisfied with the uncertainty caused by PACCAR. It described funders and class representatives moving to amend their LFAs in a number of collective proceedings to ensure their enforceability, only for these to be challenged by the defendants in those cases.
The CAT held that the prevailing uncertainty and resultant consumption of the CAT's resources are unlikely to cease until the Court of Appeal provides a conclusive decision on these issues. It therefore granted permission to appeal on the above three grounds. The CAT indicated that equivalent permission would likely be granted in other similar cases, and that it would be expedient for any such appeals to be heard together.
Further Enforceability Challenges in the CAT
As foreshadowed by the CAT in Alex Neill, similar, unsuccessful challenges to the enforceability of revised LFAs have been launched by defendants in other collective proceedings in the CAT. Two such challenges were made on Jan. 17 in Commercial and Interregional Card Claims I Ltd. v. Mastercard Inc.[5] and on Jan. 19 in Rachael Kent v. Apple Inc. & Apple Distribution International Ltd.[6]
In Commercial and Interregional Card Claims, LFAs were revised so that the funder's fee would be limited to a multiple of the sums invested, as was the case in Alex Neill. The defendants sought to advance a similar argument to the third ground above, i.e., the fact that any payment to the funder would be limited by the total recovered sums meant, necessarily, that the fee was "determined by reference to the financial benefit" received by the PCR for the purposes of Section 58AA(3)(ii) of the CLSA. A similar argument was advanced by the defendants in Rachael Kent.
Further, the LFAs in Commercial and Interregional Card Claims also contained express caps limiting the funder's fee to the amounts available for distribution, which the defendants again argued brought the LFAs within the statutory meaning of DBAs.
The CAT rejected these arguments in both Commercial and Interregional Card Claims and Rachael Kent, adopting similar reasoning to that in Alex Neill. It distinguished between "a factor which might have an influence" on a funder's fee, e.g., a practical cap on the funder's fee, by reference to the total recovered sums, and "one which is determinative." It also endorsed a common-sense approach to determine the real substance of a funding arrangement and whether that "arrangement is substantially based on the size of the proceeds."
The CAT therefore held that the revised LFAs were not DBAs in either of the cases. Nonetheless, the defendants in Rachael Kent were granted permission to appeal the decision, similar to Alex Neill. We expect that these appeals will be heard together.
The Legislative Horizon
The significance of the CAT's decisions in Alex Neill, Commercial and Interregional Card Claims, and Rachael Kent is apparent when considered alongside the government's proclaimed intention in January to reverse PACCAR. The government originally focused on reversing PACCAR for opt-out collective proceedings in the CAT only by an amendment to Clause 126 to the Digital Markets, Competition and Consumers Bill.
The bill is now proceeding through the committee stage in the House of Lords, which will end on Feb. 7. If passed in its current form, LFAs supporting these claims and under which funders earn damages-based returns, would not be DBAs. The provision would also have a retrospective effect, reinstating the enforceability of any such LFAs agreed to before the bill is made law.
After Clause 126 was tabled, the government was urged by the funding industry and Guy Sandhurst, a Conservative member of the House of Lords, during the second and committee readings of the bill in the House of Lords, to expand its scope, so that it would reverse PACCAR for all types of civil litigation. This was to ensure that prospective litigants could obtain the necessary funding to bring — what would otherwise be too small — claims outside of opt-out collective proceedings in the CAT, without having to comply with the Damages-Based Agreements Regulations 2013.
However, the government declined to do so, stating that the bill "is not the appropriate vehicle to deliver this aim," and that "the Ministry of Justice is actively considering options for a wider response." It did not provide further details than this.
Since then, the litigation funding industry has attracted particular political attention as a result of the Post Office scandal. Back in 2019, the funded High Court of Justice of England and Wales case Bates v. Post Office exposed widespread defects in the Post Office's IT system, resulting in over 900 subpostmasters being wrongly convicted of theft and false accounting.
Given renewed media coverage of the scandal, this case and the funding arrangements behind it have come into the spotlight. In response, Alex Chalk KC MP, secretary of state for justice, confirmed in January that he planned to reverse "the damaging effects of PACCAR at the first legislative opportunity."
It remains to be seen whether and how the government proposes to do so, but it is apparently "already considering options for a wider review of the litigation funding market and its regulation," as Malcolm Offord, a Conservative member of the House of Lords, confirmed during the bill's reading in the committee stage of the lords.
Interestingly, a further amendment to the bill was proposed by Robin Hodgson, a Conservative member of the House of Lords, on Jan. 26, requiring the secretary of state to commence a review on the regulation of third-party litigation funding as it relates to competition and consumer law within 12 months of the bill being passed. Although Hodgson's amendment was ultimately not moved, his proposal signals the increasing pressure on the government to deliver on its promises.
Implications for Funding Going Forward
Pending any such legislative changes, funders will be keen to incorporate conditional clauses similar to those accepted in Alex Neill into their LFAs, so they can immediately revert to damages-based returns, if and when they become permissible. For this reason, we expect these clauses to become market standard for LFAs across the board. This will likely trigger a second wave of renegotiations for existing LFAs, which were already revisited after PACCAR.
Furthermore, after PACCAR, we have seen a dramatic increase in the prices demanded by funders where their returns are being calculated with reference to multiples of sums — from three times the amount to as high as multiples of 15 — invested in pursuing the litigation to offset their inability to seek damages-based returns.
If the government's intention for a wholesale reversal of PACCAR for civil proceedings is realized, it will be interesting to see whether the previous market rates return, or if the higher multiples are here to stay. This will likely be, at least partly, informed by the CAT's willingness to certify collective claims with expensive multiples in the period between now and any future legislative change.
Finally, pending any equivalent legislative step to reverse PACCAR for opt-in collective proceedings in the CAT, we believe that this will have a significant impact on PCRs attempting to bring, and funders' willingness to fund, this type of claim.
The Court of Appeal has confirmed that, for certification purposes, there is no presumption in favor of opt-in or opt-out actions in the CAT, and opt-out claims allow claimants and funders to capture most or all claimants for a given claim without the time-consuming and expensive book-building required for an opt-in claim. If the lifting of restrictions on funding is limited to opt-out claims, as currently contemplated by Clause 126 of the bill, this will be yet another reason why opt-in claims look increasingly unattractive by comparison.
Andrew Leitch is a partner and Anoma Rekhi is an associate at Bryan Cave Leighton Paisner LLP.
The opinions expressed are those of the author(s) and do not necessarily reflect the views of their employer, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
[1] [2023] CAT 73.
[2] [2023] UKSC 28.
[3] [2024] CAT 1.
[4] [2019] UKSC 32, [2020] AC 154.
[5] [2024] CAT 3.
[6] [2024] CAT 5.
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