Burford submits comment on the Hong Kong Department of Justice Draft Code on Arbitration Funding

The Hong Kong Department of Justice has launched a consultation process for its recently published Draft Code of Practice for Third Party Funding of Arbitration and Mediation. Burford welcomes this move to clarify the position of funders in Hong Kong.

Hong Kong was a pioneer in Asia in introducing a third-party funding framework and Burford participated in the earlier consultation process for the introduction for the Arbitration and Mediation Legislation (Third Party Funding) (Amendment) Ordinance 2017. As the world’s largest legal finance provider, at the forefront of legal financing in Asia with an office in Singapore, Burford is well placed to contribute our significant experience and knowledge towards the successful implementation of the framework in Hong Kong. Burford submitted our response to the Draft Code, which can be found here.

The Draft Code is the latest in a series of reforms expressly permitting the use of third-party funding for international arbitration. We are generally in support of the content of the Draft Code, which identifies key issues users of legal finance should be aware of when considering funding and sets out clear guidance for funders operating in Hong Kong.

Capital Adequacy

Paragraph 2.5(2) of the Draft Code provides that a third-party litigation financier must maintain access to a minimum of HK$20 million of capital. The rationale is clear: When choosing a legal finance provider, there needs to be an assessment of the funder’s capacity to meet all its ongoing funding obligations.

Burford would suggest going further—that having access to a minimum of HK$20m of capital may be too low a hurdle and may be insufficient for the assured financial security of funded parties.

As an alternative, the use of a net asset position perspective may be more instructive, though inherently more difficult to establish, given that legal finance is a non-traditional asset class. Burford engages in a time consuming and costly auditing process to establish our net asset position, and currently has in excess of US$1.6 billion in assets.

If a capitalisation requirement is considered the more appropriate mechanism of calculating a funder’s capacity, then Burford would advise a much higher threshold at no less than HK$40 million (equivalent to just over US$5 million), although more would be preferable. This is because a typical legal budget for arbitration proceedings is around US$3-6 million—in some cases up to US$10 million or more and the funding process can typically take 18 months to three years. As a result, the potential costs and durations of an arbitration could result in significant demand on a funder’s capital. Funded parties must be confident that when capital is needed their funder will be capable of providing it, regardless of other concurrent financial commitments.

Disclosure

Paragraph 2.10 of the Draft Code provides that the funded party has an obligation to disclose information about the third-party funding arrangement under the Amendment Ordinance. Paragraph 2.11 clarifies that the disclosure of the details of the funding agreement is not required (except in a few specific circumstances).

Burford’s view is that the requirement for the disclosure of the existence of funding and the identity of the funder places undue encumbrance upon one category of finance provider over other forms of finance used for arbitration (e.g. insurance, equity capital). In circumstances where the legal funder is a passive provider of finance, it is unclear why there should be any distinction between the way the Amendment Ordinance and the Draft Code treats legal finance in comparison to other capital sources.

The Draft Code restricts the scope of the disclosure to merely the existence of a funding agreement and not the terms, an approach which Burford fully supports. Several leading common law jurisdictions, including the US, UK and Australia have held that the terms of funding agreements are protected by legal privilege. Recent years have shown a disturbing trend of respondents misusing applications for the disclosure terms of funding agreements—which often have little merit and frequently fail, creating expensive, time-wasting frolics and detours in litigation as a tactical device by respondents.

A recent case in the US illustrates the right approach to disclosure regarding funding in international arbitration, if it is required. In the multi-district litigation concerning the opioid crisis, US District Judge Dan Polster ordered that disclosure of the existence of funding was made to him ex parte and in camera. He clarified that the purpose of the disclosure was simply to affirm to him that there is no conflict and the funder exercises no control over the matter. Judge Polster also ordered in advance that no discovery would be permitted into the litigation finance arrangements, which he recognised as covered by legal privilege.

This order addresses Burford’s principal objections to disclosure—that it is used as a guerrilla delay tactic to unnecessarily prolong litigations.

Single-case financing vs portfolio

It is also important to note that single-case financing represents only 5% of Burford’s business. Often, it serves as a preliminary step into litigation finance before clients pursue portfolio financing. This is an important market dynamic for the Department of Justice to consider as the regulatory approach adopted for single-case financing does not work particularly well when applied to portfolio financing and is restrained to arbitrations only.

Expanding the permissibility of Litigation Finance

Burford has witnessed the dramatic growth of legal finance in other key jurisdictions, such as the UK, US and Australia, for commercial arbitration, litigation and insolvency. There is no reason why the safe-harbour in Hong Kong for funding should not be expanded to cover all forms of dispute resolution commonly used for high-value commercial disputes. Hong Kong has already established itself as a centre for dispute resolution, as it is both a gateway to China and is widely consistent with other common law jurisdictions. The availability of legal finance for the litigation of commercial disputes in Hong Kong, albeit those above a certain monetary threshold (e.g. HK$100 million) would be an innovative step that would harmonise the legal finance market and greatly increase Hong Kong’s competitiveness as a global hub for commercial dispute resolution.